UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended September 30, 1998
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ___________________ to ___________________
Commission File Number: 0-18856
DIGITAL BIOMETRICS, INC.
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction of incorporation or organization)
41-1545069
(I.R.S. Employer Identification No.)
5600 Rowland Road, Minnetonka, Minnesota 55343
(Address of principal executive offices) (Zip Code)
(612) 932-0888
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.01 par value
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to filing requirements
for the past 90 days. [X] Yes [ ] No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Indicate the number of shares of each of the issuer's classes of Common Stock,
as of the latest practicable date.
Common Stock, $.01 par value November 30, 1998 - 13,968,659 shares
(Class) (Outstanding)
The aggregate market value of Common Stock held by non-affiliates as of
November 30, 1998: $24,155,658
DOCUMENTS INCORPORATED BY REFERENCE
Certain portions of the proxy statement for the 1999 Annual Meeting of
Stockholders to be held on March 16, 1999 have been incorporated by reference in
response to Items 10, 11, 12 and 13 of Part III.
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TABLE OF CONTENTS
FORM 10-K
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Page
PART I
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Item 1. Business 3
Item 2. Properties 9
Item 3. Legal Proceedings 10
Item 4. Submission of Matters to a Vote of Security Holders 10
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters 11
Item 6. Selected Financial Data 13
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations 14
Item 8. Financial Statements and Supplementary Data 24
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure 39
PART III
Item 10. Directors and Executive Officers of the Registrant 39
Item 11. Executive Compensation 39
Item 12. Security Ownership of Certain Beneficial Owners and Management 39
Item 13. Certain Relationships and Related Transactions 39
PART IV
Item 14. Exhibits, Financial Statement Schedule and Reports on Form 8-K 40
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TENPRINTER(R), SQUID(R) and the Company's mechanical hand logo have been
registered as trademarks with the U.S. Patent and Trademark Office. The Company
has applied for registration of the DBI FingerPrinter CMSTM and TRAK-21TM
trademarks. In addition, FC-5TM, FC-6TM, FC-7TM, FC-11TM, FC-21TM and FC-22TM
are trademarks of the Company.
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EXCEPT FOR THE HISTORICAL INFORMATION CONTAINED HEREIN, THE MATTERS
DISCUSSED IN THIS FORM 10-K ARE FORWARD-LOOKING STATEMENTS MADE WITHIN THE
MEANING OF SECTION 27A OF THE SECURITIES ACT OF 1933, AS AMENDED, (THE "ACT")
AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED, AND INVOLVE
RISKS AND UNCERTAINTIES WHICH ARE DESCRIBED MORE FULLY IN THE SECTION BELOW
CAPTIONED "RISK FACTORS." IT IS IMPORTANT TO NOTE THAT THE COMPANY'S ACTUAL
RESULTS COULD DIFFER MATERIALLY FROM THOSE IN SUCH FORWARD-LOOKING STATEMENTS
AND THE COMPANY ASSUMES NO OBLIGATION TO UPDATE SUCH FORWARD-LOOKING STATEMENTS.
PART I
ITEM 1. BUSINESS
GENERAL
The principal business of Digital Biometrics, Inc. (the "Company," "Digital
Biometrics" or "DBI") is the development, manufacture, marketing and integration
of computer-based products and services for the identification of individuals.
In addition, through its Integral Partners subsidiary, the Company provides
information technology (IT) services to commercial and governmental clients.
Finally, the Company is a participant in a joint venture with Grand Casinos,
Inc. called TRAK 21 Development, LLC, which seeks to develop, test and market an
automated wagering tracking system based on technology developed by the Company.
Digital Biometrics is a leading provider of products employing "biometric"
technology, the science of identifying individuals by measuring distinguishing
biological characteristics. The Company's main products are special-purpose,
computer-based systems for "live-scan" fingerprint capture. These live-scan
systems employ patented, high-resolution optics and specialized hardware and
software, combined with industry-standard computer hardware and software, to
create highly optimized, special-purpose systems which capture, digitize, print
and transmit forensic-grade fingerprint images. Historically, these systems have
been purchased mainly by law enforcement agencies, although some systems have
been purchased by civil and commercial buyers. The Company also offers
high-resolution, single-fingerprint capture products for commercial and
governmental identification applications.
The Company's strategy is to continue to market live-scan systems to law
enforcement agencies, and also to expand its products and service offerings, as
well as the markets which Digital Biometrics serves. The law enforcement market
for live-scan biometric products is well established. The Company believes there
is increasing interest from other governmental and commercial markets to employ
biometric identification technologies and products in such areas as applicant
processing and enrollment. Digital Biometrics intends to aggressively pursue
these emerging opportunities.
To capitalize on opportunities outside of its traditional law enforcement
market, the Company established an information technology services business
which generated its first revenues in fiscal 1998. This business operated under
the name "Integrated Information Solutions" or "IIS" during most of fiscal 1998.
It has recently been renamed Integral Partners, Inc. and incorporated as a
wholly owned subsidiary of the Company, effective October 1, 1998.
Also, as noted above, the Company is engaged in a joint venture with Grand
Casinos, Inc., TRAK 21 Development, LLC, to develop, test and market an
automated wagering tracking system based on technology developed by the Company.
This system is intended track the betting activity of casino patrons playing
"table games" such as blackjack.
During fiscal 1998, 95% of the Company's revenues were derived from sales
of live-scan fingerprinting systems and related products and services.
Approximately 71% of customer accounts receivable at September 30, 1998, were
from government agencies, of which 42% was from a single customer. For the
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last three fiscal years, sales to two customers accounted for 16% and 12% of
total revenues in 1998: sales to three customers accounted for 17%, 14% and 12%
of total revenues in 1997: and sales to two customers accounted for 18% and 12%
of total revenues in 1996. Export revenues were 9%, 5% and 15% of total
revenues, for those three fiscal years.
The Company was incorporated in Minnesota in 1985 under the name C.F.A.
Technologies, Inc., was reincorporated in Delaware in 1986 and changed its name
to Digital Biometrics, Inc., in 1990. The Company's offices and facilities are
located at 5600 Rowland Road, Minnetonka, Minnesota 55343, and its telephone
number is (612) 932-0888.
BIOMETRIC IDENTIFICATION PRODUCTS AND SERVICES
Digital Biometrics develops, manufactures, markets and integrates products
in the field of "biometrics," the science of identifying individuals by
measuring distinguishing biological characteristics. Biometric identification
consists of a number of techniques at various stages of technical maturity and
market acceptance. These techniques include fingerprinting, voice recognition,
retinal and iris scanning, DNA analysis, facial and hand geometry, and
handwriting analysis. Many of these techniques have been incorporated into
computer-based hardware and software measurement technologies. The goal is that,
when used with databases of characteristics which previously have been
positively linked to specific individuals, biometric identification products
enable the positive identification of individuals whose identity is under
scrutiny. The Company believes the quality and reliability of the various
non-fingerprint techniques range widely.
For over a century, fingerprints have been and remain the method of choice
to positively identify individuals. Forensic scientists endeavor to match latent
fingerprints lifted from crime scenes with the fingerprints of suspected
perpetrators. Criminal courts throughout the world accept the testimony of
fingerprint experts, and convictions are routinely achieved with fingerprint
evidence. Computerizing fingerprint identification methods has greatly increased
the speed of criminal identification processes and has been widely accepted in
the law enforcement community. As yet, none of the other biometric
identification technologies has achieved the degree of acceptance of
fingerprints in law enforcement or any other markets.
Digital Biometrics currently offers products that employ "forensic-quality"
fingerprint capture technologies. Forensic quality refers to the resolution and
pixel gray-scale depth of the image. The Company's products have been employed
by law enforcement organizations in a number of states and foreign countries
since 1988.
LAW ENFORCEMENT AND REGULATORY AGENCY MARKETS
Fingerprint identification was the first biometric technique to achieve
widespread acceptance. Prior to the introduction of sophisticated computer-based
fingerprint capture and matching technologies, manually taken fingerprints were
manually cross-checked against collections of paper-and-ink fingerprint records
to identify individuals and to positively associate them with crime scenes. In
the United States, over 8,500,000 fingerprint cards are submitted every year to
the Federal Bureau of Investigation ("FBI"), and thousands are collected by
state and local law enforcement agencies. To manage these large quantities of
data, computerized databases for fingerprint classification and identification
were introduced in the 1970s. These systems, known as Automatic Fingerprint
Identification Systems ("AFIS"), greatly improved the speed and efficiency of
fingerprint searches. Current AFIS systems are capable of performing several
thousand comparisons of fingerprints per second. These systems present a trained
fingerprint examiner with a short list of candidate prints from which the
examiner makes a final visual determination of whether two prints are identical.
AFIS systems are provided by a number of vendors, including NEC
Technologies, SAGEM MORPHO, Printrak International Inc., TRW and others. The
Company does not provide AFIS systems.
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With the introduction of AFIS systems, it became apparent that the quality
of fingerprints taken using the traditional paper-and-ink method was often not
adequate to meet the needs of this sophisticated technology. An unacceptably
high percentage of conventionally inked fingerprints could not be read properly
by AFIS systems because of poor image quality. In response to this problem,
Digital Biometrics and its competitors introduced sophisticated, computer-based
imaging systems to capture and digitize fingerprints. This process yields a much
higher level of so-called "minutia" points, which are the basis for the
identification techniques used by AFIS systems.
The Company's TENPRINTER(R) system consistently generates high quality
fingerprint data, which, at the user's option, may be transmitted over telephone
lines to AFIS sites, other databases or the FBI, or may be printed locally or at
remote locations on any number of card formats. The TENPRINTER system also
permits the booking officer to review the quality of the prints as they are
being taken, enabling the officer to screen out bad prints without having to
redo the entire fingerprint card, thus improving the productivity of the booking
process.
The Company's sales have historically included large purchases by a
relatively small number of customers. For the fiscal years ended September 30,
1998, 1997 and 1996, sales to two customers in 1998 accounted for 16% and 12%,
three customers in 1997 accounted for 17%, 14% and 12%, and two customers in
1996 accounted for 18% and 12%, respectively, of annual revenues. This
concentration of sales among few relatively large customers may continue in the
foreseeable future. Furthermore, the nature of the law enforcement market and
the government procurement process is expected to result in a continued
irregular and unpredictable revenue cycle in this business segment.
PRODUCTS
The TENPRINTER System
The Company's principal product, the TENPRINTER, is designed and marketed
mainly as an input device to AFIS systems. Several large companies produce and
sell AFIS systems, which are computerized central fingerprint database systems
capable of storing fingerprint information for an entire demographic unit such
as a city, county, state or country. AFIS systems are designed to facilitate the
work of a law enforcement agency's fingerprint technicians. An AFIS system is
capable of electronically comparing a given set of fingerprints against all
fingerprints in its database and producing a short list of potentially matching
candidate prints. A fingerprint technician then visually compares the AFIS
results with the fingerprints in question. Optimal use of an AFIS system depends
in part on the clarity of the fingerprint images that are input to the AFIS. The
TENPRINTER system consistently produces fingerprint images of higher clarity
than those achieved by conventional "paper-and-ink" methods and is being
marketed as a more accurate input to AFIS systems.
The TENPRINTER system is a computer-based, inkless live-scan system that
electronically captures a fingerprint and creates a digital image. Fingerprints
are captured by placing the fingers of a subject on a contact surface of an
optical assembly. The optical image is converted into a digital image by an
electronic photo-imaging detector. The digital image produced by the TENPRINTER
system may be sent directly to the AFIS site by means of telecommunications or
may be printed on a law enforcement agency's fingerprint card. In the gray-scale
printing technology available with the TENPRINTER system, the printed
fingerprint includes the nuances normally seen in a conventional "paper-and-ink"
fingerprint.
Prices of AFIS systems and live-scan systems vary widely depending on
configuration. AFIS systems cost from $500,000 to several million dollars, and
live-scan systems are priced between approximately $30,000 and $80,000 per unit.
The primary target market for the TENPRINTER is state and local law enforcement
agencies that have purchased, are purchasing, or have access to AFIS systems.
The assistance and support of the AFIS vendor is frequently important in the
sale and installation of live-scan systems.
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Law enforcement agencies submit one copy of a fingerprint card to the FBI
for every suspect charged with a felony. Over 8,500,000 such cards are submitted
to the FBI each year. As a result, the FBI plays an important role in the
fingerprint identification process in the United States. The FBI has put into
place an extensive testing process for live-scan systems. When a live-scan
system passes the testing process, the FBI will accept cards produced by that
live-scan for submission to the FBI's Identification Division and for retention
in the Division files. The Company's TENPRINTER system has received
accreditation under the FBI Image Quality Standards ("IQS"). To the best of the
Company's knowledge, competitors also have received or are in process of
receiving such approval. Regulatory standards such as IQS continue to evolve,
and there can be no assurance that Digital Biometrics will be able, without
significant cost and expense, to comply with future requirements.
The FBI has awarded contracts in connection with a multi-phase program of
its well-publicized fingerprint automation and revitalization project which,
when operational, will involve the paperless utilization of fingerprint data
and, ultimately, the capability to eliminate fingerprint cards at the FBI level.
The FBI has stated that 62,000 contributors currently submit fingerprint cards
to the FBI. The Company believes that when the FBI's new system becomes
operational, it may have a positive impact on demand for live-scan equipment.
DBI FingerPrinter CMSTM
The DBI FingerPrinter CMS ("CMS") is an integrated live-scan fingerprinting
system that captures prints and transmits fingerprints without the use of ink.
Through its smaller size and reduced cost, the CMS appeals to a wider range of
identification applications. The CMS is particularly well suited to applicant
processing and enrollment processing applications that need high standard
fingerprint captures -- without the rugged design and additional law enforcement
requirements of the TENPRINTER.
The CMS is expected to be fully FBI IQS compliant and can be used in a
networked environment. It includes proven AFIS interface capability, password
security and remote diagnostics.
Ancillary Products
The Company's TENPRINTER systems are normally configured in networked
environments. Digitized TENPRINTER fingerprint records, including fingerprint
images, mugshot images and demographics, are frequently transmitted to multiple
destinations such as central sites for printing and one or more criminal record
databases, including AFIS systems. The Company has developed several ancillary
products sold in conjunction with the TENPRINTER which facilitate central
printing and remote transmission of digitized fingerprint records. These systems
and functionalities are sold under the name "AFIS Communications Management
Systems" or ACMS. Digital Biometrics also offers various software programs,
which enhance the functionality of the TENPRINTER.
Also in 1998, the Company completed development of beta units of its Palm
Print Scanning subsystem for the TENPRINTER. This TENPRINTER option allows for
the optical capture of the entire palm side of the hand, meeting the Palm Print
Specifications outlined by the International Association for Identification. It
is expected that certain law enforcement customers will employ this technology
in the near future.
Other Products for Law Enforcement
The SQUID(R) system is a lightweight, portable, hand-held unit designed for
use in the police patrol car. The SQUID system captures "on-the-spot"
fingerprints which can then be relayed from the patrol car to a communications
center where identification can take place. This product will permit patrol
officers to obtain positive identification without transporting suspects to the
police station. The SQUID system is being
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designed and manufactured to specifications of the FBI NCIC 2000 project which
is currently planned to be operational in 1999. The SQUID system is now being
marketed on a limited basis.
The Company has also offered software development services and internally
developed mugshot products to a limited number of customers.
Single Fingerprint Capture Devices
Digital Biometrics has leveraged its expertise in forensic-quality
fingerprint capture technology to create two forensic-quality single fingerprint
capture devices, the FC-21TM and FC-22TM. The FC series single fingerprint
capture units have been marketed on a limited basis and are priced approximately
from $1,200 to $1,500 per unit.
ASSEMBLY, INSTALLATION AND MAINTENANCE
The Company's live-scan systems are assembled from purchased components at
its facility in Minnetonka, Minnesota. Other than prototypes, for which the
development time may vary, the time required for product delivery averages
approximately 60 days from the date a purchase order is received.
TENPRINTER systems are installed by DBI's employees or contractors.
Installation frequently requires implementation into customer network
configurations, many of which are complex. The Company has at times
underestimated the time and effort required for network installations resulting
in a negative financial impact on the Company. Management believes that these
problems have been largely addressed with respect to future installations
through improved assessment of installation requirements and changes in pricing
methods.
Digital Biometrics offers various levels of maintenance service for its
equipment, which are delivered by Company employees or third party maintenance
providers. Prior to fiscal 1998 these services were provided in the aggregate
below the Company's fully loaded cost. During fiscal 1998, management achieved
positive gross margin for these services.
