<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 8-K/A
(Amendment No. 1)
CURRENT REPORT
Pursuant to section 13 or 15(d) of
the Securities Exchange Act of 1934
Date of Report (Date of earliest event reported): September 17, 1998
------------------
fonix corporation
- - --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware
- - --------------------------------------------------------------------------------
(State or other jurisdiction of incorporation or organization)
0-23862 22-2994719
- - --------------------------- ------------------------------------
(Commission file number) (I.R.S. Employer Identification No.)
1225 Eagle Gate Tower, 60 East South Temple Street
Salt Lake City, Utah 84111
- - --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (801) 328-0161
Not Applicable
- - --------------------------------------------------------------------------------
(Former name or former address, if changed since last report)
<PAGE>
EXPLANATORY NOTE
On September 17, 1998, fonix corporation, a Delaware corporation (the
"Company" or "fonix"), filed a Current Report on Form 8-K dated as of September
2, 1998, and pertaining to the Merger of Articulate Systems, Inc., a Delaware
corporation with and into ASI Acquisition Corporation, a wholly-owned subsidiary
of the Company. This Amendment No. 1 is filed to submit the audited and
unaudited financial statements of Articulate Systems, Inc., and certain pro
forma financial information required by Item 7 of Form 8-K.
Item 7. Financial Statements and Exhibits. Page
-------
(a) Financial Statements of Business Acquired.
(1) Articulate Systems, Inc., Financial Statements as of
December 31, 1997 and 1996 Together with Auditor's Report....... F-1
Report of Independent Public Accountants........................ F-2
Balance Sheets-December 31, 1997 and 1996....................... F-3
Statements of Operations for the Years Ended
December 31, 1997, 1996 and 1995................................ F-4
Statements of Stockholders' Deficit for the
Years Ended December 31, 1997, 1996 and 1995.................... F-5
Statements of Cash Flows for the Years Ended
December 31, 1997, 1996 and 1995................................ F-6
Notes to Financial Statements................................... F-7
(2) Articulate Systems, Inc. Unaudited Condensed
Financial Statements as of June 30, 1998 and
for the Six Months Ended June 30, 1998 and 1997................. F-18
Unaudited Condensed Balance Sheet--June 30, 1998................ F-19
Unaudited Condensed Statements of Operations
For the Six Months Ended June 30, 1998 and 1997................. F-20
Unaudited Condensed Statements of Cash Flows
For the Six Months Ended June 30, 1998 and 1997................. F-21
(b) Pro Forma Financial Information.
Unaudited Pro Forma Condensed Consolidating
Statements of Operations For the Year Ended
December 31, 1997............................................... P-1
Unaudited Pro Forma Condensed Consolidating
Statements of Operations for the Nine Months Ended
September 30, 1998.............................................. P-2
Notes to Unaudited Pro Forma Condensed Consolidating
Statements of Operations........................................ P-3
<PAGE>
(c) Exhibits. The following are filed as exhibits to this Current
Report:
Exhibit
No. Description
________ ____________________________________
(2)(a) Agreement and Plan of Merger among fonix, AAC and
Articulate, dated as of July 31, 1998, incorporated by
reference from the Company's Current Report on Form 8-K,
dated as of September 2, 1998
(2)(b) Amendment No. 1 to Agreement and Plan of Merger dated as
of September 2, 1998, incorporated by reference from the
Company's Current Report on Form 8-K, dated as of
September 2, 1998
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
fonix corporation
By: /s/ Douglas L. Rex
-------------------------------
Douglas L. Rex
Chief Financial Officer
Date: November 16, 1998
<PAGE>
ARTICULATE SYSTEMS, INC.
FINANCIAL STATEMENTS
AS OF DECEMBER 31, 1997 AND 1996
TOGETHER WITH AUDITORS' REPORT
F-1
<PAGE>
Report of Independent Public Accountants
To the Board of Directors of
Articulate Systems, Inc.:
We have audited the accompanying balance sheets of Articulate Systems, Inc. (a
Delaware corporation) as of December 31, 1997 and 1996, and the related
statements of operations, stockholders' deficit and cash flows for each of the
three years in the period ended December 31, 1997. These financial statements
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Articulate Systems, Inc. as of
December 31, 1997 and 1996, and the results of its operations and its cash flows
for each of the three years in the period ended December 31, 1997, in conformity
with generally accepted accounting principles.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 1 to the
financial statements, the Company has suffered recurring losses from operations
and has a working capital deficiency that raises substantial doubt about its
ability to continue as a going concern. Management's plans with regard to these
matters are also described in Note 1. The accompanying financial statements do
not include any adjustments that might result from the resolution of this
uncertainty.
/s/ ARTHUR ANDERSEN LLP
Arthur Andersen LLP
Boston, Massachusetts
April 1, 1998 (except with respect to the
matter discussed in Note 9, as to
which the date is May 26, 1998)
F-2
<PAGE>
ARTICULATE SYSTEMS, INC.
