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AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON OCTOBER 1, 1999
REGISTRATION NO. 333-76275
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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PRE-EFFECTIVE AMENDMENT NO. 4
FORM SB-2
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
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PATRIOT SCIENTIFIC CORPORATION
(Name of small business issuer in its charter)
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DELAWARE 3674 84-1070278
(State or Jurisdiction of (Primary Standard Industrial (I.R.S. Employer
Incorporation or Organization) Classification Code Number) Identification Number)
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10989 VIA FRONTERA
SAN DIEGO, CALIFORNIA 92127
(858) 674-5000
(Address and telephone number of principal executive offices
and principal place of business)
ROBERT PUTNAM, SECRETARY
PATRIOT SCIENTIFIC CORPORATION
10989 VIA FRONTERA
SAN DIEGO, CALIFORNIA 92127
(858) 674-5000
(Name, address and telephone number of agent for service)
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COPIES TO:
OTTO E. SORENSEN, ESQ.
STEVEN J. DAVIS, ESQ.
LUCE, FORWARD, HAMILTON & SCRIPPS LLP
600 WEST BROADWAY, SUITE 2600
SAN DIEGO, CALIFORNIA 92101
(619) 236-1414
(619) 232-8311 (FAX)
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APPROXIMATE DATE OF PROPOSED SALE TO THE PUBLIC:
AS SOON AS PRACTICABLE AFTER THE EFFECTIVE DATE OF THIS REGISTRATION STATEMENT.
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If any of the securities being registered on this Form are to be offered
on a delayed or continuous basis pursuant to Rule 415 under the Securities Act
of 1933, check the following box. [X]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
If delivery of the prospectus is expected to be made pursuant to Rule
434, please check the following box. [ ]
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The Registrant hereby amends this Registration Statement on such date or
dates as may be necessary to delay its effective date until the Registrant shall
file a further amendment which specifically states that this Registration
Statement shall thereafter become effective in accordance with Section 8(a) of
the Securities Act of 1933 or until the Registration Statement shall become
effective on such date as the Commission, acting pursuant to said Section 8(a),
may determine.
CALCULATION OF REGISTRATION FEE
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Proposed
Proposed Maximum Maximum Amount of
Title of Each Class of Securities Amount to be Offering Price Aggregate Registration
to be Registered Registered Per Security(1) Offering Price Fee(3)
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Common Stock, $.00001 par value 12,091,749 $0.38 $4,594,865 $1,277.37
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Common Stock, $.00001 par value(2) 3,507,021 $0.38 $1,332,668 $ 370.48
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TOTAL 15,598,770 $0.38 $5,927,533 $1,647.85
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(1) Estimated solely for purposes of calculating the registration fee in
accordance with Rule 457(c) under the Securities Act of 1933, as amended
(the "Act"), based on the average of the closing bid and asked prices
for the Registrant's Common Stock (the "Common Stock") as reported on
the OTC Electronic Bulletin Board on September 24, 1999.
(2) Issuable upon the exercise of Common Stock Purchase Warrants issued or
issuable to Selling Shareholders.
(3) Paid with the initial and previous amended filings of this registration
statement.
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The information in this prospectus is not complete and may be changed. We may
not sell these securities until the registration statement filed with the
Securities and Exchange Commission is effective.
Subject to Completion, Dated October 1, 1999
P R O S P E C T U S
PATRIOT SCIENTIFIC CORPORATION
10989 Via Frontera
San Diego, California 92127
(858) 674-5000
THE OFFERING
The resale of up to 15,598,770 shares of common stock in the
over-the-counter market at the prevailing market price or in negotiated
transactions.
o 1,656,966 shares are presently outstanding,
o up to 10,434,783 shares are issuable to Swartz Private Equity,
LLC,
o up to 1,565,217 shares are issuable upon the exercise of
warrants issuable to Swartz,
o 1,941,804 shares are issuable upon the exercise of warrants
issuable to other selling shareholders.
We will receive no proceeds from the sale of the shares by the selling
shareholders. However, we have received proceeds from the sale of shares
currently outstanding and may receive proceeds from the sale of shares to Swartz
and, if exercised, will receive proceeds from the sale of shares issuable upon
the exercise of warrants by Swartz and certain other selling shareholders.
TRADING SYMBOL
PTSC (Over-the-counter Electronic Bulletin Board)
THIS INVESTMENT INVOLVES A HIGH DEGREE OF RISK.
PLEASE REFER TO RISK FACTORS BEGINNING ON PAGE 7
The Securities and Exchange Commission (SEC) and state securities regulators
have not approved these securities or determined if this prospectus is truthful
or complete. Any representation to the contrary is a criminal offense. This
prospectus is not an offer to sell these securities and it is not soliciting an
offer to buy these securities in any state where the offer or sale is not
permitted.
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Please read this prospectus carefully. It describes our company, finances and
products. Federal and state securities laws require that we include in this
prospectus all the important information that you will need to make an
investment decision.
You should rely only on the information contained in this prospectus to make
your investment decision. We have not authorized anyone to provide you with
information that is different from what is contained in this prospectus.
The following table of contents has been designed to help you find important
information contained in this prospectus. We have included subheadings to aid
you in searching for particular information you might want to return to. We
encourage you to read the entire prospectus.
TABLE OF CONTENTS
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PROSPECTUS SUMMARY 5
About our company 5
About our products and market 5
About our investment agreement 6
Additional shares we are registering 6
Key facts 6
RISK FACTORS 7
Our major product line has had limited revenues 7
We have incurred significant losses and may continue to do so 7
Our independent certified public accountants have added an explanatory
paragraph to their opinion 8
We will require additional financing 8
Our products may not be completed on time 8
The market in which we operate is highly competitive 9
Protection of our intellectual property is limited; there is a risk of
claims for infringement 9
We are a defendant in a pending lawsuit 10
Our products are dependent on the internet, isdn, java
and government funding 11
Violation of section 5 11
Forward-looking statements 12
PLAN OF DISTRIBUTION 12
SELLING SHAREHOLDERS 13
Investment agreement 13
Overview 13
Put rights 13
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Warrants 14
Violation of section 5 14
Limitations and conditions precedent to our put rights 14
Short sales 15
Cancellation of puts 15
Shareholder approval 15
Termination of investment agreement 15
Restrictive covenants 15
Right of first refusal 16
Swartz's right of indemnification 16
Additional shares being registered 16
Common stock 16
Warrants 17
Selling shareholders 18
THE COMPANY 19
General 19
Background 19
Business 20
Available information 20
Organization and corporate development 21
Internet growth and the emergence of the java programming language 22
Shboom microprocessor technology 23
General background 23
Industry background 24
Technology description 25
The psc1000 microprocessor as a java processor 26
Stage of development 27
Business strategy 28
Competition 29
High speed data communications products 30
General background 30
ISDN and digital communications description 30
Major communications products 31
Production and marketing strategy 32
Competition 32
Radar and antenna technology 32
General background 32
Gas antenna technology description 33
Ground penetrating radar technology description 33
Stage of development 34
Business strategy 34
Competition 34
Research and development 35
Licenses, patents, trade secrets and other proprietary rights 35
Marketing and distribution 38
Dependence upon single customers 38
Facilities 39
Employees 39
Government regulation 39
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USE OF PROCEEDS 39
LITIGATION 41
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS 41
Results of operations for the years ended May 31, 1999 and 1998 42
Liquidity and capital resources 43
Potential violation of section 5 of the securities act 45
New accounting pronouncements 46
Tax loss carryforwards 46
Year 2000 compliance 46
MANAGEMENT 48
Identification of directors and executive officers 48
Biographical information 48
Indemnification of officers, directors and others 50
Exclusion of director liability 50
Executive compensation 51
Option grants 52
Aggregated option exercises and fiscal year-end values 52
Compensation of directors 53
Employee contracts 53
PRINCIPAL SHAREHOLDERS 54
CERTAIN TRANSACTIONS 56
TRADING MARKET AND RELATED MATTERS 58
DESCRIPTION OF SECURITIES 59
LEGAL MATTERS 60
EXPERTS 60
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS F-1
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PROSPECTUS SUMMARY
ABOUT OUR COMPANY
We develop, market, and sell microprocessors, our technology behind the
microprocessors, and communication products which enable computers to talk to
one another. These products can be used to connect to the Internet or other
telecommunication networks. We also own special radar technology, which when
fully developed, may allow us to penetrate the ground or structures to find
various objects. We also owned gas plasma antenna technology which we sold for
$250,000 in August 1999. We potentially could receive up to an additional
$250,000 from the sale of the gas plasma technology in the form of royalties.
Our strategy is to exploit our technologies through product sales, licensing,
and strategic alliances.
ABOUT OUR PRODUCTS AND MARKET
The market for our products is growing swiftly because of the Internet.
The Internet provides its users with new ways to communicate and to do business.
The growth of the Internet is creating a demand for equipment such as ours,
including our microprocessor, traditional analog modems and higher speed digital
modems. The Internet has also introduced a new programming language known as
Java. With Java, data and programs do not have to be stored on the user's
computer; they can reside anywhere on the Internet to be called upon as needed.
Java can run on a variety of computer operating systems, thus avoiding the
problem of incompatibility across networks, and Java offers a high degree of
data security. Because of Java's useful features, we believe that it may also
become a popular programming language for another type of computer application
known as embedded systems or controls. Our microprocessor enables people to
program more efficiently in Java.
A microprocessor is the computer chip that provides intelligence for
electronic devices. Our microprocessor technology, trade named ShBoom, uses our
simplified proprietary design to produce a single high-performance computer
chip, which can be used instead of several different chips to perform the same
function. Our first microprocessors, the PSC1000 family, are targeted as Java
programming language processors and for use in embedded controllers. Embedded
controllers are used in sophisticated products, such as laser printers, motion
and industrial controllers, cable and satellite modems and television set-top
boxes. We are also licensing the ShBoom technology to others which allows them
to customize applications of the technology depending upon their requirements.
One of our communication products, the CyberShark digital modem,
provides consumers with a high-performance interface between a computer and
telephone lines. We also offer original equipment manufacturers, systems
integrators and value added resellers products for high speed access to the
Internet, remote access drivers, video conferencing equipment and digital
telephony products.
Our ground penetrating radar prototype has demonstrated the ability to
see through solid objects (walls and barriers) and in certain types of ground
has been able to see objects as small as six inches in size at a depth of ten
feet.
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ABOUT OUR INVESTMENT AGREEMENT
We have entered into an investment agreement with Swartz Private Equity,
LLC to raise up to $5 million through a series of sales of our common stock. The
dollar amount of each sale is limited by our common stock's trading volume, and
a minimum period of time must elapse between each sale. Each sale will be to
Swartz. In turn, Swartz will either sell our stock in the open market, place our
stock through negotiated transactions with other investors, or hold our stock in
their own portfolio. This prospectus covers the resale of our stock by Swartz
either in the open market or to other investors.
ADDITIONAL SHARES WE ARE REGISTERING
Recently, we sold common stock to private investors and issued
short-term notes (with warrants attached) payable to private investors. The
resale of the common stock by these private investors, either already bought or
obtainable on the exercise of the warrants, is included in this registration.
KEY FACTS
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Shares being offered for resale to the public 15,598,770
Total shares outstanding prior to the offering 40,381,120 as of September 24, 1999
Total shares outstanding after the offering 54,322,924
Total shares outstanding after the offering and
exercise of all options/warrants 58,609,283
Price per share to the public Market price at time of resale
Total proceeds raised by offering None, however up to $5 million may be
received from Swartz under the
investment agreement and additional
amounts may be received from the
exercise of warrants
Investment agreement Our amended and restated investment
agreement with Swartz was included as
an exhibit to the Pre-Effective
amendment No. 2 to this registration
statement filed July 14, 1999
Dividend policy No dividends expected
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RISK FACTORS
The common shares being offered for resale by the selling shareholders
are highly speculative in nature, involve a high degree of risk and should be
purchased only by persons who can afford to lose their entire investment in the
common shares. Before purchasing any of the common shares, you should carefully
consider the following factors relating to our business and prospects.
PATRIOT'S MAJOR PRODUCT LINE, THE MICROPROCESSOR, HAS HAD LIMITED REVENUES AND
IS STILL IN THE PRE-PRODUCTION STAGE OF DEVELOPMENT
We are in the pre-production stage of development on our major product
line, the microprocessor, which has had limited revenues. Our other product
lines have not generated enough revenue to support our company. Therefore, we
have limited financial results upon which you may judge our potential. We may
not become profitable. We have experienced in the past and may experience in the
future many of the problems, delays and expenses encountered by any early stage
business, many of which are beyond our control. These include:
- substantial delays and expenses related to testing and development
of our new products,
- production and marketing problems encountered in connection with our
new and existing products and technologies,
- competition from larger and more established companies, and
- lack of market acceptance of our new products and technologies.
PATRIOT HAS A HISTORY OF LOSSES, EXPECTS FUTURE LOSSES AND MAY NOT ACHIEVE OR
SUSTAIN ANNUAL PROFITABILITY
We expect to incur operating losses in the future. Sales of our products
may never generate sufficient revenues to fund our continuing operations. We may
never generate positive cash flow or attain profitability. To date, we have
incurred significant losses. As of May 31, 1999, our accumulated deficit was
$23,861,079 and our working capital deficit was $1,545,055. For the fiscal year
ended May 31, 1999, we incurred a net loss of $4,276,456 and for the previous
fiscal year a net loss of $7,514,785. These losses have resulted primarily from:
- significant costs associated with the development of our products,
- marketing of those products,
- the interest charges and expenses related to previous equity and
debt financings, and
- compensation costs related to the earnout of escrowed common shares.
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PATRIOT'S CERTIFIED PUBLIC ACCOUNTANTS HAVE ADDED AN EXPLANATORY PARAGRAPH TO
THEIR OPINION ON PATRIOT'S FINANCIAL STATEMENT
In connection with their report on our Consolidated Financial Statements
as of and for the year ended May 31, 1999, our independent certified public
accountants expressed substantial doubt about our ability to continue operating
as a going concern because of recurring net losses and negative cash flow from
operations.
PATRIOT MAY NOT BE ABLE TO OBTAIN ADDITIONAL CAPITAL TO FUND ITS OPERATIONS WHEN
NEEDED
A lack of additional funding could force us to substantially curtail or
cease our operations, which would have a material adverse effect on our
business. Based on our potential rate of cash operating expenditures and our
current plans, we anticipate our cash requirements for the next twelve months
may need to come primarily from the proceeds of the investment agreement.
However, our ability to raise funds under the investment agreement is subject to
certain conditions. These conditions include the effectiveness of a registration
statement covering the resale of the shares sold under the investment agreement
and a limitation on our ability to issue shares based on the volume of trading
in the common stock. We anticipate that our future cash requirements may be
supplemented by improved product sales, the sale of additional equity
securities, debt financing and/or the sale or licensing of certain of our
technologies. However, there can be no assurance that any future funds required
in excess of the proceeds of the investment agreement will be generated from
operations or from other potential sources. Further, any such required funds may
only be available on unattractive terms and may significantly dilute the value
of our existing shares.
PATRIOT MAY EXPERIENCE DIFFICULTIES IN THE INTRODUCTION OF NEW PRODUCTS THAT
COULD RESULT IN PATRIOT HAVING TO INCUR SIGNIFICANT UNEXPECTED EXPENSES OR DELAY
THE LAUNCH OF NEW PRODUCTS
Our technologies and products are in various stages of development.
These development stage products may not be completed in time to allow
production or marketing due to the inherent risks of new product and technology
development, limitations on financing, competition, obsolescence, loss of key
personnel and other factors. Although we may license some of our technology at
its current stage of development, there can be no assurance that we will be able
to do so. Unanticipated technical obstacles can arise at any time and result in
lengthy and costly delays or in a determination that further development is not
feasible. Discovery of microprocessor design errors, frequent in the industry
prior to and after production, could result in lengthy and costly redesign,
fabrication (production) and testing in an industry where new technology rapidly
eclipses prior innovations.
The development of our technologies has taken longer than anticipated
and could be additionally delayed. Therefore, there can be no assurance of
timely completion and introduction of improved products on a cost-effective
basis, or that such products, if introduced, will achieve
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market acceptance such that, in combination with existing products, they will
sustain us or allow us to achieve profitable operations.
INTENSE COMPETITION IN THE MARKET FOR MICROPROCESSORS COULD PREVENT PATRIOT FROM
INCREASING OR SUSTAINING REVENUE AND PREVENT PATRIOT FROM ACHIEVING OR
SUSTAINING ANNUAL PROFITABILITY
Our products could be rendered noncompetitive or obsolete. Technological
competition from larger and more established microprocessor, digital
communication and radar companies is significant and expected to increase. Most
of the companies with which we compete and expect to compete have far greater
capital resources and more significant research and development staffs,
marketing and distribution programs and facilities, and many of them have
substantially greater experience in the production and marketing of products.
Our ability to compete effectively may be adversely affected by the ability of
these competitors to devote greater resources to the sale and marketing of their
products than we can. In addition, one or more of our competitors may succeed or
may already have succeeded in developing technologies and products that are more
effective than any of those we currently offer or are developing.
PATRIOT'S LIMITED ABILITY TO PROTECT ITS INTELLECTUAL PROPERTY MAY ADVERSELY
AFFECT ITS ABILITY TO COMPETE
A successful challenge to our ownership of our technology could
materially damage our business prospects. Our technologies may infringe upon the
proprietary rights of others. Licenses required by us from others may not be
available on commercially reasonable terms, if at all. We rely on a combination
of patents, trademarks, copyrights, trade secret laws, confidentiality
procedures and licensing arrangements to protect our intellectual property
rights. We currently have eight U.S. patents issued and five U.S. patents
pending. We have one patent pending in Europe and Japan and have filed an
application for another patent in Europe, Japan and elsewhere. Any issued patent
may be challenged and invalidated. Patents may not issue from any of our pending
applications. Any claims allowed from existing or pending patents may not be of
sufficient scope or strength to provide significant protection for our products.
Patents may not be issued in all countries where our products can be sold so as
to provide meaningful protection or any commercial advantage to us. Our
competitors may also be able to design around our patents.
Vigorous protection and pursuit of intellectual property rights or
positions characterize the fiercely competitive semiconductor industry, which
has resulted in significant and often protracted and expensive litigation.
Therefore, our competitors may assert that our technologies or products infringe
on their patents or proprietary rights. Problems with patents or other rights
could increase the cost of our products or delay or preclude new product
development and commercialization by us. If infringement claims against us are
deemed valid, we may not be able to obtain appropriate licenses on acceptable
terms or at all. Litigation could be costly and time-consuming but may be
necessary to
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protect our future patent and/or technology license positions or to defend
against infringement claims.
We did not develop the basic ShBoom technology. We acquired the rights
in this technology through a series of agreements from two co- inventors. We
have been, and may again be, subject to claims from such prior parties related
to the technology. Such parties may also attempt to exploit the technology
independently of our rights to do so. One of the co-inventors of this technology
has filed a lawsuit against another prior owner and us. He is seeking, among
other things, a return of the technology. This lawsuit is further discussed in
this prospectus under "Litigation". The asset purchase agreement and plan of
reorganization between Patriot, nanoTronics Corporation and Helmut Falk was the
agreement under which we acquired the basic ShBoom technology. The agreement
also contained a number of warranties and indemnities related to the ownership
of the technology and other matters. We believe nanoTronics Corporation has been
liquidated and, due to Mr. Falk's death in July 1995, our ability to obtain
satisfaction for any future claims as a result of a breach of the agreement may
be limited.
PATRIOT CAN NOT PREDICT THE OUTCOME OF A LAWSUIT IN WHICH IT IS A DEFENDANT
In October 1998, we were sued in the District Court for Travis County,
Texas by a co-inventor of the original ShBoom technology. We removed the suit to
the United States District Court for the Western District of Texas, Austin
Division, where it was dismissed because the court did not have jurisdiction
over us. The suit has been refiled in the Superior Court of San Diego County,
California. The suit also names as defendants nanoTronics and Gloria Felcyn on
behalf of the Falk Family Trust. We purchased the technology from nanoTronics in
1994. The suit seeks a judgment for damages based on royalties allegedly due the
co-inventor, a rescission of the technology transfer agreement between
nanoTronics and the co-inventor, and a restoration of the technology to the
co-inventor. A trial has been scheduled for December, 1999. We and the other
defendants intend to vigorously contest the plaintiff's allegations.
We do not believe the co-inventor is entitled to a return of the
original ShBoom technology or that we are obligated to pay any royalties on
aspects of the ShBoom technology specified in prior agreements between
nanoTronics and the co-inventor. We believe that, should there be royalties due
the co-inventor, the obligation is that of nanoTronics. However, if the
co-inventor receives a judgment affirming his claim to the technology, we would
probably be effectively precluded from selling any microprocessor incorporating
that technology. Additionally, we could become subject to unindemnified claims
relating to any failure by nanoTronics to pay any royalties that may be due to
the co-inventor. Also, we could be liable for up to $1,250,000 to nanoTronics
under certain indemnification provisions. Should we be required to make any
royalty payments or indemnification payments, such payments could adversely
impact our operating margins and sales volume.
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PATRIOT IS DEPENDENT ON THE INTERNET, ISDN AND JAVA FOR ACCEPTANCE OF ITS
PRODUCTS
The marketing of our digital communication products and microprocessor
products will depend in large part upon a robust and growing industry and
infrastructure for providing Internet access and carrying Internet traffic and
the emergence of Java as a widespread programming language for the Internet or
in embedded applications. The infrastructure or complementary products necessary
to make the Internet a viable commercial marketplace may not be developed, or,
even if they are developed, the Internet may not become a viable commercial
marketplace. Even if the Internet continues its robust growth, there may not be
a market for our ISDN products, given their dependence upon telephone company
policies and rates and the intense competition from other access technologies
such as cable modems and satellites. Also, Java may not become a widespread
programming language for the Internet or in embedded applications, and a market
may not develop for devices to run Java efficiently. If the Internet does not
become a viable commercial marketplace, or if ISDN products become
technologically obsolete, or if Java applications for microprocessors do not
develop, then our business, operating results and financial condition will be
materially and adversely affected.
PATRIOT MAY BE IN VIOLATION OF SECTION 5 OF THE SECURITIES ACT AND CONSEQUENTLY
CERTAIN INVESTORS MAY HAVE RESCISSION RIGHTS AS TO SHARES ACQUIRED AND PATRIOT
AND CERTAIN PRINCIPALS OF PATRIOT MAY BE SUBJECT TO CIVIL AND CRIMINAL PENALTIES
In April 1999, we sold shares of common stock to two individuals in the
accumulated amount of $75,000 and in June 1999 we issued shares to an
institutional investor upon conversion of a short term note in the amount of
$116,183. These sales occurred after the filing of a registration statement by
us and, therefore, by making these sales we may have violated Section 5 of the
Securities Act. In July 1999, we amended and restated the investment agreement
with Swartz to eliminate the discretion of Swartz as to the timing of its
purchase of our common stock. The amended and restated investment agreement
requires Swartz, after we put shares of common stock to it, to purchase our
common stock on the twentieth day following the put. The previous agreement
enabled Swartz, in its sole discretion, to purchase our common stock at any time
during a twenty day period following our put to it. By entering into the amended
and restated investment agreement, we completed our sale of common stock to
Swartz. Since this private sale to Swartz occurred after we filed our
registration statement, we may have sold securities to Swartz in violation of
Section 5 of the Securities Act, and each placement of shares with Swartz in the
future under the investment agreement may be a separate violation of Section 5.
Consequently, the two individual investors, the institutional investor and
Swartz may have the right to rescind these purchases of common stock for a
period of one year from the date of the purchase of the common stock. In
addition, Patriot and certain officers and directors of Patriot may be subject
to civil and criminal penalties for potential violation of either or both
Section 5 of the Securities Act and applicable state law as a result of these
sales.
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FORWARD-LOOKING STATEMENTS
This prospectus includes "forward-looking" statements within the meaning
of Section 27A of the Securities Act of 1933, Section 21E of the Securities
Exchange Act of 1934, and the Private Securities Litigation Reform Act of 1995,
and we desire to take advantage of the "safe harbor" provisions in those laws.
Therefore, we are including this statement for the express purpose of availing
ourselves of the protections of these safe harbor provisions with respect to all
of the forward-looking statements we make. The forward-looking statements in
this prospectus reflect our current views with respect to possible future events
and financial performance. These forward-looking statements are subject to
certain risks and uncertainties, including specifically the absence of
significant revenues, financial resources, a history of losses, no assurance
that technology cannot be completed or that its completion will not be delayed,
significant competition, the uncertainty of patent and proprietary rights,
uncertainty as to royalty payments and indemnification risks, trading risks of
low-priced stocks and those other risks and uncertainties discussed herein that
could cause our actual results to differ materially from our historical results
or those we anticipate. In this prospectus, the words "anticipates," "believes,"
"expects," "intends," "future" and similar expressions identify certain
forward-looking statements. You are cautioned to consider the specific risk
factors described in "Risk Factors" and elsewhere in this prospectus and not to
place undue reliance on the forward-looking statements contained in this
prospectus, which speak only as of the date of this prospectus. We undertake no
obligation to publicly revise these forward-looking statements to reflect the
effect of events or circumstances that may arise after the date of this
prospectus. All written and oral forward-looking statements made subsequent to
the date of this prospectus and attributable to us or persons acting on our
behalf are expressly qualified in their entirety by this section.
PLAN OF DISTRIBUTION
Each selling shareholder is free to offer and sell his or her common
shares at such times, in such manner and at such prices as he or she may
determine. The types of transactions in which the common shares are sold may
include transactions in the over-the-counter market (including block
transactions), negotiated transactions, the settlement of short sales of common
shares, or a combination of such methods of sale. The sales will be at market
prices prevailing at the time of sale or at negotiated prices. Such transactions
may or may not involve brokers or dealers. The selling shareholders have advised
us that they have not entered into any agreements, understandings or
arrangements with any underwriters or broker-dealers regarding the sale of their
securities. The selling shareholders do not have an underwriter or coordinating
broker acting in connection with the proposed sale of the common shares.
The selling shareholders may effect such transactions by selling common
stock directly to purchasers or to or through broker-dealers, which may act as
agents or principals. Such broker-dealers may receive compensation in the form
of discounts, concessions, or commissions from the selling shareholders. They
may also receive compensation from the purchasers of common shares for whom such
broker-dealers may act as agents or to whom they sell as principal, or both
(which compensation as to a particular broker-dealer might be in excess of
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<PAGE> 15
customary commissions).