SALES AND DISTRIBUTION
The Company sells live-scan products directly to end users through a direct
sales force and through partnering relationships with AFIS suppliers, including
NEC Technologies, TRW and SAGEM MORPHO. Relationships with AFIS vendors are an
important means of distribution to many customers and, consequently, are key to
the Company. Furthermore, live-scan products must deliver output to AFIS
systems, thereby requiring a technical relationship between Digital Biometrics
and AFIS suppliers to assure proper integration of live-scan systems with the
requirements of AFIS systems. See the section on "Competition" which follows.
COMPETITION
The market for live-scan systems is competitive. Live-scan products are
offered by several companies including Identix Inc., Heimann Biometric Systems
GmbH and Printrak International Inc. NEC Technologies is both a strategic
partner and, in certain circumstances, a competitor. The Company competes in the
live-scan market primarily on the basis of image quality, features, performance,
service and support, and price.
Continued growth in demand for live-scan fingerprint systems may attract
additional competition. The vendors of AFIS systems are logical participants in
the live-scan market, as evidenced by the entry of Printrak into the live-scan
market and the marketing by NEC Technologies of a live-scan product, the LS-21,
which includes features and components currently sourced from Identix. Other
AFIS vendors and other
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potential additional competitors could enter the law enforcement market, and may
have financial and other resources significantly greater than the Company's.
Also see "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Risk Factors."
SUPPLIERS
Digital Biometrics buys substantially all live-scan systems components from
outside suppliers for assembly and testing by the Company. Some of these
components are designed by the Company and/or are custom manufactured to its
specifications. Digital Biometrics may specify parts used in such components.
The Company inspects and tests incoming parts and components, and conducts test
and burn-in procedures on assembled finished products. Certain components used
in manufacturing live-scan systems are currently supplied by a single vendor to
obtain volume economies. Secondary sources are available but would take several
months to bring into production. Delays in product deliveries to customers could
occur until the secondary sources are secured.
The Company provides field maintenance services directly and through
subcontract arrangements with third parties.
INFORMATION TECHNOLOGY SERVICES
In December 1997, Digital Biometrics formed the Integrated Information
Solutions Division ("IIS") to provide information technology (IT) consulting
services to commercial clients. As of October 1998, this unit was formed into a
wholly owned subsidiary of the Company and renamed Integral Partners, Inc. The
business objective of this subsidiary is to provide high value IT services to
commercial clients, particularly those with complex client-server or three-tier
architecture data operations. The Company also believes that there may be
interest in integrating biometric identification techniques into commercial and
civil applications where the combination of DBI's IT services unit and its
biometrics products unit may provide a competitive advantage.
The Company believes that it has a strong basis for competition in the IT
services business. However, the information technology services business is
competitive and includes many firms with substantially greater resources than
that of the Company.
GAMING
Digital Biometrics has developed a prototype blackjack table wagering data
capture system called TRAK-21. The TRAK-21 system was developed to enable
casinos to track the wagering activity of its blackjack patrons as well as the
productivity of its tables and dealers. In March 1998, Digital Biometrics formed
a joint venture company with Grand Casinos, Inc. to commercialize the TRAK-21
technology. The Company has derived no revenues to date from the joint venture
or from this system. It is anticipated that if the system is successfully
productized, the joint venture company will market the system to the gaming
industry.
There are a variety of companies providing blackjack player tracking
information and capabilities to the gaming industry, the most prominent of which
is Mikohn Gaming Corporation. TRAK-21 uses high-level image processing for
automatically calculating wagers, which differentiates it from other systems,
including Mikohn's, which use table and chip sensors to track player wagering.
Components necessary for the manufacture of TRAK-21 systems are anticipated
to be primarily standard parts available from a variety of suppliers.
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PROPRIETARY TECHNOLOGY
The Company owns a federally registered trademark for the mark TENPRINTER,
the Company's mechanical hand logo, and SQUID. DBI has applied for trademark
registration for DBI FingerPrinter CMS and TRAK-21. The Company also claims
trademark rights in the product names FC-5, FC-6, FC-7, FC-11, FC-21 and FC-22,
but has not filed federal trademark applications for such marks.
Digital Biometrics owns several U. S. patents and has U. S. patent
applications pending which cover technology currently employed in its products.
The Company has also filed for patent protection in several foreign countries.
Although additional features of the Company's products may be patentable, DBI
has chosen to preserve these features as trade secrets rather than applying for
patent protection. The Company has obtained signed confidentiality agreements
from all employees and from independent consultants who have access to
confidential information.
ENGINEERING AND DEVELOPMENT
The Company incurred engineering and development expenses for new product
and services development and enhancements to existing products. For the fiscal
years ended September 30, 1998, 1997 and 1996, the Company's engineering and
development expenses, excluding depreciation and amortization, were $2,907,000,
$2,526,000, and $4,570,000, respectively.
BACKLOG
At September 30, 1998, the Company's backlog of orders for TENPRINTER
systems and related products was approximately $5,465,000, as compared to a
backlog of approximately $2,282,000 at September 30, 1997.
EMPLOYEES
At November 30, 1998, the Company employed 89 persons on either a full-time
or part-time basis, none of whom is represented by a union. Of these persons,
five have general management responsibilities and the remainder perform sales,
marketing, engineering, customer service, assembly, or administrative functions.
The Company utilizes additional individuals to perform services on a part-time
or a consulting basis as needed. Personnel will be hired in the future as the
Company deems necessary. The Company believes that its employee relations are
good.
All DBI employees have executed agreements which provide for the
confidentiality of Company proprietary information and the ownership by the
Company of inventions developed using the Company's resources.
ITEM 2. PROPERTIES
Digital Biometrics does not own any real properties. The Company's primary
offices and facilities are located in approximately 26,000 square feet of space
in an industrial park at 5600 Rowland Road, Minnetonka, Minnesota. The space is
occupied under a lease expiring on April 30, 2001, and is believed to be
adequate for the Company's current business needs.
The Company leases approximately 8,000 square feet of space in a facility
in Maple Grove, Minnesota, for its wholly owned subsidiary, Integral Partners,
Inc., under an operating lease expiring in June 2003.
A field service and sales office is located in Anaheim, California, in
approximately 3,400 square feet of space in an industrial office park. This
space is occupied under a lease expiring in December 1998. This lease is a
year-to-year arrangement, and is currently under negotiation for renewal.
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ITEM 3. LEGAL PROCEEDINGS
On June 1, 1995, the Company filed a complaint for patent infringement
against Identix, Inc., of Sunnyvale, California, in the U.S. District Court for
the Northern District of California. The complaint alleged that Identix
willfully and deliberately infringed a DBI patent through the manufacture, use
and/or sale of competing products.
On August 27, 1996, the judge assigned to the case granted a partial
summary judgment in favor of Identix, dismissing the Company's claims of patent
infringement with respect to Identix's Touchprint 600 product line. A
predecessor product, the Touchprint 900, received a similar ruling in favor of
Identix on December 20, 1996. In January 1997 the Company filed an appeal of the
court's decision of non-infringement to the U.S. Court of Appeals for the
Federal Circuit in Washington, D. C. On October 8, 1997, the appeal was argued
before the Court. On July 2, 1998, the U.S. Court of Appeals upheld the earlier
ruling of the Federal District Court that Identix, Inc. has not infringed on the
Company's patents. Digital Biometrics did not appeal this ruling and anticipates
no further charges for legal or other expenses related to the disposition of
this litigation.
There are no material lawsuits pending or, to the Company's knowledge,
threatened against Digital Biometrics.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the stockholders during the three
months ended September 30, 1998.
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PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
MARKET INFORMATION. The Company's Common Stock is traded on The Nasdaq
National Market under the symbol "DBII." The following closing price information
is provided for quarterly periods for the past two fiscal years.
High Low
Fiscal Year ended September 30, 1998
First Quarter $2.50 $1.25
Second Quarter 2.13 1.16
Third Quarter 2.66 1.56
Fourth Quarter 2.56 .97
Fiscal Year ended September 30, 1997
First Quarter $3.88 $2.13
Second Quarter 2.94 1.81
Third Quarter 2.81 1.50
Fourth Quarter 2.69 1.56
As of November 30, 1998, the Company had an aggregate of approximately
5,800 record holders and beneficial holders of its Common Stock. The closing
price of its Common Stock on November 30, 1998, as reported by The Nasdaq
National Market System was $1.75.
DIVIDEND POLICY. Holders of Common Stock are entitled to such dividends as
may be declared from funds legally available for such purpose by the Board of
Directors in its sole discretion. The Company has never paid a dividend on its
Common Stock and it is not anticipated that dividends will be paid in the
foreseeable future. If and to the extent that any operating profits are
realized, the Company intends to retain such profits for operating purposes.
TRANSFER AGENT. The Transfer Agent and Registrar for the Company's Common
Stock is Norwest Bank, Minneapolis, Minnesota.
RECENT SALES OF UNREGISTERED SECURITIES.
(a) Issuance of Warrants for Services. In consideration of services
rendered or to be rendered, the Company issued warrants to purchase its Common
Stock to the following persons or companies:
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RELATIONSHIP NUMBERS OF EXERCISE ISSUE OR
NAME TO COMPANY SHARES PRICE EFFECTIVE DATE
----------------------------- ------------------- ------------- ----------- --------------------
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Dennis Wendell Consultant 150,000 $1.875 October 23, 1997
Jeffrey Whalen Consultant 50,000 1.875 October 23, 1997
Joseph VanLoy Consultant 50,000 1.875 October 23, 1997
Andcor Companies, Inc. Consultant 15,000 2.600 October 1, 1998
</TABLE>
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The issuance of warrants to Messrs. Wendell, Whalen and VanLoy were
disclosed in the Company's Form 10-K for the fiscal year ended September 30,
1997.
All of the foregoing warrants were issued directly by the Company in
reliance on Section 4(2) of the Securities Act of 1933, as amended, (the "Act").
The warrants issued to Messrs. Wendell, Whalen and VanLoy expire on August 17,
2002, and the warrant issued to Andcor Companies, Inc. expires on September 30,
2003.
(b) Restrictions. The foregoing securities are restricted as to sale or
transfer, unless registered under the Act, and the certificates issued or to be
issued upon exercise thereof will contain restrictive legends preventing sale,
transfer or other disposition unless registered under the Act.
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ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data of the Company as of and for each of
the years in the five-year period ended September 30, 1998, has been derived
from financial statements audited by KPMG Peat Marwick LLP, independent
certified public accountants. The selected financial data should be read in
conjunction with "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and the audited financial statements and notes
thereto included elsewhere in this Form 10-K.
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
--------------------------------------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
<S> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues $ 11,322,691 $ 11,419,358 $ 8,327,272 $ 9,098,014 $ 8,005,390
Cost of revenues 8,516,958 8,811,271 6,181,481 5,273,412 4,997,103
Cost of revenues - non-recurring charges - 1,529,118 - - -
--------------------------------------------------------------------------------
Gross margin 2,805,733 1,078,969 2,145,791 3,824,602 3,008,287
--------------------------------------------------------------------------------
Expenses:
Sales and marketing 2,026,667 2,057,099 3,369,441 2,394,916 1,786,075
Engineering and development 2,907,134 2,526,346 4,569,751 2,854,592 3,618,385
Depreciation and amortization 394,655 319,536 1,049,584 529,687 480,981
General and administrative 1,753,123 2,043,954 2,753,444 1,700,017 1,296,864
Non-recurring charges - 330,319 - - -
--------------------------------------------------------------------------------
Total expenses 7,081,579 7,277,254 11,742,220 7,479,212 7,182,305
--------------------------------------------------------------------------------
Loss from operations (4,275,846) (6,198,285) (9,596,429) (3,654,610) (4,174,018)
Other income (expense) (612,586) (77,109) (2,090,474) 330,055 376,703
--------------------------------------------------------------------------------
Net loss $(4,888,432) $(6,275,394) $(11,686,903) $(3,324,555) $(3,797,315)
================================================================================
Net loss per common share $(0.38) $(0.53) $(1.24) $(0.43) $(0.49)
================================================================================
Weighted average common shares 12,748,140 11,766,220 9,451,015 7,814,144 7,696,551
================================================================================
AS OF SEPTEMBER 30,
--------------------------------------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
BALANCE SHEET DATA:
Cash and cash equivalents $ 840,616 $1,891,397 $ 466,990 $ 367,866 $ 592,971
Accounts receivable, net 4,352,197 5,161,356 5,676,849 4,494,301 4,575,807
Inventory 2,848,421 2,294,593 3,633,659 1,875,682 2,539,479
Working capital 3,783,401 6,131,758 5,506,587 13,493,690 11,864,794
Total assets 9,418,461 10,699,238 17,309,371 25,451,666 15,846,448
Long-term obligations 997,957 - 2,374,739 8,863,578 -
Total liabilities 5,470,349 3,533,990 6,853,999 12,362,412 2,077,368
Stockholders' equity 3,948,112 7,165,248 10,455,372 13,089,254 13,769,080
</TABLE>
The Company has paid no cash dividends on its Common Stock.
13
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF
OPERATIONS
GENERAL
As more fully described in the subsection appearing below titled "Risk
Factors," this report contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. These include statements regarding
intent, belief or current expectations of the Company and its management and are
made in reliance upon the "safe harbor" provisions of the Securities Litigation
Reform Act of 1995. Shareholders and prospective investors are cautioned that
any such forward-looking statements are not guarantees of future performance and
involve a number of risks and uncertainties that may cause the Company's actual
results to differ materially from the results discussed in the forward-looking
statements.
The principal business of Digital Biometrics, Inc. is the development,
manufacture, marketing and integration of computer-based products and services
for the identification of individuals.
The law enforcement market and government procurement processes are subject
to budgetary, economic and political considerations which may vary significantly
from state to state and among different agencies. These market characteristics,
along with the recent and continuing development of and competition within the
live-scan electronic fingerprint industry, have resulted in and are expected to
continue to result in an irregular revenue cycle for the Company; any prediction
of future trends is inherently difficult.
The Company generally recognizes product sales on the date of shipment for
orders which are f.o.b. origin and upon delivery for f.o.b. destination,
although recognition at some later milestone is not uncommon based on the terms
of specific customer contracts. Revenue for professional services contracts and
systems integration services revenues are recognized using the percentage of
completion method or on a time-and-materials basis. The Company's standard terms
of sale are payment due net in thirty days, f.o.b. Digital Biometrics, Inc.
Terms of sale and shipment for certain procurements by municipal or other
government agencies may, however, be subject to negotiation which consequently
may affect the Company's timing and criteria for revenue recognition. Revenue
under contracts where a performance bond, collateral or customer acceptance is
required is not recognized until collateral requirements have been satisfied and
customer acceptance has occurred.
Maintenance revenues are recognized over the life of the contract on a
straight-line basis.
RESULTS OF OPERATIONS
FISCAL 1998 COMPARED TO 1997
Total revenues in 1998 of $11,323,000 decreased slightly from 1997 revenues
of $11,419,000. The decrease in total revenues was due primarily to a decrease
in the number of TENPRINTER systems sold, partially offset by a 54% increase in
maintenance revenues and the addition of systems integration revenues. The
decrease in identification systems product revenues to $8,078,000 in 1998 from
$9,712,000 in 1997 resulted from a decrease in the number of TENPRINTER systems
sold, partially offset by reduced volume and trade-in discounts and increased
professional services revenues. Product maintenance revenues increased to
$2,625,000 in 1998 from $1,707,000 in 1997, due primarily to a larger installed
base of TENPRINTER systems covered by maintenance agreements, increases in
maintenance rates effective with maintenance contract renewals, and an increase
in "time and materials" and similar maintenance revenues. Systems integration
revenues were $619,000 for 1998. There were no systems integration revenues for
the prior year. Systems integration revenues were generated from the Company's
wholly owned subsidiary, Integral Partners, Inc. (formerly the Integrated
Information Solutions Division) which began operations during the first quarter
of fiscal 1998.
14
<PAGE>
Sales to two customers in 1998 accounted for 16% and 12% of total revenues.
Sales to three customers in 1997 accounted for 17%, 14% and 12% of total
revenues.
Gross margins for 1998 and 1997 were 25% and 9% of revenues, respectively.
Gross margin for 1997 includes non-recurring charges of $1,529,000 ($0.13 per
share) recognized during the third quarter comprised of $838,000 of inventory
adjustments substantially due to technical obsolescence, $524,000 of warranty
reserve funding for warranty items mainly associated with the introduction and
rollout of the S-Series, $132,000 for estimated committed losses on maintenance
contracts, and $35,000 for the write-off of tooling.