BALANCE SHEETS--DECEMBER 31, 1997 AND 1996
<TABLE>
<CAPTION>
ASSETS
1997 1996
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 501,190 $ 248,062
Accounts receivable, less reserves of approximately $2,000 and $27,000 in
1997 and 1996, respectively 49,152 296,454
Inventory 16,791 22,801
Prepaid expenses 14,997 17,463
----------- -----------
Total current assets 582,130 584,780
----------- -----------
PROPERTY AND EQUIPMENT, AT COST:
Computer equipment 239,055 172,148
Furniture and fixtures 4,412 4,412
Leasehold improvements 1,800 1,800
----------- -----------
245,266 178,360
Less--Accumulated depreciation and amortization 110,794 61,100
----------- -----------
134,472 117,260
----------- -----------
OTHER ASSETS - 22,523
INTANGIBLE ASSETS, NET OF ACCUMULATED AMORTIZATION OF $194,000 IN 1996 - 97,000
----------- -----------
$ 716,602 $ 821,563
=========== ===========
LIABILITIES AND STOCKHOLDERS' DEFICIT
CURRENT LIABILITIES:
Notes payable to majority stockholder $ 1,907,915 $ 200,000
Accounts payable 285,794 666,296
Accrued expenses 367,408 90,134
Deferred revenue 512,249 734,793
----------- -----------
Total current liabilities 3,073,366 1,691,223
----------- -----------
CONVERTIBLE NOTE PAYABLE TO STOCKHOLDER 399,841 -
----------- -----------
COMMITMENTS (Note 8)
STOCKHOLDERS' DEFICIT:
Convertible preferred stock, $.10 par value
Authorized, issued and outstanding--2,261,289 shares and 2,044,444 shares
in 1997 and 1996, respectively ($4,684,602 preference in liquidation) 226,129 204,444
Common stock, $.01 par value
Authorized--4,000,000 shares
Issued and outstanding--216,656 shares and 185,821 shares in
1997 and 1996, respectively 2,166 1,858
Additional paid-in capital 4,743,910 3,702,062
Accumulated deficit (7,728,810) (4,778,024)
----------- -----------
Total stockholders' deficit (2,756,605) (869,660)
----------- -----------
$ 716,602 $ 821,563
=========== ===========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-3
<PAGE>
ARTICULATE SYSTEMS, INC.
STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
1997 1996 1995
REVENUES:
<S> <C> <C> <C>
Product $ 38,304 $ 1,084,529 $ 1,422,070
Consulting 182,525 304,398 89,000
Consulting with related party (Note 3(b)) 700,000 300,000 -
Royalties - 140,225 193,010
----------- ----------- -----------
920,829 1,829,152 1,704,080
----------- ----------- -----------
COSTS AND EXPENSES:
Costs of revenues 110,102 549,450 555,125
Selling and marketing 295,698 848,503 943,468
Research and development 1,315,799 984,595 556,871
General and administrative 511,232 582,453 567,873
Litigation costs (Note 8(b)) 1,562,057 579,146 -
Charge for acquired in-process research and development - - 2,169,177
----------- ----------- -----------
3,794,888 3,544,147 4,792,514
----------- ----------- -----------
Operating loss (2,874,059) (1,714,995) (3,088,434)
INTEREST INCOME 7,082 9,010 32,707
INTEREST AND OTHER EXPENSE, NET (83,809) (1,825) (14,487)
----------- ----------- -----------
Net loss $(2,950,786) $(1,707,810) $(3,070,214)
=========== =========== ===========
BASIC AND DILUTED EARNINGS (LOSS) PER SHARE (NOTE 2 (j)) $ (16.13) $ (9.24) $ (17.27)
=========== =========== ===========
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 182,918 184,816 177,779
=========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-4
<PAGE>
ARTICULATE SYSTEMS, INC.
STATEMENTS OF STOCKHOLDERS' DEFICIT
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
SERIES A CONVERTIBLE SERIES B CONVERTIBLE SERIES C CONVERTIBLE
PREFERRED STOCK PREFERRED STOCK PREFERRED STOCK
NUMBER $.01 PAR NUMBER $.10 PAR NUMBER $.10 PAR
OF SHARES VALUE OF SHARES VALUE OF SHARES VALUE
<S> <C> <C> <C> <C> <C> <C>
INITIAL INVESTMENT - $ - - $ - $ -
ISSUANCE OF SERIES A
CONVERTIBLE PREFERRED STOCK,
NET OF ISSUANCE COSTS OF
$11,466 1,000,000 100,000 - - - -
ISSUANCE OF SERIES B
CONVERTIBLE PREFERRED STOCK - - 1,044,444 104,444 - -
ISSUANCE OF COMMON STOCK IN
EXCHANGE FOR SERVICES
PERFORMED - - - - - -
NET LOSS - - - - - -
---------- ---------- ---------- ---------- ---------- ----------
BALANCE, DECEMBER 31, 1995 1,000,000 100,000 1,044,444 104,444 - -
EXERCISE OF STOCK OPTIONS
NET LOSS - - - - - -
---------- ---------- ---------- ---------- ---------- ----------
BALANCE, DECEMBER 31, 1996 1,000,000 100,000 1,044,444 104,444 - -
ISSUANCE OF SERIES C
CONVERTIBLE PREFERRED STOCK,
NET OF ISSUANCE COSTS OF
$68,217 - - - - 216,845 21,685
CONVERSION OF NOTES PAYABLE TO
COMMON STOCK (NOTE 4(B)) - - - - - -
CAPITAL CONTRIBUTION FROM A
MAJORITY STOCKHOLDER - - - - - -
NET LOSS - - - - - -
---------- ---------- ---------- ---------- ---------- ----------
BALANCE, DECEMBER 31, 1997 1,000,000 $ 100,000 1,044,444 $ 104,444 216,845 $ 21,685
========== ========== ========== ========== ========== ==========
</TABLE>
<TABLE>
<CAPTION>
TOTAL
COMMON STOCK ADDITIONAL STOCKHOLDERS'
NUMBER $.10 PAR PAID-IN ACCUMULATED EQUITY
OF SHARES VALUE CAPITAL DEFICIT (DEFICIT)
<S> <C> <C> <C> <C> <C>
INITIAL INVESTMENT 1 $ - $ - $ - $ -
ISSUANCE OF SERIES A
CONVERTIBLE PREFERRED STOCK,
NET OF ISSUANCE COSTS OF
$11,466 - - 1,788,534 - 1,888,534
ISSUANCE OF SERIES B
CONVERTIBLE PREFERRED STOCK - - 1,880,000 - 1,984,444
ISSUANCE OF COMMON STOCK IN
EXCHANGE FOR SERVICES
PERFORMED 177,778 1,778 32,000 - 33,778
NET LOSS - - - (3,070,214) (3,070,214)
--------- ---------- ---------- ----------- -----------
BALANCE, DECEMBER 31, 1995 177,779 1,778 3,700,534 (3,070,214) 836,542
EXERCISE OF STOCK OPTIONS 8,042 80 1,528 - 1,608
NET LOSS - - - (1,707,810) (1,707,810)
--------- ---------- ---------- ----------- -----------
BALANCE, DECEMBER 31, 1996 185,821 1,858 3,702,062 (4,778,024) (869,660)
ISSUANCE OF SERIES C
CONVERTIBLE PREFERRED STOCK,
NET OF ISSUANCE COSTS OF
$68,217 - - 710,256 - 731,941
CONVERSION OF NOTES PAYABLE TO
COMMON STOCK (NOTE 4(B)) 30,835 308 139,048 - 139,356
CAPITAL CONTRIBUTION FROM A
MAJORITY STOCKHOLDER - - 192,544 - 192,544
NET LOSS - - - (2,950,786) (2,950,786)
--------- ---------- ---------- ----------- -----------
BALANCE, DECEMBER 31, 1997 216,656 $ 2,166 $4,743,910 $(7,728,810) $(2,756,605)
========= ========== ========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-5
<PAGE>
ARTICULATE SYSTEMS, INC.
STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
1997 1996 1995
CASH FLOWS FROM OPERATING ACTIVITIES:
<S> <C> <C> <C>
Net loss $(2,950,786) $(1,707,810) $(3,070,214)
Adjustments to reconcile net loss to net cash used in operating
Activities
Depreciation and amortization 146,694 122,100 133,000
Interest accrued on notes payable to stockholders 4,356 - -
Charge for acquired in-process research and development - - 2,169,177
Issuance of common stock for services - - 33,778
Changes in assets and liabilities
Accounts receivable 247,302 (122,874) (123,729)
Inventory 6,010 12,471 (10,601)
Prepaid expenses 2,466 (9,870) (5,515)
Accounts payable (380,502) 441,222 9,368
Accrued expenses 277,274 (9,155) (13,707)
Deferred revenue (222,544) 701,793 (117,253)
----------- ----------- -----------
Net cash used in operating activities (2,869,730) (572,123) (995,696)
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (66,906) (44,121) (79,083)
Decrease (increase) in other assets 22,523 - (22,523)
Cash acquired in connection with purchase of Articulate Systems
Holding, Inc., net of cash paid - - 13,143
----------- ----------- -----------
Net cash used in investing activities (44,383) (44,121) (88,463)
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from exercise of stock options - 1,608 -
Proceeds from issuance of Series C convertible preferred stock 731,941 - -
Proceeds form issuance of Series A convertible preferred stock - - 1,888,534
Proceeds of notes payable to stockholders 2,242,756 200,000 -
Payment of note payable - - (141,677)
Capital contribution from a majority stockholder 192,544 - -
----------- ----------- -----------
Net cash provided by financing activities 3,167,241 201,608 1,746,857
----------- ----------- -----------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 253,128 (414,636) 662,698
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 248,062 662,698 -
----------- ----------- -----------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 501,190 $ 248,062 $ 662,698
=========== =========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the year for interest $ - $ - $ 14,487
============ ============ ===========
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING AND FINANCING
ACTIVITY:
Conversion of notes payable to common stock $ 139,356 $ - $ -
=========== ============ ============
On January 10, 1995, the Company acquired the assets and assumed
certain liabilities of Articulate Systems Holding, Inc., as follows:
Fair value of assets acquired $ 131,756
Intangible asset and acquired in-process research and development 2,460,177
Liabilities assumed (620,632)
-----------
1,971,301
Issuance of Series B convertible preferred stock (1,984,444)
-----------
Cash acquired $ (13,143)
===========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-6
<PAGE>
ARTICULATE SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
(1) ORGANIZATION
Articulate Systems, Inc. (the Company), formerly Articulate Systems
Holding, Inc., was incorporated under the laws of the State of Delaware on
December 20, 1994. The Company is a 45% owned subsidiary of Dragon Systems,
Inc. (Dragon) and is engaged in the development, sale, licensing and
integration of voice recognition software. The Company derives
substantially all of its revenues from customers in the United States. The
Company is subject to risks common to rapidly growing technology-based
companies, including limited operating history, dependence on key
personnel, raising equity capital, rapid technological change, competition
from substitute products and larger companies, and the successful
development and marketing of commercial products and services.
On January 10, 1995, the Company acquired substantially all of the assets
and assumed certain liabilities of the predecessor company, Articulate
Systems Holding, Inc., in exchange for 1,044,444 shares of Series B
convertible preferred stock valued at $1.90 per share, which was equal to
the liquidation value of the stock (the Acquisition). Upon the consummation
of the Acquisition, the name of the Company was changed from Articulate
Systems Holding, Inc. to Articulate Systems, Inc. The Acquisition was
accounted for as a purchase. Accordingly, the excess of the purchase price
and acquisition costs over the net book value of the tangible assets was
assigned principally to $2,169,177 of acquired in-process research and
development charged to operations in the year ended December 31, 1995 (see
Note 2(d)) and $291,000 of intangible assets that were amortized on a
straight-line basis over their estimated useful life of three years. As of
December 31, 1997, the intangible assets were fully amortized.
The Company has suffered recurring losses from operations and has incurred
a significant accumulated deficit to date. The Company is devoting
substantially all of its efforts towards marketing its products. The
Company's ability to continue as a going concern is dependent on its
ability to raise additional equity or debt financing.