Swartz Private Equity, LLC is, and each remaining selling shareholder
and any broker-dealer that acts in connection with the sale of common shares may
be deemed to be, an "underwriter" within the meaning of Section 2(11) of the
Securities Act. Any commissions received by such broker-dealers and any profit
on the resale of the common shares sold by them while acting as principals might
be deemed to be underwriting discounts or commissions. The selling shareholders
may agree to indemnify any agent, dealer or broker-dealer that participates in
transactions involving sales of the common shares against certain liabilities.
Because Swartz is, and each remaining selling shareholder may be deemed
to be, an "underwriter" within the meaning of Section 2(11) of the Securities
Act, the selling shareholders will be subject to prospectus delivery
requirements.
We have informed the selling shareholders that the anti-manipulation
rules of the SEC, including Regulation M promulgated under the Securities and
Exchange Act, may apply to their sales in the market and has provided the
selling shareholders with a copy of such rules and regulations.
Selling shareholders also may resell all or a portion of the common
shares in open market transactions in reliance upon Rule 144 under the
Securities and Exchange Act, provided they meet the criteria and conform to the
requirements of such Rule.
SELLING SHAREHOLDERS
AMENDED AND RESTATED INVESTMENT AGREEMENT
OVERVIEW. On February 24, 1999, we entered into an investment agreement
with Swartz Private Equity, LLC which was amended and restated as of July 12,
1999. The amended and restated investment agreement entitles us to issue and
sell our common stock for up to an aggregate of $5 million from time to time
during a three-year period through July 12, 2002. This is also referred to as a
put right.
PUT RIGHTS. In order to invoke a put right, we must have an effective
registration statement on file with the SEC registering the resale of the common
shares which may be issued as a consequence of the invocation of that put right.
Additionally, we must give at least ten but not more than twenty business days
advance notice to Swartz of the date on which we intend to exercise a particular
put right and we must indicate the number of shares of common stock we intend to
sell to Swartz. At our option, we may also designate a maximum dollar amount of
common stock (not to exceed $2 million) which we will sell to Swartz during the
put and/or a minimum purchase price per common share at which Swartz may
purchase shares during the put. The number of common shares sold to Swartz may
not exceed 20% of the aggregate daily reported trading volume during a period
which begins on the business day immediately following the day we invoked the
put right and ends on and includes the day which is twenty business days
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<PAGE> 16
after the date we invoked the put right.
For each common share, Swartz will pay us the lesser of:
- the market price for such put, minus $.05 or
- a percentage of the market price for the put, with that percentage
determined by the market price in effect on the date we inform
Swartz of the put.
If the market price is less than $1.00 per share, the percentage will be
80%; if the market price is $1.00 or greater but less than $2.00 per share, the
percentage will be 85%, and if the market price is $2.00 or greater, the
percentage will be 90%. Market price is defined as the lowest closing bid price
for the common stock during the pricing period which is the twenty business days
following the date notice of the put was provided to Swartz. However, the market
price may not be less than the designated minimum per share price, if any, that
we indicated in our notice.
WARRANTS. Within five business days after the end of each pricing
period, we are required to issue and deliver to Swartz a warrant to purchase a
number of shares of common stock equal to 15% of the common shares issued to
Swartz in the applicable put. Each warrant will be exercisable at a price which
will initially equal 110% of the market price on the last day of the applicable
pricing period. The warrants will have semi-annual reset provisions. Each
warrant will be immediately exercisable and have a term beginning on the date of
issuance and ending five years thereafter.
POTENTIAL VIOLATION OF SECTION 5 OF THE SECURITIES ACT. In July 1999, we
amended and restated the investment agreement with Swartz to eliminate the
discretion of Swartz as to the timing of its purchase of our common stock. The
amended and restated investment agreement requires Swartz, after we put shares
of common stock to it, to purchase our common stock on the twentieth day
following the put. The previous agreement enabled Swartz, in its sole
discretion, to purchase our common stock at any time during a twenty day period
following our put to it. By entering into the amended and restated investment
agreement, we completed our sale of common stock to Swartz. Since this private
sale to Swartz occurred after the filing of a registration statement for the
public resale of shares sold under the investment agreement, we may have sold
securities to Swartz in violation of Section 5 of the Securities Act, and each
placement of shares with Swartz in the future under the investment agreement may
be a separate violation of Section 5. Consequently, Swartz may have the right to
rescind this purchase of common stock for one year from each purchase of the
common stock. In addition, Patriot and certain officers and directors of Patriot
may be subject to civil and criminal penalties for potential violation of either
or both Section 5 of the Securities Act and applicable state law as a result of
these sales.
LIMITATIONS AND CONDITIONS PRECEDENT TO OUR PUT RIGHTS. Swartz is not
required to acquire and pay for any common shares with respect to any particular
put for which:
- we have announced or implemented a stock split or combination of our
common
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<PAGE> 17
stock;
- we have paid a common stock dividend;
- we have made a distribution of our common stock or of all or any
portion of our assets between the put notice date and the date the
particular put closes; or
- we have consummated a major transaction (including a transaction,
which constitutes a change of control) between the advance put
notice date and the date the particular put closes.
SHORT SALES. Swartz and its affiliates are prohibited from engaging in
short sales of our common stock unless they have received a put notice and the
amount of shares involved in a short sale does not exceed the number of shares
specified in the put notice.
CANCELLATION OF PUTS. We must cancel a particular put between the date
of the advance put notice and the last day of the pricing period if:
- we discover an undisclosed material fact relevant to Swartz's
investment decision;
- the registration statement registering resales of the common shares
becomes ineffective; or
- shares are delisted from the then primary exchange.
However, we will be required to issue common shares equal to the lesser of:
- 20% of the daily reported trading volume of our common stock during
the pricing period up to the applicable put cancellation date;
- the number of shares of common stock put to Swartz which when
multiplied by the applicable put share price equals the designated
maximum dollar amount for the put; or
- 9.9% of the total amount of our common stock that would be
outstanding upon completion of the put.
SHAREHOLDER APPROVAL. We may issue more than 20% of our outstanding
shares. If we become listed on the Nasdaq Small Cap Market or Nasdaq National
Market, then we must get shareholder approval to issue more than 20% of our
outstanding shares. Since we are currently a bulletin board company, we do not
need shareholder approval.
TERMINATION OF INVESTMENT AGREEMENT. We may also terminate our right to
initiate further puts or terminate the investment agreement by providing Swartz
with notice of such intention to terminate; however, any such termination will
not affect any other rights or obligations we have concerning the investment
agreement or any related agreement.
RESTRICTIVE COVENANTS. During the term of the investment agreement and
for a period of one-year thereafter, we are prohibited from certain
transactions. These include the issuance of any debt or equity securities in a
private transaction which are convertible or
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<PAGE> 18
exercisable into shares of common stock at a price based on the trading price of
the common stock at any time after the initial issuance of such securities or
with a fixed conversion or exercise price subject to adjustment. We are also
prohibited from entering into any private equity line type agreements similar to
the investment agreement without obtaining Swartz's prior written approval.
RIGHT OF FIRST REFUSAL. Swartz has a right of first refusal to purchase
any variable priced securities offered by us in any private transaction which
closes on or prior to six months after the termination of the investment
agreement.
SWARTZ'S RIGHT OF INDEMNIFICATION. We are obligated to indemnify Swartz
(including their stockholders, officers, directors, employees and agents) from
all liability and losses resulting from any misrepresentations or breaches we
made in connection with the investment agreement, our registration rights
agreement, other related agreements, or the registration statement.
ADDITIONAL SHARES BEING REGISTERED
COMMON STOCK. The following table shows recent sales of common stock to
private investors.
<TABLE>
<CAPTION>
Name Date of Sale Number of Shares
---- ------------ ----------------
<S> <C> <C>
Robert Crawford December 4, 1998 100,000
December 16, 1998 100,000
April 26, 1999 200,000
April 28, 1999 100,000
James C. and Josephine M. Zolin December 29, 1998 130,435
January 29, 1999 50,000
Wayne Opperman January 29, 1999 50,000
Clifford E. Koerner February 1, 1999 100,000
Richard D. Daniels February 1, 1999 50,000
Luce, Forward, Hamilton
and Scripps LLP February 11, 1999 279,326
William G. Crawford April 28, 1999 100,000
Castle Creek Technology Partners, LLC June 14, 1999 397,205
---------
Total additional shares being registered 1,656,966
</TABLE>
The shares issued to Luce, Forward, Hamilton and Scripps LLP, our general
counsel,
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<PAGE> 19
were in lieu of a cash payment for the services they provided to us through
December 31, 1998. The shares issued to Castle Creek Technology Partners, LLC
were a result of their decision to convert a short-term note payable plus
accrued interest into common shares rather than receiving cash.
In April 1999, we sold shares of common stock to two individuals in the
accumulated amount of $75,000 and in June 1999 we issued shares to an
institutional investor upon conversion of a short term note in the amount of
$116,183. These sales occurred after the filing of a registration statement by
us and, therefore, by making these sales we may have violated Section 5 of the
Securities Act. Consequently, the two individual investors and the institutional
investor may have the right to rescind these purchases of common stock for one
year from the purchase of the common stock. In addition, Patriot and certain
officers and directors of Patriot may be subject to civil and criminal penalties
for potential violation of either or both Section 5 of the Securities Act and
applicable state law as a result of these sales.
WARRANTS. The following table shows the private investors and the number
of shares issuable upon the exercise of warrants we granted to them in
conjunction with short-term loans.
<TABLE>
<CAPTION>
Name Date of Grant Number of Shares Issuable
---- ------------- -------------------------
<S> <C> <C>
Castle Creek Technology Partners,
LLC November 19, 1998 50,000
March 20, 1999 25,000
April 20, 1999 40,000
May 20, 1999 60,000
James C. and Josephine M. Zolin February 25, 1999 85,714
March 8, 1999 57,143
April 29, 1999 200,000
June 14, 1999 67,568
Wayne Opperman February 25, 1999 42,857
March 8, 1999 28,571
April 29, 1999 100,000
Richard D. Daniels March 8, 1999 28,571
April 30, 1999 200,000
June 14, 1999 67,568
Robert Lewis, Jr. April 1, 1999 30,303
William J. Kalandros April 1, 1999 30,303
Victor Gabourel April 29, 1999 100,000
Wayne J. Coulon April 29, 1999 100,000
Craig Schilling April 29, 1999 100,000
Arthur D. Kinane April 29, 1999 100,000
</TABLE>
17
<PAGE> 20
<TABLE>
<CAPTION>
Name Date of Grant Number of Shares Issuable
---- ------------- -------------------------
<S> <C> <C>
Clifford E. Koerner April 30, 1999 100,000
Charles G. Moore May 21, 1999 200,000
Fortney Revocable Living Trust June 3, 1999 128,206
---------
Total shares issuable on exercise of warrants 1,941,804
---------
</TABLE>
Sales of shares after the initial filing of this registration statement
on April 14, 1999, may have been in violation of Section 5 of the Securities Act
of 1933 because that filing may be a general solicitation for the sale of
securities. Therefore, the purchasers of those shares may have a right to demand
that we repurchase those securities for one year after the purchase of the
common stock.
SELLING SHAREHOLDERS
The following table sets forth certain information with respect to the
selling shareholders as of September 24, 1999. Except as set forth below, none
of the selling shareholders currently is an affiliate of ours, and none of them
has had a material relationship with us during the past three years. None of the
selling shareholders are or were affiliated with registered broker-dealers. An
asterisk indicates if their common stock ownership is less than one percent.
<TABLE>
<CAPTION>
Amount and
Percentage of
Beneficial Maximum Number Common Stock
Ownership of of Shares of After the Sale
Common Stock as Common Stock --------------
Name of September 24, 1999 Offered for Sale Number %
---- --------------------- ---------------- --------------
<S> <C> <C> <C> <C>
Swartz Private Equity, LLC 12,000,000 12,000,000 -- *
Robert Crawford 675,000 500,000 175,000 *
Richard D. Daniels 517,139 346,139 171,000 *
William J. Kalandros 30,303 30,303 -- *
Robert Lewis, Jr 30,303 30,303 -- *
Clifford E. Koerner 460,000 200,000 260,000 *
Luce, Forward, Hamilton & Scripps
LLP (general legal counsel to Patriot) 279,326 279,326 -- *
Wayne Opperman 314,428 221,428 93,000 *
Castle Creek Technology Partners,
LLC 572,205 572,205 -- *
James C. and Josephine M. Zolin 710,425 590,860 119,565 *
William G. Crawford 100,000 100,000 -- *
Victor Gabourel 100,000 100,000 -- *
</TABLE>
18
<PAGE> 21
<TABLE>
<CAPTION>
Amount and
Percentage of
Beneficial Maximum Number Common Stock
Ownership of of Shares of After the Sale
Common Stock as Common Stock --------------
Name of September 24, 1999 Offered for Sale Number %
---- --------------------- ---------------- --------------
<S> <C> <C> <C> <C>
Wayne J. Coulon 100,000 100,000 -- *
Craig Schilling 100,000 100,000 -- *
Arthur D. Kinane 100,000 100,000 -- *
Charles G. Moore 200,000 200,000 -- *
Fortney Revocable Living Trust 128,206 128,206 -- *
</TABLE>
THE COMPANY
GENERAL
Patriot Scientific Corporation was organized under Delaware law on March
24, 1992, as the successor by merger to Patriot Financial Corporation, a
Colorado corporation incorporated on June 10, 1987. Our address is 10989 Via
Frontera, San Diego, California 92127, and our telephone number is (858)
674-5000. Our home page can be located on the world wide web at
http://www.ptsc.com.
We are engaged in the development, marketing, and sale of patented
microprocessor technology and high-performance digital communication products.
These products have applications in the Internet and computer, networking and
telecommunications markets. We also own innovative radar technology. We sold our
antenna technology in August 1999. Our strategy is to exploit our technologies
through product sales, licensing, and strategic alliances.
In 1997, we emerged from the development stage primarily as a result of
the acquisition of Metacomp Inc. There can be no assurance that we can achieve
profitable operations, and we may need additional financial resources during the
next twelve months.
BACKGROUND
In February 1989, we completed our initial public offering under a
registration statement on Form S-18 under the Securities Act of 1933. This
offering raised gross proceeds of $50,000 and net proceeds of approximately
$28,640 upon the sale of 2,500,000 units at $.02 per unit. Each unit sold in the
public offering consisted of one common share and one Class A common stock
purchase warrant exercisable to acquire one share of common stock and one Class
B common stock purchase warrant. All Class A and Class B warrants have since
been exercised or have lapsed.
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<PAGE> 22
On August 10, 1989, we acquired our ground penetrating radar technology
from the inventor, Mr. Elwood G. Norris, our founder and previous Chairman. The
details of that acquisition and certain related agreements are described in more
detail in "Certain Transactions" below. A description of the ground penetrating
radar technology, certain information about the industry generally, and our
operational plans are discussed below under the caption "Business".
On May 12, 1992, we redomiciled ourselves from Colorado to Delaware by
merging into a wholly owned Delaware subsidiary, Patriot Scientific Corporation,
organized for that purpose. The reincorporation resulted in a reverse stock
split. Three shares of the Colorado corporation, par value $.00001, were
converted into one share of the Delaware corporation, par value $.00001. The
reincorporation also effected a change in our charter and bylaws and a name
change to Patriot Scientific Corporation.
In May 1993, we registered under the Securities Act of 1933 a total of
7,631,606 shares issuable upon the exercise of outstanding Class A and Class B
common stock purchase warrants. We received net proceeds of $3,343,915 upon the
exercise of those warrants and the issuance of 7,538,102 common shares. None of
such warrants remain outstanding.
Effective May 31, 1994, we entered into an asset purchase agreement and
plan of reorganization with nanoTronics Corporation located in Eagle Point,
Oregon and Helmut Falk. We issued a total of 10,000,000 restricted common shares
to nanoTronics to acquire certain microprocessor technology of nanoTronics. The
technology acquired, the ShBoom technology, is being used to develop a
sophisticated yet low cost microprocessor. 5,000,000 of the shares were issued
on a non-contingent basis, and the remaining 5,000,000 shares were subject to
the terms of an earnout escrow arrangement. Of the 5,000,000 escrowed shares:
- 2,000,000 shares had been released from escrow as of September 24,
1999,
- 1,500,000 shares that were earned are being held in escrow pending
the outcome of a lawsuit in which we and the successor to
nanoTronics are co-defendants, and
- 1,500,000 shares that were not earned were cancelled and returned to
us.
Effective December 26, 1996, we acquired 96.9% of the outstanding shares
of Metacomp, Inc., a California corporation, from 56 shareholders in exchange
for the issuance of 1,272,068 shares of our common stock. Based on the closing
price of our common stock of $1.375 on the date of the acquisition, the price of
the acquisition was $1,749,094. This business combination was accounted for as a
pooling-of-interests.
BUSINESS
AVAILABLE INFORMATION. We file reports, proxy statements and other
information with the SEC, and these reports may be inspected and copied at the
public reference facilities maintained by the SEC at 450 Fifth Street, N.W.,
Judiciary Plaza, Washington, D.C. 20549. You may obtain
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<PAGE> 23
information on the operation of the public reference room by calling the SEC at
1-800-SEC-0330. The same information may be obtained at the following Regional
Offices of the SEC: 75 Park Place, New York, New York 10007, and the Northwest
Atrium Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60621.
Copies of such material may be obtained from the Public Reference Section of the
SEC's Washington, D.C. office at prescribed rates.
We mail a copy of our audited Annual Report on Form 10-KSB along with a
proxy statement to our shareholders prior to our annual meeting.
We have filed a registration statement on Form SB-2, of which this
prospectus is a part, with the SEC. This registration statement or any part
thereof may also be inspected and copied at the public reference facilities of
the SEC.
Our filings may also be accessed through the SEC's web site
(http://www.sec.gov) or by visiting our web site at (http://www.ptsc.com) and
linking to the SEC's site.
ORGANIZATION AND CORPORATE DEVELOPMENT. Our business involves three
technologies:
- PSC1000 microprocessor technology,
- high-speed data communications technology, and
- radar technology.
The stages of development of the three major technologies is as follows:
- PSC1000 Microprocessor. This technology is generating minor amounts
of revenue from the sale of evaluation boards and microprocessors.
Also, during the current fiscal year we have recognized
non-recurring engineering revenue and initial license fees related
to the microprocessor application. We are continuing our efforts to
debug our 0.35 micron microprocessor, which is currently at the
foundry stage. We are also engaged in continuing efforts to port an
operating system and the personalJava application to the
microprocessor. Although we anticipate the microprocessor to be our
main product line, it currently accounts for only 22% of our
revenue.
- High-speed data communications. Revenue from this technology is
being generated primarily from mature communication products that
are nearing the end of their life cycles. We have decided to
concentrate our efforts on the PSC1000 microprocessor and have
scaled back our efforts to introduce our newer communication
products to the market. Although the communications product line
accounted for approximately 76% of our fiscal year 1999 revenue, we
anticipate that the microprocessor will be our main product line in
the future.
- Radar and antenna. We generated revenue from two U.S. Navy contracts
under
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<PAGE> 24
which we provided proof of concept and characterization of our gas
plasma antenna. We sold the gas plasma antenna technology in August
1999. This product line accounted for 2% of our fiscal 1999 revenue.
We are not currently expending resources to further develop our
radar technology.
We anticipate that the PSC1000 family of microprocessors will benefit
our radar and high-speed data communications technologies, in that the PSC1000
microprocessor may provide a low-cost, high performance alternative to existing
microprocessors. Due to our small size and staffing overlaps among the
technologies, certain personnel work on both the microprocessor and
communication technologies from time to time.
During at least the last three years, we have focused the majority of
our efforts on the PSC1000 and high-speed data communications technologies. The
PSC1000 technology and our initial microprocessors, the PSC1000 family, are
targeted for the embedded controller and Java language processor marketplaces.
In reviewing markets for the PSC1000 technology, we identified within
the communications markets a possible opportunity for a product we offer based
on ISDN (which stands for integrated services digital network, a high-speed
method of transmitting data over the Internet). Our product is a computer
compatible plug-in card allowing high-speed, cost-effective digital ISDN access
to the Internet and other networks. This product, the CyberShark high-speed data
modem, is being marketed to Internet providers, distributors, value-added
resellers and original equipment manufacturers.
In 1994, during the course of our ground penetrating radar development,
we identified certain antenna technology employing ionized gas as the conducting
element. In May 1997, we received a $19,000 contract from the U.S. Navy for a
proof of concept for an ionized gas antenna. In October 1997, we received a
phase I $62,000 contract from the Office of Naval Research under the Small
Business Innovation Research Program. The purpose of this funding was to
evaluate and characterize the gas antenna technology. Both of these contracts
have been completed and revenue has been recognized. We sold this technology in
August 1999.
INTERNET GROWTH AND THE EMERGENCE OF THE JAVA PROGRAMMING LANGUAGE. The
Internet is a rapidly growing global web of computer networks. Developed over 25
years ago, this "network of networks" allows computers connected to the Internet
to "talk" to one another. The Internet provides organizations and individuals
with new means to conduct business. Commercial uses of the Internet include
business-to-business and business-to-consumer transactions, product marketing,
advertising, entertainment, electronic publishing, electronic services and
customer support. We believe that organizations will also increasingly use the
Internet and private Intranet networks to improve communications, distribute
information, lower operating costs and change operations. Use of the Internet
has grown rapidly impacting computer hardware, software and peripheral
industries. The rapid growth in popularity of the Internet is in part due to
continuing penetration of computers and modems into U.S. households, growth of
the informational, entertainment and
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<PAGE> 25
commercial applications and resources of the Internet and the growing awareness
of such resources among individuals, and the increasing availability of
user-friendly navigational and utility tools which enable easier access to the
Internet's resources.
The growth of the Internet and corporate Intranets is creating a demand
for hardware, software and peripherals. The large and growing number of users
connecting to the Internet is creating a demand for traditional analog and ISDN
digital modems, such as our CyberShark, and other high-speed data communication
devices. New software, such as Java, is emerging to serve the requirements of
Internet users.
Java is a programming language that was originally developed for
personal digital assistant devices and television set top boxes. It was formally
announced as an object-oriented language for the Internet in May 1995 by Sun
Microsystems Inc. A large number of major computer, software, browser and
on-line service provider companies have licensed the Java language. Accordingly,
although no assurance can be given, Java appears to be emerging as a fundamental
platform for Internet related applications. A growing number of Java
applications, or applets, are now available on the Internet. These applications
not only enhance web pages but also perform many functions of traditional
computer software programs. Our PSC1000 technology lends itself to potential
markets in which the use of Java is prevalent.
With Java, data and programs do not have to be stored on the user's
computer, but can reside anywhere on the Internet to be called upon as needed.
Among its various attributes, two key features of Java are (1) its ability to
run on a variety of computer operating systems thus avoiding the problem of
incompatibility across networks, and (2) security, because Java enables the
construction of virus-resistant, tamper-resistant systems by using
resource-access control and public-key encryption. Because of Java's useful
features, it may also become a popular programming language for embedded
applications.
Since Java is designed to run on multiple types of devices and operating
systems, it allows developers to write a program once for many types of
operating systems, instead of having to write new versions for each type. Java
does this by interpreting a program's commands into something a particular type
of computer can understand. This interpretive design runs programs slower than
if they were tailored for each type of computer and is resulting in a need for
specialized microprocessors and compilers to increase Java's speed.
The growth of Java is causing a number of companies to consider it as a
basis for a new style of computing tailored to the Internet and not encumbered
by the limitations of, or requiring, traditional computer operating systems
(such as Microsoft DOS). The concept is to design inexpensive access devices to
communicate via the Internet. Major companies such as Oracle and Sun
Microsystems Inc have made public announcements of such devices.
ShBoom MICROPROCESSOR TECHNOLOGY.
General Background. In 1991, nanoTronics Corporation was formed and
acquired
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<PAGE> 26
the ShBoom technology, a base technology for an advanced microprocessor
integrated on a single computer chip. nanoTronics subsequently engaged in
substantial technical development and fabricated a first-generation
microprocessor in early 1994.
Since the acquisition of the ShBoom technology from nanoTronics,
effective May 31, 1994, we have been engaged in correcting errors in the
microprocessor design, adding additional technical features to further modernize
the design, and improving and testing the new design. We initially fabricated a
prototype 0.8-micron microprocessor in late May 1996. The next generation of the
PSC1000 family was a 0.5 micron microprocessor that was delivered in September
1997. The 0.5 micron microprocessor is being employed in demonstrations for
prospective customers and is currently being shipped in limited numbers to
customers as an embedded microprocessor. A 0.35 micron production microprocessor
is currently being debugged and features reduced size and improved performance.
We are currently contemplating, but have not expended funds, on future
enhancements and generations or modifications of microprocessors employing the
ShBoom technology.
Industry Background. The semiconductor logic market has three major
sectors:
- standard logic products,
- application specific standard products, and
- application specific integrated circuits.
Standard logic products, such as the Intel's X86 and Pentium and
Motorola's 680X0 microprocessor families, are neither application nor customer
specific. They are intended to be utilized by a large group of systems designers
for a broad range of applications. Because they are designed to be used in a
broad array of applications, they may not be cost effective for specific
applications. Application specific integrated circuits are designed to meet the
specific application of one customer. While cost effective for that application,
application specific integrated circuits require large sales volumes of that
application to recover their development costs. Application specific standard
processors are developed for one or more applications but are not generally
proprietary to one customer. Examples of these applications include modems,
cellular telephones, wireless communications, multimedia applications, facsimile
machines and local area networks. We have designed our microprocessor to be
combined with application-specific software to serve as an embedded control
product for the application specific standard processor market sector.
Application specific standard processors are typically used in embedded
control systems by manufacturers to provide an integrated solution for
application specific control requirements. Such systems usually contain a
microprocessor or microcontroller, logic circuitry, memory and input/output
circuitry. Electronic system manufacturers combine one or more of these elements
to fit a specific application. The microprocessor provides the intelligence to
control the system. The logic circuitry provides functions specific to the end
application. The input/output circuitry may also be application specific or an
industry standard component. The memory element, if not on the microprocessor,
is usually a standard product used to store program instructions and data. In
the past, these functions have been executed through multiple
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<PAGE> 27
integrated circuits assembled on a printed circuit board. The requirements for
reduced cost and improved system performance have created market opportunities
for semiconductor suppliers to integrate some or all of these elements into a
single application specific standard processor or chip set, such as the PSC1000
family of microprocessors which are based on the ShBoom-architecture. The
PSC1000 family provides close integration of the microprocessor and input/output
function with the logic circuitry, thereby providing an advanced application
specific standard processor.