Gross margins on identification system product revenues were 26% in 1998
compared to 19% in 1997 (including the impact of the relevant 1997 non-recurring
charges). This increase is due primarily to the impact of 1997 non-recurring
charges and reduced volume and trade-in discounts, offset by higher engineering
product support costs and higher installation and warranty accruals in fiscal
1998.
Product maintenance margins for 1998 and 1997 were 16% and (47%) of
maintenance and support revenues, respectively, (including the impact of
relevant 1997 non-recurring charges). The substantial improvement in maintenance
margins is due mainly to the favorable impact of higher revenues and initiatives
to reduce cost and improve efficiency.
Systems integration margins for 1998 were 44% of systems integration
revenues from operations which began during the first quarter of fiscal 1998.
Sales and marketing expenses for 1998 and 1997 were 18% of total revenues.
Sales and marketing expenses for 1998 include higher costs for international
marketing activity and higher accruals for doubtful accounts, which were more
than offset by $256,000 of reduced introductory S-Series promotional costs
during fiscal 1997.
Engineering and development expenses increased to 26% of total revenues in
1998 from 22% in 1997. This increase is largely due to additional
personnel-related costs and setup costs associated with the establishment of
Integral Partners, Inc. and increased amortization and write-offs of intangible
assets, partially offset by reduced development costs for the TRAK-21 product as
a result of the joint venture with Grand Casinos, Inc. and additional
allocations to product cost of sales.
General and administrative expenses in 1998 decreased to 15% of total
revenues from 18% in 1997 primarily due to reduced legal costs of a patent
infringement suit brought by the Company against a competitor.
Operating expenses during fiscal 1997 include non-recurring and non-cash
charges of $330,000 recognized during the third quarter for the write-off of
assets with no future value and, to a lesser extent, equipment disposals.
Interest income decreased to $47,000 in fiscal 1998 from $230,000 in fiscal
1997, primarily as a result of lower balances of cash and marketable securities.
Interest expense increased to $594,000 in fiscal 1998 from $300,000 in fiscal
1997, primarily due to non-cash charges of $500,000 during fiscal 1998 for the
intrinsic value of the beneficial conversion feature of the 1997 Convertible
Debentures, partially offset by lower interest charges from lower borrowings
under lines of credit during fiscal 1998.
15
<PAGE>
FISCAL 1997 COMPARED TO 1996
Total revenues in 1997 increased by 37% to $11,419,000 from $8,327,000 in
1996, due primarily to an increase in the number of TENPRINTER systems sold,
partially offset by volume and trade-in discounts. The increase in
identification systems product revenues from $6,821,000 in 1996 to $9,712,000 in
1997 resulted from an increase in sales of TENPRINTER systems, partially offset
by volume and trade-in discounts. Product maintenance and service revenues
increased from $1,506,000 in 1996 to $1,707,000 in 1997, due primarily to a
larger installed base of TENPRINTER systems. Sales to three customers in 1997
accounted for 17%, 14% and 12% of total revenues. Sales to two customers in 1996
accounted for 18% and 12% of total revenues.
Gross margins for 1997 and 1996 were 9% and 26% of revenues, respectively.
Gross margin for 1997 includes non-recurring charges of $1,529,000 ($0.13 per
share) recognized during the third quarter comprised of $838,000 of inventory
adjustments substantially due to technical obsolescence, $524,000 of warranty
reserve funding for warranty items mainly associated with the introduction and
rollout of the S-Series, $132,000 for estimated committed losses on maintenance
contracts, and $35,000 for the write-off of tooling. Gross margin for 1996
includes a write-off of $350,000 for excess field service spare parts related to
previous generations of TENPRINTER products.
Gross margins on identification system product revenues were 19% in 1997
compared to 44% in 1996 (including the impact of the relevant 1997 non-recurring
charges). This decrease is due primarily to the impact of 1997 non-recurring
charges, volume discounts offered to certain customers, and higher installation
and warranty costs on S-Series TENPRINTER systems.
Product maintenance and support margins for 1997 (including the impact of
relevant 1997 non-recurring charges) and 1996 were (47%) and (57%) of
maintenance and support revenues, respectively. Product maintenance costs for
1996 include a write-off of $350,000 for excess field service spare parts
related to previous generations of TENPRINTER products.
Sales and marketing expenses decreased to 18% of total revenues in 1997
from 40% in 1996, due primarily to higher revenues, reduced demonstration
equipment expense, reduced charges for the allowance for doubtful accounts and,
to a lesser extent, a reduction in personnel and related expenses during fiscal
1997. Sales and marketing expenses in 1996 include a write-off of $282,000
related to previous generation TENPRINTER system demonstration equipment and a
charge of $540,000 related to an increase for the allowance for doubtful
accounts.
Engineering and development expenses decreased to 22% of total revenues in
1997 from 55% in 1996 largely due to increased revenues and lower S-Series and
TRAK-21 development expenses. Engineering and development expenses during 1996
include charges of $374,000 related to adjustments of unreimbursed manufacturing
setup costs of an international development project, and are net of
reimbursements for international development costs of $88,000.
Depreciation and amortization costs for 1996 include a write-off of
$549,000 for unamortized software of information systems products no longer
actively marketed.
General and administrative expenses in 1997 decreased to 18% of total
revenues from 33% in 1996 primarily due to higher revenues, reduced legal costs
of a patent infringement suit brought by the Company against a competitor and a
1996 charge of $380,000 related to CEO transition costs.
Operating expenses during fiscal 1997 include non-recurring and non-cash
charges of $330,000 recognized during the third quarter for the write-off of
assets with no future value and, to a lesser extent, equipment disposals.
16
<PAGE>
Interest income decreased to $230,000 in fiscal 1997 from $586,000 in
fiscal 1996, primarily as a result of lower balances of marketable securities.
Interest expense decreased to $300,000 in fiscal 1997 from $2,676,000 in fiscal
1996, primarily due to a non-cash charge of $1,924,000 during fiscal 1996 for
the intrinsic value of the beneficial conversion feature of the 1995 Convertible
Debentures, and to a lesser extent, conversions of the 1995 Convertible
Debentures.
INFLATION
The Company does not believe inflation has significantly impacted revenues
or expenses.
NET OPERATING LOSS CARRYFORWARDS
At September 30, 1998, the Company had carryforwards of net operating
losses of approximately $35,400,000 that may allow the Company to reduce future
income taxes that would otherwise be payable. Of this amount, approximately
$2,200,000 relates to compensation associated with the exercise of non-qualified
stock options which, when realized, would result in approximately $880,000
credited to additional paid-in capital. The carryforwards expire annually
beginning in 1999. The annual limitation on use of net operating losses is
calculated by multiplying the value of the corporation immediately prior to the
change in ownership by the long-term federal tax exempt rate. A total of
$3,700,000 of the net operating loss carryforwards at September 30, 1998, is
subject to an annual net operating loss limitation, estimated at $350,000,
resulting from the change in control of the Company which occurred, for income
tax purposes, on December 14, 1990, the date of the Company's initial public
offering. If the limited carryforward amount for any tax year exceeds the
regular taxable income for such year, then the unused portion may generally be
carried forward to increase the annual limitation for the following year.
Utilization of net operating losses aggregating $31,700,000 which were incurred
subsequent to the change of ownership are not limited. However, any future
ownership change could create a limitation with respect to these loss
carryforwards.
LIQUIDITY AND CAPITAL RESOURCES
GENERAL
For the period from the Company's inception in 1985 through September 30,
1998, the Company's cumulative deficit was $40,211,000. Losses are expected to
continue until revenues and gross margin from sales of the Company's current and
future products and services are sufficient to cover the level of operating
expenses required for the Company's operations.
The Company's business has included large contract awards from
international, state and local law enforcement agencies and it is expected that
this will continue. Collection of receivables related to billings of these
contract amounts is often protracted.
On September 29, 1998, the Company entered into an inventory and
receivables financing line of credit for the lesser of eligible inventory and
receivables or $2,000,000 with SPECTRUM Commercial Services. This line replaced
an existing line of credit with another lender. All assets of the Company secure
borrowings under this line of credit. The line bears interest at an initial rate
of 4% above the prime rate, and may be reduced to 3 1/4% or 2 1/2% above the
prime rate if certain net income milestones are met. The line bears a minimum
interest charge of $5,200 per month. The line is payable upon demand and expires
in September 2000.
Due primarily to continuing operating losses, the Company has not yet
achieved positive cash flow. The Company has been and continues to be reliant on
the availability of outside capital to sustain its operations. Management
believes that cash and cash equivalents, accounts receivable and working capital
provided from operations, together with available financing sources, are
sufficient to meet current and foreseeable
17
<PAGE>
operating requirements. Risks related to the Company's ability to maintain
adequate working capital and liquidity include the continued availability of
credit under the Company's line of credit, the availability of vendor credit,
and payment by customers of accounts receivable at such times and in such
amounts as to enable the Company to meet its payment obligations. Furthermore,
there can be no assurance that further financing may not be required, or, if
further financing is required, that it will be available on terms that are
acceptable or favorable to the Company.
ISSUANCE OF 8% CONVERTIBLE SUBORDINATED DEBENTURES AND WARRANTS
On December 1, 1997 the Company entered into a convertible subordinated
debenture purchase agreement ("Purchase Agreement") with a private investor,
providing for the Company's issuance and sale of up to an aggregate of
$2,500,000 of 8% Convertible Subordinated Debentures ("Debentures") in tranches
of $500,000 each. The first four tranches were funded during fiscal 1998. The
fifth tranche was funded in November 1998. The Debentures sold are convertible
in whole or in part at the option of the holder, with accrued interest, into
shares of the Company's Common Stock, in each case at a conversion price equal
to the lesser of (a) 80% of the average closing bid price on the five
consecutive trading days preceding the conversion date, or (b) (i) $1.96 (for
the first tranche), (ii) $1.36 (for the second tranche), (iii) $2.23 (for the
third tranche), (iv) $1.49 (for the fourth tranche), and (v) $1.35 (for the
fifth tranche). The Company has the right, exercisable at any time upon two
trading days notice to the purchaser of the Debentures given at any time the
Company receives a conversion notice and the conversion price in effect in
connection with such conversion notice is less than $1.25, to repay all or any
portion of the outstanding principal amount of the Debentures which have been
tendered for conversion, at a price equal to the sum of 120% of the aggregate
principal amount of Debentures to be repaid. In connection with the Purchase
Agreement, the Company has issued to the purchaser of the Debentures, warrants
to purchase 75,000 shares of Common Stock at $2.50 per share. Also in connection
with the transaction, the Company paid $40,000 of commission and applicable
legal fees for each tranche to an investment banking firm and issued a warrant
to purchase 125,000 shares of Common Stock at an exercise price of $2.00 per
share. The estimated value of this warrant is $87,500, which has been accounted
for as debt issuance costs, amortized to interest expense over the term of the
Debentures issued with the first tranche. The intrinsic value of the beneficial
conversion feature of each tranche is $125,000 and has been allocated to
additional paid-in capital and a non-cash interest expense charge to earnings
over the vesting period of the conversion feature. Net proceeds to the Company
are being used for working capital, business development and other general
corporate purposes.
During fiscal 1998, the Company has issued 1,195,527 shares of Common Stock
for the conversion of principal aggregating $1,100,000 of the 1997 Convertible
Debentures plus $25,469 of accrued interest at an average conversion price of
$0.94 per share.
ANALYSIS OF CASH FLOWS FROM OPERATIONS
Net cash used in operating activities was $2,607,000 and $2,652,000 for the
years ended September 30, 1998 and 1997, respectively. The decrease in cash used
in operating activities was primarily a result of the decreased net loss in
fiscal 1998 adjusted for changes in operating assets and liabilities. Cash
provided from changes in operating assets and liabilities changed to $929,000 in
fiscal 1998 from $804,000 in fiscal 1997, excluding the effect of non-recurring
charges. This $125,000 change in cash flow from operating assets and liabilities
reflected improved collections of accounts receivable, increased inventory and
accounts payable balances to support the Company's increased backlog, and
increased deferred revenues and other accrued expenses as a result of increased
maintenance billings and increased installation accruals, respectively, during
the current-year period.
18
<PAGE>
Net cash used in investing activities was $361,000 for the year ended
September 30, 1998, as compared with $5,289,000 of net cash provided by
investing activities for the year ended September 30, 1997. The change was
primarily due to a decrease in proceeds from sales of marketable securities, and
to a lesser extent, increased capital expenditures in fiscal 1998 to support
establishment of Integral Partners, Inc.
Net cash provided by financing activities was $1,918,000 for the year ended
September 30, 1998, as compared to net cash used in financing activities of
$1,213,000 in 1997. This $3,131,000 change is due primarily to $1,809,000 from
the issuance of 8% Convertible Subordinated Debentures during the current year
as noted above and in Note 8, and payments made under lines of credit during the
year ended September 30, 1997.
At September 30, 1998, the Company had $841,000 in cash and cash
equivalents. Borrowings under lines of credit were $112,000 at September 30,
1998.
YEAR 2000 IMPACT
Computers, software and other equipment utilizing microprocessors that use
only two digits to identify a year in a date field may be unable to accurately
process certain date-based information, including correct leap year recognition,
at or after the year 2000. This is commonly referred to as the "Year 2000"
problem. Digital Biometrics is evaluating its situation regarding the potential
impact of Year 2000 problems on its business.
INTERNAL SYSTEMS
The Company is evaluating and reviewing all the Company's internal systems
that could pose Year 2000 risks in order to correct issues as they are
identified. The Company is requesting Year 2000 readiness statements from each
of its major suppliers of hardware and software products used for internal
business applications, including computer and network equipment, telephone
equipment, facility date-sensitive hardware, process date-sensitive hardware,
and software. The Company will continue to review internal system requirements
and to correct Year 2000 deficiencies as they are identified.
The Company presently believes that the majority of its internal
information systems are Year 2000 compliant, in that they will be able to
distinguish accurately between 20th century and 21st century dates, and that the
costs of converting or replacing those that are not Year 2000 compliant will not
have a material adverse effect on the Company's financial position or results of
operations. However, there can be no assurance that unforeseen difficulties or
costs will not arise. Furthermore, the information systems of the Company's
suppliers and customers may not be Year 2000 compliant, and it is possible that
various business functions which require the interaction of the Company's
systems with those of suppliers or customers will fail or malfunction in the
Year 2000.
The potential impact and related costs of the failure of the Company's
information systems suppliers to address Year 2000 issues in the products
supplied to the Company is not known at this time, but such failure may have a
material adverse impact on DBI. The Company believes that hardware and software
products for its internal systems are available for purchase from alternative
suppliers should its current vendors fail to conform to Year 2000 compliance.
VENDOR PRODUCTS FOR MANUFACTURING
The Company is also in the process of contacting its critical suppliers,
manufacturers, and other vendors to determine if their operations and the
products and services that they provide to the Company are Year 2000 compliant.
Where practicable, the Company will attempt to lessen its risks with respect to
the failure of third parties to be Year 2000 ready, including developing
contingency plans where practicable. However, such failure, including failures
of any contingency plans, remains a possibility and could have a materially
adverse impact on the Company's results of operations or financial condition.
19
<PAGE>
COMPANY PRODUCTS
Management believes that all of the Company's products shipped beginning
January, 1999, are and will continue to be Year 2000 compliant. The Company is
evaluating products sold prior to this date for Year 2000 suitability, the
specific nature of possible non-compliance, and the potential impact on DBI's
customers. Upon completion of this evaluation, the results will be communicated
to the Company's customers in writing. The Company presently anticipates that
the evaluation will be completed and results communicated to customers by
January 31, 1999.
Based on results of tests to date, the Company has concluded that 1133S
TENPRINTER systems shipped prior to January, 1999, are not Year 2000 compliant
with respect to certain date-sensitive functions, but can be made compliant with
software modifications. These modifications require changes to the operating
system of the affected products. The 1133S operating system is sourced from an
outside vendor, and then augmented by DBI to meet the particular requirements of
DBI's products. Thus, achieving Year 2000 compliance requires obtaining certain
operating system modifications from the operating system vendor, which are in
turn incorporated by the Company into its applications, and then distributed by
the Company to its customers and installed. Year 2000 upgrades for the 1133S
TENPRINTER will be provided to customers with DBI maintenance agreements free of
any additional charge. Owners of non-compliant 1133S TENPRINTER systems that do
not have maintenance agreements with the Company may purchase Year 2000 upgrade
software and installation services from the Company.