On May 26, 1998, the Company signed a binding letter of intent to merge
with another company (see Note 9). The Company believes, based on its
planned business combination, that its proposed acquirer will provide
financing resources sufficient to enable the Company to sustain operations
through December 31, 1998. However, if the Company is unable to complete
the planned business combination or is unable to secure additional
financing, for which it does not currently have any commitment, there is
substantial doubt whether the Company will have the ability to continue as
a going concern.
(2) SIGNIFICANT ACCOUNTING POLICIES
The accompanying financial statements reflect the application of certain
significant accounting policies, as described in this note and elsewhere in
the accompanying financial statements and notes.
F-7
<PAGE>
ARTICULATE SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
(Continued)
(a) Cash and Cash Equivalents
The Company classifies short-term investments with original maturities
of three months or less as cash equivalents.
(b) Depreciation and Amortization
The Company provides for depreciation and amortization of property and
equipment by charges to operations on a straight-line basis over the
estimated useful lives as follows:
ESTIMATED
ASSET CLASSIFICATION USEFUL LIFE
Computer equipment 3 years
Furniture and fixtures 5 years
Leasehold improvements Life of lease
(c) Revenue Recognition
The Company recognizes revenue in accordance with the provisions of
Statement of Position (SOP) No. 91-1, Software Revenue Recognition. The
Company generates revenue from licensing the rights to use its software
products to end users and from royalties. The Company also generates
service revenues from the sale of consulting and development services.
In October 1997, the American Institute of Certified Public Accountants
issued SOP 97-2, Software Revenue Recognition. The Company intends to
apply this pronouncement in fiscal 1998, as required by the SOP. The
Company believes that its revenue recognition practices are consistent
with those required by SOP 97-2.
Revenues from software license agreements are recognized upon shipment
of the software if there are no significant postdelivery obligations,
and payment is due within one year. If an acceptance period is required,
revenues are recognized upon customer acceptance. Revenues from
development and consulting services are recognized upon customers'
acceptance or the period in which services are provided if customer
acceptance is not required and the revenues are fixed and determinable.
Cost of revenues consists of costs to distribute the product, including
the cost of the media on which it is delivered, support personnel
salaries, licensed technology and related costs.
F-8
<PAGE>
ARTICULATE SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
(Continued)
(d) Research and Development Expenses
The Company charges research and development costs to operations as
incurred. Software development costs are considered for capitalization
when technological feasibility is established in accordance with
Statement of Financial Accounting Standards (SFAS) No. 86, Accounting for
the Costs of Computer Software To Be Sold, Leased or Otherwise Marketed.
The Company sells software in a market that is subject to rapid
technological change, new product introductions and changing customer
needs. Accordingly, the Company has not capitalized software development
costs due to its inability to estimate the useful life of software under
development. Additionally, in connection with the Acquisition described
in Note 1, the Company charged $2,169,177 to operations as acquired in-
process research and development. The acquired research and development
relates to projects that had not yet reached technological feasibility
and that, until completion of the development, have no alternative future
use. These projects will require substantial high-risk development and
testing by the Company prior to reaching technological feasibility.
(e) Use of Estimates
The preparation of these financial statements required the use of certain
estimates by management in determining the Company's assets, liabilities,
revenues and expenses. Actual results could differ from those estimates.
(f) Stock-Based Compensation
The Company accounts for its stock-based compensation plan under
Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock
Issued to Employees. In October 1995, the Financial Accounting Standards
Board issued SFAS No. 123, Accounting for Stock-Based Compensation, which
is effective for fiscal years beginning after December 15, 1995. The
Company has determined that it will continue to account for stock-based
compensation for employees under APB Opinion No. 25 and elect the
disclosure only alternative under SFAS No. 123 (see Note 6).
(g) Concentrations of Credit Risk
SFAS No. 105, Disclosure of Information About Financial Instruments with
Off-Balance-Sheet Risk and Financial Instruments with Concentrations of
Credit Risk, requires disclosure of any significant off-balance-sheet and
credit risk concentrations. The Company has no significant off-balance-
sheet concentration of credit risk such as foreign exchange contracts,
option contracts or other foreign hedging arrangements. The Company
invests its cash and cash equivalents in highly rated credit financial
institutions. Concentration of credit risk with respect to accounts
receivable is limited to customers on whom the Company performs ongoing
credit evaluations of its customers and maintains allowances for
potential credit losses. Two customers accounted for 77% and 17% of total
revenues in 1997, one customer accounted for 16% of total revenues in
F-9
<PAGE>
ARTICULATE SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
(Continued)
1996 and one customer accounted for 12% of total revenues in 1995. Two
customers represented approximately 74% and 42% of total accounts
receivable as of December 31, 1997 and 1996, respectively.
(h) Fair Value of Financial Instruments
The Company's financial instruments consist mainly of cash and cash
equivalents, accounts receivable, notes payable to stockholders and
accounts payable. The carrying amounts of these instruments approximate
fair value.
(i) Inventories
Inventories, which include microphones and related accessories, are
stated at the lower of costs (first-in, first-out) or market.
(j) Net Loss per Common Share
Effective December 31, 1997, the Company adopted SFAS No. 128, Earnings
Per Share. Under SFAS No. 128, basic net loss per common share is
computed using the weighted average number of shares of common stock
outstanding during the period. Diluted net loss per share is the same as
basic net loss per common share as the effects of the Company's
potentially dilutive common stocks are antidilutive. The Company has
applied the provisions of SFAS No. 128 retroactively to all periods
presented. Antidilutive securities, consisting of stock options, which
are not included in diluted net loss per common share were 272,775
shares, 262,775 shares and 160,546 shares in 1997, 1996 and 1995,
respectively.