Embedded control systems enable manufacturers to differentiate their
products, replace less efficient electromechanical control devices, add product
functionality and reduce product costs. In addition, embedded control systems
facilitate the emergence of completely new classes of products. Embedded control
systems have been incorporated into thousands of products and subassemblies
worldwide, including automotive systems, remote controls, appliances, portable
computers and devices, cordless and cellular telephones, motor controls and many
other systems.
Microprocessors are generally available in 4-bit through 64-bit
architectures, which refers to the amount of data they can process. 4-bit
microprocessors are relatively inexpensive, typically less than $1.00 each.
Although they lack certain performance and features, they account for more than
40% of worldwide microcontroller volume. Also in general use today are 8-bit
architectures, generally costing $1.00 to $10.00 each and accounting for an
additional 40% of worldwide microcontroller volume. To date 16-bit, 32-bit and
64-bit architectures, with typical costs of over $10.00 each, have offered very
high performance, but are generally considered to be expensive for high-volume
embedded control applications. The use of 16-bit , 32-bit and 64-bit
architectures offers fewer internal limitations, making programming easier and
providing higher performance. Although generally more expensive per unit and
requiring more support logic and memory, these devices offer many advantages for
more sophisticated embedded control systems.
Electronic system designers, driven by competitive market forces, seek
semiconductor products with more intelligence, functionality and control that
can be used to reduce system costs and improve performance. For these needs, the
ShBoom architecture was designed to be a sophisticated 32-bit reduced
instruction set computer microprocessor with advanced features, including the
most commonly needed support logic, but at a low cost; thereby providing
improved performance to existing embedded control applications and creating the
opportunity for the development of new, cost-effective applications.
Technology Description. Conventional high-performance microprocessors
are register-based with large register sets. These registers are directly
addressable storage locations requiring a complex architecture that consumes
costly silicon. This conventional architecture provides processing power for
computer applications but complicates and slows the execution of individual
instructions and increases silicon size, thereby increasing the microprocessor
cost.
Our technology is fundamentally different from most other
microprocessors because it is stack-oriented, in that the data is stored in
groups. Our microprocessor employs certain features of both register and stack
designs. The resultant merged stack-register architecture
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improves program execution for a wide range of embedded applications. Our design
combines two processors in one highly integrated package, a microprocessing unit
for performing conventional processing tasks, and an input-output processor for
performing input-output functions. This replaces many dedicated peripheral
functions supplied with other processors. The microprocessor's design simplifies
the manipulation of data. ShBoom's architecture employs instructions that are
shrunk from 32-bits to 8-bits. This simplified instruction scheme improves
execution speed for computer instructions. Our architecture incorporates many
on-chip system functions, thus eliminating the requirement of support
microprocessors and reducing system cost to users.
The 0.8 micron microprocessor has been designed to operate at a speed of
50Mhz; the 0.5 micron microprocessor at a speed of 100Mhz; and the 0.35 micron
microprocessor at 150 MHz . They are all compatible with a wide range of memory
technology from low cost dynamic random-access memory to high-speed static
random access memory. The microprocessors can be packaged in various
surface-mount and die-form packaging. There can be no assurance that the
designed speed will be achieved with production models of the 0.5 and 0.35
micron microprocessors or future versions or that all of the desired functions
will perform as anticipated.
The ShBoom technology is not designed or targeted to compete with
high-end processors for use in personal computers. It is targeted for embedded
control applications. We believe that the features described above differentiate
the PSC1000 family from other 8-bit to 64-bit microprocessors targeted for
embedded control applications. Considering the reduced requirement for support
microprocessors, the PSC1000 family is intended to be available at a high volume
price that should be price competitive with high-end 8-bit microprocessor and
general 16-bit microprocessor systems but with higher performance (speed and
functional capability). The PSC1000 family has been designed to allow high-speed
and high-yield fabrication using generally available wafer fabrication
technology and facilities.
The PSC1000 Microprocessor as a Java Processor. We believe the PSC1000
microprocessor architecture is capable of being an efficient and cost-effective
Java programming language processor, because Java is designed to run on a
stack-oriented architecture and the stack-oriented ShBoom architecture executes
the virtual stack machine internal to Java efficiently. Many Java operation
codes or instructions require only a single 8-bit PSC1000 family instruction to
be executed, providing a performance advantage over other more expensive
processors that require six or more 32-bit instructions to do the same task.
This feature allows the execution of Java programs with increased speed and
reduced code size thereby enabling lower system memory costs. In addition, the
incorporation of many on-chip system functions is expected to allow the PSC1000
family to perform most of the other functions required of an Internet computer
device or Java accelerator, thereby eliminating components. Since Internet
computers are designed to be inexpensive appliances for Internet access, cost,
speed and performance are expected to be key requirements for designers. We
believe the ShBoom technology can compete favorably on the basis of such
requirements, although there can be no assurance we can successfully exploit
Java related applications or that competitors will not create superior Java
processors.
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We have ported the Java operating environment to the PSC1000 family,
which currently uses the C programming language for software support. We are a
licensee of Sun Microsystems Inc. This enables us to develop and distribute
products based on Sun's JavaOS Technologies. We recently exercised an option to
license from Sun Microsystems Inc., personal Java, a platform on which to run
Java applications. We also licensed from Wind River an operating system,
VXWorks, and entered into a relationship with Forth Inc. whereby Forth will
provide software support and operating system development tools for the Forth
Programming language. We expect that successful implementation of this software
should result in a microprocessor which is competitive in the Java virtual
machine and embedded applications markets. We believe that, if the
implementation is successfully completed, the PSC1000 family will be competitive
with Java microprocessors announced by competitors. However, there can be no
assurance of successful implementation of this package of software or of a
market for a PSC1000 family Java microprocessor.
Stage of Development. In early 1994, nanoTronics initiated production of
a first generation of wafers at a contract fabrication facility using 6-inch
wafers employing 0.8 micron double-metal CMOS technology. After the May 31, 1994
acquisition, we improved the original design, added new features and performed
simulations and tests of the improved designs. In October 1995, a run of six
wafers of second-generation 0.8 micron microprocessors was fabricated by a
contract fabrication facility. Subsequently, we tested these microprocessors,
while completing a C computer language compiler and preparing application
development tools. The compiler and application development tools are necessary
to enable system designers to program the PSC1000 family for specific
applications. We made corrections to the design suggested by the testing of
prototype units and produced an additional run of second-generation
microprocessors from remaining wafers in May 1996. In July 1996, we employed
these microprocessors in demonstration boards for use by developers and
prospective customers and licensees.
In December 1997, we completed development of and started shipping a
0.5-micron microprocessor based on the PSC1000 technology and found that
0.5-micron double-metal CMOS technology improved operating speed, reduced power
requirements, reduced physical size and reduced fabrication cost. In May 1998,
we began a production run of a 0.35-micron microprocessor that we anticipate
will further increase operating speed and cost-performance over the previous
generations of the PSC1000 family of microprocessors.
At each stage of development, microprocessors require extensive testing
to ascertain performance limitations and the extent and nature of errors (bugs),
if any. When significant limitations or errors are discovered, additional rounds
of design modifications and fabrication are required prior to having functional
and demonstrable microprocessors for prospective customers and licensees.
Although our 0.5 micron microprocessor has been sent to prospective customers in
anticipation of production orders, there can be no assurance that we, during our
continued testing of these products, will not identify errors requiring
additional rounds of design and fabrication prior to commercial production.
Additional delays could have an adverse effect on the marketability of our
technology and financial condition.
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We have developed marketing materials, product manuals and application
development tools for use by licensees and customers. The manuals and tools are
necessary to enable system designers to quickly and easily program the PSC1000
family for specific applications.
We believe that the PSC1000 family is ready for licensing or sale and
that any additional changes encountered in current testing will be minor and can
be made during initial production runs of PSC1000 family microprocessors for
customers, when and if orders are obtained. We also believe the ShBoom core
technology is ready for licensing for use by others to develop custom multiple
function microprocessors. An initial licensing agreement was entered into in
December 1998. This agreement establishes a library arrangement with Venture
System LSI Assist Center, (or VSAC), a Japanese quasi-governmental unit. VSAC
allows our core license to be made available to qualified Japanese entities for
their evaluation and review. To be qualified, the Japanese entity must have
total capital of less than 100 million yen, have less than 300 employees, and be
a Japanese legal entity. Every qualified company that attains a volume of 1,000
units must enter into a sub-license agreement with us.
Business Strategy. The increasing demand for embedded control has made
the market for microprocessors one of the largest segments of the semiconductor
logic market. Forbes magazine in July 1998 estimated that the embedded systems
market would be worth $27 billion by the year 2000. This type of demand will
drive the need for embedded processors. Our strategy does not entail competing
directly with suppliers who have multiple microprocessor types addressing all
parts of the embedded systems market, but on identifying certain market niches
that the PSC1000 would best address due to its low cost, low power consumption
and ability to run Java efficiently.
Because of the above factors, we intend to focus the majority of our
efforts on the Java microprocessor business, a new but relatively unpenetrated
market without an established base of microprocessor products and for which we
believe the PSC1000 has desirable technical and market advantages.
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We believe that the ShBoom architecture is suited for controller
applications requiring high-performance and low system cost, such as kiosks,
laser printers, dot-matrix printers, video terminals, robotics, motion
controllers, industrial controllers, digital communication devices, video games,
cable and satellite modems and TV set-top boxes. We expect that early licensing
of the technology and product applications will focus on embedded control.
We have appointed eight international distributors for foreign markets.
We also have a full-time Vice President of Sales and Marketing to lead marketing
of the PSC1000 family.
We believe the appropriate approach for us initially lies in a balanced
effort of cultivating licensees and developing specific product enhancement
partnerships, producing original equipment manufactured products, developing
innovative in-house products, and providing technical support to third parties
on a contract basis. The overall balance of these approaches will be monitored
and modified as we attempt to ascertain and capitalize on the highly dynamic and
competitive embedded microprocessor market. There can be no assurance that we
can successfully exploit our PSC1000 microprocessor technology.
Subject to the availability of financial and personnel resources, while
we are commercializing the PSC1000 family and the ShBoom core technology, our
strategy is to also design and develop future versions of the microprocessor
with more demanding sub-micron technology and with more features. However, our
resources are limited, and there can be no assurance that we will be able to
continue microprocessor enhancement.
Initial fabrications of the 0.8 micron and 0.5 micron processors were
performed by contract fabrication facilities. The 0.35-micron microprocessor is
being fabricated by a contract fabrication facility that has agreed to provide
production quantities for our customers. There can be no assurance fabrication
facilities will be available to produce the PSC1000 family in the future.
However, since there are a large number of fabrication facilities with the
capability to produce the PSC1000 family of microprocessors, we believe
microprocessors can be produced on a contract basis. Industry shortages of
fabrication facilities that may exist and are predicted to exist in the future
are generally limited to the more demanding architectures. If a shortage of
fabrication facilities develops, it could have a material adverse effect on our
financial condition.
Competition. The semiconductor industry is intensely competitive and has
been characterized by price erosion, rapid technological change and foreign
competition in many markets. The industry consists of major domestic and
international semiconductor companies, most of which have greater financial,
technical, marketing, distribution, development and other resources than ours.
The market for microprocessors and for embedded control applications is at least
as competitive.
While our strategy is to target high-volume licensees and microprocessor
customers requiring more sophisticated but low-cost devices, we can still expect
significant competition. We may also elect to develop embedded control system
products utilizing the ShBoom architecture for ourselves or by contract for
other manufacturers.
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We expect that the PSC1000 family, if successfully commercialized in the
embedded controller market, will compete with a variety of 16/64-bit
microprocessors including ARM, MIPS and the PowerPC. As a Java processor, we
expect our PSC1000 family will compete with a broad range of microprocessors
including licensees of Sun Microsystems, Inc.'s PicoJava. The producers of these
microprocessors have significantly greater resources than ours.
A new entrant, such as ours, is at a competitive disadvantage compared
to these and other established producers. A number of factors contribute to
this, including:
- the lack of product performance experience,
- lack of experience by customers in using application development
systems,
- no record of technical service and support, and
- limited marketing and sales capabilities.
HIGH SPEED DATA COMMUNICATIONS PRODUCTS.
General Background. Starting in fiscal 1995, we initiated the
development of a computer compatible plug-in card allowing high-speed,
cost-effective digital ISDN access to the Internet and other networks. In
December 1996, we acquired 96.9% of Metacomp to increase our capabilites to
include engineering, assembly, marketing and distribution. The acquisition of
Metacomp expanded the product line and added high-speed data communications
revenue and a customer base.
Metacomp, founded in 1978, was a high technology company that designed,
assembled, and sold a wide range of high performance data and telecommunications
solutions for wide area networking and high-speed data communications
requirements.
The business combination with Metacomp was treated as a
pooling-of-interests, and the Metacomp product line was combined with our ISDN
product.
ISDN and Digital Communications Description. The Integrated Services
Digital Network (ISDN) is a set of digital transmission protocols that virtually
all of the world's communications carriers have adopted as a standard. ISDN
brings the digital network to the individual user by turning the twisted-pair
copper telephone line into a high-speed, high-capacity ISDN line with the
capacity for two transmissions (one voice, fax or computer conversation and one
data conversation) to happen at the same time. Further, up to eight separate
devices (telephones, computers, fax machines, etc.) can be connected to the same
ISDN line and each given separate telephone numbers. In many home and business
applications, the use of an ISDN line provides dramatically increased speed and,
by allowing multiple uses of one line, improved economics over multiple lines.
ISDN service is easily connected by local telephone companies.
In addition to ISDN products, we also provide high speed communication
products that can be customized to meet the customer's specific needs. This is
done via software tailored
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for each customer. These products are often used by businesses for wide area
network applications or other high speed industrial communication systems.
Major Communications Products. We have a line of ISDN interface products
for high speed, cost effective digital communications through telephone
networks. These products include:
CyberShark Family
CyberShark - This low-cost basic rate ISDN adapter card has been
designed to allow small businesses and telecommuters to access corporate
networks and the Internet via ISDN. The card includes an analog phone
jack that allows the user to connect his existing analog phone or fax
machines for simultaneous voice conversation.
CyberShark/HSET - This basic rate ISDN adapter card is designed to be
used with a headset/handset used by distributed call centers and remote
agents. It offers access to and supports domestic as well as European
telecommunication protocols. The CyberShark/HSET can be used on
Windows/95, Windows/NT, and Linux operating systems.
CyberShark/PRI - This primary rate ISDN adapter card provides
intelligent support of up to 23 simultaneous digital connections
allowing easy integration into third-party voice, analog modem, or video
conferencing. The CyberShark/PRI is also available to support T1, an
advanced North American communication system, and E1, the European
equivalent to the T1. The CyberShark/PRI can be used on the Windows/NT
operating system.
FlagShip Family
FlagShip/PRI-2 - This ISDN product is a dual-span primary rate adapter
card that supports up to 46 simultaneous digital connections.
NetShark - This ISDN product is a high-density two-card set that
combines a primary rate ISDN interface card with a modem card containing
up to 60 modems. NetShark provides dial-in access to remote users using
either 64 Kbps ISDN or 56 Kbps V.90 connections and operating under
control of Windows NT's built in Remote Access Server or Routing and
Remote Access Server software.
Other
VME Product Line - We also offer a line of intelligent high-speed
communications engines in a virtual memory European form factor. Some of
our customers for these products include the military as well as large
satellite based data communications companies.
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Atcomm2/4 Product Line - We also market an intelligent two or four
channel product that is used for high-speed data communications.
Engineering and Development - The communications product line also
obtains revenue from providing contract engineering and software
development for customers. From time to time we are able to retain a
proprietary interest in developed products and in such circumstances
retain a license/royalty interest.
Our product strategy is to continue to provide data communication
solutions through our current products. We have three research and development
personnel who are assigned part time to high speed data communication products
in addition to development of our microprocessor.
Production and Marketing Strategy. Our strategy is to have our
high-speed data communication products manufactured on a sub-contract basis
with, in some instances, final assembly at our facility. We test and distribute
the products. In-house marketing manages the sales of our high-speed data
communications products. Our telecommunication products and ISDN products are
targeted for original equipment manufacturers, systems integrators, value added
resellers, and sophisticated end users.
Competition. There are a number of ISDN board-level products competitive
to CyberShark offered by competitors including NetAccess, ISDN-tek, Inc., Zyxel,
Digi International and U.S. Robotics. These companies have substantially greater
resources than ours. Although not all of these companies offer personal computer
plug-in card terminal adapters directly competitive with our product, additional
direct competitors may introduce competitive products.
We believe our products are competitive on both features and price with
the products currently in the marketplace or those known by us to have been
announced. ISDN modems also compete with traditional analog modems and with
other interface technologies such as cable modems. Accordingly this field is
subject to rapid technological change and fierce competition.
We do not believe we can avail ourselves of patent protection on most of
our high-speed data communication products. However, we rely on trade secret
laws and copyrights to protect our high-speed data communications products.
RADAR AND ANTENNA TECHNOLOGY.
General Background. During the period from 1980-1983, Mr. Elwood Norris,
our founder and previous Chairman, developed a technique employing microwave
radiation to penetrate the earth's surface. This radar technology relates to
ground penetrating radar. This technology is one of many of a family of
geophysical tools and sensing technologies that include
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seismic, electromagnetics, gravity, borehole sampling and other techniques.
Ground penetrating radar is a technique for producing profiles of subsurface
strata and features by emitting radar waves and recording the reflected signals.
We commenced active development of our ground penetrating radar
technology in April 1992. By May 1993, we were able to demonstrate the sensing,
processing and crude visualization of images from our technology, and by May
1994 we had completed our prototype device. Since May 1994, we have focused our
efforts and limited financial resources on the PSC1000 technology and
communication products, effectively suspending development and most marketing
efforts related to ground penetrating radar.
Gas Antenna Technology Description. In September 1994, we filed a patent
application on certain gas antenna technology invented during our ground
penetrating radar development. Immediately upon receiving notice of allowance in
June, 1995, the invention was classified secret by the U.S. Department of
Commerce at the request of a defense agency.
In January 1996, we filed an application seeking declassification of the
technology, and in June 1996, we were advised that de-classification had been
approved. The U.S. patent was issued in January 1997. The de-classification
allowed us to exploit the technology for both governmental and commercial
purposes.
Our gas antenna technology employed ionized gas as the conducting
element of an antenna. This is a fundamental change from traditional antenna
design that generally employs solid wires as the conducting element. We believed
ionized gas was an efficient conducting element with a number of advantages.
Since the gas is ionized only for the precise time of transmission or reception,
ringing and associated effects of solid wire antenna design are reduced. The
design allowed for extremely short pulses, important to many forms of digital
communication and radar. The design further provided the opportunity to
construct an antenna that could be dynamically reconfigured for frequency,
direction, bandwidth, gain and beamwidth. We believed antennas could be designed
that are low in weight, small in size and lower in power consumption than
traditional solid wire antennas.
We obtained two U.S. Navy contracts to evaluate a prototype of the gas
plasma antenna technology.
We sold our gas plasma technology in August 1999.
Ground Penetrating Radar Technology Description. We have developed
sensors (wave generators and antenna) and techniques for the processing,
conversion, compression, storage, and visualization (collectively, computer
processing) of ground penetrating radar data. We have developed proprietary
techniques for wave generation and proprietary antenna for the sending and
receiving of data. We use proprietary methods to capture and process returned
signals.
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We have assembled a mobile prototype version of our ground penetrating
radar technology. This prototype encompasses a blending of laboratory equipment
(with internal software and hardware custom configured and modified to function
as desired) and specialized components including antenna, power generators and
amplifiers. The prototype has demonstrated the ability to penetrate multiple
solid objects (walls and barriers) and identify return signals from additional
objects such as walls, persons and manmade barriers. In certain ground strata,
we have been able to resolve objects of six-inch size at approximately ten feet
in depth. Our device does not require contact with the ground, providing
enhanced mobility, extended area coverage and the ability to look sideways (for
example through walls and in mine shafts).
We have one U.S. patent on antenna technology for our ground penetrating
radar. Other aspects of the ground penetrating radar system are maintained as
trade secrets, although additional patent applications may be filed in the
future.
Stage of Development. Our prototype system is used for limited
prospective customer and user evaluations of the technology. We have
demonstrated using the technology to detect plastic mines, side viewing through
walls and solid structures for detection of bodies or other objects, and viewing
plastic pipes and other underground objects.
We believe that most prospective users will require more specifically
tailored equipment and multiple devices. Commercialization of the ground
penetrating radar technology will require additional development to improve
visualization software and to replace the current system with specifically
designed components to minimize cost and weight and improve portability.
There can be no assurance that a commercially viable device will or can
be produced, and we have no existing users or customers who use the ground
penetrating radar technology. There can be no assurance any prospective users
will select our device over competitive devices, if any.
Business Strategy. We have limited resources to pursue further
development to commercialize a ground penetrating radar system for the above
markets. Our strategy is to use our ground penetrating radar prototype to
demonstrate to prospective users our capabilities and to seek partnering
arrangements to develop custom commercial devices for specific applications. Our
marketing activities to date have been very limited and are focused primarily
towards governmental agencies and major prime contractors to the U.S.
government. The strategy is to seek sponsorship to assist in further development
and commercialization of the present technology. There can be no assurance that
we can obtain any outside assistance or successfully complete development and
commercially exploit our ground penetrating radar technology.
Competition. The segment of the electronics industry that involves the
manufacture and sale of ground penetrating radar equipment is not large or
cohesive enough to be referred to as an "industry." Further, it is a specialized
subset of geophysical tools that include seismic equipment and other geophysical
and scientific instruments. It is possible that any such
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technology owned or developed by others may be further advanced than our
technology.
We have not yet developed a commercially marketable prototype of our
ground penetrating radar technology. Most of our potential competitors are
actively engaged in operations and have had time to develop product recognition
and market share and have greater financial and other resources than ours.
RESEARCH AND DEVELOPMENT. Our current development efforts are focused on
the introduction of the PSC1000-family microprocessor. The development of this
technology has taken longer than anticipated and could be subject to additional
delays. Therefore, there can be no assurance of timely or successful marketing
of the PSC1000-family.
We incurred research and development expenditures of $2,149,361 for our
fiscal year ended May 31, 1999 and $1,607,828 for the fiscal year ended May 31,
1998. The majority of our expenditures in fiscal 1999 and 1998 have been devoted
to our PSC1000 and high-speed data communications technologies. To date, we have
expensed internal software development costs as incurred. We believe that
technical advances are essential to our success and expect that we will continue
to expend substantial funds on research and development of our technologies.
However, there can be no assurance that such research and development efforts
will result in the design and development of competitive technologies in a
timely manner.
LICENSES, PATENTS, TRADE SECRETS AND OTHER PROPRIETARY RIGHTS. We rely
on a combination of patents, copyright and trademark laws, trade secrets,
software security measures, license agreements and nondisclosure agreements to
protect our proprietary technologies. Our policy is to seek the issuance of
patents that we consider important to our business to protect inventions and
technology that support our microprocessor and radar and antenna technologies.
We have six U.S. patents issued and five U.S. patents pending, most
dating back to 1989, on the ShBoom microprocessor technology. We have one ShBoom
technology patent pending in five European countries and Japan and may file
additional applications under international treaties depending on an evaluation
of the costs and anticipated benefits that may be obtained by expanding possible
patent coverage.
In addition to such factors as innovation, technological expertise and
experienced personnel, we believe that a strong patent position is becoming
increasingly important to compete effectively in the semiconductor industry. It
may become necessary or desirable in the future for us to obtain patent and
technology licenses from other companies relating to certain technology that may
be employed in future products or processes. To date, we have not received
notices of claimed infringement of patents based on our existing processes or
products; but, due to the nature of the industry, we may receive such claims in
the future. Likewise, we believe that we may have claims against other
semiconductor companies should certain of our pending patents be favorably
granted. However, there can be no assurance thereof nor any assurance that we
could successfully exploit any potential patent claims against larger
competitors.
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We acquired the basic ShBoom technology from nanoTronics Corporation in
return for 10,000,000 shares of our common stock in 1994. We do not believe we
are obligated to pay any royalties on aspects of the ShBoom technology specified
in prior agreements between nanoTronics Corporation and a previous inventor. We
believe that, should there be royalties due to the previous inventor, the
obligation is that of nanoTronics. We have been informed by nanoTronics that the
inventor has rejected a tender of a part of the consideration paid by us to
nanoTronics. The inventor has proposed that he is entitled to royalties and the
return of the basic ShBoom technology. The inventor has filed a lawsuit to
enforce these claims. The lawsuit is further discussed in the "Litigation"
section of this prospectus. If it is ultimately determined that the inventor is
entitled to royalties, we could be subject to indemnification claims by
nanoTronics of up to $1,250,000 based on our agreement with nanoTronics.
Based on the asset purchase agreement and plan of reorganization between
Patriot, nanoTronics and Mr. Falk, we were the recipients of a number of
warranties and indemnities. We believe nanoTronics has been or is in the process
of liquidation and, due to Mr. Falk's death in July 1995, we may be limited in
our ability to obtain satisfaction should we have any future claims against
nanoTronics or the Falk Family Estate.
We have entered into the following licenses related to the
microprocessor technology:
- Sierra Systems. In June 1994, we entered into an agreement with
Sierra Systems whereby we could provide the C programming language
on the PSC1000. We currently provide development and evaluation
boards with the C and C++ programming languages.
- Sun Microsystems Inc. In June 1997, we entered into an agreement
with Sun Microsystems, Inc. which enabled us to develop and
distribute products based on Sun's JavaOS technology. In June 1998,
we exercised an option under that agreement to license from Sun,
personalJava, a smaller platform on which to run Java applications,
that did not include an operating system. We determined that
personalJava was better suited to the markets available to the
PSC1000. We are currently working on porting personalJava to the
PSC1000.