In addition, based on test results to date, the Company has also determined
that models of the TENPRINTER prior to the 1133S are not Year 2000 compliant
with respect to certain date-sensitive functions. The Company is testing Year
2000 compliance on legacy software releases on a product-by-product basis, and
will communicate to customers the specific functions which may not perform
properly. As with the 1133S, the underlying operating systems of prior models of
the TENPRINTER were sourced from outside vendors. These operating systems are no
longer being supported by the vendors. Thus, no vendor assistance for Year 2000
upgrading is available to Digital Biometrics, making the task of upgrading these
operating systems for Year 2000 compliance very difficult and uneconomical. Some
customers may continue to use non-compliant TENPRINTERs by avoiding the use of
non-compliant date-sensitive functions. To the best of the Company's knowledge
as of the date of this filing, the Company has no obligation to upgrade models
of its TENPRINTER product prior to the 1133S to Year 2000 compliance, and the
Company has no present plans to develop or offer any such upgrades. In the event
that the Company is required to offer Year 2000 compliance on TENPRINTER systems
prior to the 1133S without compensation, the Company may be materially adversely
affected. Customers with non-compliant systems may purchase the Company's
TENPRINTER 1133S or DBI FingerPrinter CMS systems.
It is possible that the Company's revenue may be adversely affected if
current and prospective customers divert spending to correct or replace
information systems which are not Year 2000 compliant.
COST OF YEAR 2000 COMPLIANCE TO THE COMPANY
The estimated cost of the Company's software development to assure Year
2000 compliance of its 1133S TENPRINTER and future DBI products will be in the
range of $50,000 to $75,000. The Company believes that most Year 2000 compliance
upgrades to be provided to customers under maintenance agreements can be
installed by modem, with only a limited number of on-site customer installations
required. The Company believes that the cost to implement the software upgrades
will be between $100,000 to $150,000 in total. If unplanned development issues
or unplanned customer installation problems arise, the cost to complete Year
2000 compliance may exceed these estimates and have a material adverse effect on
the Company's results of operations.
20
<PAGE>
The Company is creating a web site at www.digitalbiometrics.com containing
additional information about the Year 2000 issue and the Company's compliance
program.
Achieving Year 2000 compliance is dependent on a number of factors, many of
which are not within the Company's control. In the event that the above
assessment of the Company's situation regarding Year 2000 issues is found to be
incorrect on subsequent analysis, the Company's business and its results of
operations may be materially adversely affected.
NEW ACCOUNTING PRONOUNCEMENTS
During 1998, the Financial Accounting Standards Board (FASB) issued SFAS
No. 130 "Reporting Comprehensive Income" and SFAS No. 131 "Disclosures about
Segments of an Enterprise and Related Information." These standards which are
effective in the Company's fiscal 1999, revise related disclosures. There will
be no impact on the Company's financial position, results of operations, or cash
flows from adoption of these standards.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS 133 is effective for the Company's
fiscal 2000. The impact of adoption on the Company's financial statements has
not yet been determined.
RISK FACTORS
Information or statements provided by the Company from time to time,
including statements contained in this Form 10-K, may contain certain
"forward-looking information" including comments regarding anticipated future
operations, market opportunities, operating results and financial performance of
the Company. The risk factors provided below are being made pursuant to the
provisions of the Private Securities Litigation Reform Act of 1995 (the "Reform
Act") and with the intention of obtaining the benefits of the "safe harbor"
provisions of the Reform Act for such forward-looking information.
The Company cautions readers that any forward-looking information provided
by the Company is not a guarantee of future performance. Any such
forward-looking information is subject to risks and uncertainties that may cause
actual results to differ materially from those anticipated. Furthermore, the
Company assumes no obligation to update such forward-looking information.
GENERAL
Among the most significant of these risks and uncertainties is the ability
of the Company to:
o Achieve operating profitability;
o Develop and introduce new products and services;
o Build profitable revenue streams around these new offerings;
o Maintain the loyalty and continued purchasing of the Company's
products by existing customers;
o Execute on customer commitments, including the fulfillment of delivery
and installation schedules, and the implementation on time and within
specifications of special features and functionality required by
various customer contracts;
o Collect outstanding accounts receivable and manage the concentration
of credit and payment timing risks particularly regarding large
customers;
o Maintain adequate working capital and liquidity, including the
availability of additional financing as may be required;
o Create and maintain satisfactory distribution and operations
relationships with AFIS vendors;
o Attract and retain key employees; and
o Secure the timely and cost-effective availability of components.
21
<PAGE>
YEAR 2000
As stated above in "Management's Discussion and Analysis - Year 2000
Impact," the Company's assessment of the Year 2000 problem as it relates to its
internal systems, vendors and products includes estimated costs to achieve Year
2000 compliance. These costs may differ significantly from actual costs and may
materially and adversely affect the financial results of the Company. Also, the
potential impact of Year 2000 matters on the Company's product and maintenance
revenues is not known at this time. Furthermore, the Company's financial results
may be adversely affected by the impact on the Company of Year 2000 problems
experienced by its suppliers.
INCREASED COMPETITION
Markets for the Company's products and services are characterized by
significant and increasing competition. The Company's financial results may be
adversely affected by the actions of existing and future competitors, including
the development of new technologies, the introduction of new products, and price
reductions by such competitors to gain or retain market share.
WORKING CAPITAL AND LIQUIDITY
Due primarily to continuing operating losses, the Company has not yet
achieved positive cash flow. The Company has been and continues to be reliant on
the availability of outside capital to sustain its operations. Management
believes that cash and cash equivalents, accounts receivable and working capital
provided from operations, together with available financing sources, are
sufficient to meet current and foreseeable operating requirements. Risks related
to the Company's ability to maintain adequate working capital and liquidity
include the continued availability of credit under the Company's line of credit,
the availability of vendor credit, and payment by customers of accounts
receivable at such times and in such amounts as to enable the Company to meet
its payment obligations. Furthermore, there can be no assurance that further
financing may not be required, or, if further financing is required, that it
will be available on terms that are acceptable or favorable to the Company.
LAW ENFORCEMENT MARKET CHARACTERISTICS RESULT IN IRREGULAR REVENUE CYCLES
The Company's performance in any one reporting period is not necessarily
indicative of sales trends or future performance. Law enforcement and other
government agencies are subject to political and budgetary constraints and the
nature of the law enforcement market and government procurement processes are
expected to continue to result in irregular and unpredictable revenue cycles for
the Company. In many instances, customer procurements are dependent on the
continued availability of state or federal government grants and general tax
funding.
LOCAL GOVERNMENTAL CREDIT CONSIDERATIONS
The Company extends substantial credit to state and local governments in
connection with sales of products to law enforcement agencies. Approximately
71%, and 89%, respectively, of customer accounts receivable at September 30,
1998 and 1997 were from government agencies, of which 42% and 39%, respectively,
were from a single customer. For the years ended September 30, 1998, 1997 and
1996, sales to two customers in 1998 accounted for 28%, three customers in 1997
accounted for 43%, and two customers in 1996 accounted for 30% of annual sales.
Sales to sizeable customers requiring large and sophisticated networks of
TENPRINTER systems and peripheral equipment often include technical requirements
which may not be fully known at the time requirements are specified by the
customer. In addition, contracts may specify performance criteria which must be
satisfied before the customer accepts the products and services. Collection of
accounts receivable may be dependent on completion of customer
22
<PAGE>
requirements, which may be unpredictable and not fully understood at the time of
acceptance of the order by the Company, and may involve investment of additional
Company resources. These investments of additional resources are accrued when
amounts can be estimated but may be uncompensated and negatively impact profit
margins and the Company's liquidity.
NEED TO UPGRADE PRODUCTS AND DEVELOP NEW TECHNOLOGIES
Continued participation by the Company in the law enforcement market for
live-scan systems may require the investment of Company resources in upgrading
of the Company's products and technology for the Company to compete and to meet
regulatory and statutory standards. There can be no assurance that such
resources will be available to the Company or that the pace of product and
technology development established by management will be appropriate to the
competitive requirements of the marketplace.
GAMING MARKET RISKS
On March 16, 1998, Digital Biometrics, Inc. entered into an agreement with
Grand Casinos, Inc. forming a joint venture, TRAK 21 Development, LLC, to
productize, test and market the TRAK-21 blackjack wagering data capture and
player tracking system. The joint venture is susceptible to the normal business
risks customary to a start-up operation. In particular, although prototype
models of TRAK-21 have been successfully demonstrated, there can be no assurance
that this technology will operate as required in live casino environments or
that products based on TRAK-21 technology will be accepted by customers. In
addition, it has not been determined whether or not the TRAK-21 system will be
able to compete, on the basis of price and performance, with player tracking
systems of competitors whose systems have been marketed for longer periods of
time. There can be no assurance, therefore, that the joint venture will be
profitable to the Company.
SYSTEMS INTEGRATION AND NEW PRODUCT OPPORTUNITIES
The Company has established a systems integration division designated as
the Integrated Information Solutions Division or "IIS" during the first quarter
of fiscal 1998. This division was changed to a wholly owned subsidiary of the
Company named "Integral Partners, Inc." during the first quarter of fiscal 1999.
This is a start-up operation with the normal risks attendant to the
establishment of a new business. The ability of this new enterprise to
ultimately generate revenues and profits is as yet undetermined. It cannot be
known whether sufficient profits will ultimately be generated to provide a
return on this investment. While the Company believes that it has identified
areas of market opportunity not well served by current participants, competition
can be expected to increase, and such potential competitors may have greater
resources available than the Company. Furthermore, there can be no assurance
that the Company will be able to attract and retain systems integration
personnel necessary for the success of Integral Partners, Inc., which is
dependent for its success on the availability, efforts and performance of its
personnel.
MARKET RISKS
The Company is exposed to certain market risks with its $2 million line of
credit of which $111,962 is outstanding at September 30, 1998. The line bears
interest at an initial rate of 4% above the prime rate, and may be reduced to
3.25% or 2.5% above the prime rate if certain net income milestones are met. In
addition, the Company also has $884,840 of convertible debentures outstanding
with a face value of $900,000 at September 30, 1998.
23
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Digital Biometrics, Inc.:
We have audited the accompanying balance sheets of Digital Biometrics, Inc.
as of September 30, 1998 and 1997, and the related statements of operations,
stockholders' equity and cash flows for each of the years in the three-year
period ended September 30, 1998. 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 Digital Biometrics, Inc. as
of September 30, 1998 and 1997, and the results of its operations and its cash
flows for each of the years in the three-year period ended September 30, 1998,
in conformity with generally accepted accounting principles.
KPMG Peat Marwick LLP
Minneapolis, Minnesota
November 13, 1998
24
<PAGE>
DIGITAL BIOMETRICS, INC.
BALANCE SHEETS
SEPTEMBER 30, 1998 AND 1997
<TABLE>
<CAPTION>
1998 1997
----------------- -----------------
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 840,616 $ 1,891,397
Marketable securities - 154,808
Accounts receivable, less allowance for doubtful accounts of $296,583 and
$441,276, respectively 4,352,197 5,161,356
Inventory (note 2) 2,848,421 2,294,593
Prepaid expenses and other costs 214,559 163,594
----------------- -----------------
Total current assets 8,255,793 9,665,748
----------------- -----------------
Property and equipment (note 3) 2,410,172 2,027,737
Less accumulated depreciation and amortization (1,355,161) (1,113,185)
----------------- -----------------
1,055,011 914,552
----------------- -----------------
Patents, trademarks, copyrights and licenses, net of accumulated amortization of
$100,656 and $156,171, respectively (note 1) 35,785 118,938
Deferred issuance costs on convertible debentures, net of accumulated amortization of
$29,648 and $196,854, respectively (notes 7 and 8) 71,872 -
----------------- -----------------
$9,418,461 $ 10,699,238
================= =================
Current liabilities:
Accounts payable $1,783,086 $1,451,779
Line of credit advances (note 5) 111,962 -
Deferred revenue 918,291 677,925
Accrued warranty 385,422 584,676
Other accrued expenses (note 6) 1,239,011 819,610
Current installments of capital lease obligations (note 14) 34,620 -
----------------- -----------------
Total current liabilities 4,472,392 3,533,990
Capital lease obligations, less current installments (note 14) 113,117 -
Convertible debentures (notes 7 and 8) 884,840 -
----------------- -----------------
Total liabilities 5,470,349 3,533,990
----------------- -----------------
Stockholders' equity (note 11):
Common Stock, $.01 par value. Authorized, 40,000,000 shares; issued
and outstanding 13,661,832 and 12,361,038 shares, respectively 136,618 123,610
Additional paid-in capital 44,114,225 42,439,576
Unrealized losses on marketable securities - (1,639)
Deferred compensation (91,500) (73,500)
Accumulated deficit (40,211,231) (35,322,799)
----------------- -----------------
Total stockholders' equity 3,948,112 7,165,248
Commitments (note 14)
----------------- -----------------
$9,418,461 $ 10,699,238
================= =================
</TABLE>
See accompanying notes to financial statements.
25
<PAGE>
DIGITAL BIOMETRICS, INC.
STATEMENTS OF OPERATIONS
YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
<TABLE>
<CAPTION>
1998 1997 1996
------------------ ------------------- -------------------
<S> <C> <C> <C>
Revenues (note 1):
Identification systems $8,078,333 $9,712,259 $6,821,025
Maintenance 2,625,010 1,707,099 1,506,247
Systems integration services 619,348 - -
------------------- ------------------- ------------------
Total 11,322,691 11,419,358 8,327,272
------------------ ------------------- -------------------
Cost of revenues:
Identification systems 5,973,043 6,614,314 3,814,167
Maintenance 2,195,703 2,196,957 2,367,314
Systems integration services 348,212 - -
Non-recurring charges - 1,529,118 -
------------------- ------------------- ------------------
Total 8,516,958 10,340,389 6,181,481
------------------- ------------------- ------------------
Gross margin 2,805,733 1,078,969 2,145,791
------------------- ------------------- ------------------
Selling, general and administrative expenses:
Sales and marketing 2,026,667 2,057,099 3,369,441
Engineering and development 2,907,134 2,526,347 4,569,751
Depreciation and amortization 394,655 319,536 1,049,584
General and administrative 1,753,123 2,043,953 2,753,444
Non-recurring charges - 330,319 -
------------------ ------------------- -------------------
Total expenses 7,081,579 7,277,254 11,742,220
------------------ ------------------- -------------------
Loss from operations (4,275,846) (6,198,285) (9,596,429)
Other income (expense):
Interest income 47,163 230,347 585,708
Interest expense (notes 7 and 8) (594,430) (300,039) (2,676,182)
Other expense (65,319) (7,417) -
------------------- ------------------- ------------------
Total other income (expense) (612,586) (77,109) (2,090,474)
------------------- ------------------- ------------------
Net loss $(4,888,432) $(6,275,394) $(11,686,903)
================== =================== ===================
Loss per common share - basic and diluted $(0.38) $(0.53) $(1.24)
================== =================== ===================
Weighted average common shares outstanding 12,748,140 11,766,220 9,451,015
================== =================== ===================
</TABLE>
See accompanying notes to financial statements.
26
<PAGE>
DIGITAL BIOMETRICS, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
Common Stock Additional Deferred Accumulated
---------------------- Paid-in Comp-
Shares Amount Capital ensation Other Deficit Total
------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance September 30, 1995 7,833,633 $78,336 $31,061,754 $(216,684) $(473,650) $(17,360,502) $13,089,254
Restricted stock awards 17,456 175 71,825 (72,000) - - -
Amortization of deferred compensation - - - 192,684 - - 192,684
Stock award for retirement plan 16,831 168 94,506 - - - 94,674
Change in unrealized loss on marketable
securities - - - - 41,724 - 41,724
Debt conversion 2,751,868 27,519 8,201,870 - - - 8,229,389
Warrant exercise 157,500 1,575 313,425 - - - 315,000
Forgiveness of notes receivable from
sale of common stock - - - - 179,550 - 179,550
Net loss - - - - - (11,686,903) (11,686,903)
------------------------------------------------------------------------------------------
Balance September 30, 1996 10,777,288 107,773 39,743,380 (96,000) (252,376) (29,047,405) 10,455,372
Restricted stock awards 31,072 311 44,689 (18,000) - - 27,000
Amortization of deferred compensation - - - 40,500 - - 40,500
Exercise of stock options 25,000 250 41,500 - - - 41,750
Stock award for retirement plan 41,798 418 88,403 - - - 88,821
Change in unrealized loss on marketable
securities - - - - 133,114 - 133,114
Debt conversion 1,485,880 14,858 2,506,341 - - - 2,521,199
Forgiveness of notes receivable from
sale of common stock - - - - 117,623 - 117,623
Issuance of warrant as payment for
services received - - 15,263 - - - 15,263
Net loss - - - - - (6,275,394) (6,275,394)
------------------------------------------------------------------------------------------
Balance September 30, 1997 12,361,038 123,610 42,439,576 (73,500) (1,639) (35,322,799) 7,165,248
Restricted stock awards (note 11) 47,304 473 75,466 (75,939) - - -
Amortization of deferred compensation - - - 57,939 - - 57,939
Exercise of employee stock options 2,000 20 4,480 - - - 4,500
Stock award for retirement plan (note 55,963 560 86,883 - - - 87,443
10)
Change in unrealized loss on marketable
securities (note 4) - - - - 1,639 - 1,639
Debt conversion (note 8) 1,195,527 11,955 858,262 - - - 870,217
Issuance of stock options as payment
for - - 18,108 - - - 18,108
services received (note 1)
Issuance of warrants in connection with
convertible debentures (note 8) - - 131,450 - - - 131,450
Intrinsic value of beneficial
conversion feature of convertible
debentures (note 8) - - 500,000 - - - 500,000
Net loss - - - - - (4,888,432) (4,888,432)
==========================================================================================
Balance September 30, 1998 13,661,832 $136,618 $44,114,225 $(91,500) $ - $(40,211,231) $3,948,112
==========================================================================================
See accompanying notes to financial statements.