(3) RELATED PARTY TRANSACTIONS
(a) Sale of Product Line
In September 1996, the Company sold to its majority stockholder, Dragon,
certain business assets and a perpetual, exclusive, transferable license,
including the right to sublicense all such rights, of the Company's
speech recognition software for the Macintosh operating system (the Mac
Product Line). The purchase price was $400,000 and is contingent on
Dragon achieving certain profitability levels, as defined, from the
sublicense fees derived from the Mac Product Line over a two-year period
commencing in September 1996. The Company recorded as a contribution to
capital the excess of the purchase price over the net book value of the
assets sold to the extent that the purchase price payments are
nonrefundable. This accounting is required for the transfer of
intangible assets between parties under common control. Accordingly, as
of December 31, 1997, the Company recorded approximately $193,000 as
additional paid-in capital in the accompanying statements of
stockholders' deficit. No gain was recorded in 1996 as the entire
purchase price was fully refundable to Dragon as of December 31, 1996.
F-10
<PAGE>
ARTICULATE SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
(Continued)
The Company had previously licensed certain technology from Dragon
(Dragon Technology) whereby the Company was required to pay royalties
ranging from 6% to 14% of the selling price of Mac Product Line products,
which incorporated Dragon Technology. The Company incurred royalty costs
under this license arrangement totaling approximately $162,000 for the
year ended December 31, 1996. In connection with the sale of the Mac
Product Line to Dragon in 1996, as discussed above, the Company was no
longer subject to these royalties.
(b) Consulting
Commencing in 1996, the Company provided consulting services to a
preferred stockholder resulting in revenue of $700,000 and $300,000 for
the years ended December 31, 1997 and 1996, respectively. In addition,
as of December 31, 1997 and 1996, the Company had received $300,000 from
this stockholder as advance royalty payments. Such amounts have been
included as deferred revenue in the accompanying balance sheets.
(4) NOTES PAYABLE TO STOCKHOLDERS
(a) Notes Payable to Majority Stockholder
During 1997 and 1996, the Company issued notes payable to Dragon to
finance litigation costs associated with the Apple lawsuit (Note 8(b)).
The balance at December 31, 1997 and 1996 was approximately $1,908,000
and $200,000, respectively. Any unpaid principal and accrued and unpaid
interest is due on demand. The notes bear interest at a rate of 11.5% per
annum. Interest expense incurred under these notes payable was
approximately $83,000 and $6,000 in 1997 and 1996, respectively.
(b) Convertible Note Payable to Stockholder
In August 1997, the Company issued a convertible note payable to a Series
C preferred stockholder. The balance of the note at December 31, 1997 was
approximately $400,000. The note has no stated interest rate or terms.
(c) Convertible Notes
In June and July 1997, the Company issued notes payable to several
stockholders totaling $135,000. The notes bear interest at prime (8.5% at
December 31, 1997) plus 1.5% per annum. The notes plus any accrued
interest were convertible into common stock at the option of the
noteholder at any time after September 30, 1997 and before December 31,
1997. The notes plus accrued interest were converted into common stock on
October 31, 1997.
In conjunction with these notes, the Company issued warrants to purchase
29,872 shares of common stock at $4.52 per share. The warrants are
callable by the Company in the event the Company is acquired and expire
two years from the date of the notes. The warrants were valued
F-11
<PAGE>
ARTICULATE SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
(Continued)
using the Black-Scholes model using the following assumptions: risk-free
interest rate of 5.72%; volatility of 60% and an expected life of two
years. The warrants were deemed to have no value.
(5) INCOME TAXES
The Company provides for federal and state income taxes in accordance with
SFAS No. 109, Accounting for Income Taxes, whereby a deferred tax asset or
liability is measured by currently enacted tax rates. The deferred tax
liability can be reduced by net operating losses being carried forward for
tax purposes.
As of December 31, 1997 and 1996, the Company has available accumulated net
operating loss carryforwards of approximately $5,666,000 and $2,537,000,
respectively, and research and development credit carryforwards of
approximately $62,000 and $28,000, respectively, to reduce future federal
and state income taxes, if any. These carryforwards expire through 2012 and
are subject to review and possible adjustment by the Internal Revenue
Service.
The Tax Reform Act of 1986 contains provisions that may limit the amount of
net operating loss and credit carryforwards that the Company may utilize in
any one year in the event of certain cumulative changes in ownership over a
three-year period in excess of 50%, as defined.
F-12
<PAGE>
ARTICULATE SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
(Continued)
The approximate income tax effect of each type of temporary difference and
carryforward at December 31, 1997 and 1996 is as follows:
<TABLE>
1997 1996
<S> <C> <C>
Net operating loss carryforwards $ 2,266,000 $ 730,000
Acquired in-process research and development 747,000 774,000
Research and development credit carryforwards 62,000 28,000
Nondeductible reserves and accruals 7,000 24,000
Other temporary differences 7,000 13,000
----------- -----------
3,089,000 1,569,000
Valuation allowance (3,089,000) (1,569,000)
----------- -----------
Net deferred tax asset $ - $ -
=========== ===========
</TABLE>
Due to the uncertainty surrounding the realization of the net deferred tax
asset, the Company has provided a full valuation allowance against this
amount.
(6) STOCK OPTION PLAN
On June 13, 1995, the Company's Board of Directors approved the adoption of
the 1995 Stock Option Plan (the Plan), which provides for a maximum of
211,756 shares of common stock to be issued as incentive stock options
(ISOs) and nonqualified options. At December 31, 1997, the Company's Board
of Directors had granted 61,019 shares in excess of the maximum allowed. The
Company intends to obtain stockholder approval of an increase in the number
of shares issuable under the Plan to 338,775 shares in August 1998. Because
the Company's Board of Directors controls the voting shares of the Company's
stock, such approval is deemed to be perfunctory. The options under the Plan
may be granted to key employees, as defined. ISOs may be granted at no less
than fair market value (FMV) on the date of grant, as determined by the
Company's Board of Directors (no less than 110% of FMV on the date of grant
for 10% or greater stockholders). Options under the Plan vest over a four-
year period and expire ten years from the date of grant.