- Wind River. In July 1997, we entered into an agreement with Wind
River that provided us with a license for an operating system,
VXWorks, to be used in conjunction with personalJava. We are
currently working on porting VXWorks to the PSC1000.
- Forth Inc. In July 1997, we entered into a license agreement with
Forth Inc. whereby Forth will provide software support and operating
system development tools for the Forth programming language. Several
customers are evaluating the PSC1000 as a microprocessor using the
Forth programming language.
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- VSAC. In December 1998, we entered into a licensing agreement with
Venture System LSI Assist Center under which our core license is
made available for evaluation and review by qualified Japanese
companies. Certain companies attaining 1,000 unit volumes will be
required to enter into sub-license agreements with us.
We had one U.S. patent on our gas plasma antenna technology which was
sold in August 1999.
We have one U.S. patent on our ground penetrating radar technology. No
foreign application has been made. Although plans in this regard are not
definite, our intention is to apply for patents only as to selected aspects of
our ground penetrating radar technology in order to reduce the risk of
infringement or duplication by competitors. Considering the rapid advancements
in the field of electronics generally, we believe that our interests will best
be served by treating as trade secrets non-patented components or
instrumentation groups used in some of our technologies. There are a large
number of patents owned by others in the radar field generally and in the field
of ground penetrating radar specifically. Accordingly, although we are not aware
of any possible infringement and have not received any notices of claimed
infringement, we may receive such claims in the future.
In 1995, we entered into a fully paid license agreement with
Telenetworks that enables us to use their ISDN software technology. In addition
to the protection afforded us through this ISDN technology license, we have
created our own software and hardware designs and use copyright, trade secret
laws, software security measures and nondisclosure agreements to protect our
proprietary products, technology and software. We have one U.S. patent on our
high-speed data communication technology. Despite our precautions, it may be
possible for unauthorized third parties to copy aspects of, or otherwise obtain
and use, our high-speed data communication technology and software without
authorization. In addition, we cannot be certain that others will not develop
substantially equivalent or superior proprietary technology thereby
substantially reducing the value of our proprietary rights.
In 1993, we licensed the technology related to a family of communication
interface microprocessors to Sipex Corporation. The agreement provided that
Sipex could exclusively use the technology through December 1998 if it paid a
$50,000 per year minimum. Subsequent to December 1998 the license continues on a
non-exclusive basis based on the mutual consent of both parties. Currently,
Sipex is continuing to use the technology and paying a royalty fee.
In addition, we entered into a non-exclusive license agreement with
Multi-Tech relating to the ATComm/PRI technology. Multi-Tech paid us an up-front
license fee of $50,000 plus an additional royalty fee of $50 per unit for each
unit sold up to a maximum royalty fee of $25,000 after which time the agreement
becomes a paid up license. Multi-Tech also pays us a support fee of $5,000 per
year for five years through 2001. Currently Multi-Tech is continuing to use the
technology and paying a royalty fee.
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<PAGE> 40
There can be no assurance that any patents will issue from pending or
future applications or that any patents that are issued will provide meaningful
protection or other commercial advantages to us. Although we intend to protect
our rights vigorously, there can be no assurance that these measures will be
successful.
We generally require all of our employees and consultants, including our
management, to sign a non-disclosure and invention assignment agreement upon
employment with us.
MARKETING AND DISTRIBUTION. Our products are marketed through a
combination of direct sales and distributors. Approximate sales by principal
geographic area (as a percentage of sales) for fiscal years ended May 31 were as
follows:
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Domestic sales 68% 96%
Foreign sales
Japan 14% --
Europe 9% 3%
North America 5% 1%
Other 4% --
--- ---
Total sales 100% 100%
=== ===
</TABLE>
All of our operating assets are located within the United States. While
sales to certain geographic areas generally vary from year to year, we do not
expect that changes in the geographic composition of sales will have a material
adverse effect on operations.
DEPENDENCE UPON SINGLE CUSTOMERS. Ten percent (10%) or more of our
consolidated net sales for the fiscal years indicated were derived from
shipments to the following customers:
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Intermec $339,000 $578,000
G.E. Capital -- 478,000
Spacenet
Advanced -- 207,000
Communications
VSAC 159,000 --
Microcom 125,000 --
</TABLE>
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<PAGE> 41
All of the above sales were for communication products, except the sale
to VSAC which was for a microprocessor license, and were shipped against
multiple purchase orders from each customer.
FACILITIES. We have one 10,000 square foot office located at 10989 Via
Frontera, San Diego, California. The facility is leased and is currently held
under an option that will expire in July 2001. In addition, several of our
employees who are supporting the PSC1000 microprocessor are telecommuting from
their homes in northern California.
EMPLOYEES. We currently have nineteen full-time and one part-time
personnel. Eleven full-time persons are employed in research and development,
three full-time persons are engaged in manufacturing and assembly, one full-time
person is engaged in marketing and four full-time and one part-time persons are
engaged in general and administrative activities. We also engage additional
consultants and part-time persons as needed from time to time.
Our future success depends in significant part upon the continued
service of our key technical and senior management personnel. The competition
for highly qualified personnel is intense, and there can be no assurance that we
will be able to retain our key managerial and technical employees or that we
will be able to attract and retain additional highly qualified technical and
managerial personnel in the future. None of our employees is represented by a
labor union, and we consider our relations with our employees to be good. None
of our employees is covered by key man life insurance policies.
GOVERNMENT REGULATION. To our knowledge, our products are not subject to
governmental regulation by any federal, state or local agencies that would
affect the manufacture, sale or use of our products, other than occupational
health and safety laws and labor laws which are generally applicable to most
companies. We cannot, of course, predict what sort of regulations of this type
may be imposed in the future but do not anticipate any unusual difficulties in
complying with governmental regulations which may be adopted in the future.
Our proposed ground penetrating radar device uses microwave radio waves.
The Federal Communications Commission (FCC) regulates the use of such radio
waves in a product. Since we have limited manufacturing capabilities, we most
likely would license the technology to other companies for production. The other
companies would be required to obtain the proper FCC approvals for their
products. We do not believe that the operation of the ground penetrating radar
prototype on contract analysis projects requires FCC approval.
We have not incurred costs associated with environmental laws and do not
anticipate such laws will have any significant effect on our future business.
USE OF PROCEEDS
We expect to sell to Swartz Private Equity, LLC $5,000,000 of common
stock under the investment agreement. Additional amounts may be received if the
warrants to purchase
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<PAGE> 42
common stock are exercised. Net proceeds are determined after deducting all
expenses of the offering (estimated to be $104,600).
We intend, in the following order of priority, to use the net proceeds
from this offering as follows:
<TABLE>
<S> <C>
Repayment of short-term loans $ 698,000
Marketing, sales, and commercialization 1,000,000
Expenses for marketing and sales in conjunction with the market
introduction of the microprocessor as a commercial product. Such
expenses include market research studies, marketing collateral
materials, trade show participation, public relations,
advertising expenses and sales and marketing personnel
Completion of the microprocessor development 1,000,000
Expenses for completion of the development include porting an
operating system and personalJava to the microprocessor and
obtaining tools to make use of the processor more user- friendly
Working capital and general corporate purposes 2,197,400
----------
Total $4,895,400
==========
</TABLE>
The amount and timing of working capital expenditures may vary
significantly depending upon numerous factors such as:
- The progress of our final development of the microprocessor,
- Revenues generated from existing and anticipated products and
licenses,
- The development of marketing and sales resources,
- Administrative and legal expenses, and
- Other requirements not now known or estimable.
We believe that our available cash and existing sources of funding,
together with the proceeds of this offering and interest earned thereon, will be
adequate to maintain our current and planned operations for at least the next 18
months.
40
<PAGE> 43
LITIGATION
In October 1998, Patriot was sued in the District Court for Travis
County, Texas by the Fish Family Trust, an assignee of a co-inventor of the
original ShBoom technology. The suit also named as defendants nanoTronics and
Gloria Felcyn as trustee of the Falk Family Trust. The suit sought a judgment
for damages, a rescission of the technology transfer agreement by which
nanoTronics obtained the technology and a restoration of the technology to the
Fish Family Trust. We had the suit removed to the United States District Court
for the Western District of Texas, Austin Division. We requested that the
Federal District Court dismiss the suit based on a lack of minimum contacts with
Texas or, in the alternative, to transfer the case to the Southern District of
California. In January 1999, the Federal District Court dismissed the suit for
lack of subject matter and personal jurisdiction.
The Fish Family Trust then refiled the suit in the Superior Court of San
Diego County, California seeking remedies similar to the action dismissed by the
Federal District Court. We have joined with nanoTronics and Gloria Felcyn,
Trustee, and retained joint legal counsel to defend this suit. We have not had
any meaningful settlement discussions. A trial has been scheduled for December,
1999. We and the other defendants intend to vigorously contest the plaintiff's
allegations.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Our results of operations have been and may continue to be subject to
significant variations. The results for a particular period may vary due to a
number of factors. These include:
- the overall state of the semiconductor and communications segments
of the economy,
- the development status of and demand for our products,
- economic conditions in our markets,
- the timing of orders,
- the timing of expenditures in anticipation of future sales,
- the mix of products sold by us,
- the introduction of new products,
- product enhancements by us or our competitors, and
- pricing and other competitive conditions.
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<PAGE> 44
RESULTS OF OPERATIONS FOR THE YEARS ENDED MAY 31, 1999 AND 1998
Net sales. Total net sales for the fiscal year ended May 31, 1999
decreased 40.4% to $1,134,545 from $1,902,874 for the fiscal year ended May 31,
1998. This decrease was due primarily to a reduction in follow-on shipments for
our matured communication products several of which are approaching the end of
their life cycles. Development and sales of new communications products have not
achieved a level to replace the maturing products. We anticipate this trend in
communication product revenue to continue since many of the communication
products are approaching the end of their life cycles and our efforts are being
focused on the microprocessor product line.
Cost of sales. Cost of sales as a percentage of net sales increased to
62.7% in fiscal 1999 compared to 61.2% in fiscal 1998. This 1.5% increase in the
cost of sales percentage was a result of a smaller revenue base available to
absorb similar overhead levels from the previous year (7.8% of gross sales)
offset partially by a smaller addition to the reserve for obsolete inventory
(6.2% of gross sales) for component and finished parts inventory related to the
older communication products being phased out. Additional inventory write downs
and reserves may be necessary in future years since additional communication
products are nearing the end of their life cycles. Future sales may not be
sufficient to use existing communication finished parts inventory (which had
built up in previous years in anticipation of larger orders) and component parts
used in communication products may not be usable in other products. Each period
we review component part and finished goods inventory quantities and estimate
the amount of useable inventory based on historical usage. If the quantities
anticipated to be used are less than the quantities on hand, we increase the
obsolescence reserve and record additional cost of sales.
Research and development expenses increased 33.7% from $1,607,828 in
fiscal 1998 to $2,149,361 for fiscal 1999. This increase was due primarily to an
increase in licensed software support and update fees.
Selling, general and administrative expenses decreased 50.7% to
$2,015,058 in fiscal 1999 compared to $4,090,937 in fiscal 1998. This decrease
was due primarily to:
- the costs of two financings in fiscal 1998, which financings were in
the total amount of $3,000,000, and
- the compensation costs of $1,995,000 related to the earnout from
escrow of 2,000,000 shares of common stock in 1998 as compared to
compensation cost of $445,000 related to the earnout of 1,000,000
shares of common stock in 1999 as discussed in Note 4 to the
Consolidated Financial Statements, offset by,
- an increase in personnel costs in 1999 related to our addition of
one marketing
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<PAGE> 45
executive and one chief financial officer, and
- an increase in marketing costs in 1999 related to introducing our
products to the marketplace.
Other income (expense) decreased by 79.0% to ($535,387) for fiscal 1999
compared to ($2,555,206) for fiscal 1998. This decrease resulted primarily from
the recognition in fiscal 1998 of $2,592,446 of non-cash interest related to the
discount on convertible term debentures and valuation of warrants as discussed
in Note 6 to the Consolidated Financial Statements and the interest on these
debentures compared to $498,604 of such expenses in fiscal 1999.
LIQUIDITY AND CAPITAL RESOURCES
In connection with their report on our Consolidated Financial Statements
as of and for the year ended May 31, 1999, BDO Seidman, LLP, our independent
certified public accountants, expressed substantial doubt about our ability to
continue as a going concern because of recurring net losses and negative cash
flow from operations. See Note 1 to the Consolidated Financial Statements for
discussion.
At August 31, 1999, we had a working capital deficit of $1,790,891, cash
and cash equivalents of $28,880, and we were delinquent to the Internal Revenue
Service for approximately $264,000 and various states for $41,000 in past due
payroll taxes. We have funded our operations primarily through the issuance of
securities and debt financings. Cash and cash equivalents decreased $6,933
during the first fiscal quarter of 2000. The net cash used in operating
activities was $187,093, additions to property and equipment were $31,667, and
funds generated from debt and equity financings were $211,827. During the first
fiscal quarter of 2000, accounts receivable increased $17,670. Accounts payable
and accrued expenses increased $188,468 as a result of a slow down in payments
due to the cash and cash equivalent reduction.
Our current cash requirements to sustain our operations for the next
twelve months through August 2000 are estimated to be $1,600,000. We expect that
these requirements will be provided by:
Internally:
- sales of accounts receivables under a factoring agreement
established with our bank, and
- sales of licenses and/or intellectual property, and
Externally, if the $5,000,000 investment agreement financing is
completed, by:
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<PAGE> 46
- previous to the effective date of the registration of underlying
stock to be resold under the investment agreement as discussed
below, possible short-term debt instruments with individual and
institutional investors, and
- subsequent to the effective date of the registration of the
underlying stock to be resold under the investment agreement as
discussed below, draws against the equity line of credit provided
for in the investment agreement.
Externally, if the $5,000,000 investment agreement financing is not
completed, by possible:
- short-term debt instruments with individuals and institutional
investors, and
- private placement debt and/or equity financings with individual and
institutional investors.
In February 1999, we entered into an investment agreement with Swartz.
The investment agreement entitles us, at our option, to issue and sell our
common stock for up to an aggregate of $5 million from time to time during a
three-year period through February 24, 2002, subject to certain conditions
including (1) an effective registration statement must be on file with the SEC
registering the resale of the common shares, and (2) a limitation on the number
of common shares which can be sold to Swartz within a 30 day time period based
on the trading volume of the stock, among other factors. Swartz may purchase the
common stock from us at a discount ranging from 10% to 20% depending on the
price of the common stock. In addition to the common stock purchased, Swartz
will receive warrants to purchase an additional 15% of the common stock equal to
110% of the market price on the last day of the purchasing period, subject to
further semi-annual adjustments if the price of the common stock goes down. In
July 1999, we amended and restated the investment agreement with Swartz to
eliminate the discretion of Swartz as to the timing of its purchase of our
common stock. The amended and restated investment agreement requires Swartz,
after we put shares of common stock to it, to purchase our common stock on the
twentieth day following the put. The previous agreement enabled Swartz, in its
sole discretion, to purchase our common stock at any time during a twenty day
period following our put to it.
Since May 31, 1999, we have issued short-term debt financings to five
private investors totaling $205,000. These amounts have enabled us to meet our
current needs and will provide funding through October 1999. If we do not
receive the initial draw against the investment agreement by the end of October
1999, then additional similar debt or equity financings will be necessary to
continue to meet our cash requirements. The puts under the investment agreement
are subject to common stock trading volume limitations and registration of the
securities. We anticipate the initial put under the investment agreement will
take place during the second quarter of fiscal year 2000, September 1 to
November 30, 1999. We previously anticipated to receive funds from a kiosk order
that our customer had with the Mexican Department of Tourism. On several
occasions product shipments had been rescheduled pending the receipt of those
funds. Our customer has notified us that the kiosks will no longer be funded by
the Mexican Department of Tourism and that our customer is trying to find
alternative sources of funds. There can be no assurance that our customer will
be successful in finding alternative funding sources.
44
<PAGE> 47
As discussed below, we have filed a registration statement that relates
to the proposed $5,000,000 financing. We are also holding discussions with
individuals and one institutional investor concerning other possible financing
in the event that the proposed $5,000,000 financing is not completed. In
addition, we sold the gas plasma antenna technology for an up-front fee of
$250,000 in August 1999, have a $500,000 factoring agreement with our bank and
have renegotiated and extended the scheduled maturity dates for short-term
notes. We believe that additional financing could be obtained if the $5,000,000
financing is not completed. However, no assurance can be given that we will, in
fact, be able to obtain additional financing or that the terms of such financing
will be favorable to us.
We anticipate that we may require additional equipment, fabrication,
components and supplies during the next twelve months to continue development of
our technologies. Product introductions such as those currently underway for
communication products and the PSC1000 may require significant inventory,
product launch, marketing personnel and other expenditures that we can not
currently estimate. Further, if expanded development is commenced or new
generations of microprocessors are accelerated beyond our current plans,
additional expenditures, that we can not currently estimate, may be required. It
is possible therefore, that higher levels of expenditures may be required than
we currently contemplate resulting from changes in development plans or as
required to support new developments or commercialization activities or
otherwise.
Based on the current fiscal year's rate of cash operating expenditures
and current plans, we anticipate a need for additional cash to meet our
requirements for the next twelve months. There can be no assurance that any
funds required during the next twelve months or thereafter can be generated from
operations or, if such required funds are not internally generated, that funds
will be available from external sources such as debt or equity financings or
other potential sources. The lack of additional capital could force us to
substantially curtail or cease operations and would, therefore, have a material
adverse effect on our business. Further, there can be no assurance that any such
required funds, if available, will be available on attractive terms or that they
will not have a significantly dilutive effect on our existing shareholders.
POTENTIAL VIOLATION OF SECTION 5 OF THE SECURITIES ACT
In April 1999, we sold shares of common stock to two individuals in the
aggregated amount of $75,000 and in June we issued shares to an institutional
investor upon conversion of a short term note in the amount of $116,183. These
sales occurred after the filing of a registration statement for the public
resale of shares sold under the investment agreement; and, therefore, by making
these sales we may have violated Section 5 of the Securities Act. In July 1999,
we amended and restated the investment agreement with Swartz to eliminate the
discretion of Swartz as to the timing of its purchase of our common stock. The
amended and restated investment agreement requires Swartz, after we put shares
of common stock to it, to purchase our common stock on the twentieth day
following the put. The previous agreement enabled Swartz, in its sole
discretion, to purchase our common stock at any time during a twenty day period
following our put to it. By entering into the amended and restated investment
agreement, we completed our
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<PAGE> 48
sale of common stock to Swartz. Since this private sale to Swartz occurred after
we filed our registration statement, we may have sold securities to Swartz in
violation of Section 5 of the Securities Act and each placement of shares with
Swartz in the future under this investment agreement may be a separate violation
of Section 5. Consequently, the two individual investors, the institutional
investor and Swartz may have the right to rescind these purchases of common
stock for one year after the purchase of the common stock. In addition, Patriot
and certain officers and directors of Patriot may be subject to civil and
criminal penalties for potential violation of either or both Section 5 of the
Securities Act and applicable state law as a result of these sales. Management
believes that the possibility of damages related to these potential violations
of the Securities Act is remote and that such potential violations will have no
material impact on our financial statements. See Note 10 to the Consolidated
Financial Statements.
NEW ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for
Derivative Instruments and Hedging Activities" which requires companies to
record derivatives on the balance sheet as assets or liabilities, measured at
fair market value. Gains or losses resulting from changes in the values of those
derivatives would be accounted for depending on the use of the derivative and
whether it qualifies for hedge accounting. The key criterion for hedge
accounting is that the hedging relationship must be highly effective in
achieving offsetting changes in fair value or cash flows. SFAS No. 133 is
effective for fiscal periods beginning after June 15, 2000. We believe the
adoption of this statement will have no material impact on our financial
statements.
TAX LOSS CARRYFORWARDS
As of May 31, 1999, we had approximately $12,462,000 of tax loss
carryforwards. A valuation allowance has been recorded for the net-deferred tax
asset of $5,451,000 arising primarily from tax loss carryforwards because we
cannot determine that it is more likely than not that the deferred tax asset
will be realized. See Note 11 to the Consolidated Financial Statements.
YEAR 2000 COMPLIANCE
Many existing computer programs use only two digits to identify a year
in the date field, with the result that data referring to the year 2000 and
subsequent years may be misinterpreted by these programs. If present in the
computer applications of a company or third parties (such as customers,
financial institutions, and suppliers) and not corrected, this problem may cause
computer applications to fail or to create erroneous results and could cause a
disruption in operations and have an adverse effect on a company's business and
results of operations.
We have adopted a formal plan to evaluate our readiness for the Year
2000 and to address any deficiencies. The plan encompasses:
- information technology (IT) systems,
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<PAGE> 49
- non-IT systems,
- our products, and
- systems of third parties, including distributors and key suppliers.
INFORMATION TECHNOLOGY. Our principal computer systems that we use for
financial accounting, manufacturing, inventory control, purchasing, sales
administration, engineering, and other business functions were not Year 2000
compliant. We purchased a replacement system in July 1999 and are currently
installing our data bases. We expect to have the new system fully functional
before September 30, 1999. The cost of this new system was approximately
$30,000.
NON-IT SYSTEMS. We have completed an evaluation of telephone systems,
manufacturing equipment, facility heating and cooling systems, and other non-IT
systems for Year 2000 readiness and are taking remedial action as necessary.
OUR PRODUCTS. We have completed a series of tests, utilizing industry
standards, of the electronics systems of our products, including those product
lines no longer being manufactured but remaining in use at customer sites. Our
review has determined that the products should continue to operate according to
specifications after December 31, 1999.
KEY VENDORS AND SUPPLIERS. We have completed a survey of our key vendors
and suppliers to assess their plans for bringing any non-compliant systems into
Year 2000 compliance.
Other than the replacement computer system discussed above,
substantially all of the effort to evaluate our Year 2000 readiness has been
made using internal personnel, and therefore incremental expenses have been less
than $50,000. We have not incurred any material expenses in connection with our
evaluation of non-IT systems and do not expect material expense in the future,
although the implementation related to non-IT systems is not yet complete. We
have not incurred any material expenses to date in connection with the
evaluation of our products and the status of our vendors and suppliers with
respect to Year 2000 issues. We do not anticipate material expenses in the
future.
Our Year 2000 readiness plan, as well as our consideration of contingency plans,
are ongoing and will continue to evolve as new information becomes available. At
the present time, we believe that it is difficult to identify the cause of the
most reasonably likely worst case Year 2000 scenario. We have not yet adopted
any formal contingency plans and will determine the need for such plans as part
of our ongoing assessment of vendors and suppliers, products, and internal
business systems. Due to the complexity and pervasiveness of the Year 2000
issue, and in particular the uncertainty regarding the Year 2000 compliance
programs of third parties, no assurances can be given that the Year 2000 problem
will not have material adverse effects on our business or our results from
operations.
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<PAGE> 50
MANAGEMENT
IDENTIFICATION OF DIRECTORS AND EXECUTIVE OFFICERS
Our current directors and executive officers, their ages, positions held
with us and duration as such, are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION AND OFFICES DIRECTOR SINCE
<S> <C> <C> <C>
James T. Lunney 44 Chairman, President, CEO and April 1998
Director
Lowell W. Giffhorn 52 Chief Financial Officer and August 1999
Director
Donald R. Bernier 57 Director January 1995
Helmut Falk, Jr. 43 Director December 1997
Phillip Morettini 42 Vice President Sales and N/A
Marketing
Frederick G. Thiel 38 Director February 1999
Robert Putnam 41 Secretary N/A
Jayanta K. Maitra 49 Vice President Engineering N/A
Richard G. Blum 69 Director February 1999
</TABLE>
The terms of all directors will expire at the next annual meeting of our
shareholders, or when their successors are elected and have qualified. Directors
are elected each year, and all directors serve one-year terms. Officers serve at
the pleasure of the board of directors. No family relationship exists among our
management members. Mr. Bernier and Mr. Falk were elected to the board of
directors in December 1997. Mr. Lunney was appointed to the board of directors
in April 1998. Mr. Thiel and Mr. Blum were appointed to the board of directors
in February 1999. Mr. Giffhorn was appointed to the board of directors in August
1999.
BIOGRAPHICAL INFORMATION
JAMES T. LUNNEY. Mr. Lunney has been the President and CEO of Patriot
since March 1998, was appointed as a Director in April 1998, and was appointed
Chairman in August 1999. From February 1997 to March 1998, he was the President
of Signal Processing Systems, a San Diego manufacturer of signal processing
technologies. From November 1992 to February 1997, he was the Manager of
Production Programs, Vice President and Business Area Manager for Signal
Processing, which was a division of Scientific Atlanta until August 1996, when
it was acquired by Global Associates Ltd. Previously, Mr. Lunney held various
managerial positions with GE Aerospace, Defense Systems Division and Ordnance
Systems Division. In 1977, he
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<PAGE> 51
received a B.S. in Electrical Engineering from Worcester Polytechnic Institute.
ROBERT PUTNAM. Mr. Putnam has been the Secretary and Treasurer of
Patriot since 1989 and was a director from 1989 to April 1998. Since 1988 he has
served as Secretary of e.Digital, Inc. Since 1984 he has been a director of
American Technology Corp., where he served as Secretary/Treasurer from 1984 and
as President and CEO from February 1994 until September 1997. He received a B.A.
degree in Mass Communication/Advertising from Brigham Young University in 1983.
Mr. Putnam works only part-time for us.
JAYANTA K. MAITRA. Mr. Maitra has been Vice President of Engineering of
Metacomp since 1990 and was appointed Vice President of Engineering of Patriot
in December 1996. From 1985 to 1987 he was Manager of Hardware Engineering for
Systech Corporation, a San Diego based hardware and software communications
company. From 1974 to 1985 he held various engineering positions with several
computer related technology companies. He obtained a B.S. in Electrical
Engineering from the Indian Institute of Technology in 1972 and an M.S. in
Electrical Sciences at State University of New York in 1973.
LOWELL W. GIFFHORN. Mr. Giffhorn was the principal in his own financial
management consulting firm from August 1996 until joining Patriot as Chief
Financial Officer (CFO) in May 1997. From November 1996 to May 1997, Mr.