</TABLE>
27
<PAGE>
DIGITAL BIOMETRICS, INC.
STATEMENTS OF CASH FLOWS
YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
<TABLE>
<CAPTION>
1998 1997 1996
------------------- ------------------ ------------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net loss $(4,888,432) $(6,275,394) $(11,686,903)
Adjustments to reconcile net loss to net cash used in
operating activities:
Provision for doubtful accounts receivable 99,901 (98,660) 651,000
Provision for technological obsolescence - - 631,243
Deferred compensation amortization and other 76,047 207,997 372,234
Depreciation and amortization 520,552 585,622 864,183
Write-off of intangible assets 76,901 20,048 548,788
Loss on sale of marketable securities 1,315 64,624 -
Loss on disposal and write-off of fixed assets
and tooling 51,618 227,769 8,305
Interest expense amortization for the
intrinsic value of the beneficial
conversion feature of convertible 500,000 - 1,923,529
debentures
Interest expense on debentures converted into
Common Stock 25,469 227,539 329,754
Changes in operating assets and liabilities:
Accounts receivable 709,258 614,153 (1,833,548)
Inventory (553,828) 1,339,066 (2,389,220)
Prepaid expenses and other expenses (50,965) (5,119) (63,424)
Accounts payable 331,307 348,605 641,843
Deferred revenue 240,366 28,747 106,420
Accrued expenses 253,089 63,462 521,741
------------------- ------------------ ------------------
Net cash used in operating activities (2,607,402) (2,651,541) (9,374,055)
------------------- ------------------ ------------------
Cash flows from investing activities:
Purchase of property and equipment (493,497) (242,613) (849,755)
Proceeds from disposal of property and equipment 1,311 - -
Patents, trademarks, copyrights and licenses (24,375) (70,516) (36,859)
Sales of marketable securities before maturity 155,132 5,602,327 130,043
------------------- ------------------ ------------------
Net cash (used in) provided by investing activities (361,429) 5,289,198 (756,571)
------------------- ------------------ ------------------
Cash flows from financing activities:
Net line of credit (payments) advances 111,962 (1,255,000) (195,000)
Principal payments on capital lease obligations (7,212) - -
Exercise of warrants and options 4,500 41,750 315,000
Issuance of convertible debentures 1,808,800 - 10,109,750
------------------- ------------------ ------------------
Net cash (used in) provided by financing activities 1,918,050 (1,213,250) 10,229,750
------------------- ------------------ ------------------
Increase (decrease) in cash and cash equivalents (1,050,781) 1,424,407 99,124
Cash and cash equivalents at beginning of year 1,891,397 466,990 367,866
------------------- ------------------ ------------------
Cash and cash equivalents at end of year $ 840,616 $1,891,397 $ 466,990
=================== ================== ==================
Supplemental disclosure of cash flow information:
Cash paid during the year for interest $ 11,147 $ 222,132 $ 13,210
=================== ================== ==================
</TABLE>
See accompanying notes to financial statements.
28
<PAGE>
DIGITAL BIOMETRICS, INC.
NOTES TO FINANCIAL STATEMENTS
(1) DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The principal business of Digital Biometrics, Inc. (the "Company") is the
development, manufacture, marketing and integration of computer-based products
and services for the identification of individuals. The Company is a leading
vendor of products employing "biometric" technology, the science of identifying
individuals by measuring distinguishing biological characteristics. The
Company's main products are special-purpose computer-based systems for
"live-scan" fingerprint capture. These live-scan systems employ patented
high-resolution optics and specialized hardware and software, combined with
industry-standard computer hardware and software, to create highly optimized
special-purpose systems which capture, digitize, print and transmit
forensic-grade fingerprint images. Historically, these systems have been
purchased mainly by law enforcement agencies, although some systems have been
purchased by civil and commercial buyers.
The Company also offers high resolution single fingerprint capture products
for commercial and governmental identification applications.
To capitalize on opportunities outside of its traditional law enforcement
market, the Company established a systems integration services business which
generated its first revenues in fiscal 1998. This business operated under the
name "Integrated Information Solutions" or "IIS" during most of fiscal 1998. It
has recently been renamed Integral Partners, Inc. and incorporated as a wholly
owned subsidiary.
The Company is also engaged in a joint venture with Grand Casinos, Inc., to
productize, test and market the TRAK-21 blackjack wagering data capture and
player tracking system based on technology developed by the Company.
STATEMENTS OF CASH FLOWS
CASH AND CASH EQUIVALENTS:
For purposes of the statements of cash flows, the Company considers all
highly liquid debt instruments and certificates of deposit purchased with an
original maturity date of three months or less to be cash equivalents.
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
On December 31, 1997 and 1996, the Company issued 55,963 and 41,798 shares,
respectively, of common stock to satisfy the Company's discretionary matching to
employees electing participation in the Company's 401(k) retirement plan. These
issuances increased Common Stock and additional paid-in capital by $87,443 and
$88,821 for fiscal 1998 and 1997, respectively, and reduced accrued compensation
by the same amount.
For the fiscal year ended September 30, 1998, the Company has issued
1,195,527 shares of common stock for the conversion of principal aggregating
$1,100,000 of the 1997 Debentures plus $25,000 of accrued interest.
For the fiscal year ended September 30, 1997, the Company has issued
1,485,880 shares of common stock for the conversion of principal aggregating
$2,450,000 of the 1995 Debentures plus $228,000 of accrued interest.
During the fiscal year ended September 30, 1998, the Company acquired
property and equipment in the amount of $154,949 in exchange for a capital
lease.
SIGNIFICANT CUSTOMERS AND CONCENTRATION OF CREDIT RISK
Approximately 71% and 89%, respectively, of customer accounts receivable at
September 30, 1998 and 1997, were from government agencies, of which 42% and
39%, respectively, were from a single customer. For the years ended September
30, 1998, 1997 and 1996, sales to two customers in 1998 accounted for 16% and
12%, sales to three customers in 1997 accounted for 17%, 14% and 12%, and sales
to two customers in 1996 accounted for 18% and 12%, respectively, of annual
sales. Export revenues were 9%, 5% and 15% of total revenues, for the years
ended September 30, 1998, 1997 and 1996, respectively.
MARKETABLE SECURITIES
Marketable securities consist of collateralized mortgage-backed securities
and U.S. Treasury zero coupon bonds. The Company classifies its marketable debt
securities as available-for-sale and records these securities at fair market
value. Net realized and unrealized gains and losses are determined on the
specific identification cost basis.
29
<PAGE>
DIGITAL BIOMETRICS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(1) DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(CONTINUED)
Unrealized gains and losses are reflected as a separate component of
stockholders' equity. A decline in the market value of any available-for-sale or
held-to-maturity security below cost that is deemed other than temporary results
in a charge to operations resulting in the establishment of a new cost basis for
the security.
PATENTS, TRADEMARKS, COPYRIGHTS AND LICENSES
Costs associated with patents, trademarks and copyrights are capitalized
and amortized over 60 months or the remaining life of the patent, trademark or
copyright, whichever is shorter. The cost of software licenses related to
purchased software are capitalized and amortized over 36 months or the life of
the license, whichever is shorter. Accumulated amortization at September 30,
1998 and 1997 was $100,656 and $156,171, respectively. The Company charged
$76,901 and $20,048 of unamortized patents during fiscal 1998 and 1997,
respectively, for patents which were abandoned. Management periodically assesses
the amortization period and recoverability of the carrying amount of intangible
assets based upon an estimation of their value and future benefits of the
recorded asset. Management has concluded that the carrying amount of the
intangible assets is realizable.
LONG-LIVED ASSETS
The Company reviews its long-lived assets and certain identifiable
intangibles for impairment whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable. Recoverability of
assets to be held and used is measured by a comparison of the carrying amount of
an asset to future net cash flows expected to be generated by the asset. If such
assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets exceeds the
fair value of the assets. Assets to be disposed of are reported at the lower of
the carrying amount or fair value less costs to sell.
REVENUE RECOGNITION
Revenues from product sales are recognized upon shipment, installation, or
acceptance, based on the particular product and contract terms. Revenues for
professional and systems integration services are recognized using the
percentage of completion method or on a time-and-materials basis. Revenues from
maintenance and repair contracts are recognized over the period of the
agreement. Services revenues are recognized when the related services are
performed.
The Company's performance for any period is not necessarily indicative of
sales trends or future performance. The nature of the law enforcement and other
governmental markets and private sector procurement processes are expected to
continue to result in irregular and unpredictable revenue cycles for the
Company.
WARRANTY COSTS
Estimated product warranty costs are accrued at date of shipment.
ADVERTISING COSTS
Advertising costs are expensed as incurred.
ENGINEERING AND DEVELOPMENT ARRANGEMENTS
Engineering and development costs are expensed as incurred.
LOSS PER SHARE
Basic loss per share excludes dilution and is computed by dividing the net
loss by the weighted average number of common shares outstanding during the
period. Diluted loss per share includes assumed conversion shares consisting of
stock options and warrants determined by the treasury stock method and dilutive
convertible securities. Due to the anti-dilutive impact of assumed conversion
shares, basic and diluted loss per share are the same.
30
<PAGE>
DIGITAL BIOMETRICS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(1) DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(CONTINUED)
INCOME TAXES
The Company has adopted the asset and liability method of accounting for
income taxes. Deferred tax assets and liabilities are recognized for the
expected future tax consequences of temporary differences between the financial
statement carrying amount and tax basis of assets and liabilities. The Company
provides for deferred taxes at the enacted tax rate that is expected to apply
when the temporary differences reverse.
STOCK-BASED COMPENSATION
The Company has adopted the intrinsic-value method for determining the
amount of compensation to be recorded for employee stock grants and the fair
value method for determining the amount of compensation to be recorded for
non-employee grants. Pro forma disclosures of net income (loss) and earnings
(loss) per share are presented as if the fair value based method had been
applied in measuring compensation cost for employee stock grants (note 11).
ACCOUNTING 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 financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
NEW ACCOUNTING PRONOUNCEMENTS
During 1998, the Financial Accounting Standards Board (FASB) issued SFAS
No. 130 "Reporting Comprehensive Income" and SFAS No. 131 "Disclosures about
Segments of an Enterprise and Related Information." These standards which are
effective in the Company's fiscal 1999, revise related disclosures. There will
be no impact on the Company's financial position, results of operations, or cash
flows from adoption of these standards.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS 133 is effective for the Company's
fiscal 2000. The impact of adoption on the Company's financial statements has
not yet been determined.
(2) INVENTORY
Inventory is valued at standard cost, which approximates the lower of
first-in, first-out (FIFO) cost or market. Inventory consists of the following:
<TABLE>
<CAPTION>
September 30,
1998 1997
------------------- ------------------
<S> <C> <C>
Components and purchased subassemblies $1,119,766 $1,054,606
Work in process 1,006,293 699,097
Finished goods 722,362 540,890
=================== ==================
$2,848,421 $2,294,593
=================== ==================
</TABLE>
(3) PROPERTY AND EQUIPMENT
Property and equipment is recorded at cost. Depreciation and amortization
is computed on a straight-line basis over the estimated useful lives, generally
three to five years. Leasehold improvements are amortized over the estimated
useful life of the asset or lease term, whichever is shorter. Property and
equipment consists of the following:
<TABLE>
<CAPTION>
September 30,
1998 1997
------------------- ------------------
<S> <C> <C>
Leasehold improvements $ 245,194 $ 200,942
Office furniture and equipment 989,342 539,453
Manufacturing equipment and tooling 434,345 444,823
Customer service equipment 148,755 131,693
Engineering equipment 592,536 710,826
=================== ==================
$2,410,172 $2,027,737
=================== ==================
</TABLE>
31
<PAGE>
DIGITAL BIOMETRICS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(4) MARKETABLE SECURITIES
Marketable securities consists primarily of collateralized mortgage-backed
securities. Net realized and unrealized gains and losses are determined on the
specific identification cost basis. Realized losses from sales of marketable
securities during fiscal 1998 and 1997 were $1,315 and $64,624, respectively.
Unrealized gains and losses are reflected as a separate component of
stockholders' equity.
(5) LINE OF CREDIT
On September 29, 1998, the Company entered into an inventory and
receivables financing line of credit for the lesser of eligible inventory and
receivables or $2,000,000 with SPECTRUM Commercial Services. This line replaced
an existing line of credit with another lender. Borrowings under this line of
credit are secured by all the assets of the Company. The line bears interest at
an initial rate of 4% above the prime rate, and may be reduced to 3 1/4% or 2
1/2% above the prime rate if certain net income milestones are met. The line
bears a minimum interest charge of $5,200 per month, is payable upon demand and
expires in September 2000. At September 30, 1998, $111,962 was outstanding on
this line of credit.
(6) OTHER ACCRUED EXPENSES
<TABLE>
<CAPTION>
September 30,
1998 1997
------------------- ------------------
<S> <C> <C>
Other accrued expenses consists of:
Accrued salaries $ 370,326 $ 265,707
Accrued vacation 154,424 121,994
Accrued installation costs 355,800 97,750
Other accrued expenses 358,461 334,159
=================== ==================
$1,239,011 $819,610
=================== ==================
</TABLE>
(7) 1995 CONVERTIBLE DEBENTURES
On September 29, 1995, the Company completed a private placement to
offshore accredited investors of $10,900,000 of 8% Convertible Debentures due
September 29, 1998 (the "1995 Debentures"). Net proceeds to the Company after
placement fees but before legal and other expenses were $10,109,750. The
debentures and unpaid interest were converted into common stock at the lesser of
$7.00 per common share or 85% of the average trading price for any five
consecutive trading days before conversion. A warrant to purchase 112,893 shares
of the Company's common stock at $8.40 per share was granted to the placement
agent for this offering. The intrinsic value of the beneficial conversion
feature of $1,923,529 was allocated to additional paid-in capital with the
resulting discount on the debt resulting in a non-cash interest expense charge
to earnings (loss) in 1996 over the vesting period of the conversion feature.
Net proceeds to the Company were used for working capital, product development
and other general corporate purposes.
All of the 1995 Debentures and accrued interest were converted into common
stock during fiscal 1996 and fiscal 1997. The Company issued 4,237,748 shares of
common stock for the conversion of principal aggregating $10,900,000 of the 1995
Debentures plus $557,000 of accrued interest at an average conversion price of
$2.70 per share. For the fiscal year ended September 30, 1997, the Company
issued 1,485,880 shares of common stock for the conversion of principal
aggregating $2,450,000 of the 1995 Debentures plus $228,000 of accrued interest
at an average conversion price of $1.80 per share.