F-13
<PAGE>
ARTICULATE SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
(Continued)
Activity under the Plan for the years ended December 31, 1997, 1996 and 1995
is as follows:
NUMBER OF PRICE PER
SHARES SHARE
Granted 160,546 $.20
-------- ----
Outstanding, December 31, 1995 160,546 $.20
Granted 210,542 .20
Exercised (8,042) .20
Canceled (100,271) .20
-------- ----
Outstanding, December 31, 1996 262,775 $.20
Granted 34,340 .20
Exercised - -
Canceled (24,340) .20
-------- ----
Outstanding, December 31, 1997 272,775 $.20
======== ====
Exercisable, December 31, 1997 219,736 $.20
======== ====
The Company has computed the pro forma disclosures required under SFAS No.
123 for options granted in 1996 and 1997 using the Black-Scholes option
pricing model prescribed by SFAS No. 123 using the following assumptions:
risk-free interest rate between 5.38% and 6.60%; expected dividend yield
rate of zero; expected volatility of 60% for nonemployee grants; expected
volatility of zero for employee grants and expected life of 5 years. The
fair value of options granted in 1997 and 1996 were $1,960 and $11,257,
respectively. The weighted average contractual life of options outstanding
at December 31, 1997 was approximately three years. The effect of SFAS No.
123 on pro forma net loss was not material in 1997 or 1996.
F-14
<PAGE>
ARTICULATE SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
(Continued)
(7) CONVERTIBLE PREFERRED STOCK
On November 12, 1997, the Company amended its Articles of Incorporation to
change the authorized shares of preferred stock to 2,261,289 designated as
follows at December 31:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Series A convertible preferred stock (Series A)
Authorized, issued and outstanding--1,000,000 shares $100,000 $100,000
Series B convertible preferred stock (Series B)
Authorized, issued and outstanding--1,044,444 shares 104,444 104,444
Series C convertible preferred stock (Series C)
Authorized, issued and outstanding--216,845 shares 21,685 -
-------- --------
$226,129 $204,444
======== ========
</TABLE>
The rights and preferences of the stock are as follows:
(a) Voting
Convertible preferred stockholders are entitled to the number of votes
equal to the number of shares of common stock into which each share of
preferred stock is then convertible.
(b) Dividends
Convertible preferred stockholders are entitled to receive, when and as
declared by the Board of Directors, noncumulative annual dividends. To
date, the Board of Directors has not declared any dividends.
(c) Liquidation Rights
In certain events, including liquidation, dissolution or winding up of
the Company, the holders of Series A convertible preferred stock are
entitled to $1.90 per share plus any accrued and unpaid dividends before
any distribution may be made to Series B convertible preferred
stockholders, Series C convertible preferred stockholders or common
stockholders. The holders of Series C convertible preferred stock are
entitled to $3.69 per share plus any accrued and unpaid dividends before
any distribution may be made to Series B convertible preferred
stockholders or common stockholders. The holders of Series B convertible
preferred stock are entitled to $1.90 per share plus any accrued and
unpaid dividends before any distribution may be made to common
stockholders. If the assets of the Company shall be insufficient to
permit payment in full to the holders of convertible preferred stock,
then the entire assets of the Company that are available for
distribution shall be distributed in proportion to the full preferential
amount to which each such holder is entitled.
F-15
<PAGE>
ARTICULATE SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
(Continued)
(d) Conversion
Each share of convertible preferred stock is convertible into one share
of common stock at any time, subject to certain antidilutive adjustments.
The Company has reserved 2,261,289 shares of common stock for the
conversion of convertible preferred stock. The convertible preferred
stock will be automatically converted into common stock upon the
completion of a public stock offering involving net proceeds of at least
$10,000,000, subject to certain adjustments.
(8) COMMITMENTS
(a) Operating Leases
The Company has operating leases for facilities and equipment that expire
through September 2001. Future minimum lease payments at December 31,
1997 are as follows:
AMOUNT
Year ended-
1998 $139,000
1999 131,000
2000 131,000
2001 44,000
--------
Total $445,000
========
Total rent expense under leases for the years ended December 31, 1997,
1996 and 1995 included in the accompanying statements of operations was
approximately $148,000, $146,000 and $120,000 respectively.
(b) Litigation
In the ordinary course of business, the Company is party to various types
of litigation. One such lawsuit was brought by the Company against Apple
Computers, Inc. (Apple) alleging infringements by Apple of patents
relating to a software product. Apple subsequently filed a counterclaim
against the Company alleging infringements of four patents. On April 7,
1997, the court ruled that the Company did not infringe on one of the
Apple patents because Apple granted the Company a license under its
patents. The Company believes it has meritorious defenses to the rest of
the claims, and, in its opinion, all litigation currently pending or
threatened will not have a material effect on the Company's financial
position or results of operations. Litigation costs related to the Apple
lawsuit have been stated separately in the accompanying statements of
operations.
(9) SUBSEQUENT EVENTS
F-16
<PAGE>
ARTICULATE SYSTEMS. INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
(Continued)
On May 26, 1998, the Company signed a binding letter of intent with fonix
Corporation (fonix), whereby fonix, through a wholly owned subsidiary, plans
to merge with the Company. The terms of the letter of intent provide that
fonix will pay the stockholders of the Company consideration equal to the
greater of (i) $25,000,000 or (ii) the fair market value of the Company as
determined by a specified investment banker. The consideration is to be paid
52.8% in cash and 47.2% in shares of fonix unregistered common stock.