Giffhorn, in addition to other consulting engagements, performed the duties of
Acting CFO for Patriot. From June 1992 to August 1996 and from September 1987 to
June 1990 he was the CFO of Sym-Tek Systems, Inc. and Vice President of Finance
for its successor, Sym-Tek Inc., a major supplier of capital equipment to the
semiconductor industry. He has over twenty-five years of experience in a variety
of financial positions, including eleven years as Controller for Langley
Corporation, a publicly traded, San Diego, defense contractor. Mr. Giffhorn
obtained a M.B.A. degree from National University in 1975 and he obtained a B.S.
in Accountancy from the University of Illinois in 1969.
DONALD R. BERNIER. Since 1971, Mr. Bernier has been the owner and
President of Compunetics Incorporated, a Troy, Michigan-based electronics firm
of which he the founder. Compunetics engages in contract research and
development, specializing in microelectronics primarily for the automotive
industry.
HELMUT FALK, JR. For the past six years, Dr. Falk has been the Director
of Anesthesia for the Johnson Memorial Hospital in Franklin, Indiana. Dr. Falk
received his D.O. from the College of Osteopathic Medicine of the Pacific in
1987 and his B.S. in Biology from the University of California, Irvine in 1983.
Dr. Falk is the son of the late Helmut Falk, who was the sole shareholder of
nanoTronics and the Chairman and CEO of Patriot until his death in July 1995.
Dr. Falk is also an heir to the Helmut Falk Estate, which is the beneficial
owner of our shares held by the Helmut Falk Family Trust and nanoTronics
Corporation.
PHILIP MORETTINI. Mr. Morettini has been the Vice President of Sales and
Marketing of Patriot since July 1997. From September 1995 to April 1997, he was
the President and CEO of Sdept Computer Solutions, a San Diego software company.
From December 1993 to September
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<PAGE> 52
1995, he was the principal in his own management consulting firm; and from March
1990 to September 1993, he held several positions, including Division Manager,
for Horizons Technology, a San Diego software and services company. Previously,
he held various marketing and product development positions with Spectragraphics
and Hewlett-Packard. In 1981 Mr. Morettini received a M.B.A. degree from the
University of Detroit and in 1979 he obtained a B.S. in Engineering from the
University of Illinois.
FREDERICK G. THIEL. Since April 1998, Mr. Thiel has been the President
and CEO of Lantronix, Inc., an Irvine, CA based developer/manufacturer of
computer network enabling devices and systems. From July 1996 to April 1998 he
was the Vice President of Marketing and General Manager for CDM Technology,
Inc., an Irvine, CA based developer of high-end storage controller and
intelligent serial input/output microprocessor technology. From June 1994 to
March 1996 he was the Director of World Wide Marketing for Standar Microsystems
Corporation, an Irvine, CA based network technology developer and manufacturer.
Mr. Thiel was educated in the United States and Europe and studied business
administration while at the Stockholm School of Economics.
RICHARD G. BLUM. Mr. Blum retired as Chairman and President of Kysor
Europe, a wholly owned subsidiary of Kysor Industrial Corporation, in 1991.
Previously Mr. Blum held a variety of executive level positions with ITT Europe
and ADT Europe. He completed his undergraduate work at Oregon State and Linfield
Colleges in 1951 and post graduate work at John Carrol and Canisius Universities
in 1958.
INDEMNIFICATION OF OFFICERS, DIRECTORS AND OTHERS
As permitted by Delaware law, our certificate of incorporation provides
that we will indemnify our officers, directors, employees and agents. This
includes indemnification against attorneys' fees and other expenses and
liabilities they incur to defend, settle or satisfy any civil or criminal action
brought against them arising out of their association with or activities on
behalf of us. However, they will not be indemnified if they are adjudged to have
acted with gross negligence or to have engaged in willful misconduct. We may
also bear the expenses of such litigation for any such persons upon their
promise to repay such sums if it is ultimately determined that they are not
entitled to indemnification. Such expenditures could be substantial and may not
be recouped, even if we are so entitled. We have provided for indemnification
for liabilities arising under the Securities Act of 1933 as they may be
permitted to directors, officers or persons controlling us. The SEC has informed
us that such indemnification is against public policy and may be unenforceable.
EXCLUSION OF DIRECTOR LIABILITY
In accordance with Delaware law, our certificate of incorporation
excludes personal liability on the part of our directors to us for monetary
damages based upon any violation of their fiduciary duties as directors, except
as to:
- liability for any breach of the duty of loyalty,
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<PAGE> 53
- acts or omissions not in good faith or which involve intentional
misconduct or a knowing violation of law,
- acts in violation of Section 174 of the General Corporation Law of
Delaware, or
- any transaction from which a director receives an improper personal
benefit.
This exclusion of liability does not limit any right which a director may have
to be indemnified and does not affect any director's liability under federal or
applicable state securities laws.
EXECUTIVE COMPENSATION
The following table sets forth information concerning the compensation
of our chief executive officers and each of the other four most highly
compensated executive officers whose salary and bonus exceeded $100,000 for the
fiscal years ended May 31, 1997, 1998 and 1999.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
Annual Cash Compensation Long-Term Compensation
------------------------ ----------------------
Name and Fiscal Options All Other
Principal Position Year Salary Bonus (# of Shares) Compensation (4)
- ------------------ ---- ------ ----- ------------- ----------------
<S> <C> <C> <C> <C> <C>
James T. Lunney 1999 $137,200(5) Nil None None
President and CEO (1) 1998 $ 26,385(5) Nil 350,000 shares None
Michael A. Carenzo 1998 $164,133 Nil None None
President and CEO (2) 1997 $138,000 Nil None None
Philip J. Morettini 1999 $110,000 Nil None None
Vice President
Sales and Marketing
Lowell W. Giffhorn 1999 $107,307 Nil None None
Chief Financial Officer
Jayanta K. Maitra 1999 $120,000 Nil None None
Vice President 1998 $104,500 Nil 25,000 shares None
Engineering (3) 1997 $118,700 Nil 535,753 shares $2,874
</TABLE>
(1) Mr. Lunney has served as President and CEO since March 23, 1998.
(2) Mr. Carenzo served as President and CEO from June 1, 1996 to March
1998 when Mr. James T. Lunney was appointed President and CEO.
(3) Mr. Maitra was appointed Vice President Engineering on December 26,
1996 as a result of the business combination with Metacomp. The amounts
disclosed reflect his compensation before and after the acquisition.
(4) Represents long-term disability insurance payments made by the
Company on behalf
51
<PAGE> 54
of Mr. Maitra during the fiscal year ended May 31, 1997.
(5) Included in Mr. Lunney's cash compensation is a $600 per month car
allowance.
We maintain employee benefits that are generally available to all of our
employees, including medical, dental and life insurance benefits and a 401(k)
retirement savings plan. We did not make any matching contributions under the
401(k) plan for any of the above named officers during the fiscal year ended May
31, 1999.
OPTION GRANTS
During the fiscal year ended May 31, 1999 we did not grant any stock
options to the officers reflected in the summary compensation table shown above.
AGGREGATED OPTION EXERCISES AND FISCAL YEAR-END OPTION VALUES
Shown below is information on exercises of stock options and fiscal
year-end values under our 1996 and 1992 Stock Option Plans to the officers
reflected in the Summary Compensation Table shown above.
<TABLE>
<CAPTION>
Number of Unexercised Value of Unexercised
Shares Options Held At In-The-Money Options At
Acquired Value May 31, 1999 May 31, 1999
Acquired Value ------------ -------------
Name on Exercise Realized Exercisable Unexercisable Exercisable Unexercisable
- ---- ----------- -------- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
James T. Lunney - - 233,334 116,666 $ -- $ --
Michael A. Carenzo - - 525,691 -- $ -- $ --
Philip J. Morettini - - 120,000 180,000 $ -- $ --
Lowell W. Giffhorn - - 210,000 90,000 $ -- $ --
Jayanta Maitra - - 110,753 150,000 $ -- $ --
</TABLE>
The fair market value of the unexercised in-the-money options at May 31,
1999 was determined by subtracting the option exercise price from the last sale
price as reported on the over the counter bulletin board on May 31, 1999, $.47.
All options had exercise prices greater than $.47 and, therefore, were excluded
from the valuation.
We have not awarded stock appreciation rights to any of our employees.
We have no long-term incentive plans.
Under Mr. Maitra's employment contract, the board of directors cancelled
225,000 previously granted stock options as a result of Patriot not meeting
certain performance goals. We have no defined benefit or actuarial plans
covering any person.
52
<PAGE> 55
COMPENSATION OF DIRECTORS
No direct or indirect remuneration has been paid or is payable by us to
the directors in their capacity as directors other than the granting of stock
options. We expect that, during the next twelve months, we will not pay any
direct or indirect remuneration to any directors of ours in their capacity as
directors other than in the form of stock option grants or the reimbursement of
expenses of attending directors' or committee meetings.
EMPLOYMENT CONTRACTS
JAMES T. LUNNEY. We entered into an employment agreement dated as of
February 23, 1998 and approved by our directors on March 24, 1998, with Mr.
Lunney providing for his employment as President and CEO effective March 23,
1998. The agreement is for a three year term and provides for a base salary of
$130,000 per annum for the first year with an increase in the second year to at
least $140,000 per annum. The base salary may be increased at the discretion of
the board of directors. The agreement provides for a guaranteed bonus of 25% of
the base salary at the end of the first year of its term or on certain changes
in control as defined in the agreement. During subsequent years, Mr. Lunney is
eligible for a bonus equal to 25% of the base salary conditioned on Mr. Lunney
meeting certain objectives established by the board of directors. In addition,
the agreement provides a $600 per month car allowance. We may terminate Mr.
Lunney's employment with or without cause, but termination without cause (other
than disability or death) would result in a lump sum severance payment ranging,
depending on length of service, from six to twelve months salary plus any
prorated earned bonuses. Also, upon a change of control, as defined in the
agreement, Mr. Lunney may elect to terminate employment and obtain a lump sum
severance payment equal to the base salary for the remaining months of the
agreement. We have granted Mr. Lunney options to purchase 350,000 common shares,
116,667 vesting on March 23, 1998 and the balance vesting equally at the end of
twelve and twenty-four months from the date of the agreement, subject to earlier
vesting in the event of a change in our control.
PHILIP MORETTINI. We entered into an employment agreement dated as of
July 28, 1997 and approved by our directors on August 18, 1997, with Mr.
Morettini providing for his employment as Vice President of Sales and Marketing.
The agreement is for a three year term providing for a base salary of $110,000
per annum for the first year and not less than $110,000 per annum during the
second and third years of the agreement. The base salary may be increased at the
discretion of the board of directors. The agreement provides for a bonus up to
50% of the annual base consideration for the applicable year. We may terminate
Mr. Morettini's employment with or without cause, but termination without cause
(other than disability or death) would result in a lump sum severance payment
equal to four months of his then current base salary. If within twelve months of
a change in control, as defined in the agreement, Mr. Morettini's employment is
terminated for other than cause or if Mr. Morettini refuses to accept or
voluntarily resigns from a position other than a qualified position, as that
term is defined in the agreement, then he will receive a lump sum severance
payment equal to twelve months of his then current salary. Under the agreement,
we granted Mr. Morettini options to purchase 300,000 common shares, 30,000
53
<PAGE> 56
vesting on July 28, 1997 and the balance vesting one-third per year starting
July 28, 1998, subject to certain performance standards. Options may vest
earlier subject to the discretion of the board of directors.
LOWELL W. GIFFHORN. We entered into an employment agreement dated as of
July 23, 1998 with Mr. Giffhorn providing for his employment as our Chief
Financial Officer. The agreement is for a three year term providing for a base
salary of $110,000 per annum for the first year and not less than $110,000 per
annum during the second and third years of the agreement. The base salary may be
increased at the discretion of the board of directors. The agreement provides
for a bonus up to 50% of the annual base consideration for the applicable year.
We may terminate Mr. Giffhorn's employment with or without cause, but
termination without cause (other than disability or death) would result in a
lump sum severance payment equal to four months of his then current base salary.
If within twelve months of a change in control, as defined in the agreement, Mr.
Giffhorn's employment is terminated for other than cause or if Mr. Giffhorn
refuses to accept or voluntarily resigns from a position other than a qualified
position, as that term is defined in the agreement, he will receive a lump sum
severance payment equal to twelve months of his then current salary.
JAYANTA K. MAITRA. We entered into an employment agreement dated January
1, 1997 with Mr. Maitra providing for his employment as Vice President of
Engineering. The agreement is for a three year term providing for a base salary
of $104,400 per year with an increase in the second and third years as
recommended by the President and Chief Executive Officer and approved by the
board of directors. Mr. Maitra's salary was increased to $120,000 for the second
year. The agreement provides for incentive bonuses in certain instances of up to
50% of the total yearly base compensation. We may terminate Mr. Maitra's
employment with or without cause, but termination without cause (other than
disability or death) during the first year of the agreement would result in a
lump sum severance payment equal to twelve months salary. Under the agreement,
we originally granted Mr. Maitra options to purchase 500,000 common shares,
50,000 vesting on December 26, 1996 and the balance vesting one-third per year
starting December 31, 1997 subject to certain performance standards. As a result
of not meeting the performance standards, the board of directors canceled
300,000 of such options. Options may vest earlier subject to the discretion of
the board of directors.
PRINCIPAL SHAREHOLDERS
The following table sets forth, as of September 24, 1999, the stock
ownership of each officer and director of ours, of all officers and directors of
ours as a group, and of each person known by us to be a beneficial owner of 5%
or more of our common stock. Except as otherwise noted, each person listed below
is the sole beneficial owner of the shares and has sole investment and voting
power over such shares. No person listed below has any option, warrant or other
right to acquire additional securities of ours, except as otherwise noted.
54
<PAGE> 57
<TABLE>
<CAPTION>
Name and Address Amount & Nature
Title of Beneficial of Beneficial Percent
of Class Owner Ownership of Class
- -------- ----- --------- --------
<S> <C> <C> <C>
Common stock Helmut Falk Family Trust 7,592,535(1) 18.5%
par value Gloria Felcyn, Trustee
$.00001 20440 Williams Ave.
Saratoga, California 95070
SAME Elwood G. Norris 4,202,500(2) 10.2%
10989 Via Frontera
San Diego, California 92127
SAME Jayanta K. Maitra 298,095(2) *
10989 Via Frontera
San Diego, California 92127
SAME James T. Lunney 233,334(3) *
10989 Via Frontera
San Diego, California 92127
SAME Philip Morettini 211,000(2) *
10989 Via Frontera
San Diego, California 92127
SAME Lowell W. Giffhorn 210,000(3) *
10989 Via Frontera
San Diego, California 92127
SAME Donald R. Bernier 125,000(2) *
10989 Via Frontera
San Diego, California 92127
SAME Robert Putnam 75,000(2) *
10989 Via Frontera
San Diego, California 92127
SAME Helmut Falk, Jr. 50,000(3) *
10989 Via Frontera
San Diego, California 92127
SAME Richard G. Blum 50,000(3) *
10989 Via Frontera
San Diego, California 92127
SAME Frederick G. Thiel 50,000(3) *
10989 Via Frontera
San Diego, California 92127
All directors & officers 1,302,429(4) 3.2%
as a group (9 persons)
</TABLE>
* Less than 1%.
55
<PAGE> 58
(1) These shares remain from 5,000,000 non-escrowed originally issued
shares plus 3,500,000 shares earned as a result of an earnout agreement
with nanoTronics in connection with the ShBoom technology acquisition.
These shares were subsequently transferred to the Helmut Falk Family
Trust.
(2) For each of Messrs. Norris, Bernier and Putnam the amount includes
50,000 shares, for Mr. Maitra the amount includes 110,753 shares, and
for Mr. Morettini the amount includes 210,000 shares issuable upon the
exercise of immediately exercisable outstanding stock options granted
pursuant to the 1996 and 1992 Stock Option Plans.
(3) Consists entirely of shares issuable upon the exercise of
outstanding stock options.
(4) Includes 288,342 shares issued and outstanding and 1,014,087 shares
issuable upon exercise of stock options.
CERTAIN TRANSACTIONS
There were no transactions, or series of transactions, during fiscal
1998 or 1999, nor are there any currently proposed transactions, or series of
transactions, to which we are a party, in which the amount exceeds $60,000, and
in which to our knowledge any director, executive officer, nominee, five percent
or greater shareholder, or any member of the immediate family of any of the
foregoing persons, has or will have any direct or indirect material interest
other than as described below.
Based on the asset purchase agreement and plan of reorganization dated
June 22, 1994 between Patriot, nanoTronics Corporation and Helmut Falk, we
issued a total of 10,000,000 restricted common shares to nanoTronics, 5,000,000
of which are a contingent payment subject to the terms of an earnout escrow.
These shares were issued in consideration of technology acquired. nanoTronics
was formed in 1991 and acquired certain base technology for a simplified 32-bit
microprocessor integrated on a single chip with merged stack/register
architecture. nanoTronics expended in excess of $1.9 million (unaudited) while
engaged in further development of that technology and produced from the basic
architecture an enhanced microprocessor (ShBoom-architecture microprocessor). In
connection with the acquisition, we also acquired certain fixed assets including
a SunSparc 2 workstation and various terminals, peripheral devices and software.
A majority of the expenditures by nanoTronics consisted of microprocessor and
related software development costs. The result of these efforts was a successful
initial fabrication of the microprocessor in early 1994 demonstrating technical
feasibility of the ShBoom architecture. nanoTronics also expended funds on the
preparation and prosecution of patent applications.
The shares were issued to nanoTronics of which Falk was the sole
shareholder. Although 5,000,000 of the shares issued were subject to the terms
of an earnout escrow, as more fully
56
<PAGE> 59
described below, the shares are issued for the purpose of dividends and voting.
Prior to the transaction, Mr. Falk was an unaffiliated person with respect to
us. At the time of issuance the 10,000,000 common shares represented
approximately 36% of our total issued and outstanding shares.
Although the transaction did not result in a majority change in our
board of directors, or a majority change in our stock ownership, the issuance of
new stock resulted in a large percentage ownership controlled by one entity with
the ability to have significant influence over our future affairs.
Based on the terms of the purchase agreement, 5,000,000 of the common
shares were issued to nanoTronics subject to an earnout escrow arrangement as a
contingent purchase price. The terms of the escrow arrangement, as defined in
the purchase agreement, provides for the earnout from escrow of 500,000 common
shares for each $500,000 of Patriot revenues commencing June 1, 1994 and ending
May 31, 1999. The purchase agreement also provides for full earnout on other
major corporate events including a sale of substantially all our assets, certain
mergers, combinations or consolidations, certain tender offers and upon a
liquidation or dissolution. Any shares not earned by May 31, 1999 would be
canceled. The shares may be sold, assigned or transferred within the escrow
arrangement but would still be subject to the escrow terms. As of May 31, 1999:
- 2,000,000 shares had been released from escrow,
- an additional 1,500,000 shares have been earned and charged to
compensation costs but remain in escrow pending the resolution of
litigation between us, nanoTronics, and the Fish Family Trust, and
- another 1,500,000 shares expired and were returned to us as of May
31, 1999 since revenue was not sufficient to earn this portion of
the escrowed shares.
We have granted certain registration and information rights with respect
to the shares issued to nanoTronics, such rights being assignable to Falk and
the Fish Family Trust (such trust having certain rights to become a shareholder
in nanoTronics). We have been advised that nanoTronics has been liquidated with
the 10,000,000 shares in the process of being transferred to the Helmut Falk
Family Trust which is entitled to the same registration rights. We are obligated
to use our best efforts to effect a registration upon written request up to two
times subject to certain limitations. We are also obligated to include the
shares, subject to certain limitations, in any underwriting and in any other
registration filed by us.
During January 1999 through April 1999, we entered into four short-term
notes with Gloria Felcyn, the trustee for the Falk Family Trust, aggregating
$175,000 with maturity dates ranging from October 22, 1999 to January 15, 2000.
On the issuance of each of the first three notes, we released 500,000 shares
from the earnout escrow. We are holding the remaining 1,500,000 shares earned
and subject to the earnout escrow pending resolution of the Fish Family Trust
lawsuit as discussed in "Litigation." Upon the resolution of the lawsuit, the
remaining shares held in escrow will either be released to the Falk Family
Trust, used either partially or in
57
<PAGE> 60
their entirety as a means of settling the lawsuit, or be returned to us. The
shares being held in escrow were recorded as additional compensation costs
during the period in which the earnout was satisfied.
We entered into an agreement to exchange technology for stock dated
August 8, 1989 with Mr. Norris. Under the agreement, Mr. Norris is entitled to a
royalty equal to two and one-half percent (2.5%) of the gross revenues received
by us directly or indirectly from exploitation of our ground penetrating radar
technology (up to a maximum royalty of $400,000). Mr. Norris was given an
advance royalty payment of $17,000. Mr. Norris also is entitled to a cash bonus
of $50,000 within 45 days after we successfully demonstrate a working prototype
of a ground penetrating radar unit meeting specified performance criteria and a
request for such bonus is made to the board of directors and approved.
TRADING MARKET AND RELATED MATTERS
Our common stock is traded in the over-the-counter market and is quoted on the
NASD OTC Bulletin Board system maintained by the National Association of
Securities Dealers, Inc. Prices reported represent prices between dealers, do
not include markups, markdowns or commissions and do not necessarily represent
actual transactions. The market for our shares has been sporadic and at times
very limited.
The following table sets forth the high and low bid quotations for the
common stock for the fiscal years ended May 31, 1999 and 1998.
<TABLE>
<CAPTION>
HIGH LOW
---- ---
<S> <C> <C>
Fiscal Year Ended May 31, 1999
First Quarter $0.77 $0.41
Second Quarter 0.81 0.38
Third Quarter 0.69 0.25
Fourth Quarter 0.63 0.25
Fiscal Year Ended May 31, 1998
First Quarter $2.31 $1.36
Second Quarter 1.78 1.00
Third Quarter 1.15 0.53
Fourth Quarter 1.36 0.72
</TABLE>
We have approximately 254 shareholders of record as of September 24,
1999. At September 24, 1999 there were 40,381,120 shares of common stock issued
and outstanding. We have never paid a cash dividend on our common stock and do
not expect to pay one in the foreseeable future.
58
<PAGE> 61
DESCRIPTION OF SECURITIES
Our authorized capital stock consists of 60,000,000 shares of common
stock, $.00001 par value per share. At September 24, 1999, a total of 40,381,120
common shares were issued and outstanding. The holders of common stock are
entitled to one vote for each share held. The affirmative vote of a majority of
votes cast at a meeting which commences with a lawful quorum is sufficient for
approval of most matters upon which shareholders may or must vote, including the
questions presented for approval or ratification at the Annual Meeting. However,
removal of a director from office or repeal of the certificate of incorporation
in its entirety require the affirmative vote of a majority of the total voting
power for approval, and certain other matters (such as shareholder amendment of
the bylaws, and amendment, repeal or adoption of any provision inconsistent with
provisions in the certificate of incorporation regarding indemnification of
directors, officers and others, exclusion of director liability, and our
election not to be governed by statutory provisions concerning business
combinations with interested shareholders) require the affirmative vote of
two-thirds of the total voting power for approval. Common shares do not carry
cumulative voting rights, and holders of more than 50% of the common stock have
the power to elect all directors and, as a practical matter, to control the
company. Holders of common stock are not entitled to preemptive rights, and the
common stock may only be redeemed at our election.
A special meeting of shareholders may be called by or at the request of:
- the Chairman of the Board,
- the President or any two directors, and
- persons owning in the aggregate not less than 20% of the issued and
outstanding common shares entitled to vote in elections for
directors.
After the satisfaction of requirements with respect to preferential dividends,
if any, holders of common stock are entitled to receive, pro rata, dividends
when and as declared by the board of directors out of funds legally available
therefor. Upon our liquidation, dissolution or winding-up, after distribution in
full of the preferential amount, if any, to be distributed to holders of the
preferred stock, holders of common stock are entitled to share ratably in our
assets legally available for distribution to our shareholders.
Our board of directors is authorized to issue 5,000,000 shares of
undesignated preferred stock, $.00001 par value, without any further action by
the stockholders. The board of directors may also divide any and all shares of
preferred stock into series and fix and determine the relative rights and
preferences of the preferred stock, such as the designation of series and the
number of shares constituting such series, dividend rights, redemption and
sinking fund provisions, liquidation and dissolution preferences, conversion or
exchange rights and voting rights, if any. Issuance of preferred stock by the
board of directors will result in such shares having dividend and/or liquidation
preferences senior to the rights of the holders of common stock and could dilute
the voting rights of the holders of common stock. There are currently no shares
of preferred stock issued and outstanding.
59
<PAGE> 62
We have not paid any cash dividends to date, and no cash dividends will
be declared or paid on the common shares in the foreseeable future. Payment of
dividends is solely at the discretion of our board of directors.
Interwest Transfer Company, Inc., 1981 East 4800 South, Suite 100, Salt
Lake City, Utah 84117, acts as our transfer agent and registrar for our common
stock. Their telephone number is (801) 272-9294.
LEGAL MATTERS
Luce, Forward, Hamilton & Scripps LLP, 600 West Broadway Street, Suite
2600, San Diego, California 92101 will pass on the validity of the common stock
offered by us. Luce, Forward, Hamilton & Scripps LLP owns 279,326 shares of our
common stock, which it received in consideration of services rendered. These
shares are offered as part of this prospectus.
EXPERTS
The financial statements included in this Prospectus and in the
Registration Statement have been audited by BDO Seidman, LLP, independent
certified public accountants, to the extent and for the periods set forth in
their report (which contains an explanatory paragraph regarding the Company's
ability to continue as a going concern) appearing elsewhere herein and in the
Registration Statement, and are included herein in reliance upon such report
given upon the authority of said firm as experts in auditing and accounting.