32
<PAGE>
DIGITAL BIOMETRICS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(8) 1997 CONVERTIBLE DEBENTURES
On December 1, 1997 the Company entered into a convertible subordinated
debenture purchase agreement ("Purchase Agreement") with a private investor,
providing for the Company's issuance and sale of up to an aggregate of
$2,500,000 of 8% Convertible Subordinated Debentures (the "1997 Debentures") in
tranches of $500,000 each. The first four tranches were funded during fiscal
1998. The fifth tranche was funded in November 1998. The debentures sold are
convertible in whole or in part at the option of the holder, with accrued
interest, into shares of the Company's common stock, in each case at a
conversion price equal to the lesser of (a) 80% of the average closing bid price
on the five consecutive trading days preceding the conversion date, or (b) (i)
$1.96 (for the first tranche), (ii) $1.36 (for the second tranche), (iii) $2.23
(for the third tranche), (iv) $1.49 (for the fourth tranche), and (v) $1.35 (for
the fifth tranche). The Company has the right, exercisable at any time upon two
trading days notice to the purchaser of the debentures given at any time the
Company receives a conversion notice and the conversion price in effect in
connection with such conversion notice is less than $1.25, to repay all or any
portion of the outstanding principal amount of the debentures which have been
tendered for conversion, at a price equal to the sum of 120% of the aggregate
principal amount of debentures to be repaid. In connection with the Purchase
Agreement, the Company has issued to the purchaser of the debentures warrants to
purchase 75,000 shares of common stock at $2.50 per share. Also in connection
with the transaction, the Company paid $40,000 of commission for each tranche to
an investment banking firm plus applicable legal fees, and issued a warrant to
purchase 125,000 shares of common stock at an exercise price of $2.00 per share.
The estimated value of this warrant is $87,500, which has been accounted for as
debt issuance costs, amortized to interest expense over the term of the
debentures issued with the first tranche. The intrinsic value of the beneficial
conversion feature of each tranche is $125,000 and has been allocated to
additional paid-in capital and a non-cash interest expense charge to earnings
over the vesting period of the conversion feature, which is the earlier of the
effective date of the underlying securities registration statement or the 90th
day after the original issuance date of the debentures. Net proceeds to the
Company are being used for working capital, business development and other
general corporate purposes.
During fiscal 1998, the Company has issued 1,195,527 shares of common stock
for the conversion of principal aggregating $1,100,000 of the 1997 Debentures
plus $25,469 of accrued interest at an average conversion price of $0.94 per
share. The intrinsic value of the beneficial conversion feature aggregated
$500,000 for fiscal 1998 and has been recorded as additional paid-in capital and
interest expense. The principal amount of the 1997 Debentures outstanding at
September 30, 1998 aggregated $900,000.
(9) FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company's financial instruments are recorded in its balance sheet. The
carrying amount for cash and cash equivalents, accounts receivable, accounts
payable, accrued liabilities, line of credit advances and convertible debentures
approximate fair value due to the immediate or short-term maturity of these
financial instruments.
(10) RETIREMENT PLAN
Effective January 1, 1992, the Company adopted a profit sharing and savings
plan (the "Retirement Plan") classified as a defined contribution plan and
qualifying under Section 401(k) of the Internal Revenue Code. The Retirement
Plan allows employees to defer a portion of their annual compensation through
pre-tax contributions to the Retirement Plan. At the discretion of the Board of
Directors, the Company may make matching contributions up to an amount equal to
50% of the contributions made by each employee, subject to a maximum
contribution for each employee of 5% of compensation. The Board may also make
other discretionary contributions to the Retirement Plan. Matching contributions
at September 30, 1998 and 1997 resulted in accrued compensation expense of
$105,142 and $88,321, respectively. Matching contributions have been paid
through the issuance of Company common stock. For the years ended September 30,
1998, 1997 and 1996, the Company incurred $104,264, $95,958 and $102,504
respectively, of expense related to this plan.
(11) STOCKHOLDERS' EQUITY
CAPITAL STOCK
On December 31, 1997 and 1996, the Company issued 55,963 and 41,798 shares,
respectively, of common stock to satisfy the Company's discretionary matching to
employees electing participation in the Company's 401(k) retirement plan. These
issuances increased common stock and additional paid-in capital by $87,443 and
$88,821, respectively.
33
<PAGE>
DIGITAL BIOMETRICS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(11) STOCKHOLDERS' EQUITY (CONTINUED)
SHAREHOLDER RIGHTS PLAN
In May 1996, the Board of Directors adopted a shareholder rights plan. The
shareholder rights plan is designed to enable the Company and its Board of
Directors to develop and preserve long-term value for stockholders and to
protect stockholders in the event an attempt is made to acquire control of the
Company without an offer of fair value to all stockholders. Under the
shareholder rights plan, each stockholder of record beginning at the close of
business on May 22, 1996, will receive as a dividend one right for each share of
DBI common stock held. The rights expire on April 30, 2006.
STOCK OPTIONS
In order to attract and retain employees and directors, while preserving
cash resources, the Company has, since its inception, utilized stock option
awards issued through various stock option plans and employment arrangements. As
of September 30, 1998, there were issued and outstanding options for 2,003,200
shares of common stock issued to employees and directors and options to purchase
45,000 shares issued to certain of its contractors of which options to purchase
432,067 shares were currently exercisable.
Effective with their election or re-election to the Company's Board of
Directors on April 8, 1998, stock options were granted to each of the Company's
outside directors for the purchase of an aggregate of 60,000 shares of common
stock. These options are exercisable at $1.625 per share and expire on April 8,
2003.
During fiscal 1998, the Company granted discretionary stock option awards
to certain of its executive officers and employees for the purchase of an
aggregate of 980,000 shares of common stock. These options are exercisable at
prices from $1.094 to $2.563 per share and expire between 2005 and 2008.
During fiscal 1998, the Company granted discretionary stock option awards
to certain of its contractors for the purchase of an aggregate of 45,000 shares
of common stock. These options are exercisable at prices from $1.906 to $2.563
per share and expire in 2005.
Details of the status of stock options as of September 30, 1998, are
included in the table below.
<TABLE>
<CAPTION>
Shares Weighted-
Under Average
Option Price Range Exercise Price
---------------- ----------------- -------------------
<S> <C> <C> <C>
Unexercised options outstanding -
September 30, 1995 848,600 $1.67-$14.75 $9.87
Options granted 110,500 $5.50-$ 6.25 $5.77
Options exercised - - -
Options forfeited (76,500) $7.44-$13.63 $9.56
- ---------------------------------------------------- ---------------- -- ----------------- -- -------------------
Unexercised options outstanding -
September 30, 1996 882,600 $1.67-$14.75 $9.38
Options granted 1,001,700 $1.56-$ 3.13 $2.19
Options exercised (25,000) $1.67 $1.67
Options forfeited (676,800) $2.56-$14.75 $9.80
- ---------------------------------------------------- -------------- --------------- -------------------
Unexercised options outstanding -
September 30, 1997 1,182,500 $1.56-$14.75 $3.21
Options granted 1,085,000 $1.09-$ 2.56 $1.80
Options exercised (2,000) $2.25 $2.25
Options forfeited (217,300) $1.31-$14.75 $7.06
- ---------------------------------------------------- -------------- --------------- -------------------
Unexercised options outstanding -
September 30, 1998 2,048,200 $1.09-$13.63 $2.06
================
</TABLE>
34
<PAGE>
DIGITAL BIOMETRICS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(11) STOCKHOLDERS' EQUITY (CONTINUED)
At September 30, 1998, the range of exercise prices and weighted average
remaining contractual life of outstanding options was $2.06 and 8.54 years,
respectively.
The following table summarizes information with respect to options
outstanding and exercisable as of September 30, 1998:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
--------------------------------------------- -------------------------------------------
Weighted Weighted
Average Weighted Average Weighted
Range of Remaining Average Remaining Average
Exercise Number Contractual Exercise Number of Contractual Exercise
Prices of Shares Life (years) Price Shares Life (years) Price
- ------------------------------------------------------------ -------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
$1.00 - $1.99 1,199,000 8.78 $ 1.77 105,334 6.61 $ 1.84
$2.00 - $2.99 787,200 8.33 2.21 264,733 8.04 2.17
$3.00 - $3.99 40,000 8.09 3.13 40,000 8.09 3.13
Over $4.00 22,000 4.02 10.39 22,000 4.02 10.39
--------------------------------------------- -------------------------------------------
2,048,200 8.54 $ 2.06 432,067 7.49 $ 2.60
============================================= ===========================================
</TABLE>
The Company applies APB Opinion No. 25 in accounting for options granted to
employees and directors under its stock option plans and, accordingly, no
compensation cost has been recognized for its stock options granted to its
employees or directors in the financial statements. Had the Company determined
compensation cost based on the fair value at the grant date for its stock
options under SFAS No. 123, the Company's net loss would have increased to the
pro forma amounts indicated below:
1998 1997
----------------- ------------------
Net loss - as reported $(4,888,432) $(6,275,394)
Net loss - pro forma $(5,633,305) $(6,773,897)
Loss per share - as reported $ (0.38) $ (0.53)
Loss per share - pro forma $ (0.44) $ (0.58)
The pro forma net loss reflects only options granted in 1998, 1997 and
1996. Therefore, the full impact of calculating compensation cost for stock
options under SFAS No. 123 is not reflected in the pro forma net loss amounts
presented above because compensation cost is reflected over the options' vesting
period, typically three years, and compensation cost for options granted prior
to October 1, 1995, is not considered.
Principal assumptions used in applying the option valuation model were as
follows:
1998 1997
------------------ ------------------
Risk-free interest rate 4.50% 5.75%
Expected life, in years 5-10 10
Expected volatility 83% 127%
Expected dividend yield 0% 0%
RESTRICTED STOCK
Effective October 1, 1992, the Board of Directors adopted the 1992
Restricted Stock Plan pursuant to which awards of restricted stock may be made
to employees and non-employee directors of the Company. The 1992 Restricted
Stock Plan serves as a means of providing annual bonus amounts to executive
employees and as the means of compensation of non-executive directors effective
with each director's election at the annual meeting of stockholders. Restricted
stock awards typically vest over a three-year period. The Company awarded
47,304, 25,413 and 17,456 shares, respectively, of common stock with a fair
market value of $75,939, $54,000 and $72,000, respectively, for the years ended
September 30, 1998, 1997 and 1996.
35
<PAGE>
DIGITAL BIOMETRICS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(11) STOCKHOLDERS' EQUITY (CONTINUED)
WARRANTS
The Company has warrants outstanding at September 30, 1998, for the
purchase of 575,893 shares of its common stock. Warrants to purchase 450,893
shares of common stock are currently exercisable and expire at various times
through December 1, 2002. The exercise prices per share range from $1.875 to
$8.40.
(12) INCOME TAXES
There is no provision for income taxes since a valuation allowance has been
established equal to the corresponding net deferred tax asset. At September 30,
1998, the Company has carryforwards of net operating losses and research and
development tax credits of $35,400,000 and $1,035,159, respectively. These
carryforwards expire at various amounts from 1999 through 2018.
Due to uncertainty of the realization of deferred tax assets, the Company
has established a valuation allowance equal to net deferred tax assets. The
change in the valuation allowance for the years ended September 30, 1998 and
1997, is as follows:
<TABLE>
<CAPTION>
1998 1997
-------------------- ------------------
<S> <C> <C>
Balance at beginning of year $13,851,000 $11,328,000
Change in valuation allowance 2,088,000 2,523,000
-------------------- ------------------
$15,939,000 $13,851,000
==================== ==================
</TABLE>
The current and long-term deferred income tax asset and liability amounts
as of September 30, 1998 and 1997, were composed of the following:
<TABLE>
<CAPTION>
1998 1997
-------------------- ------------------
<S> <C> <C>
Current and long-term deferred income tax asset resulting from future
deductible temporary differences are:
Accounts receivable allowance $ 119,000 $ 177,000
Inventory capitalization 35,000 28,000
Other accrued expenses 590,000 538,000
Research and development tax credit carryforwards 1,035,000 828,000
Net operating loss carryforwards 14,160,000 12,280,000
-------------------- ------------------
15,939,000 13,851,000
(15,939,000) (13,851,000)
-------------------- ------------------
$ 0 $ 0
==================== ==================
</TABLE>
The aforementioned carryforwards are subject to the limitation provisions
of Internal Revenue Code sections 382 and 383. These sections provide
limitations on the availability of net operating losses and credits to offset
current taxable income and related income taxes when an ownership change has
occurred. The Company's initial public offering in December 1990 resulted in an
ownership change pursuant to these provisions and, accordingly, the use of the
above carryforwards is subject to an annual limitation. The annual limitation on
use of net operating losses is calculated by multiplying the value of the
corporation immediately prior to the change in ownership by the long-term
federal tax exempt rate. A total of $3,700,000 of the net operating loss
carryforwards at September 30, 1998, is subject to the annual net operating loss
limitation, estimated at $350,000. If the limited carryforward amount for any
tax year exceeds the regular taxable income for such year, then the unused
portion may generally be carried forward to increase the annual limitation for
the following year. Utilization of net operating losses aggregating $31,700,000,
which were incurred subsequent to the change of ownership, are not limited.
However, any future ownership change could create a limitation with respect to
these loss carryforwards. Approximately $2,200,000 of the $35,400,000 net
operating loss carryforwards relates to compensation associated with the
exercise of non-qualified stock options which, when realized, would result in
approximately $880,000 credited to additional paid-in capital.
36
<PAGE>
DIGITAL BIOMETRICS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(13) NET LOSS PER COMMON SHARE
Net loss per common share-diluted was equal to net loss per common
share-basic for all periods presented. The following is a summary of those
securities outstanding at September 30 for the respective periods which have
been excluded from the calculations because the effect on net loss per common
share would not have been dilutive:
1998 1997 1996
------------- -------------- --------------
Options 2,048,200 1,182,500 882,600
Warrants 575,893 140,893 212,893
Convertible debentures 858,524 - 2,274,308
(14) LEASE COMMITMENTS
Property and equipment at September 30, 1998 includes the following amounts
for obligations under capital leases:
Cost $154,949
Less accumulated amortization 5,906
--------------------
$149,403
====================
Future minimum payments on capital leases:
1999 $52,792
2000 52,792
2001 45,916
2002 11,539
2003 8,654
--------------------
Total minimum lease payments 171,693
Less amount representing interest 23,956
--------------------
Present value of net minimum lease payments 147,737
Current installments 34,620
--------------------
$113,117
====================
The Company leases its primary office and production facility in
Minnetonka, Minnesota, under an operating lease that expires in April 2001.
Annual base rent under the lease agreement is approximately $233,000 and the
Company is obligated to pay a pro rata share for property taxes, maintenance and
other operating expenses.
The Company leases a facility in Maple Grove, Minnesota, for its wholly
owned subsidiary, Integral Partners, Inc., under an operating lease that expires
in June 2003. Annual base rent under the lease agreement is approximately
$77,200 and the Company is obligated to pay a pro rata share for property taxes,
maintenance and other operating expenses.
The Company leases a separate sales and service office in Anaheim,
California, under an operating lease that expires in December 1998, and is on a
year-to-year lease arrangement. The Company is currently negotiating the
extension of this lease.
Rent expense for operating leases for 1998, 1997 and 1996 was $404,700,
$396,800 and $329,400, respectively. Future minimum payments on operating leases
for the years ending September 30, 1999, 2000, 2001, 2002 and 2003, are
$471,200, $503,700, $343,000, $94,800 and $72,500, respectively.
(15) LITIGATION
There are no material lawsuits pending or, to the Company's knowledge,
threatened against the Company.
37
<PAGE>
DIGITAL BIOMETRICS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(16) JOINT VENTURE WITH GRAND CASINOS, INC.
On March 16, 1998, the Company entered into an agreement with Grand
Casinos, Inc. forming a joint venture company named TRAK 21 Development, LLC, to
productize, test and market the TRAK-21 blackjack table wagering data capture
and player tracking system. Deployment of test systems based on TRAK-21
technology in a Grand Casinos property is anticipated in fiscal 1999. The
Company's initial membership interest in the joint venture is 51%. The Company
has adopted the equity method of accounting for the investment. The Company has
no additional responsibility to fund the LLC. For the year ended September 30,
1998, the Company's loss from the joint venture is limited to the historical
carrying amount of its investment of $13,700 and has been recorded as "other
expense" in the Statements of Operations.
38
<PAGE>
ITEM 9. CHANGES IN & DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING & FINANCIAL
DISCLOSURE
The Company has not changed its independent auditors nor has the Company
had any disagreements with its independent auditors on matters of accounting or
financial disclosure.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
ITEM 11. EXECUTIVE COMPENSATION
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information called for by Items 10, 11, 12 and 13 is incorporated
by reference from the Registrant's definitive proxy statement pursuant to
Regulation 14A which involves the election of directors and will be filed with
the Commission within 120 days after the end of the fiscal year.