In the event that the Apple litigation is not settled before closing this
proposed transaction, fonix will agree to pay $1.5 million of the notes
payable to Dragon, which were advanced to the Company by Dragon to finance
the Apple litigation costs, plus all accrued interest. In addition, Dragon
will also agree to release the Company from any obligation to pay the unpaid
balance, if any.
F-17
<PAGE>
ARTICULATE SYSTEMS, INC.
UNAUDITED CONDENSED FINANCIAL STATEMENTS
AS OF JUNE 30, 1998 AND
FOR THE SIX MONTHS ENDED
JUNE 30, 1998 AND 1997
F-18
<PAGE>
ARTICULATE SYSTEMS, INC.
CONDENSED BALANCE SHEET--JUNE 30, 1998
(UNAUDITED)
1998
CURRENT ASSETS:
Cash and cash equivalents $ 263,319
Accounts receivable, net 132,502
Inventory 30,360
Prepaid expenses 15,654
-----------
Total current assets 441,835
-----------
PROPERTY AND EQUIPMENT, AT COST:
Computer equipment 270,574
Furniture and fixtures 4,412
Leasehold improvements 3,275
-----------
278,261
Less--Accumulated depreciation and amortization (151,285)
-----------
126,976
-----------
$ 568,811
===========
CURRENT LIABILITIES:
Notes payable to majority stockholder $ 2,578,486
Note payable to fonix corporation 250,000
Accounts payable 382,709
Accrued expenses 454,766
Deferred revenue 715,798
-----------
Total current liabilities 4,381,759
-----------
CONVERTIBLE NOTE PAYABLE TO STOCKHOLDER 399,841
-----------
COMMITMENTS
STOCKHOLDERS' DEFICIT:
Convertible preferred stock, $.10 par value-
Authorized and outstanding--2,261,289 shares 226,129
Common stock, $.01 par value-
Authorized--4,000,000 shares
Outstanding--216,656 shares 2,166
Additional paid-in capital 4,882,214
Accumulated deficit (9,323,298)
-----------
Total stockholders' deficit (4,212,789)
-----------
$ 568,811
===========
F-19
<PAGE>
ARTICULATE SYSTEMS, INC.
CONDENSED STATEMENTS OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997
(UNAUDITED)
1998 1997
REVENUES:
Product $ 474,621 $ --
Consulting -- 146,525
Consulting with related party -- 300,000
----------- -----------
474,621 446,525
----------- -----------
COSTS AND EXPENSES:
Costs of revenues 93,596 50,411
Selling and marketing 144,018 116,529
Research and development 816,932 609,630
General and administrative 315,508 270,921
Litigation 573,580 890,240
----------- -----------
1,943,634 1,937,731
----------- -----------
Operating loss (1,469,013) (1,491,206)
INTEREST INCOME 2,826 2,542
INTEREST AND OTHER EXPENSE, NET (128,301) (17,831)
----------- -----------
Net loss $(1,594,488) $(1,506,495)
=========== ===========
F-20
<PAGE>
ARTICULATE SYSTEMS, INC.
CONDENSED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997
(UNAUDITED)
<TABLE>
<CAPTION>
1998 1997
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(1,594,488) $(1,506,495)
Adjustments to reconcile net loss to net cash used in
operating activities-
Depreciation and amortization 40,491 80,238
Interest accrued on notes payable to stockholders 128,301 --
Changes in assets and liabilities-
Accounts receivable, net (83,350) 281,681
Inventory (13,569) 10,252
Prepaid expenses (657) (1,257)
Accounts payable 96,915 604,678
Accrued expenses (40,943) (4,935)
Deferred revenue 203,549 (126,272)
----------- -----------
Net cash used in operating activities (1,263,751) (662,110)
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (32,995) (13,087)
----------- -----------
Net cash used in investing activities (32,995) (13,087)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds of notes payable to stockholders 670,571 350,000
Proceeds of note payable to fonix corporation 250,000 --
Capital contribution from a majority stockholder 138,304 96,272
----------- -----------
Net cash provided by financing activities 1,058,875 446,272
----------- -----------
NET DECREASE IN CASH AND CASH EQUIVALENTS (237,871) (228,925)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 501,190 248,062
----------- -----------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 263,319 $ 19,137
=========== ===========
</TABLE>
F-21
<PAGE>
FONIX CORPORATION AND SUBSIDIARIES
[A Development Stage Company]
UNAUDITED PRO FORMA CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
For the Year Ended December 31, 1997
<TABLE>
<CAPTION>
ARTICULATE PRO FORMA
SYSTEMS, INC. ADJUSTMENTS CONSOLIDATED
FONIX (NOTE 1) (NOTE 2) PRO FORMA
------------ --------------- ------------ -------------
<S> <C> <C> <C> <C>
Revenues $ - $ 920,829 $ - $ 920,829
Cost of revenues - 110,102 - 110,102
------------ --------------- ------------ -------------
Gross profit - 810,727 - 810,727
------------ --------------- ------------ -------------
Expenses:
Product development and research 7,066,294 1,315,799 - 8,382,093
Selling, general and administrative 12,947,112 2,368,987 2,376,603 (a) 17,692,702
------------ --------------- ------------ -------------
- - -
Total expenses 20,013,406 3,684,786 2,376,603 26,074,795
------------ --------------- ------------ -------------
Loss from operations (20,013,406) (2,874,059) (2,376,603) (25,264,068)
------------ --------------- ------------ -------------
Other income (expense):
Interest income 1,199,610 7,082 - 1,206,692
Interest expense (2,758,288) (83,809) (403,524) (b) (3,245,621)
------------ --------------- ------------ -------------
- - -
Total other expense, net (1,558,678) (76,727) (403,524) (2,038,929)
------------ --------------- ------------ -------------
Net loss before extraordinary items (21,572,084) (2,950,786) (2,780,127) (27,302,997)
============ =============== ============ =============
Basic and diluted net loss per common share $ (0.51) $ (0.58)
============ =============
Weighted average common shares outstanding 42,320,188 5,140,751 (c) 47,460,939
============ ============ =============
</TABLE>