60
<PAGE> 63
Patriot Scientific Corporation
Index to Consolidated Financial Statements
<TABLE>
<S> <C>
Report of Independent Certified Public Accountant ..................... .F-2
Consolidated Balance Sheet as of May 31, 1999........................... F-3
Consolidated Statements of Operations for the Years Ended
May 31, 1999 and 1998............................................ F-4
Consolidated Statements of Stockholders' Equity (Deficit) for the
Years Ended May 31, 1999 and 1998.............................. F-5
Consolidated Statements of Cash Flows for the Years Ended
May 31, 1999 and 1998............................................ F-6
Summary of Accounting Policies.......................................... F-7-F-10
Notes to Consolidated Financial Statements.............................. F-11-F-24
</TABLE>
F-1
<PAGE> 64
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Stockholders and Board of Directors
Patriot Scientific Corporation
San Diego, California
We have audited the accompanying consolidated balance sheet of Patriot
Scientific Corporation as of May 31, 1999 and the related statements of
operations, stockholders' equity (deficit) and cash flows for each of the years
in the two year period ended May 31, 1999. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above, present
fairly, in all material respects, the financial position of Patriot Scientific
Corporation as of May 31, 1999, and the results of their operations and their
cash flows for each of the years in the two year period ended May 31, 1999 in
conformity with generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 1 to the
consolidated financial statements, the Company has suffered from recurring net
losses and negative cash flow from operations that raise substantial doubt about
its ability to continue as a going concern. Management's plans in regard to
these matters are also described in Note 1. The consolidated financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.
/s/ BDO Seidman, LLP
Denver, Colorado
September 1, 1999
F-2
<PAGE> 65
PATRIOT SCIENTIFIC CORPORATION
CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
May 31, 1999
- -------------------------------------------------------------------------------
<S> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 35,813
Accounts receivable, net of allowance
of $22,000 for uncollectible accounts 85,362
Inventories (Note 2) 249,833
Prepaid expenses 135,198
- -------------------------------------------------------------------------------
TOTAL CURRENT ASSETS 506,206
PROPERTY AND EQUIPMENT, net (Note 3) 448,764
PATENTS AND TRADEMARKS, NET 190,057
- -------------------------------------------------------------------------------
$ 1,145,027
================================================================================
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Notes payable (Note 5) $ 355,274
Related party notes payable (Note 5) 175,000
Accounts payable 1,196,553
Accrued liabilities 140,083
Accrued past due payroll taxes (Note 1) 182,996
Capital lease obligations (Note 14) 1,355
- -------------------------------------------------------------------------------
Total current liabilities 2,051,261
COMMITMENTS AND CONTINGENCIES (Notes 10, 12, 13 and 14)
COMMON STOCK SUBJECT TO RESCISSION (Note 7) 75,000
STOCKHOLDERS' EQUITY (DEFICIT) (Notes 4, 8 and 12):
Preferred stock, $.00001 par value; 5,000,000 shares
authorized: none outstanding --
Common Stock, $.00001 par value; 60,000,000 shares
authorized: issued and outstanding 39,563,915 396
Additional paid-in capital 22,879,449
Accumulated deficit (23,861,079)
- -------------------------------------------------------------------------------
Total stockholders' equity (deficit) (981,234)
- -------------------------------------------------------------------------------
$ 1,145,027
================================================================================
</TABLE>
See accompanying summary of accounting policies and notes to consolidated
financial statements.
F-3
<PAGE> 66
PATRIOT SCIENTIFIC CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Years Ended May 31, 1999 1998
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Net sales (Note 15) $ 1,134,545 $ 1,902,874
Cost of sales:
Product costs 660,195 960,688
Inventory obsolescence 51,000 203,000
- --------------------------------------------------------------------------------
Cost of sales 711,195 1,163,688
- --------------------------------------------------------------------------------
Gross profit 423,350 739,186
Operating expenses:
Research and development 2,149,361 1,607,828
Selling, general and
administrative 2,015,058 4,090,937
- --------------------------------------------------------------------------------
4,164,419 5,698,765
- --------------------------------------------------------------------------------
Operating loss (3,741,069) (4,959,579)
- --------------------------------------------------------------------------------
Other income (expenses):
Interest income 3,765 61,610
Interest expense (40,548) (24,370)
Non-cash interest expense
related to notes payable
(Notes 6 and 8) (498,604) (2,592,446)
- --------------------------------------------------------------------------------
(535,387) (2,555,206)
- --------------------------------------------------------------------------------
Net loss $ (4,276,456) $ (7,514,785)
================================================================================
Basic and diluted loss
per common share $ (0.11) $ (0.24)
================================================================================
Weighted average number of
common shares outstanding
during the period (Note 9) 38,042,734 31,016,956
================================================================================
</TABLE>
See accompanying summary of accounting policies and notes to consolidated
financial statements.
F-4
<PAGE> 67
PATRIOT SCIENTIFIC CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
<TABLE>
<CAPTION>
===================================================================================================================
Years Ended May 31, 1999 and 1998
Common Stock
------------------- Additional Accumulated Stockholders'
Shares Amount Paid-in Capital Deficit Equity (Deficit)
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balance, June 1, 1997 33,068,329 $ 331 $ 13,493,487 $(12,069,838) $ 1,423,980
Common stock earned under an escrow
agreement for purchased technology
at $.75-$1.41 per share (Note 4) -- -- 1,995,000 -- 1,995,000
Exercise of stock options at $.18 to
$.875 per share (Note 8) 478,854 5 247,802 -- 247,807
Non-cash interest expense related to
convertible notes recorded to additional
paid-in capital (Note 6) -- -- 2,018,111 -- 2,018,111
Unamortized debt issuance costs
related to convertible notes -- -- (114,100) -- (114,100)
Conversion of 5% Convertible
term debentures plus interest
at $.50 to $1.09 per share (Note 6) 4,333,593 43 2,523,292 -- 2,523,335
Value of warrants issued (Note 8) -- -- 577,500 -- 577,500
Net loss -- -- -- (7,514,785) (7,514,785)
- -------------------------------------------------------------------------------------------------------------------
Balance, May 31, 1998 37,880,776 379 20,741,092 (19,584,623) 1,156,848
===================================================================================================================
Issuance of common stock and exercise
of common stock warrants and options
at $.18 to $.36 per share (Note 8) 1,168,061 12 371,420 -- 371,432
Common stock earned under an escrow
agreement for purchased technology
at $.44-$.45 per share (Note 4) -- -- 445,000 -- 445,000
Non-cash interest expense related to
convertible notes recorded to additional
paid-in capital (Note 6) -- -- 142,830 -- 142,830
Common stock issued for services at
at $.34 (Note 8) 279,326 3 125,468 -- 125,471
Conversion of 5% Convertible
term debentures plus interest
at $.30 to $.48 per share (Note 6) 1,735,752 17 575,624 -- 575,641
Value of warrants issued (Notes 5 and 6) -- -- 478,000 -- 478,000
Expiration of escrowed shares related to
purchase of ShBoom technology
(Note 4) (1,500,000) (15) 15 -- --
Net loss -- -- -- (4,276,456) (4,276,456)
- -------------------------------------------------------------------------------------------------------------------
Balance, May 31, 1999 39,563,915 $ 396 $ 22,879,449 $(23,861,079) $ (981,234)
===================================================================================================================
</TABLE>
See accompanying summary of accounting policies and notes to consolidated
financial statements.
F-5
<PAGE> 68
PATRIOT SCIENTIFIC CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
======================================================================================
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
Years Ended May 31, 1999 1998
- --------------------------------------------------------------------------------------
<S> <C> <C>
OPERATING ACTIVITIES:
Net loss $(4,276,456) $(7,514,785)
Adjustments to reconcile net loss
to cash used in operating activities:
Amortization and depreciation 354,643 341,072
Provision for doubtful accounts 17,000 41,761
Provision for inventory obsolescence 51,000 203,000
Common stock and warrants issued for services 125,471 33,500
Non-cash interest expense related to
convertible notes 211,471 2,096,446
Non-cash interest expense related to warrants 307,774 496,000
Amortization of debt issuance costs 25,900 140,000
Non-cash compensation expense 445,000 1,995,000
Changes in:
Accounts receivable 491,180 (375,183)
Inventories (70,416) 96,116
Prepaid and other assets (48,012) 7,940
Accounts payable and accrued expenses 997,360 16,053
- --------------------------------------------------------------------------------------
Net cash used in operating activities (1,368,085) (2,423,080)
- --------------------------------------------------------------------------------------
INVESTING ACTIVITIES -
Purchase of property, equipment and patents (343,311) (417,225)
FINANCING ACTIVITIES:
Proceeds from issuance of short term notes payable 525,500 --
Proceeds from issuance of short term notes payable
to a related party 175,000 --
Principal payments on notes payable and
long-term debt (2,179) (2,721)
Proceeds from issuance of common stock
and exercise of common stock warrants
and options 446,432 247,807
Proceeds from issuance of convertible notes -- 3,000,000
Payments for debenture costs -- (280,000)
- --------------------------------------------------------------------------------------
Net cash provided by financing activities 1,144,753 2,965,086
- --------------------------------------------------------------------------------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (566,643) 124,781
CASH AND CASH EQUIVALENTS, beginning of year 602,456 477,675
- --------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS, end of year $ 35,813 $ 602,456
======================================================================================
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Convertible notes and accrued interest
exchanged for common stock $ 575,641 $ 2,409,236
Cash payments for interest 15,469 383
Unamortized debt discount 170,226 48,000
- --------------------------------------------------------------------------------------
</TABLE>
See accompanying summary of accounting policies and notes to consolidated
financial statements.
F-6
<PAGE> 69
PATRIOT SCIENTIFIC CORPORATION
SUMMARY OF ACCOUNTING POLICIES
ORGANIZATION AND BUSINESS
Patriot Scientific Corporation (the "Company") is engaged in the development,
marketing, and sale of patented microprocessor technology and high-performance
high-speed data communication products. The Company also owns innovative radar
technology. The Company sold its antenna technology in August 1999.
BASIS OF PRESENTATION AND CONSOLIDATION
The consolidated financial statements have been prepared in accordance with
generally accepted accounting principles and include the accounts of the
Company, its majority owned subsidiaries, Metacomp, Inc. ("Metacomp") and Plasma
Scientific Corporation. All material intercompany transactions and balances have
been eliminated in consolidation.
FINANCIAL INSTRUMENTS AND CONCENTRATIONS OF CREDIT RISK
The Company's financial instruments that are exposed to concentrations of credit
risk consist primarily of cash and cash equivalents and accounts receivable.
The Company's cash equivalents are placed in high quality money market accounts
with major financial institutions and high grade short-term commercial paper.
The investment policy limits the Company's exposure to concentrations of credit
risk. Money market accounts are federally insured; however, commercial paper is
not insured. The Company has not experienced any losses in such accounts.
Concentrations of credit risk with respect to accounts receivable are limited
due to the wide variety of customers and markets which comprise the Company's
customer base, as well as their dispersion across many different geographic
areas. The Company routinely assesses the financial strength of its customers
and, as a consequence, believes that its accounts receivable credit risk
exposure is limited. Generally, the Company does not require collateral or other
security to support customer receivables. As of May 31, 1999, the Company had
approximately 36% and 11% in accounts receivable from two customers.
The carrying amounts of financial instruments including cash and cash
equivalents, accounts receivable, accounts payable, accrued liabilities, notes
payable and capital leases approximated fair value because of the immediate or
short-term maturity of these instruments.
INVENTORIES
Inventories consist of raw materials, work in process and finished goods and are
valued at the weighted average cost method, which approximates cost on a
first-in, first-out basis, not in excess of market value.
PROPERTY, EQUIPMENT AND DEPRECIATION
Property and equipment are stated at cost. Depreciation is computed over the
estimated useful life of three to five years using the straight line method. The
Company follows the provisions of the Financial Accounting Standards Board
("FASB") Statement of Financial Accounting Standards ("SFAS") No. 121,
"Accounting for the Impairment of Long-lived Assets and for Long-lived Assets
F-7
<PAGE> 70
PATRIOT SCIENTIFIC CORPORATION
SUMMARY OF ACCOUNTING POLICIES (CONTINUED)
to be Disposed Of." Long-lived assets and certain identifiable intangibles to be
held and used by the Company are reviewed for impairment whenever events or
changes in circumstances indicate that the carrying amount of an asset may not
be recoverable. The Company continuously evaluates the recoverability of its
long-lived assets based on estimated future cash flows from and the estimated
fair value of such long-lived assets, and provides for impairment if such
undiscounted cash flows are insufficient to recover the carrying amount of the
long-lived asset.
PATENTS AND TRADEMARKS
Patents and trademarks are carried at cost less accumulated amortization and are
amortized over their estimated useful lives of four years. The carrying value of
patents and trademarks is periodically reviewed and impairments, if any, are
recognized when the expected future benefit to be derived from individual
intangible assets is less than its carrying value determined based on the
provisions of SFAS No. 121 as discussed above.
REVENUE RECOGNITION
Revenue is recognized upon the shipment of product to the customer. Contract
engineering, licensing and royalty income is recognized when earned.
RESEARCH AND DEVELOPMENT COSTS
Research and development costs are expensed as incurred.
INCOME TAXES
The Company accounts for income taxes under SFAS No. 109, "Accounting for Income
Taxes". Temporary differences are differences between the tax basis of assets
and liabilities and their reported amounts in the financial statements that will
result in taxable or deductible amounts in future years.
NET LOSS PER SHARE
The Company applies SFAS No. 128, "Earnings Per Share" for the calculation of
"Basic" and "Diluted" earnings (loss) per share. Basic earnings (loss) per share
includes no dilution and is computed by dividing income (loss) available to
common stockholders by the weighted average number of common shares outstanding
for the period. Diluted earnings (loss) per share reflects the potential
dilution of securities that could share in the earnings (loss) of an entity.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the consolidated financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
F-8
<PAGE> 71
PATRIOT SCIENTIFIC CORPORATION
SUMMARY OF ACCOUNTING POLICIES (CONTINUED)
During the year ended May 31, 1999, based upon information then available,
the Company revised its estimates regarding the recovery of certain inventories.
As a result, the Company increased existing reserves for obsolescence by
approximately $51,000.
SALE OF ACCOUNTS RECEIVABLE
The Company has adopted SFAS No. 125, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities" ("SFAS 125"). SFAS 125
provides consistent standards for distinguishing transfers of financial assets
that are sales from transfers that are secured borrowings. A factoring line
established by the Company with a bank enables the Company to sell selected
accounts receivable invoices to the bank with full recourse against the Company.
These transactions qualify for a sale of assets since (1) the Company has
transferred all of its right, title and interest in the selected accounts
receivable invoices to the bank, (2) the bank may pledge, sell or transfer the
selected accounts receivable invoices, and (3) the Company has no effective
control over the selected accounts receivable invoices since it may not redeem
the invoices sold previous to the invoices being greater than 90 days past due.
Under SFAS 125, after a transfer of financial assets, an entity recognizes the
financial and servicing assets it controls and the liabilities it has incurred,
derecognizes financial assets when control has been surrendered, and
derecognizes liabilities when extinguished. During fiscal 1999, the Company sold
approximately $218,000 of its accounts receivable to a bank under a factoring
agreement for approximately $174,000. Pursuant to the provisions of SFAS 125,
the Company reflected the transaction as a sale of assets and established an
accounts receivable from the bank for the retained amount less the costs of the
transaction and less any anticipated future loss in the value of the retained
asset. The retained amount is equal to 20% of the total accounts receivable
invoice sold to the bank less 1% of the total invoice as an administrative fee
and 1.75% per month of the total outstanding accounts receivable invoices as a
finance fee. The estimated future loss reserve for each receivable included in
the estimated value of the retained asset is based on the payment history of the
accounts receivable customer. The Company collected the entire retained amount
and there were no balances for retained amounts outstanding at May 31, 1999.
STOCK OPTIONS
The Company applies Accounting Principles Board ("APB") Opinion 25, "Accounting
for Stock Issued to Employees," and related Interpretations in accounting for
all stock option plans. Under APB Opinion 25, compensation cost has been
recognized for stock options granted to employees when the option price is less
than the market price of the underlying common stock on the date of grant.
SFAS No. 123, "Accounting for Stock-Based Compensation," requires the Company to
provide pro forma information regarding net income as if compensation cost for
the Company's stock option plans had been determined in accordance with the fair
value based method prescribed in SFAS No. 123. To provide the required pro forma
information, the Company estimates the fair value of each stock option at the
grant date by using the Black-Scholes option-pricing model.
F-9
<PAGE> 72
PATRIOT SCIENTIFIC CORPORATION
SUMMARY OF ACCOUNTING POLICIES (CONTINUED)
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board (the "FASB") issued
Statement of Financial Accounting Standard No. 133 ("SFAS No. 133"), "Accounting
for Derivative Instruments and Hedging Activities" which requires companies to
record derivatives on the balance sheet as assets or liabilities, measured at
fair market value. Gains or losses resulting from changes in the values of those
derivatives would be accounted for depending on the use of the derivative and
whether it qualifies for hedge accounting. The key criterion for hedge
accounting is that the hedging relationship must be highly effective in
achieving offsetting changes in fair value or cash flows. SFAS No. 133 is
effective for fiscal periods beginning after June 15, 2000. Management believes
the adoption of this statement will have no material impact on the Company's
financial statements.
RECLASSIFICATIONS
Certain items included in the 1998 financial statements have been reclassified
to conform to the current year presentation.
F-10
<PAGE> 73
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. CONTINUED EXISTENCE AND MANAGEMENT'S PLAN
The Company's consolidated financial statements are presented on the going
concern basis, which contemplates the realization of assets and the satisfaction
of liabilities in the normal course of business. The Company incurred a net loss
of $4,276,456 and $7,514,785 and negative cash flow from operations of
$1,368,085 and $2,423,080 in the years ended May 31, 1999 and 1998,
respectively. The ability of the Company to continue as a going concern is
contingent upon it obtaining sufficient financing to sustain its operations. The
Company currently is attempting to complete financing for up to $5 million
through an investment agreement with Swartz Private Equity, LLC ("Swartz"). As
discussed below, the offering that relates to this proposed financing may be in
violation of Section 5 of the Securities Act of 1933. The Company is also
holding discussions with various possible financing sources and believes that
additional financing can be obtained in the event that the proposed $5 million
financing is not completed. However, no assurance can be given that the Company
will, in fact, be able to obtain additional financing or that the terms of such
financing, will be favorable to the Company. As such, there is substantial doubt
about the Company's ability to continue as a going concern. The consolidated
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.
In February 1999, the Company entered into an investment agreement with Swartz.
See Note 10 for further discussion. The investment agreement entitles the
Company, at the Company's option, to issue and sell its common stock for up to
an aggregate of $5 million from time to time during a three-year period through
February 24, 2002, subject to certain conditions including (1) an effective
registration statement must be on file with the SEC registering the resale of
the common shares, and (2) a limitation on the number of common shares which can
be sold to Swartz within a 30 day time period based on the trading volume of the
stock, among others. Swartz may purchase the common stock from the Company at a
discount ranging from 10% to 20% depending on the price of the common stock. In
addition to the common stock purchased, Swartz will receive warrants to purchase
an additional 15% of the common stock equal to 110% of the market price on the
last day of the purchasing period, subject to further semi-annual adjustment if
the price of the common stock goes down. In April 1999, the Company filed a
registration statement to register the resale of these common shares. The
registration statement was amended in July 1999 and will be further amended in
September 1999.
In July 1999, the Company amended and restated the investment agreement with
Swartz to eliminate the discretion of Swartz as to the timing of its purchase of
the Company's common stock. The amended and restated investment agreement
requires Swartz, after the Company puts shares of common stock to it, to
purchase the Company's common stock on the twentieth day following the put. The
previous agreement enabled Swartz, in its sole discretion, to purchase the
Company's common stock at any time during a twenty day period following the
Company's put to it. By entering into the amended and restated investment
F-11
<PAGE> 74
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
agreement, the Company completed the sale of common stock to Swartz. Since the
date of this private sale to Swartz is after the filing of a registration
statement for the public resale of shares sold under the investment agreement,
the Company may have sold securities to Swartz in violation of Section 5 of the
Securities Act of 1933, and each placement of shares with Swartz in the future
under the investment agreement may be a separate violation of Section 5. In
addition, in April 1999, the Company sold common stock to two individuals in an
accumulated amount of $75,000 and in June 1999 the Company issued stock to an
institutional investor upon conversion of a short term note in the amount of
$116,183. These sales occurred after the filing of the registration statement by
the Company and therefore, by making these sales the Company may have violated
Section 5 of the Securities Act of 1933. Consequently, the two individual
investors, the institutional investor and Swartz may have the right to rescind
these purchases of common stock for a one year period after the purchase of the
common stock. In addition, Patriot and certain officers and directors of Patriot
may be subject to civil and criminal penalties for potential violations of
Section 5 of the Securities Act of 1933 and applicable state law as a result of
these sales. Management believes that the possibility of damages related to
these potential violations of Section 5 of the Securities Act of 1933 is remote
and that such potential violations will have no material impact on the Company's
financial statements. See Notes 7 and 10 for further discussion.
At May 31, 1999, the Company had a working capital deficit of $1,545,055, cash
and cash equivalents of $35,813, and was delinquent to the Internal Revenue
Service for approximately $156,000 and various states for $27,000 in past due
payroll taxes. The Company has funded its operations primarily through the
issuance of securities and debt financings.
The Company's current cash requirements to sustain its operations for the next
twelve months are estimated to be $1,600,000. The Company expects that these
requirements will be provided by:
Internally:
o sales of accounts receivables under a factoring agreement
established with its bank,
o the cash profits related to a $3,355,000 kiosk order, (a portion of
which is anticipated as an advance payment during our second fiscal
quarter of 2000 (September 1 to November 30, 1999), previous to any
product shipments,
o sale of licenses and/or intellectual property, and
Externally, if the $5,000,000 financing is completed, by:
o previous to the effective date of the registration of underlying
stock to be resold under the investment agreement, possible
short-term debt instruments with individual and
F-12
<PAGE> 75
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
institutional investors, and
o subsequent to the effective date of the registration of the
underlying stock to be resold under the investment agreement, draws
against the equity line of credit.
Externally, if the $5,000,000 financing is not completed, by possible:
o short-term debt instruments with individuals and institutional
investors, and
o private placement debt and/or equity financings with individual and
institutional investors.
Since May 31, 1999, the Company has issued short-term debt financings to five
private investors totaling $205,000. These amounts have enabled the Company to
meet its current needs and will provide funding through September 1999. If the
Company does not receive the initial funding for the kiosk order or the initial
draw against the investment agreement by the end of September 1999, then
additional similar debt or equity financings will be necessary to continue to
meet its cash requirements. The puts under the investment agreement are subject
to common stock trading volume limitations and registration of the securities.
The Company anticipates the initial put under the investment agreement will take
place during the second quarter of fiscal year 2000, September 1 to November 30,
1999. The funds anticipated from the kiosk order are subject to the Company's
customer receiving funds from the Mexican Department of Tourism, and on several
occasions product shipments have been rescheduled pending the receipt of those
funds.
The Company anticipates that it may require additional equipment, fabrication,
components and supplies during the next twelve months to continue development of
its technologies. Product introductions such as those currently underway for
communication products and the PSC1000 may require significant inventory,
product launch, marketing personnel and other expenditures that the Company can
not currently estimate. Further, if expanded development is commenced or new
generations of microprocessors are accelerated beyond the Company's current
plans, additional expenditures, that it can not currently estimate, may be
required. It is possible therefore, that higher levels of expenditures may be
required than are currently contemplated resulting from changes in development
plans or as required to support new developments or commercialization activities
or otherwise.
There can be no assurance that any funds required during the next twelve months
or thereafter can be generated from operations or that if such required funds
are not internally generated that funds will be available from external sources
such as debt or equity financings or other potential sources. The lack of
additional capital could force the Company to substantially curtail or cease
operations and would, therefore, have a material adverse effect on its business.
Further, there can be no assurance that any such required funds, if available,
will be available on attractive terms or that they will not have a significantly
dilutive effect on the Company's existing shareholders.
F-13
<PAGE> 76
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. INVENTORIES Inventories at May 31, 1999 consisted of the following:
<TABLE>
<S> <C>
==========================================================
Component parts $ 449,582
Work in process 93,262
Finished goods 122,989
---------
665,833
Reserve for obsolescence (416,000)
---------
$ 249,833
==========================================================
</TABLE>
3. PROPERTY AND Property and equipment consisted of the following at
EQUIPMENT May 31, 1999:
<TABLE>
<CAPTION>
=================================================================
<S> <C>
Computer equipment and software $1,374,514
Furniture and fixtures 286,732
Laboratory equipment 197,534
-----------------------------------------------------------------
1,858,780
Less accumulated depreciation and amortization 1,410,016
-----------------------------------------------------------------
Net property and equipment $ 448,764
=================================================================
</TABLE>
Depreciation expense was approximately $277,543 and
$281,130 for the years ended May 31, 1999 and 1998
At May 31, 1999, property and equipment includes certain
equipment under capital lease agreements with an original
cost of $36,427 and accumulated depreciation of $34,666.
4. PURCHASED TECHNOLOGY
SEMICONDUCTOR MICROPROCESSOR TECHNOLOGY
Effective May 31, 1994, the Company acquired certain proprietary semiconductor
microprocessor technology (the "ShBoom Technology") and related computer
software from a corporation in exchange for 10,000,000 restricted shares of the
Company's common stock (5,000,000 of which were originally placed in escrow
subject to an earnout arrangement as discussed below).
The cost of this technology of $1,875,000 was based upon the estimated current
fair market value of the 5,000,000 non-contingent shares of the Company's common
stock issued under this agreement and was fully amortized over its estimated
useful life of three years. The remaining 5,000,000 shares issued for this
technology were subject to an earnout escrow arrangement. As such, when the
escrowed shares were earned, they were charged to compensation costs. The terms
of the escrow arrangement provided for an earnout formula of 500,000 shares for
each $500,000 of revenues earned by the Company during the period from June 1,
1994 through May 31, 1999. The 1,500,000 contingent shares not earned by May 31,
1999 were returned to the Company and canceled.
F-14
<PAGE> 77
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
During the years ended May 31, 1999 and 1998, 1,000,000 shares and 2,000,000
shares, respectively, were earned as a result of the arrangement and $445,000
and $1,995,000, respectively, were charged to compensation costs in these
periods. The 500,000 shares that were earned during the year ended May 31, 1997
were released during the year ended May 31, 1998 and 1,500,000 of the shares
earned during the year ended May 31, 1998 were released during the current year.
At May 31, 1999, 1,500,000 additional shares remain in escrow that have been
earned and charged to compensation costs but have not been released pending the
outcome of a lawsuit between the Company, nanoTronics and the Fish Family Trust
as discussed in Note 13 to the Consolidated Financial Statements. Upon the
resolution of the lawsuit, the remaining shares held in escrow will either be
released to the Falk Family Trust, used either partially or in their entirety as
a means of settling the lawsuit, or be returned to the Company.