39
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) 1. Financial Statements
Independent Auditors' Report
Balance Sheets: September 30, 1998 and 1997
Statements of Operations:
Years ended September 30, 1998, 1997 and 1996
Statements of Stockholders' Equity:
Years ended September 30, 1998, 1997 and 1996
Statements of Cash Flows:
Years ended September 30, 1998, 1997 and 1996
Notes to Financial Statements
2. Exhibits
3.1 The Company's Articles of Incorporation, as amended
(incorporated by reference to Exhibit 3.1 to the Registrant's
Registration Statement on Form S-1, effective March 11, 1993,
File No. 33-58650 (the "1993 Form S-1"), and to Exhibit 3.1 to
the Registrant's Report on Form 10-Q for the quarter ended
March 31, 1998).
3.2 The Company's Bylaws, as amended (incorporated by reference
to Exhibit 3.2 to the Registrant's Report on Form 10-K for the
year ended September 30, 1997 (the "1997 10-K")).
4.1 Specimen Common Stock Certificate (incorporated by reference
to the Registrant's Registration Statement on Form S-1,
effective August 14, 1991, File No. 33-41080).
4.2 8% Convertible Subordinated Debenture Due December 1, 2000
dated December 1, 1997, between the Company and KA Investments
LDC (incorporated by reference to Exhibit 4.2 to the 1997
10-K) and schedule of substantially identical documents
executed by the Company and not filed pursuant to Instruction
2 to Item 601 of Regulation S-K.
4.3 Rights Agreement dated May 2, 1996 between the Company and
Norwest Bank, Minnesota, National Association, as Rights Agent
(incorporated by reference to Exhibit 4.3 to the Registrant's
Registration Statement on Form 8-A filed with the Securities
and Exchange Commission on May 9, 1996, File No.
0-18856).
4.4 Convertible Subordinated Debenture Purchase Agreement dated
December 1, 1997 between the Company and KA Investments LDC
(incorporated by reference to Exhibit 10.1 to the 1997 10-K).
4.5 Warrant dated December 1, 1997 between the Company and KA
Investments LDC for the purchase of 15,000 shares of the
Company's Common Stock (incorporated by reference to Exhibit
10.2 to the 1997 10-K) and schedule of substantially identical
documents executed by the Company and not filed pursuant to
Instruction 2 to Item 601 of Regulation S-K.
4.6 Registration Rights Agreement dated December 1, 1997 between
the Company and KA Investments LDC (incorporated by reference
to Exhibit 10.10 to the 1997 10-K).
40
<PAGE>
10.1 Warrant dated December 1, 1997 between the Company and Miller
Johnson & Kuehn, Inc. for the purchase of 125,000 shares of
the Company's Common Stock (incorporated by reference to
Exhibit 10.3 to the 1997 10-K).
10.2 Warrant dated March 18, 1997, between the Company and C.
McKenzie Lewis III for the purchase of 8,000 shares of the
Company's Common Stock (incorporated by reference to Exhibit
10.4 to the 1997 10-K).
10.3 Agreement and General Release dated October 31, 1997 between
the Company and Glenn M. Fishbine (incorporated by reference
to Exhibit 10.11 to the 1997 10-K).
10.4 General Credit and Security Agreement dated September 29, 1998
between the Company and Spectrum Commercial Services
10.5 First Amended Revolving Note dated October 15, 1998 of the
Company payable to Spectrum Commercial Services, amending and
restating Revolving Note dated as of September 29, 1998.
10.6 Lease for Company premises dated November 7, 1989
(incorporated by reference from the Company's Registration
Statement on Form S-18, effective December 6, 1990, File No.
33-36939C).
10.7 Amendment to Lease for Company Premises dated March 11,
1996 directors (incorporated by reference to Exhibit 10.14 to
the 1997 10-K).
10.8 1990 Stock Option Plan, as amended (incorporated by reference
to Exhibit 99.1 to the Registrant's Report on Form 10-Q for
the quarter ended March 15, 1997).
10.9 1992 Restricted Stock Plan (incorporated by reference from the
Company's 1993 Form S-1).
10.10 1998 Stock Option Plan (incorporated by reference from Exhibit
10 to the Company's Report on Form 10-Q for the quarter ended
March 31, 1998).
10.11 Form of Director Indemnification Agreement entered into
between the Company and outside directors (incorporated by
reference to Exhibit 10.17 to the 1997 10-K).
11.1 Computation of Net Earnings (Loss) per Common Share.
21.1 Subsidiaries of the Registrant
23 Consent of KPMG Peat Marwick LLP.
27.1 Financial Data Schedule.
(b) REPORTS ON FORM 8-K.
The Company did not file any reports on Form 8-K with the
Securities and Exchange Commission during the three-month period ended
September 30, 1998.
41
<PAGE>
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS FORM 10-K TO BE SIGNED
ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED, IN MINNETONKA,
MINNESOTA, ON THIS 29TH DAY OF DECEMBER 1998.
DIGITAL BIOMETRICS, INC.
(REGISTRANT) /s/ James C. Granger
-------------------------------------
James C. Granger
President and Chief Executive Officer
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS
FORM 10-K HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS IN THE CAPACITIES
INDICATED.
<TABLE>
<CAPTION>
SIGNATURE TITLE
<S> <C> <C>
/s/ James C. Granger December 29, 1998
- ------------------------------ -----------------
James C. Granger President, Chief Executive Officer Date
and Director (principal executive officer)
/s/ John J. Metil December 29, 1998
- ------------------------------ -----------------
John J. Metil Executive Vice President Date
Chief Operating Officer
Chief Financial Officer (principal financial officer)
/s/ George Latimer December 29, 1998
- ------------------------------ -----------------
George Latimer Director Date
/s/ C. McKenzie Lewis III December 29, 1998
- ------------------------------ -----------------
C. McKenzie Lewis III Chairman of the Board of Directors Date
/s/ Stephen M. Slavin December 29, 1998
- ------------------------------ -----------------
Stephen M. Slavin Director Date
/s/ John E. Haugo December 29, 1998
- ------------------------------ -----------------
John E. Haugo Director Date
</TABLE>
42
<PAGE>
INDEPENDENT AUDITORS' REPORT ON FINANCIAL STATEMENT SCHEDULE
The Board of Directors and Stockholders
Digital Biometrics, Inc.:
Under date of November 13, 1998 we reported on the balance sheets of
Digital Biometrics, Inc., as of September 30, 1998 and 1997, and the related
statements of operations, stockholders' equity, and cash flows for each of the
years in the three-year period ended September 30, 1998, as contained in the
annual report on Form 10-K for the year 1998. In connection with our audits of
the aforementioned financial statements, we also audited the related financial
statement schedule as listed in the accompanying index. This financial statement
schedule is the responsibility of the Company's management. Our responsibility
is to express an opinion on this financial statement schedule based on our
audits.
In our opinion, such financial statement schedule, when considered in
relation to the basic financial statements taken as a whole, presents fairly, in
all material respects, the information set forth therein.
KPMG Peat Marwick LLP
Minneapolis, Minnesota
November 13, 1998
<PAGE>
SCHEDULE II
DIGITAL BIOMETRICS, INC.
VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
Additions
--------------------------------
Balance at Charged to Charged to Balance at
Beginning of Costs and Other End of
Description Year Expenses Accounts Deductions Year
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Allowance for Doubtful
Accounts
1996 $ 111,000 $ 651,000 (a) -- $ 69,466 (b) $ 692,534
1997 692,534 (98,660) -- 152,598 (b) 441,276
1998 441,276 159,430 -- 304,123 (b) 296,583
Inventory Reserve
1996 165,190 928,623 (c) -- 56,362 1,037,451
1997 1,037,451 1,015,804 (d) -- 1,752,147 301,108
1998 301,108 230,044 -- 101,359 429,793
Warranty Reserve
1996 58,100 238,759 -- 168,359 128,500
1997 128,500 1,146,413 (e) -- 690,237 584,676
1998 584,676 529,629 -- 728,883 385,422
Accrued Installation
Costs
1996 60,876 368,096 -- 284,594 144,378
1997 144,378 609,608 -- 656,236 97,750
1998 97,750 971,348 -- 713,298 355,800
</TABLE>
(a) Includes a fourth quarter charge of $540,000 for possible write-downs in
accounts receivable related to contracts for live-scan technology.
(b) Write-off of bad debts.
(c) Includes a fourth quarter charge of $632,000 relating to excess field
service spare parts and demonstration equipment.
(d) Includes a third quarter charge of $928,000 related to technical
obsolescence of inventory.
(e) Includes a third quarter charge of $524,000 for warranty items mainly
associated with the introduction and rollout of the S-Series TENPRINTER.
EXHIBIT 4.2
Schedule of additional 8% Convertible Subordinated Debentures Due December 1,
2000 executed by the Company which are substantially identical and which are not
being filed as exhibits pursuant to Instruction 2 to Item 601 of Regulation S-K:
<TABLE>
<CAPTION>
Name of Debenture
NUMBER ----------------------------- --------------------------- Principal Amount
Holder Execution Date
<S> <C> <C> <C> <C>
B-1 KA Investments LDC March 11, 1998 $ 50,000
B-2 KA Investments LDC March 11, 1998 50,000
B-3 KA Investments LDC March 11, 1998 50,000
B-4 KA Investments LDC March 11, 1998 50,000
B-5 KA Investments LDC March 11, 1998 50,000
B-6 KA Investments LDC March 11, 1998 50,000
B-7 KA Investments LDC March 11, 1998 50,000
B-8 KA Investments LDC March 11, 1998 50,000
B-9 KA Investments LDC March 11, 1998 50,000
B-10 KA Investments LDC March 11, 1998 50,000
C-1 KA Investments LDC June 12, 1998 500,000
D-1 KA Investments LDC August 14, 1998 500,000
E-1 KA Investments LDC November 23, 1998 500,000
</TABLE>
43
EXHIBIT 4.5
Schedule of additional Warrants to purchase common stock of the Company executed
by the Company which are substantially identical and which are not being filed
as exhibits pursuant to Instruction 2 to Item 601 of Regulation S-K:
Name of Warrant Number of Shares
Holder Date of Issuance Covered by Warrant
------------------ ---------------- ------------------
KA Investments LDC March 11, 1998 15,000
KA Investments LDC June 12, 1998 15,000
KA Investments LDC August 14, 1998 15,000
KA Investments LDC November 23, 1998 15,000
44
EXHIBIT 10.4
GENERAL CREDIT AND SECURITY AGREEMENT
THIS AGREEMENT, dated as of September 29, 1998, between SPECTRUM
Commercial Services, a division of Lyon Financial Services, Inc., a Minnesota
corporation, having its mailing address and principal place of business at 7900
International Drive, Suite 890, Bloomington, Minnesota 55425-1581 (herein called
"Lender"), and Digital Biometrics, Inc., a Delaware corporation, having the
mailing address and principal place of business at 5600 Rowland Road,
Minnetonka, Minnesota 55343 (herein called "Borrower").
1. AGREEMENT. This Agreement states the terms and conditions under
which Borrower may obtain certain loans and/or other credit extensions from
Lender.
2. CERTAIN DEFINITIONS. For purposes of this Agreement, the following
terms shall have the following meanings:
"Advance(s)" shall have the meaning provided in Paragraph
4(a).
"Affiliate" shall include, with respect to any party, any
Person which directly or indirectly controls, is controlled by, or is under
common control with such party and, in addition, in the case of Borrower, each
officer, director or shareholder of Borrower, and each joint venturer and
partner of Borrower.
"Borrower" shall have the meaning provided in the preamble
hereto.
"Borrowing Base" shall mean the sum of (i) Seventy percent
(70%) of the net amount of Eligible Receivables or such greater or lesser
percentage as Lender, in its sole discretion, shall deem appropriate, plus (ii)
the lesser of (x) Five Hundred Thousand and No/100ths Dollars ($500,000.00) or
(y) Thirty Three percent (33%) of the net amount of Eligible Inventory, or such
greater or lesser dollars and/or percentage as Lender, in its sole discretion,
shall deem appropriate.
"Business Day" shall mean any day on which major commercial
banks in Minneapolis, Minnesota are open for the transaction of business of the
kind contemplated by this Agreement.
"Chattel Paper" shall have the meaning ascribed to such term
in Article 9 of the Commercial Code.
"Closing Date" shall mean the day specified by Borrower on
which all of the conditions precedent specified in Paragraph 21 shall have been
satisfied.
"Code" shall mean the Internal Revenue Code of 1986, as
amended from time to time.
"Commercial Code" shall mean the Uniform Commercial Code as
enacted in the State of Minnesota, as amended from time to time.
"Consolidated" shall, when used with reference to any
financial information pertaining to (or when used as a part of any defined term
or statement pertaining to the financial condition of) any Person, mean the
accounts of such Person and its subsidiaries, determined on a consolidated
basis, all determined as to principles of consolidation and, except as otherwise
specifically required by the definition of such term or by such statement as to
such accounts, in accordance with GAAP.
"Contingent Obligations" shall mean, with respect to any
Person, all of such Person's liabilities and obligations which are contingent
upon and will not mature unless and until the occurrence of some event or
circumstance and which are not included within the definition of Liabilities of
such Person.
"Current Assets" shall have the meaning given to that term in
accordance with GAAP.
"Current Liabilities" shall have the meaning given to that
term in accordance with GAAP, except that the outstanding principal amount of
the Advance shall, in any event, be excluded.
"Customer(s)" shall have the meaning provided in Paragraph
7(a).
"Default" shall mean any event which, with the giving of
notice or passage of time, or both, would constitute an Event of Default.
"Eligible Inventory" shall mean the dollar value of only that
Inventory in which only Lender holds a senior security interest and as to which
Lender, in its sole discretion, shall elect from time to time to constitute
Eligible Inventory. Without limiting the discretion of Lender to consider any
Inventory not to be Eligible Inventory, and by way of example of types of
Inventory that Lender will consider not to be Eligible Inventory, Lender,
notwithstanding any earlier classification of eligibility, may consider any
Inventory not to be Eligible Inventory if: (i) such Inventory does not
constitute so called raw materials or unmodified parts or other off-the-shelf
components; (ii) such Inventory does not meet all standards imposed by any
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<PAGE>
governmental agency having regulatory authority over such goods and/or their
use, manufacture or sale; (iii) such Inventory has not been physically received
by Borrower at Borrower's principal offices in Minnetonka, Minnesota; (iv) such
Inventory is not currently usable or currently salable in the normal course of
Borrower's operations; (v) such Inventory is on consignment to or from any other
Person or is subject to any bailment; (vi) such Inventory is subject to any
lien, Security Interest or other encumbrance whatsoever, except for the security
interest of Lender under this Agreement; (vii) such Inventory has been sold to
any other person; (viii) such Inventory is located in a place other than
Borrower's warehouse/principal place of business in Minnetonka, Minnesota; or
(ix) such Inventory which is not located in Borrower's warehouse in Minnetonka,
Minnesota but is contained in or is a part of an operational Tenprinter Model
1133S (including the printer) and which is limited, in the aggregate, to no more
than one-third of total Eligible Inventory. The value of Eligible Inventory
shall be the lower of the cost or market value of the Eligible Inventory in
accordance with generally accepted accounting principles on the basis of the
most recent inventory certificates delivered to Lender pursuant to Paragraph
17(a)(v).
"Eligible Receivables" shall mean the dollar value of only
such Receivables of Borrower arising from the sale and actual shipment of
Inventory or the full and complete rendition of services in the ordinary course
of business which has been fully performed by Borrower and in which only Lender
holds a senior security interest and as to which Lender, in its sole discretion,
shall from time to time determine to be Eligible Receivables. Without limiting
the discretion of Lender to consider any Receivable not to be an Eligible
Receivable, and by way of example only of types of Receivables that Lender will
consider not to be Eligible Receivables, Lender, notwithstanding any earlier
classification of eligibility may consider any Receivable not to be an Eligible
Receivable if: (i) any warranty is breached as to the Receivable; (ii) for
Receivables resulting from the sale of product or equipment, the Receivable is
not paid by the account debtor within 90 days from the date of the certificate
of completion and acceptance relating to such Receivable; (iii) for Receivables
resulting from the provision of services, the Receivable is not paid by the
account debtor within 90 days from the date of the invoice relating to such
Receivable (iv) the account debtor disputes liability or makes any claim with
respect to the Receivable; (v) a petition in bankruptcy or other application for
relief under any insolvency law is filed with respect to the account debtor
owing the Receivable; (vi) the account debtor on the Receivable makes an
assignment for the benefit of creditors, becomes insolvent, fails, suspends, or
goes out of business; (vii) the Receivable arises from a sale to an account
debtor outside the United States, unless the sale is on terms acceptable to
Lender in its sole discretion; (viii) the Receivable is owed by an account
debtor who owes Receivables of which more than 10% are more than 90 days past
the date of the invoices relating to such Receivables; (ix) the account debtor
is an Affiliate or employee of Borrower; (x) the account debtor is also a
supplier or creditor of Borrower; (xi) the account debtor is the United States
of America, or any department or any agency of any thereof, unless Borrower has
complied with the Assignment of Claims Act to Lender's satisfaction; (xii) the
Receivable is either a consignment Receivable or a bonded Receivable or a
retainage; (xiii) the Receivable, along with all other Receivables from the same
debtor (including any Affiliate of that debtor), account for more than 33% of
the total amount of Eligible Receivables outstanding at any time; (xiv) for
Receivables resulting from the sale of equipment or product, a certificate of
completion and acceptance (in form and substance acceptable to Lender) has not
been signed by an authorized representative of the debtor is delivered to Lender
for such Receivable; or (xv) the Receivable is for any extended warranty or
other contract for services which is to be performed partially or fully in the
future.