See accompanying notes to unaudited pro forma
condensed consolidating financial statments
P-1
<PAGE>
FONIX CORPORATION AND SUBSIDIARIES
[A Development Stage Company]
UNAUDITED PRO FORMA CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
For the Nine Months Ended September 30, 1998
<TABLE>
<CAPTION>
ARTICULATE PRO FORMA
SYSTEMS, INC. ADJUSTMENTS CONSOLIDATED
FONIX (NOTE 1) (NOTE 2) PRO FORMA
------------------ ----------------- --------------- --------------
<S> <C> <C> <C> <C>
Revenues $ 2,671,302 $ 723,040 $ - $ 3,394,342
Cost of revenues 57,353 99,020 - 156,373
------------------ ----------------- --------------- --------------
Gross profit 2,613,949 624,020 - 3,237,969
Expenses:
Purchased in-process research and development 23,339,840 - (5,500,000) (d) 17,839,840
Product development and research 10,080,895 1,077,326 - 11,158,221
Selling, general and administrative 7,769,085 1,381,017 1,584,403 (a) 10,734,505
------------------ ----------------- --------------- --------------
Total expenses 41,189,820 2,458,343 (3,915,597) 39,732,566
------------------ ----------------- --------------- --------------
Income (loss) from operations (38,575,871) (1,834,323) 3,915,597 (36,494,597)
------------------ ----------------- --------------- --------------
Other income (expense):
Interest income 856,408 3,630 - 860,038
Interest expense (973,537) (176,276) (269,016) (b) (1,418,829)
Settlement of common stock reset provision (6,111,577) - - (6,111,577)
------------------ ----------------- --------------- --------------
Total other expense, net (6,228,706) (172,646) (269,016) (6,670,368)
------------------ ----------------- --------------- --------------
Net income (loss) (44,804,577) (2,006,969) 3,646,581 (43,164,965)
================== ================= =============== ==============
Basic and diluted net loss per common share $ (0.89) $ (0.79)
================== ==============
Weighted average common shares outstanding 50,358,458 4,613,494 (c) 54,971,952
================== =============== ==============
</TABLE>
See accompanying notes to unaudited pro forma
condensed consolidating financial statements
P-2
<PAGE>
FONIX CORPORATION AND SUBSIDIARIES
[A DEVELOPMENT STAGE COMPANY]
NOTES TO UNAUDITED PRO FORMA CONDENSED CONSOLIDATING
STATEMENTS OF OPERATIONS
NOTE 1. BASIS OF PRESENTATION
The Company created a wholly owned subsidiary for the purpose of acquiring
Articulate Systems, Inc. ("ASI"), a Massachusetts corporation, in September
1998. After the acquisition, the subsidiary changed its name to
fonix/Articulate Systems, Inc. ("fonix/Articulate"). fonix/Articulate is a
provider of sophisticated voice recognition products to specialized segments of
the health care industry. The merger was closed on September 2, 1998, in
connection with which the Company exchanged 5,140,751 shares of restricted
common stock (having a market value of $8,353,720 on that date), cash payment of
$7,787,249 and 8.5 percent demand notes in the aggregate amount of $4,747,339
for all of the then outstanding common shares of ASI. Additionally, the Company
has committed to and is in the process of issuing stock options in exchange for
all of ASI's stock options outstanding on the date of acquisition. The ASI
acquisition was accounted for as a purchase. The results of operations of
fonix/Articulate have been included in the historical results of operations of
fonix from September 2, 1998, the date of the acquisition.
The excess of the purchase price over the estimated fair market value of the
acquired tangible net assets of ASI was $23,584,256, of which $13,700,000 was
capitalized as purchased core technology, $4,384,256 was capitalized as goodwill
and other intangibles and $5,500,000 was expensed as purchased in-process
research and development.
The accompanying unaudited pro forma condensed consolidated statements of
operations for the year ended December 31, 1997 and the nine months ended
September 30, 1998, present the results of operations of the Company as if the
acquisition of ASI had occurred on January 1, 1997. The pro forma results have
been prepared for illustrative purposes only and do not purport to be indicative
of the results which would have occurred had the acquisition been effected on
January 1, 1997, nor are they indicative of actual or future operating results.
These unaudited pro forma condensed consolidated statements of operations
should be read in conjunction with the condensed consolidated financial
statements and the notes thereto included in the Company's Quarterly Report on
Form 10-Q for the three and nine months ended September 30, 1998 and the
historical financial statements of ASI and the notes thereto included elsewhere
in this report on Form 8-K/A.
NOTE 2. PRO FORMA ADJUSTMENTS
(a) Amortization of $13,700,000 in purchased core technology and
$4,384,256 in goodwill and other intangibles, which are being
amortized on a straight-line basis over four to eight years.
(b) Interest on 8.5 percent demand notes issued to ASI shareholders.
(c) Issuance of 5,140,751 shares of restricted common stock in
connection with the acquisition. The change in the weighted average
number of common shares outstanding for the nine months ended
September 30, 1998 is the incremental increase for the period
through the date of acquisition.
(d) Purchased in-process research and development in the amount of
$5,500,000 was expensed at the date of the acquisition. The value of
the in-process research and development was determined by a third-
party valuation. This expense is a non recurring charge directly
attributable to the acquisition and is therefore eliminated from the
pro forma condensed consolidated statement of operations for the
nine months ended September 30, 1998.
P-3