5. NOTES PAYABLE
As of May 31, 1999, the Company has entered into short term loans aggregating
$700,500 with one institutional investor and a group of individual investors,
one of which is a major shareholder in the Company. The original terms of the
loans are typically for four months with interest rates ranging from 10%-18% and
maturity dates ranging from September 8, 1999 to January 15, 2000.
In addition to the interest accruing on the loans, warrants exercisable for
three years, for an aggregate of 1,553,462 common shares of the Company were
issued to the institutional and individual investors at exercise prices ranging
from $.25 to $.50 which was equal to the market prices of the common stock on
the date of the issuances. These warrants were valued using the Black-Scholes
model and a value of $275,226 has been reflected as a discount to the debt and
is being amortized over the life of the debt. In fiscal 1999, $105,000 of the
debt discount has been amortized and reflected as non-cash interest expense. The
short term notes have been discounted to reflect the valuation of the warrants
as follows:
<TABLE>
<CAPTION>
Interest
Amount Rate Due Dates
------------ -------- -------------------
<S> <C> <C> <C>
Notes due to a related party $ 175,000 10% October 22, 1999 to
January 15, 2000
Notes due to an institutional investor 102,500 18% Converted to stock in
July, 1999
Notes due to individuals 423,000 10% September 8, 1999 to
------------ December 30, 1999
700,500
Less unamortized debt discount
related to valuation of warrants 170,226
------------
$ 530,274
============
</TABLE>
Also the Company issued 125,000 warrants exercisable for five years to the
institutional investor at exercise prices ranging from $.35 to $.375 to
renegotiate and extend the scheduled maturity dates of the notes. These warrants
were valued using the Black-Scholes model and $23,700 has been recorded as
non-cash interest expense. In July 1999, the institutional investor converted
his short
F-15
<PAGE> 78
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
term loan of $102,500 plus accrued interest into 379,205 shares of common stock
of the Company based on the market value of the Company's stock on the
conversion date.
In addition, warrants to purchase an additional 1,025,000 common shares of the
Company were issued subsequent to year end to the group of individual investors
to renegotiate and extend the scheduled maturity dates of the notes. The value
of the additional warrants will be reflected as non-cash interest expense in
future periods.
6.5% CONVERTIBLE TERM DEBENTURES
In June 1997, the Company issued to a limited number of investors for cash an
aggregate of $2,000,000 of unsecured 5% Convertible Term Debentures due June 2,
1999 ("Debentures") and
Stock Purchase Warrants ("Warrants") with a right to purchase an aggregate
611,733 shares of common stock, par value $.00001 per share, at an exercise
price of $1.69125. In September 1998, the exercise price for related warrants to
purchase 370,000 shares of common stock was reduced from $1.69125 to $0.36. In
February 1999, the exercise price for related warrants to purchase 241,733
shares of common stock was reduced from $1.69125 to $0.4375. In November 1997,
the Company issued to the same investors for cash an aggregate of $1,000,000 of
Debentures due June 2, 1999 and Warrants with a right to purchase an aggregate
305,867 shares of common stock, par value $.00001 per share, at an exercise
price of $1.50. In September 1998, the exercise price for related warrants to
purchase 185,000 shares of common stock was reduced from $1.50 to $0.36. In
February 1999, the exercise price for related warrants to purchase 120,867
shares of common stock was reduced from $1.50 to $0.4375. The additional
warrants value, due to the reduction in the exercise price, of $179,000 was
reflected as additional non-cash interest expense in fiscal 1999. Also, the
Company amortized the remaining original issue discount of $48,000, which is
recorded as additional non-cash interest expense in fiscal 1999.
The principal and interest amount of each Debenture could, at the election of
the holder, be converted in whole or in part and from time to time into fully
paid and nonassessable shares of common stock, $.00001 par value, of the
Company, at a price which was the lower of (i) $1.1646 per share or (ii)
depending on the number of days the Debentures had been held after the funding
date, from 75% to 91% of the average of the closing bid prices for the common
stock for the ten consecutive trading days ending on the trading day immediately
preceding such conversion date.
As of May 31, 1999, the Debentures had been fully converted into 6,069,345
common shares of the Company. In addition, as of May 31, 1999, the investors had
exercised warrants to purchase 555,000 common shares of the Company.
Convertible debt instruments which were convertible at a discount to market were
accounted for by treating such discount as additional interest expense. The
Company computed the amount of the discount based on the difference between the
conversion price and fair value of the underlying common stock on the dates the
Debentures were issued. The Company recorded $2,160,941 of additional paid-in
capital for the discount related to the embedded interest in the Debentures. Of
F-16
<PAGE> 79
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
this amount, $142,830 and $2,018,111 was expensed during the year ended May 31,
1999 and 1998 under the caption "Non-cash interest expense."
7. COMMON STOCK SUBJECT TO RECISION
In April 1999, the Company sold 400,000 shares of common stock to two
individuals for an aggregated amount of $75,000. These sales occurred after the
filing of a registration statement for the public resale of shares sold under
the investment agreement; and, therefore, the Company may have violated Section
5 of the Securities Act of 1933 as described in Note 10. As the shares may have
been sold in violation of Section 5, the investors, at their option, may have
the right, for a one year period after the purchase of the common stock, to
rescind their purchases of common stock. Therefore, at May 31, 1999, these
shares of common stock are reported separately from stockholder's equity
(deficit) in the accompanying consolidated balance sheet. In June 1999, the
Company issued 397,205 shares of common stock to an institutional investor upon
the conversion of a short term note plus accrued interest in the amount of
$116,183. These shares are also subject to recision for a one year period and
will be reflected as such in the quarterly interim financial statements. At the
conclusion of the recision period, these shares will be reclassified to
stockholders' equity (deficit).
8. STOCKHOLDERS' EQUITY (DEFICIT)
PRIVATE OFFERINGS AND WARRANTS
During fiscal 1999, 279,326 shares of common stock were issued to the Company's
attorneys in exchange for services. The fair value (as determined by the quoted
market price) of the common stock in excess of the liability of $30,500 was
recorded as additional general and administrative expense. Also, during fiscal
1999, the Company issued 580,435 shares of common stock to individual investors
for $165,000.
At May 31, 1999, the Company had warrants outstanding to purchase 2,141,062
common shares at exercise prices ranging from $0.25 to $1.25 per share expiring
beginning in 2000 through 2004.
During fiscal 1999, the Company issued warrants to purchase 1,678,462 common
shares of stock at exercise prices ranging from $.25 to $.50 per share. All of
these warrants to purchase common stock are related to notes payable. See Note 5
for further discussion. During fiscal 1998, the Company issued warrants to
purchase 1,147,600 common shares of stock with exercise prices ranging from
$1.25 to $7.50 per share valued at $577,500. Included in this amount were the
warrants to purchase 917,600 common shares related to the Debentures discussed
in Note 6 to the Consolidated Financial Statements which were repriced during
fiscal 1999 and warrants to purchase 130,000 common shares which were cancelled
during fiscal 1999.
1992 INCENTIVE STOCK OPTION PLAN ("ISO")
The Company has an ISO Plan, expiring May 20, 2002, reserving for issuance
750,000 shares of the
F-17
<PAGE> 80
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Company's common stock. The ISO Plan provides for grants to either full or part
time employees, at the discretion of the board of directors, to purchase common
stock of the Company at a price not less than the fair market value of the
shares on the date of grant. In the case of a significant stockholder, the
option price of the share is not less than 110 percent of the fair market value
of the share on the date of grant. Any options granted under the ISO Plan must
be exercised within ten years of the date they were granted (five years in the
case of a significant stockholder).
1992 NON-STATUTORY STOCK OPTION PLAN("NSO")
The Company has an NSO Plan, expiring May 20, 2002, reserving for issuance
750,000 shares of the Company's common stock. The NSO Plan provides for grants
to either full or part time employees, at the discretion of the board of
directors, to purchase common stock of the Company at a price not less than the
fair market value of the shares on the date of grant. Any options granted under
the NSO Plan must be exercised within ten years of the date they were granted.
1995 EMPLOYEE STOCK COMPENSATION PLAN ("ESC")
Effective October 1995, the Company adopted the ESC Plan, which expired
September 30, 1998, reserving for issuance 250,000 shares of the Company's
common stock. The ESC Plan provided for compensation awards of the Company's
common stock to employees (as defined), at the discretion of the board of
directors. During fiscal 1999 and 1998, no shares were issued under this plan.
1996 STOCK OPTION PLAN
Effective March 1996, the Company adopted the 1996 Stock Option Plan, which was
amended by the Stockholders in December 1997, expiring March 24, 2006, reserving
for issuance 4,000,000 shares of the Company's common stock. The 1996 Stock
Option Plan provides for grants to either full or part time employees, at the
discretion of the board of directors, to purchase common stock of the Company at
a price not less than the fair market value on the date of grant for incentive
stock options or not less than 85% of the fair market value on the date of grant
for non-qualified stock options. In the case of a significant stockholder, the
option price of the share is not less than 110 percent of the fair market value
of the shares on the date of grant. Any option granted under the 1996 Stock
Option Plan must be exercised within ten years of the date they are granted
(five years in the case of a significant stockholder). During the fiscal year
ended May 31, 1999, the Company issued options to purchase 725,000 shares of
stock at market value. During the fiscal year ended May 31, 1998, the Company
issued options to purchase 1,511,000 shares of stock at market value.
SFAS No. 123, "Accounting for Stock-Based Compensation," requires the Company to
provide pro forma information regarding net loss and net loss per share as if
compensation costs for the Company's stock option plans and other stock awards
had been determined in accordance with the fair value based method prescribed in
SFAS No. 123. The Company estimates the fair value of each stock award at the
grant date by using the Black-Scholes option-pricing model with the following
weighted-average assumptions used respectively: dividend yield of zero percent
for all years; expected volatility of 50 percent; risk-free interest rates of
5.6 to 6.1 percent; and expected lives of
F-18
<PAGE> 81
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3 to 5 years.
Under the accounting provisions for SFAS No. 123, the Company's net loss per
share would have been increased by the pro forma amounts indicated below:
<TABLE>
<CAPTION>
1999 1998
- -------------------------------------------------------------------------------
<S> <C> <C>
As reported
Net loss $ (4,276,456) $ (7,514,785)
============= =============
Pro forma
Net loss $ (4,596,456) $ (8,451,147)
============= =============
As reported per share
Basic loss $ (0.11) $ (0.24)
============= =============
Pro forma per share
Basic loss $ (0.12) $ (0.27)
============= =============
</TABLE>
A summary of the status of the Company's stock option plans and warrants as of
May 31, 1999 and 1998 and changes during the years ending on those dates is
presented below:
<TABLE>
<CAPTION>
1999 1998
------------------------ ------------------------
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
==================================================================================================
<S> <C> <C> <C> <C>
Outstanding, beginning of year 5,243,670 $ 1.26 4,123,331 $ 1.24
Granted 2,403,462 0.34 2,658,600 1.39
Cancelled (1,195,000) 1.87 (1,059,407) 1.11
Exercised (587,626) 0.35 (478,854) 0.52
- --------------------------------------------------------------------------------------------------
Outstanding, end of year 5,864,506 $ 0.66 5,243,670 $ 1.26
==================================================================================================
- --------------------------------------------------------------------------------------------------
Exercisable, end of year 4,709,840 $ 0.62 3,430,836 $ 1.32
==================================================================================================
Weighted average fair value of options
granted during the year $ 0.23 $ 0.48
Weighted average fair value of warrants
granted during the year $ 0.18 $ 0.88
==================================================================================================
</TABLE>
The following table summarizes information about stock options and warrants
outstanding at May 31, 1999:
F-19
<PAGE> 82
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
<TABLE>
<CAPTION>
Outstanding Exercisable
-------------------------------------- ---------------------
Weighted
Average Weighted Weighted
Range of Remaining Average Average
Exercise Number Contractual Exercise Number Exercise
Prices Outstanding Life Price Exercisable Price
=================================================================================
<S> <C> <C> <C> <C> <C>
$ 0.18 - 0.25 1,046,753 2.90 $ 0.25 1,046,753 $ 0.25
0.26 - 0.50 2,186,062 3.17 0.39 1,743,562 0.39
0.51 - 0.75 515,000 3.45 0.58 404,000 0.59
0.76 - 1.25 1,518,691 2.20 0.95 1,134,025 0.93
1.26 - 2.30 598,000 2.50 1.66 381,500 1.79
- ---------------------------------------------------------------------------------
$ 0.18 - 2.30 5,864,506 2.83 $ 0.66 4,709,840 $ 0.62
- ---------------------------------------------------------------------------------
</TABLE>
9. EARNINGS (LOSS) PER SHARE
Earnings per share are calculated in accordance with SFAS No. 128, "Earnings per
Share." Under SFAS No. 128, basic earnings (loss) per share is calculated as
income (loss) available to common stockholders divided by the weighted average
number of common shares outstanding. Diluted earnings (loss) per share is
calculated as net income (loss) divided by the diluted weighted average number
of common shares. The diluted weighted average number of common shares is
calculated using the treasury stock method for common stock issuable pursuant to
outstanding stock options, common stock warrants, and debt convertible into
common stock. Common stock options and warrants of 291,646 and 880,898 and debt
convertible into 187,167 and 1,748,134 common shares of stock were not included
in diluted earnings (loss) per share in 1999 or 1998, respectively, as the
effect was antidilutive due to the Company recording losses in each of those
years.
In addition, 2,500,000 shares of common stock in escrow that had not been earned
as of May 31, 1998, were not considered outstanding for diluted earnings (loss)
per share in 1998.
See Note 4 to the Consolidated Financial Statements.
Options and warrants to purchase 3,890,541 shares of common stock at exercise
prices from $0.44 to $2.30 per share were outstanding at May 31, 1999 but were
not included in the computation of diluted earnings (loss) per share because the
exercise prices were greater than the average market price of the common shares.
Options and warrants to purchase 2,989,604 shares of common stock at exercise
prices from $0.80 to $7.50 per share were outstanding at May 31, 1998 but were
not included in the computation of diluted earnings (loss) per share because the
exercise prices were greater than the average market price of the common shares.
See Note 5 for discussion of warrants issued subsequent to May 31, 1999.
10. INVESTMENT AGREEMENT
In February 1999, the Company entered into an investment agreement with Swartz.
The investment agreement entitles the Company, at the Company's option, to issue
and sell its common stock for up to an aggregate of $5 million from time to time
during a three-year period through February 24,
F-20
<PAGE> 83
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2002, subject to certain conditions including (1) an effective registration
statement must be on file with the SEC registering the resale of the common
shares, and (2) a limitation on the number of common shares which can be sold to
Swartz within a 30 day time period based on the trading volume of the stock,
among others. Swartz may purchase the common stock from the Company at a
discount ranging from 10% to 20% depending on the price of the common stock. In
addition to the common stock purchased, Swartz will receive warrants to purchase
an additional 15% of the common stock equal to 110% of the market price on the
last day of the purchasing period, subject to further semi-annual adjustment if
the price of the common stock goes down.
In July 1999, the Company amended and restated the investment agreement with
Swartz to eliminate the discretion of Swartz as to the timing of its purchase of
the Company's common stock. The amended and restated investment agreement
requires Swartz, after the Company puts shares of common stock to it, to
purchase the Company's common stock on the twentieth day following the put. The
previous agreement enabled Swartz, in its sole discretion, to purchase the
Company's common stock at any time during a twenty day period following the
Company's put to it.
In April 1999, the Company sold shares of common stock to two individuals in the
accumulated amount of $75,000 and in June 1999 the Company issued shares to an
institutional investor upon conversion of a short term note in the amount of
$116,183. These sales occurred after the filing of a registration statement by
the Company and, therefore, by making these sales the Company may have violated
Section 5 of the Securities Act of 1933. In July 1999, the Company amended and
restated the investment agreement with Swartz to eliminate the discretion of
Swartz as to the timing of its purchase of the Company's common stock. The
amended and restated investment agreement requires Swartz, after the Company
puts shares of common stock to it, to purchase the Company's common stock on the
twentieth day following the put. The previous agreement enabled Swartz, in its
sole discretion, to purchase the Company's common stock at any time during a
twenty day period following the Company's put to it. By entering into the
amended and restated investment agreement, the Company completed its sale of
common stock to Swartz. Since this private sale to Swartz occurred after the
Company filed its registration statement, the Company may have sold securities
to Swartz in violation of Section 5 of the Securities Act of 1933, and each
placement of shares with Swartz in the future under the investment agreement may
be a separate violation of Section 5. Consequently, the two individual
investors, the institutional investor and Swartz may have the right to rescind
these purchases of common stock for a one year period after the purchase of the
common stock. In addition, the Company and certain officers and directors of the
Company may be subject to civil and criminal penalties for potential violation
of either or both Section 5 of the Securities Act of 1933 and applicable state
law as a result of these sales. Management believes that the possibility of
damages related to these potential violations of Section 5 of the Securities Act
of 1933 is remote and that such potential violations will have no material
impact on the Company's financial statements. See Notes 1 and 7 for further
discussion.
F-21
<PAGE> 84
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
11. INCOME As of May 31, 1999, the net deferred tax asset
TAXES recorded and its approximate tax effect consisted of the
following:
<TABLE>
<CAPTION>
===============================================================
<S> <C>
Net operating loss carryforwards $4,238,000
Purchased technology 524,000
Depreciation and amortization 511,000
Other, net 178,000
---------------------------------------------------------------
5,451,000
Valuation allowance 5,451,000
---------------------------------------------------------------
Net deferred tax asset $ --
===============================================================
</TABLE>
As of May 31, 1999, a valuation allowance equal to the net deferred tax asset
recognized has been recorded, as Management has not determined that it is more
likely than not that the deferred tax asset will be realized. No current tax
provision was recorded for fiscal 1999 and 1998 due to reported losses.
At May 31, 1999, the Company has net operating loss carryforwards of
approximately $12,462,000 that expire through 2019 and are subject to certain
limitations under the Internal Revenue Code of 1986, as amended.
12. PROFIT-SHARING PLAN
Effective July 1, 1993, the Company adopted a savings and profit-sharing plan
that allows participants to make contributions by salary reduction pursuant to
Section 401(k) of the Internal Revenue Code. At the Company's discretion, the
Company may match contributions at 20% of the employee's contribution up to 6%
of the employee's salary. The Company contributions are vested 20% per year
beginning with the first year of service. The Company made no matching
contribution in fiscal 1999 or 1998.
13. CONTINGENCY
In October 1998, the Company was sued in the District Court for Travis County,
Texas by the Fish Family Trust, a co-inventor of the original ShBoom technology.
The suit also named as defendants nanoTronics and Gloria Felcyn on behalf of the
Falk Trust. The suit sought a judgment for damages, a rescission of the
Technology Transfer Agreement and a restoration of the technology to the
co-inventor. The Company had the suit removed to the United States District
Court for the Western District of Texas, Austin Division, and requested the
Federal District Court to dismiss the suit based on lack of minimum contacts
with Texas or, in the alternative, to transfer the case to the Southern District
of California. In January 1999, the Federal District Court dismissed the suit
for lack of subject matter and personal jurisdiction. The Fish Family Trust then
refiled the suit in the Superior Court of San Diego County, California seeking
remedies similar to the Federal District Court
F-22
<PAGE> 85
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
dismissed action. In March 1999, the Company joined with nanoTronics and Gloria
Felcyn and filed its response and cross-complaint against the Fish Family Trust.
The suit is scheduled for trial in December, 1999. The Company and the other
defendants intend to vigorously contest the plaintiff's allegations. It is
reasonably possible that the outcome of these matters may result in a material
liability for the Company. Management does not believe, at this stage of the
case, that it is possible to estimate the outcome of the litigation or a range
of reasonably possible losses that might result from the suit.
14. COMMITMENT AND CAPITAL The Company, through its subsidiary, Metacomp,
LEASE OBLIGATIONS entered into an eight year operating lease for
its office and manufacturing facilities located
in San Diego, California.
The Company also leases a copier, computers, and
test equipment at interest rates between
(4-18%). Future minimum lease payments required
under the operating and capital leases are as
follows:
<TABLE>
<CAPTION>
===============================================================
Operating Capital Leases
--------- --------------
<S> <C> <C>
2000 $ 88,570 $1,393
2001 92,026 --
2002 15,510 --
---------------------------------------------------------------
Total minimum lease payments 196,106 1,393
Less amount representing interest -- 38
---------------------------------------------------------------
Present value of net minimum
lease payments 196,106 1,355
Less current portion -- 1,355
---------------------------------------------------------------
Total $196,106 $ --
===============================================================
</TABLE>
Rent expense for fiscal 1999 and 1998 was $96,940 and $85,120,respectively.
15. SEGMENT INFORMATION
EXPORT SALES
The Company is engaged in one business segment, the development and marketing of
high technology computer and telecommunication products. For the purpose of
allocating revenues by geographic location, the Company uses the physical
location of its customers as its basis. During the fiscal year ended May 31,
1999, the Company's sales by geographic location consisted of the following:
F-23
<PAGE> 86
PATRIOT SCIENTIFIC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
<TABLE>
<S> <C>
Domestic sales $ 771,000
Foreign sales:
Japan 161,000
Europe 99,000
North America 55,000
Other 49,000
----------
Total foreign sales 364,000
----------
Total net product sales $1,135,000
==========
</TABLE>
During the fiscal year ended May 31, 1998, the Company's foreign sales were less
than 10% of total sales.
The Company has no foreign assets.
SALES TO MAJOR CUSTOMERS
During the fiscal years ended May 31, 1999 and 1998, revenues from significant
customers consisted of the following:
<TABLE>
<CAPTION>
1999 1998
--------------------- ---------------------
Customer Sales Percent Sales Percent
-------- -------- ----- -------- -----
<S> <C> <C> <C> <C>
A $339,000 29.9% $578,000 30.4%
B -- -- 478,000 25.1%
C -- -- 207,000 10.9%
D 159,000 14.0% -- --
E 125,000 11.0% -- --
</TABLE>
16. SUBSEQUENT EVENT
In August 1999, the Company sold its gas plasma antenna technology for up-front
fees of $250,000. For the next five years, the Company can also potentially
receive up to an additional $250,000 in royalties contingent on the
commercialization and delivery of the product by the purchaser of the
technology.
F-24
<PAGE> 87
================================================================================
Until the completion of the resale of the common stock included in this
prospectus, all dealers that effect transactions in these securities, whether or
not participating in this offering, may be required to deliver a prospectus.
This is in addition to the dealers' obligation to deliver a prospectus when
acting as underwriters and with respect to their unsold allotments or
subscriptions.
Table of Contents
<TABLE>
<S> <C>
Prospectus Summary ..................... 5
Risk Factors ........................... 7
Plan of Distribution ................... 12
Selling Shareholders.................... 13
The Company ............................ 19
Use of Proceeds ........................ 39
Litigation ............................. 41
Management's Discussion and
Analysis of Financial Condition
and Results of Operations ........... 41
Management ............................. 48
Principal Shareholders.................. 54
Certain Transactions ................... 56
Trading Market and Related
Matters.............................. 58
Description of Securities............... 59
Legal Matters........................... 60
Experts................................. 60
Index to Financial Statements........... F-1
</TABLE>
================================================================================
================================================================================
The Resale of
15,598,770 Shares
of
Common Stock
Offered by
Selling Shareholders
PATRIOT SCIENTIFIC
CORPORATION
PROSPECTUS
October 1, 1999
================================================================================
<PAGE> 88
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 24. INDEMNIFICATION OF OFFICERS AND DIRECTORS.
Pursuant to the Company's Certificate of Incorporation, and as permitted
by Section 145 of the General Corporation Law of Delaware, the Company may
indemnify its directors and officers under certain circumstances against
reasonable expenses (including court costs and attorney's fees), judgments,
penalties, fines, and amounts paid in settlement actually and reasonably
incurred in connection with any action, suit or proceeding, whether civil,
criminal, administrative or investigative, to which any of them is a party by
reason of his being a director, officer, employee, or agent of the Company if it
is determined that he acted in accordance with the applicable standard of
conduct set forth in such statutory provisions. Thus, the indemnification
provisions will protect officers and directors from liability only if the
officer or director meets the applicable standard of conduct and the Company has
the financial ability to honor the indemnity.
ITEM 25. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
Expenses payable in connection with the registration and distribution of
the securities being registered hereunder, all of which will be borne by the
Registrant, are as follows:
<TABLE>
<CAPTION>
<S> <C>
Registration Fee - Securities and Exchange Commission...... $ 2,600
Printing and Engraving..................................... 1,000*
Legal Fees and Expenses.................................... 55,000*
Accounting Fees............................................ 45,000*
Blue Sky Fees and Expenses................................. 1,000*
---------
Total.............................................. $ 104,600*
=========
</TABLE>
* Estimated
ITEM 26. RECENT SALES OF UNREGISTERED SECURITIES.
The following sets forth certain information with respect to all common
stock, $.00001 par value, of the Registrant sold by it within the three-year
period preceding the date of this Registration Statement:
(a) The Registrant offered and sold the following described securities,
either for cash or in consideration of services rendered as indicated below,
without registration under the Securities Act of 1933, as amended; and exemption
for such sales from registration under the Act is claimed in reliance upon the
exemption provided by Section 4(2) thereof on the basis that such offers and
sales were transactions not involving any public offering. Appropriate
precautions against transfer have been taken, including the placing of a
restrictive legend on all certificates evidencing such securities. All such
sales were effected without the aid of underwriters, and no sales commissions
were paid.
<TABLE>
<CAPTION>
Number of Common Aggregate Purchase Purchase Price Per
Name Date of Sale Shares Price Share
---- ------------- ------ ----- -----
<S> <C> <C> <C> <C>
Sea, Ltd. May 29, 1996 500,000(1) $ 250,000 $.50 Cash
Robert Crawford December 4, 1998 100,000 25,000 .25 Cash
December 16, 1998 100,000 23,000 .23 Cash
April 26, 1999 200,000 35,000 .175 Cash
April 28, 1999 100,000 20,000 .20 Cash
</TABLE>
i
<PAGE> 89
<TABLE>
<CAPTION>
Number of Common Aggregate Purchase Purchase Price Per
Name Date of Sale Shares Price Share
---- ------------- ------ ----- -----
<S> <C> <C> <C> <C>
James C. and
Josephine M. Zolin December 29, 1998 130,435 30,000 .23 Cash
January 29, 1999 50,000 17,500 .35 Cash
Wayne Opperman January 29, 1999 50,000 17,500 .35 Cash
Clifford E. Koerner February 1, 1999 100,000 35,000 .35 Cash
Richard D. Daniels February 1, 1999 50,000 17,500 .35 Cash
Luce, Forward, Hamilton
and Scripps, LLP February 11, 1999 279,326 94,971 .34 Services
William G. Crawford April 28, 1999 100,000 20,000 .20 Cash
Castle Creek Technology
Partners, LLC June 14, 1999 397,205 116,183 .292 Note
Conversion
</TABLE>
(1) This reflects exercise of warrants granted as a portion of a unit sold at
$.50 per unit, each consisting of one share of common stock and one warrant
to purchase an additional share of common stock at a price of $.50 per
share.
(b) On February 29, 1996, the Registrant offered and sold for cash an
aggregate of 253,166 shares of common stock at a price of $1.58 per share to a
limited number of investors (all but one of whom already were shareholders of
the Registrant), as well as warrants to purchase an additional 253,166 common
shares at a price of $1.58 per share. During May 1996, such warrants were
exercised resulting in the issuance of 126,583 common shares, and in August 1996
the remaining warrants were exercised. Also in August of 1996, 25,000 warrants
granted with a manufacturing agreement were exercised at a price of $1.58 per
share.
(c) In November 1996, the Company issued 431,297 shares of common stock
at $1.04 per share, in December 1996, the Company issued 933,622 shares at $0.85
to $1.08 per share; and in February 1997, the Company issued 160,184 shares at
$1.27 per share. All of such issuances resulted from the conversion of 6%
convertible subordinated notes and accrued interest thereon aggregating
$1,517,015. These securities were offered and sold without registration under
the Securities Act of 1933, as amended, and exemption for such sales from
registration under the Act is claimed in reliance upon the exemption provided by
Rule 903 of Regulation S thereunder on the basis that such offers and sales were
made in offshore transactions to persons who were not "U.S. Persons" as defined
in Rule 902 of Regulation S. Appropriate precautions were taken against transfer
into the United States or to any "U.S. Person" during the applicable restricted
period, including the placing of a restrictive legend on all certificates
issued. All such sales were effected without the aid of underwriters, and no
sales commissions were paid.
(d) On January 8, 1997, the Company issued 1,272,068 common shares to 56
persons in connection with the acquisition of Metacomp, Inc. pursuant to an
Exchange Offer and Letter of Transmittal dated December 4, 1996. The effective
date of the acquisition was December 26, 1996. The closing price of the common
shares on December 26, 1996 was $1.375 per share, resulting in aggregate
consideration of $1,749,094. These common shares were issued without
registration under the Securities Act of 1933, as amended, pursuant to the
exemption provided by Regulation D on the ground that such transactions did not
involve any public offering. Appropriate precautions against transfer have been
taken, including the placing of a restrictive legend on all certificates
evidencing such securities. Such shares were issued without the aid of
underwriters, and no sales commissions were paid.
(e) During the period of November 1997 through September 1998, the
Company issued 6,069,345 common shares to two investors pursuant to 5%
convertible debentures aggregating $3,000,000 and the accrued interest thereon.
ii
<PAGE> 90
The per share price for the conversions ranged from $.30 to $1.09. In addition
to the principal, $98,977 of interest was converted into common shares. In
September and October 1998, one of the investors exercised a warrant to purchase
555,000 shares of the Company's common stock at an exercise price of $.36036 per
share. The securities were registered for resale on Forms S-3 which became
effective in September and November 1997.
ITEM 27. EXHIBITS.
The Exhibits to this Registration Statement are listed in the Exhibit
Index commencing at page EX-1 hereof.
ITEM 28. UNDERTAKINGS.
The undersigned Registrant hereby undertakes the following:
(1) To file, during any period in which offers or sales are being made,
a post-effective amendment to this Registration Statement:
(i) to include any prospectus required by Section 10(a)(3) of the
Securities Act of 1933;
(ii) to reflect in the prospectus any facts or events arising after
the effective date of this Registration Statement (or the most recent
post-effective amendment thereof) which, individually or in the aggregate,
represent a fundamental change in the information in this Registration
Statement; and
(iii) to include any material information with respect to the plan
of distribution not previously disclosed in this registration, or any material
change to such information in the Registration Statement.
(2) That, for the purpose of determining any liability under the
Securities Act of 1933, each such post-effective amendment shall be deemed to be
a new registration statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the initial bona
fide offering thereof.
(3) To remove from registration by means of a post-effective amendment
to this Registration Statement any of the securities being registered which
remain unsold at the termination of this offering.
Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to directors, officers or persons controlling the
Registrant pursuant to the General Corporation Law of Delaware, the Certificate
of Incorporation, or otherwise, the Registrant has been advised that, in the
opinion of the Securities and Exchange Commission, such indemnification is
against public policy as expressed in such Act, and is, therefore,
unenforceable. In the event that a claim for indemnification against such
liabilities (other than the payment by the Registrant of expenses incurred or
paid by a director, officer or person controlling the Registrant in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or person controlling the Registrant in connection with any
securities being registered, the Registrant will, unless in the opinion of its
counsel the matter has been settled by controlling precedent, submit to a court
of appropriate jurisdiction the question whether such indemnification by it is
against public policy as expressed in such Act and will be governed by the final
adjudication of such issue.
iii
<PAGE> 91
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the
Registrant certifies that it has reasonable grounds to believe that it meets all
the requirements for filing on Form SB-2 and has duly caused this registration
statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in the City of San Diego, State of California, on the date below.
DATED: October 1, 1999 PATRIOT SCIENTIFIC CORPORATION
By: /s/ LOWELL W. GIFFHORN
-----------------------------------
Lowell W. Giffhorn
Chief Financial Officer
Pursuant to the requirements of the Securities Act of 1933, this
registration statement has been signed by the following persons in the
capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
/S/ JAMES T. LUNNEY Chairman, President, October 1, 1999
- --------------------------------- Director, and Chief Executive
James T. Lunney Officer
/S/ LOWELL W. GIFFHORN Chief Financial Officer, October 1, 1999
- --------------------------------- Principal Financial Officer,
Lowell W. Giffhorn Principal Accounting Officer
and Director
/S/ HELMUT FALK, JR. Director October 1, 1999
- ---------------------------------
Helmut Falk, Jr.
/S/ DONALD BERNIER Director October 1, 1999
- ---------------------------------
Donald Bernier.
/S/ RICHARD G. BLUM Director October 1, 1999
- ---------------------------------
Richard G. Blum
/S/ FREDERICK G. THIEL Director October 1, 1999
- ---------------------------------
Frederick G. Thiel
</TABLE>
iv
<PAGE> 92
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM SB-2
Registration Statement
Under The Securities Act of 1933
EXHIBITS
PATRIOT SCIENTIFIC CORPORATION
(Exact name of registrant as specified in its charter)
EX-1
<PAGE> 93
EXHIBIT INDEX
PATRIOT SCIENTIFIC CORPORATION
The following exhibits are included as part of this registration
statement, except those exhibits marked (1), which have previously been filed
with the Securities and Exchange Commission and are incorporated by reference to
another registration statement, report or document. References to the "Company"
in this Exhibit Index mean PATRIOT SCIENTIFIC CORPORATION, a Delaware
corporation.
<TABLE>
<CAPTION>
Exhibit No. Document No.
- ----------- -------- ---
<S> <C> <C>
2.0 PLAN OF ACQUISITION, REORGANIZATION, ARRANGEMENT, LIQUIDATION OR
SUCCESSION.
2.1 Agreement to Exchange Technology for Stock in Patriot Scientific (1)
Corporation, incorporated by reference to Exhibit 2.1 to Form
8-K dated August 10, 1989
2.2 Assets Purchase Agreement and Plan of Reorganization dated June (1)
22, 1994, among the Company, nanoTronics Corporation and Helmut
Falk, incorporated by reference to Exhibit 10.4 to Form 8-K
dated July 6, 1994
2.2.1 Amendment to Development Agreement dated April 23, 1996 between (1)
the Company and Sierra Systems, incorporated by reference to
Exhibit 2.2.1 to Pre-Effective Amendment No. 1 to Registration
Statement on Form SB-2 dated April 29, 1996
2.3 Form of Exchange Offer dated December 4, 1996 between the (1)
Company and certain shareholders of Metacomp, Inc. incorporated
by reference to Exhibit 2.3 to Form 8-K dated January 9, 1997
2.4 Letter of Transmittal to Accompany Shares of Common Stock of (1)
Metacomp, Inc. Tendered Pursuant to the Exchange Offer Dated
December 4, 1996 incorporated by reference to Exhibit 2.4 to
Form 8-K dated January 9, 1997
3.0 ARTICLES AND BYLAWS.
3.1 Original Articles of Incorporation of the Company's predecessor, (1)
Patriot Financial Corporation, incorporated by reference to
Exhibit 3.1 to registration statement on Form S-18, file no.
33-23143-FW
3.2 Articles of Amendment of Patriot Financial Corporation, as filed (1)
with the Colorado Secretary of State on July 21, 1988,
incorporated by reference to Exhibit 3.2 to registration
statement on Form S-18, File No. 33-23143-FW
3.3 Certificate of Incorporation of the Company, as filed with the (1)
Delaware Secretary of State on March 24, 1992, incorporated by
reference to Exhibit 3.3 to Form 8-K dated May 12, 1992
3.3.1 Certificate of Amendment to the Certificate of Incorporation of (1)
the Company, as filed with the Delaware Secretary of State on
April 18, 1995, incorporated by reference to Exhibit 3.3.1 to
Form 10-KSB for the fiscal year ended May 31, 1995
</TABLE>
EX-2
<PAGE> 94
<TABLE>
<CAPTION>
Exhibit No. Document No.
- ----------- -------- ---
<S> <C> <C>
3.3.2 Certificate of Amendment to the Certificate of Incorporation of (1)
the Company, as filed with the Delaware Secretary of State on
June 19,1997, incorporated by reference to Exhibit 3.3.2 to Form
10-KSB for the fiscal year ended May 31, 1997
3.4 Articles and Certificate of Merger of Patriot Financial (1)
Corporation into the Company dated May 1, 1992, with Agreement
and Plan of Merger attached thereto as Exhibit A, incorporated
by reference to Exhibit 3.4 to Form 8-K dated May 12, 1992
3.5 Certificate of Merger issued by the Delaware Secretary of State (1)
on May 8, 1992, incorporated by reference to Exhibit 3.5 to
Form 8-K dated May 12, 1992
3.6 Certificate of Merger issued by the Colorado Secretary of State (1)
on May 12, 1992, incorporated by reference to Exhibit 3.6 to
Form 8-K dated May 12, 1992
3.7 Bylaws of the Company, incorporated by reference to Exhibit 3.7 (1)
to Form 8-K dated May 12, 1992
4.0 INSTRUMENTS ESTABLISHING RIGHTS OF SECURITY HOLDERS.
4.1 Specimen common stock certificate, incorporated by reference to (1)
Exhibit 4.1 Form 8-K dated May 12, 1992
4.2 Form of Stock Purchase Warrant (Labway Corporation) dated (1)
February 29, 1996, exercisable to purchase 253,166 common shares
at $1.58 per share until August 31, 1996, granted to investors
in connection with an offering of securities made in reliance
upon Regulation S, incorporated by reference to Exhibit 4.2 to
Form 10-QSB for fiscal quarter ended 2/29/96
4.3 Form of 6% Convertible Subordinated Promissory Note due (1)
September 30, 1998 aggregating $1,500,000 to six investors
incorporated by reference to Exhibit 4.3 to Form 10-QSB for
fiscal quarter ended August 31, 1996
4.4 Form of 5% Convertible Term Debenture (CC Investments, LDC) due (1)
June 2, 1999 aggregating $2,000,000 to two investors
incorporated by reference to Exhibit 4.4 to Form 8-K dated June
16, 1997
4.5 Form of Stock Purchase Warrant (CC Investments, LDC) dated June (1)
2, 1997 exercisable to purchase an aggregate of 400,000 common
shares at $1.69125 per share until June 2, 2002, granted to two
investors in connection with the offering of securities in
Exhibit 4.4 incorporated by reference to Exhibit 4.5 to Form 8-K
dated June 16, 1997
4.6 Registration Rights Agreement dated June 2, 1997 by and among (1)
the Company and CC Investments, LDC and the Matthew Fund, N.V.
related to the registration of the common stock related to
Exhibits 4.4 and 4.5 incorporated by reference to Exhibit 4.6 to
Form 8-K dated June 16, 1997
</TABLE>
EX-3
<PAGE> 95
<TABLE>
<CAPTION>
Exhibit No. Document No.
- ----------- -------- ---
<S> <C> <C>
4.7 Form of Warrant to Purchase Common Stock (Swartz Family (1)
Partnership, L.P.) dated June 2, 1997 exercisable to purchase an
aggregate of 211,733 common shares at $1.69125 per share until
June 2, 2002, granted to a group of investors in connection with
the offering of securities in Exhibit 4.4 incorporated by
reference to Exhibit 4.7 to Form 8-K dated June 16, 1997
4.8 Registration Rights Agreement dated June 2, 1997 by and among (1)
the Company and Swartz Investments, LLC related to the
registration of the common stock related to Exhibit 4.7
incorporated by reference to Exhibit 4.8 to Form 8-K dated June
16, 1997
4.9 Form of 5% Convertible Term Debenture (CC Investments, LDC) due (1)
June 2, 1999 aggregating $1,000,000 to two investors
incorporated by reference to Exhibit 4.9 to Form 10-KSB for the
fiscal year ended May 31, 1998
4.10 Form of Stock Purchase Warrant (CC Investments, LDC) dated (1)
November 24, 1997 exercisable to purchase an aggregate of
200,000 common shares at $1.50 per share until June 2, 2002,
granted to two investors in connection with the offering of
securities described in Exhibit 4.9 incorporated by reference to
Exhibit 4.10 to Form 10-KSB for the year ended May 31, 1998
4.11 Form of Warrant to Purchase Common Stock (Swartz Family (1)
Partnership, L.P.) dated November 24, 1997 exercisable to
purchase an aggregate of 105,867 common shares at $1.50 per
share until June 2, 2002, granted to a group of investors in
connection with the offering of securities described in Exhibit
4.9 incorporated by reference to Exhibit 4.11 to Form 10-KSB for
the year ended May 31, 1998
4.12 Form of Warrant to Purchase Common Stock (Investor (1)
Communications Group, Inc.) dated June 16, 1997 exercisable to
purchase an aggregate of 130,000 common shares at prices ranging
from $2.50 to $7.50 per share until June 15, 1999 incorporated
by reference to Exhibit 4.12 to Form 10-KSB for the year ended
May 31, 1998
4.13 Warrant to Purchase Common Stock issued to Spellcaster (1)
Telecommunications, Inc. dated April 28, 1998 exercisable to
purchase an aggregate of 100,000 common shares at $1.25 per
share until April 28, 2000 incorporated by reference to Exhibit
4.13 to Form 10-KSB for the year ended May 31, 1998
4.14 Investment agreement dated February 24, 1999 by and between the (1)
Company and Swartz Private Equity, LLC for a maximum aggregate
amount of $5,000,000 incorporated by reference to Exhibit 4.14
to Form 10-QSB/A for the fiscal quarter ended November 30, 1998
4.15 Registration Rights Agreement dated February 24, 1999 by and (1)
between the Company and Swartz Private Equity, LLC related to
the registration of the common stock related to Exhibit 4.14
incorporated by reference to Exhibit 4.15 to Form 10-QSB/A for
the fiscal quarter ended November 30, 1998
</TABLE>
EX-4
<PAGE> 96
<TABLE>
<CAPTION>
Exhibit No. Document No.
- ----------- -------- ---
<S> <C> <C>
4.16 Form of Warrant to Purchase Common Stock (Swartz Private Equity, (1)
LLC) dated February 24, 1999 exercisable to purchase common
shares in connection with the offering of securities in Exhibit
4.14 incorporated by reference to Exhibit 4.16 to Form 10-QSB/A
for the fiscal quarter ended November 30, 1998
4.17 Amended and Restated Investment Agreement dated July 12, 1999 by (1)
and between The Company and Swartz Private Equity, LLC for a
maximum aggregate amount of $5,000,000 incorporated by reference
to Exhibit 4.17 to Pre-Effective Amendment No. 2 to Registration
Statement on Form SB-2 dated July 14, 1999
5.0 OPINION RE LEGALITY.
5.1 Legal opinion of Luce, Forward, Hamilton & Scripps LLP, (2)
attorneys at law
10.0 MATERIAL CONTRACTS.
10.1 1992 Incentive Stock Option Plan of the Company, incorporated by (1)
reference to Exhibit 10.1 to Form 8-K dated May 12, 1992
10.1.1 Amendment to 1992 Incentive Stock Option Plan dated January 11, (1)
1995, incorporated by reference to Exhibit 10.1.1 to Form S-8
dated July 17, 1996
10.2 1992 Non-Statutory Stock Option Plan of the Company, (1)
incorporated by reference to Exhibit 10.2 to Form 8-K dated May
12, 1992
10.2.1 Amendment to 1992 Non-Statutory Stock Option Plan dated January (1)
11, 1995 incorporated by reference to Exhibit 10.2.1 to Form
10-KSB for fiscal year ended May 31, 1996
10.3 Lease Agreement between the Company's subsidiary Metacomp, Inc. (1)
and Clar-O-Wood Partnership, a California limited partnership
dated April 11, 1991 as amended November 11, 1992 and November
2, 1995 incorporated by reference to Exhibit 10.3 to Form 10-KSB
for fiscal year ended May 31, 1997
10.4 Stock Purchase Agreement dated November 29 and 30, 1995, between (1)
the Company and SEA, Ltd., incorporated by reference to Exhibit
10.4 to Form 8-K dated December 11, 1995
10.4.1 Letter Amendment to Stock Purchase Agreement dated February 21, (1)
1996, between the Company and SEA, Ltd., incorporated by
reference to Exhibit 10.4.1 to Form 10-QSB for fiscal quarter
ended 2/29/96
10.5 1995 Employee Stock Compensation Plan of the Company, (1)
incorporated by reference to Exhibit 10.5 to Form 10-QSB for
fiscal quarter ended 11/30/95
10.6 Letter Stock and Warrant Agreement dated January 10, 1996 (1)
between the Company and Robert E. Crawford, Jr., incorporated by
reference to Exhibit 10.6 to Form 10-QSB for fiscal quarter
ended February 29, 1996
</TABLE>
EX-5
<PAGE> 97
<TABLE>
<CAPTION>
Exhibit No. Document No.
- ----------- -------- ---
<S> <C> <C>
10.7 Non-Exclusive Manufacturing and Line of Credit Agreement dated (1)
February 28, 1996, between the Company and Labway Corporation,
incorporated by reference to Exhibit 10.7 to Form 10-QSB for
fiscal quarter ended February 29, 1996
10.8 Distribution and Representation Agreement dated February 28, (1)
1996, between the Company and Innoware, Inc., incorporated by
reference to Exhibit 10.8 to Form 10-QSB for fiscal quarter
ended February 29, 1996
10.9 Employment Agreement dated November 20, 1995 between the Company (1)
and Elwood G. Norris, incorporated by reference to Exhibit 10.9
to Registration Statement on Form SB-2 dated March 18, 1996
10.9.1 First Amendment to Employment Agreement dated May 17, 1996 (1)
between the Company and Elwood G. Norris, incorporated by
reference to Exhibit 10.9.1 to Pre-Effective Amendment No. 2 to
Registration Statement on Form SB-2 dated May 23, 1996
10.10 Employment Agreement dated November 20, 1995 between the Company (1)
and Robert Putnam, incorporated by reference to Exhibit 10.10 to
Registration Statement on Form SB-2 dated March 18, 1996
10.11 Sales Contractual Agreement dated March 19, 1996 between the (1)
Company and Evolve Software, Inc., incorporated by reference to
Exhibit 10.11 to Pre-Effective Amendment No. 1 to Registration
Statement on Form SB-2 dated April 29, 1996
10.11.1 Two Year Stock Purchase Warrant dated March 19, 1996 Granted to (1)
Evolve Software, Inc. Providing for the Purchase of up to 50,000
Common Shares at $2.85, incorporated by reference to Exhibit
10.11.1 to Pre-Effective Amendment No. 1 to Registration
Statement on Form SB-2 dated April 29, 1996
10.12 Employment Agreement dated as of May 8, 1996 between the Company (1)
and Michael A. Carenzo, including Schedule A - Stock Option
Agreement, incorporated by reference to Exhibit 10.12 to
Pre-Effective Amendment No. 2 to Registration Statement on Form
SB-2 dated May 23, 1996
10.13 1996 Stock Option Plan of the Company dated March 25, 1996 and (1)
approved by the Shareholders on May 17, 1996, incorporated by
reference to Exhibit 10.13 to Pre-Effective Amendment No. 2 to
Registration Statement on Form SB-2 dated May 23, 1996
10.14 Sales Contractual Agreement dated June 20, 1996 between the (1)
Company and Compunetics Incorporated incorporated by reference
to Exhibit 10.14 to Form 10-KSB for fiscal year ended May 31,
1996
10.15 Sales Contractual Agreement dated July 31, 1996 between the (1)
Company and Premier Technical Sales, Inc. incorporated by
reference to Exhibit 10.15 to Form 10-KSB for fiscal year ended
May 31, 1996
10.16 Employment Agreement dated January 1, 1997 between the Company (1)
and Norman J. Dawson incorporated by reference to Exhibit 10.16
to Form 10-KSB for fiscal year ended May 31, 1997
</TABLE>
EX-6
<PAGE> 98
<TABLE>
<CAPTION>
Exhibit No. Document No.
- ----------- -------- ---
<S> <C> <C>
10.17 Employment Agreement dated January 1, 1997 between the Company (1)
and Jayanta K. Maitra incorporated by reference to Exhibit 10.17
to Form 10-KSB for fiscal year ended May 31, 1997
10.18 Technology License and Distribution Agreement dated June 23, (1)
1997 between the Company and Sun Microsystems, Inc. incorporated
by reference to Exhibit 10.18 to Form 10-KSB for the fiscal year
ended May 31, 1997
10.19 Employment Agreement dated March 23, 1998 between the Company (1)
and James T. Lunney incorporated by reference to Exhibit 10.19
to Form 10-KSB for the fiscal year ended May 31, 1998
10.20 Employment Agreement dated July 28, 1997 between the Company and (1)
Phillip Morettini incorporated by reference to Exhibit 10.20 to
Form 10-KSB for the fiscal year ended May 31, 1998
10.21 Employment Agreement dated July 23, 1998 between the Company and (1)
Lowell W. Giffhorn incorporated by reference to Exhibit 10.21 to
Form 10-KSB for the fiscal year ended May 31, 1998
23.0 CONSENTS OF EXPERTS AND COUNSEL.
23.1 Consent of BDO Seidman, LLP (2)
23.2 Consent of Luce, Forward, Hamilton & Scripps LLP, attorneys at (2)
law (included in Exhibit 5.1)
99.0 ADDITIONAL EXHIBITS.
99.1 Form of ISO Plan Option (Gaspar) dated May 29, 1992, (1)
incorporated by reference to Exhibit 28.2 to registration
statement on Form SB-2, file no. 33-57858
99.2 Form of NSO Plan Option (Berlin) dated May 29, 1992, (1)
incorporated by reference to Exhibit 28.3 to registration
statement on Form SB-2, file no. 33-57858
99.3 Form of Incentive Stock Option Agreement to the Company's 1996 (1)
Stock Option Plan (individual agreements differ as to number of
shares, dates, prices and vesting), incorporated by reference to
Pre-Effective Amendment No. 2 to Registration Statement on Form
SB-2 dated May 23, 1996
99.4 Form of NonQualified Stock Option Agreement to the Company's (1)
1996 Stock Option Plan (individual agreement differ as to number
of shares, date, prices and vesting), incorporated by reference
to Pre-Effective Amendment No. 2 to Registration Statement on
Form SB-2 dated May 23, 1996
99.5 Press Release of the Company dated November 4, 1996 incorporated (1)
by reference to Exhibit 99.5 to Form 8-K dated January 9, 1997
</TABLE>
EX-7
<PAGE> 99
- ----------------
(1) Previously filed in indicated registration statement or report.
(2) Exhibit filed herewith this Registration Statement on Form SB-2.
EX-8
<PAGE> 1
EXHIBIT 5.1
[Luce, Forward, Hamilton & Scripps, LLP Letterhead]
October 1, 1999
Patriot Scientific Corporation
10989 Via Frontera
San Diego, California 92127
Re: Registration Statement on Form SB-2
Ladies and Gentlemen:
We are counsel for Patriot Scientific Corporation, a Delaware corporation
("Patriot"), in connection with the preparation of a Registration Statement on
Form SB-2 of which this opinion is a part, to be filed with the Securities and
Exchange Commission (the "Commission"), for the sale by certain selling
shareholders (the "Selling Shareholders") of 15,598,770 shares of Patriot's
common stock (the "Common Stock").
In connection with rendering our opinion as set forth below, we have reviewed
and examined originals or copies of such corporate records and other documents
and have satisfied ourselves as to such other matters as we have deemed
necessary to enable us to express our opinion hereinafter set forth.
Based upon the foregoing, it is our opinion that:
The shares of Common Stock being registered for the account of the Selling
Shareholders have been validly issued, and are fully paid and non-assessable.
We hereby consent to the filing of this opinion as an Exhibit to the
Registration Statement and to the reference to this firm under the caption
"Legal Matters" in the Prospectus included in the Registration Statement.
Very truly yours,
/s/ LUCE, FORWARD, HAMILTON & SCRIPPS LLP
EX-9
<PAGE> 1
EXHIBIT 23.1
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Patriot Scientific Corporation
San Diego, California
We hereby consent to the use in the Prospectus constituting a part of this
Registration Statement of our report dated September 1, 1999, relating to the
consolidated financial statements of Patriot Scientific Corporation, which is
contained in that Prospectus. Our report contains an explanatory paragraph
regarding the Company's ability to continue as a going concern.
We also consent to the reference to us under the caption "Experts" in the
Prospectus.
/s/ BDO Seidman, LLP
Denver, Colorado
October 1, 1999
EX-10