"Equipment" shall have the meaning provided in Paragraph 3.
"ERISA" shall mean the Employee Retirement Income Security Act
of 1974, as the same may from time to time be amended, and the rules and
regulations promulgated thereunder by any governmental agency or authority, as
from time to time in effect.
"ERISA Affiliate" shall mean, with respect to any Person, any
trade or business (whether or not incorporated) which is a member of a group of
which such Person is a member and which is under common control within the
meaning of Section 414 of the Code, as amended from time to time, and the
regulations promulgated and rulings issued thereunder.
"ERISA Event" shall mean: (a) a Reportable Event described in
Section 4043 of ERISA and the regulations issued thereunder (other than a
Reportable Event not subject to the provision for 30-day notice to the PBGC
under such regulations); (b) the withdrawal of Borrower or any ERISA Affiliate
from a Plan during a plan year in which it was a "substantial employer" as
defined in Section 4001(a)(2) of ERISA; (c) the filing of a notice of intent to
terminate a Plan or the treatment of a Plan amendment as a termination under
Section 4041 of ERISA; (d) the institution of proceedings to terminate a Plan by
the PBGC under Section 4042 of ERISA; or (e) any other event or condition that
might reasonably be expected to constitute grounds under Section 4042 of ERISA
for the termination of, or the appointment of a trustee to administer, any Plan.
"Event of Default" shall have the meaning provided in
Paragraph 20.
"GAAP" shall mean generally accepted accounting principles
consistently applied and maintained throughout the period indicated and
consistent with the audited financial statements delivered to Lender pursuant to
Paragraph 16(h). Whenever any accounting term is used herein which is not
otherwise defined, it shall be interpreted in accordance with GAAP.
"General Intangibles" shall have the meaning provided in
Paragraph 3.
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<PAGE>
"Independent Public Accountants" shall mean KPMG Peat Marwick
LLP or any other firm of independent public accountants which is acceptable to
Lender.
"Inventory" shall have the meaning provided in Paragraph 3.
"Liabilities" of any Person shall mean those items which, in
accordance with GAAP, appear as liabilities on a balance sheet.
"Line Maintenance Fee" shall have the meaning provided in
Paragraph 17.
"Loan Administration Fee" shall have the meaning provided in
Paragraph 17.
"Loan Document(s)" shall mean individually or collectively, as
the case may be, this Agreement, the Note and any and all other documents
executed, delivered or referred to herein or therein, as originally executed and
as amended, modified or supplemented from time to time.
"Material Adverse Occurrence" shall mean any occurrence of
whatsoever nature (including, without limitation, any adverse determination in
any litigation, arbitration or governmental investigation or proceeding) which
Lender shall determine, in its sole discretion, could materially adversely
affect the present or prospective financial condition or operations of Borrower
or materially impair the ability of Borrower to perform its obligations under
this Agreement or any other Loan Document.
"Maturity Date" shall mean September 30, 2000, provided,
however, that Borrower shall have the option to extend the Maturity Date for
subsequent twelve month periods, unless Lender (in its sole and absolute
discretion) notifies Borrower at least sixty days prior to the then current
Maturity Date that the extension shall not be available and in that event, no
extension shall occur. In any event, the extension option shall not be available
if, as of the then current Maturity Date (i) an Event of Default has occurred
and is continuing (whether or not Lender has notified Borrower of such default),
or (ii) this Agreement has previously terminated as provided in Paragraph 23, or
(iii) Lender has, in its sole and absolute discretion, demanded payment of
amounts owed hereunder. Should Borrower have the option to extend the Maturity
Date and choose to do so, than Borrower shall notify Lender of its request for
an extension at least 15 days before the then current Maturity Date and, prior
to the then current Maturity Date, shall have executed a new or amended
promissory note reflecting the extended Maturity Date and which contains
substantially the same terms as the Note then in effect.
"Maximum Principal Amount" shall mean, at any date, Two
Million and No/100ths Dollars ($2,000,000.00).
"Monthly Payment Date" shall mean the first day of each month.
"Multiemployer Plan" shall mean a "multiemployer plan" as
defined in Section 4001(a)(3) of ERISA to which Borrower is making or accruing
an obligation to make contributions, or has within any of the preceding three
plan years made or accrued an obligation to make contributions.
"Net Profit" or "Net Loss" for any period shall mean net
income or loss for such period, determined in accordance with GAAP excluding,
however, (i) extraordinary gains (including but not limited to the conversion of
debt to equity, the forgiveness of debt and the like), and (ii) gains (whether
or not extraordinary) from sales or other dispositions of assets other than the
sale of Inventory in the ordinary course of Borrower's business.
"Note" shall mean Borrower's revolving or promissory note of
even date payable to the order of Lender to evidence the Advances, including any
replacements, substitutions or amendments thereof.
"Obligations" shall have the meaning provided in Paragraph 3.
"Origination Fee" shall have the meaning provided in Paragraph
17.
"Participant" shall mean each Person who purchases a
participation interest from Lender in the obligations.
"PBGC" shall mean the Pension Benefit Guaranty Corporation or
any successor board, authority, agency, officer or official of the United States
administering the principal functions assigned on the date hereof to the Pension
Benefit Guaranty Corporation under ERISA.
"Person" shall mean any natural person, corporation, firm,
partnership, association, government, governmental agency or any other entity,
whether acting in an individual, fiduciary or other capacity.
"Plan" shall mean each employee benefit plan or other class of
benefits covered by Title IV of ERISA, in either case whether now in existence
or hereafter instituted, of Borrower or any of its Subsidiaries.
"Prime Rate" shall mean the publicly announced base rate (or
other publicly announced reference rate) charged by Norwest Bank Minnesota,
National Association; Borrower acknowledges that the Prime Rate may not be the
lowest rate made available by Lender to its customers and that Lender may lend
to its customers at rates that are at, above or below the Prime Rate.
"Receivables" shall have the meaning provided in Paragraph
3(a).
"Reportable Event" shall have the meaning given to that term
in Title IV of ERISA.
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<PAGE>
"Security Interest" shall mean any lien, pledge, mortgage,
encumbrance, charge or security interest of any kind whatsoever (including,
without limitation, the lien or retained security title of a conditional vendor)
whether arising under a security instrument or as a matter of law, judicial
process or otherwise or the agreement by Borrower to grant any lien, security
interest or pledge, mortgage or encumber any asset.
"Subordinated Debt" shall mean indebtedness of Borrower for
borrowed money which is subordinated to the Obligations on terms satisfactory to
Lender in its sole discretion.
"Subsidiary" of any Person shall mean any other corporation of
which more than 50% of the outstanding shares of capital stock having ordinary
voting power for the election of directors is owned directly or indirectly by
such Person, by such Person and one or more Subsidiaries, or by one or more
other Subsidiaries.
"Termination Date" shall mean the earliest of (i) the Maturity
Date or (ii) the date upon which Lender's obligation to make Advances is
terminated pursuant to Paragraph 20, or (iii) the date upon which the
obligations are declared to be due and payable (or automatically become due and
payable) upon the occurrence of an Event of Default as provided in Paragraph 20
or otherwise, or (iv) the date upon which this Agreement terminates as provided
in Paragraph 23, or (v) upon demand by Lender in its sole and absolute
discretion.
"Withdrawal Liability" shall have the meaning given to that
term in Title IV of ERISA.
"Working Capital" at any date shall mean Current Assets at
such date minus Current Liabilities at such date.
3. SECURITY. As security for all present and future sums loaned or
advanced by Lender to Borrower and for all other obligations now or hereafter
chargeable to Borrower's loan account hereunder, and all other obligations and
liabilities of any and every kind of Borrower to Lender, due or to become due,
direct or indirect, absolute or contingent, joint or several, howsoever created,
arising or evidenced, now existing or hereafter at any time created, arising or
incurred (herein called "Obligations'), Borrower hereby grants to Lender a
security interest in and to the following property:
(a) All Receivables of Borrower now owned or hereafter
acquired or arising, together with all customer lists, original books
and records, ledger and account cards, computer tapes, discs, printouts
and records, whether now in existence or hereafter created.
"Receivables" means all rights of Borrower to the payment of money,
whether or not earned and howsoever evidenced or arising, including
(without limitation) all present and future "Accounts", accounts
receivable, "Chattel Paper", "Instruments", and rights to payment which
are "General Intangibles" (as those terms are used in the Commercial
Code), all security therefor and all of Borrower's rights as an unpaid
seller of goods (including rescission, replevin, reclamation and
stopping in transit) and all of Borrower's rights to any goods
represented by any of the foregoing including returned or repossessed
goods;
(b) All Inventory of Borrower, whether now owned or hereafter
acquired and wherever located. "Inventory" includes all Goods (as
defined in Article 9 of the Commercial Code) intended for sale or lease
or to be furnished under contracts of service, all raw materials and
work in process therefor, all finished goods thereof, all materials and
supplies of every nature used or usable or consumed or consumable in
connection with the manufacture, packing, shipping, advertising,
selling, leasing or furnishing of such Goods, and all accessories
thereto and all documents of title therefor evidencing the same;
(c) All Equipment of Borrower, whether now owned or hereafter
acquired and wherever located. "Equipment" includes all of Borrower's
Goods other than Inventory, all replacements and substitutions therefor
and all accessions thereto, and specifically includes, without
limitation, all present and future machinery, equipment, vehicles,
manufacturing equipment, shop equipment, office and record keeping
equipment, furniture, fixtures, parts, tools and all other Goods
(except Inventory) used or acquired for use by Borrower for any
business or enterprise;
(d) All General Intangibles and Deposit Accounts (as defined
in Article 9 of the Commercial Code) of Borrower, whether now owned or
hereafter acquired, including (without limitation) all present and
future domestic and foreign patents, patent applications, trademarks,
trademark applications, copyrights, trade names, trade secrets, patent
and trademark licenses (whether Borrower is licensor or licensee), shop
drawings, engineering drawings, blueprints, specifications, parts
lists, manuals, operating instructions, customer and supplier lists,
licenses, permits, franchises, the right to use Borrower's corporate
name and the goodwill of Borrower's business; and
(e) All Investment Property (as defined in the Commercial
Code) including but not limited to stock and other securities
evidencing ownership of any other organization, company or entity as
well as all amendments, extensions, renewals and replacements of the
above, together with all certificates, other instruments, options,
rights, interest, and other distributions issued as an addition to, in
substitution or in exchange for, or on account of, the same, all
whether now existing or hereafter arising and whether now owned or
hereafter acquired; and
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<PAGE>
(f) All products and proceeds of any and all of the foregoing
and all products and proceeds of any other Collateral (as hereinafter
defined) including the proceeds of any insurance covering any of the
Collateral, as well as all Deposit Accounts (as defined in the
Commercial Code), money, cash, and the like.
All such Receivables, Inventory, Equipment, General Intangibles, Investment
Property, Deposit Accounts, products and proceeds, together with all other
assets and properties of Borrower in or on which Lender is now or hereafter
granted a security interest, mortgage, lien or encumbrance pursuant to this
Agreement or otherwise, are hereinafter sometimes referred to as "Collateral".
4. ADVANCES.
(a) At the request of Borrower, Lender agrees, subject to the
terms and conditions hereinafter set forth, to make loans (each such
loan being herein sometimes called individually an "Advance" and
collectively the "Advances") to Borrower from time to time on any
Business Day during the period from the date hereof and ending on the
Termination Date; provided, however, that Lender shall not be required
to make any Advance if, after giving effect to such Advance, the
aggregate unpaid principal amount of Advances outstanding would exceed
the lesser of the Borrowing Base or the Maximum Principal Amount. The
amount of each such Advance shall be charged to Borrower's loan
account. Borrower acknowledges that Lender may, but shall not be
obligated to, make an Advance at any time in an amount equal to any
overdraft in any account of Borrower maintained with Lender or any
Participant even if the aggregate unpaid principal amount of Advances
exceeds or would exceed the Borrowing Base or the Maximum Principal
Amount.
(b) In order to obtain an Advance, Borrower shall give written
or telephonic notice to Lender, by not later than 11:00 a.m.
(Minneapolis time) on the day before the requested Advance is to be
made. Lender, shall make such Advance by transferring the amount
thereof in immediately available funds for credit to Borrower's
account, as specified in such notice. At the request of Lender,
Borrower shall confirm in writing any telephonic notice.
(c) The obligation of Lender to make Advances shall terminate
on the Termination Date.
(d) If at any time the sum of the aggregate outstanding
principal balance of the Advances exceeds the lesser of (i) the Maximum
Principal Amount or (ii) the Borrowing Base, then Borrower agrees to
make, on demand, a principal repayment on the Advances in an amount
equal to such excess together with accrued interest on the amount
repaid to the date of repayment. Borrower agrees that, on the
Termination Date (or earlier upon demand), it will repay the entire
outstanding principal balance of the Advances together with accrued
interest thereon and all accrued fees without presentment or demand for
payment, notice of dishonor, protest or notice of protest, all of which
are hereby waived.
(e) The Advances shall be evidenced by the Note made by
Borrower payable to the order of Lender in a principal amount equal to
the Maximum Principal Amount; subject, however, to the provisions of
the Note to the effect that the principal amount payable thereunder at
any time shall not exceed the then unpaid principal amount of all
Advances made by Lender. Borrower hereby irrevocably authorizes Lender
to make or cause to be made, at or about the time of each Advance made
by Lender, an appropriate notation on the records of Lender, reflecting
the principal amount of such Advance, and Lender shall make or cause to
be made, on or about the time of receipt of payment of any principal of
the Note, an appropriate notation on its records reflecting such
payment. The aggregate amount of all Advances set forth on the records
of Lender shall be rebuttable presumptive evidence of the principal
amount owing and unpaid on the Note.
4A. DEMAND FACILITY. All interest, principal, Advances, and any other
amounts owing hereunder are due ON DEMAND and Lender specifically reserves the
absolute right to demand payment of all such amounts at any time, with or
without advance notice, for any reason or no reason whatsoever. Lender's right
to make such demand is not exclusive and Lender may coincidentally or separately
from such demand make further demand for payment pursuant to Paragraph 20 or
otherwise hereunder and, further, amounts may become due hereunder (pursuant to
Paragraph 20 or otherwise) without a demand by Lender, as provided in this
agreement.
5. INTEREST. Borrower agrees to pay interest on the outstanding
principal amount of the Note, at the close of each day at a fluctuating rate per
annum (computed on the basis of actual number of days elapsed and a year of 360
days) which is at all times equal to Four Percent (4%) in excess of the Prime
Rate; each change in such fluctuating rate caused by a change in the Prime Rate
to occur simultaneously with the change in the Prime Rate (the "Initial Rate");
provided, however, that (i) in no event shall the Initial Rate, the Adjusted
Rate or the Re-adjusted rate in effect hereunder at any time be less than 10%
per annum; and (ii) interest payable hereunder with respect to each calendar
month shall not be less than $5,200.00 regardless of the amount of loans,
Advances or other credit extensions that actually may have been outstanding
during the month. Interest accrued through the last day of each month will be
due and payable to Lender on the next Monthly Payment Date, commencing November
1, 1998. Interest shall also be payable on the Maturity Date or on any earlier
Termination Date.
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Interest accrued after the Maturity Date or earlier Termination Date shall be
payable on Demand. Interest may be charged to Borrower's loan account as an
Advance at Lender's option, whether or not Borrower then has the right to obtain
an Advance pursuant to the terms of this Agreement.
In the event Borrower earns "Net Profit" for the nine months ended June 30, 1999
(or earlier) of at least Six Hundred Thousand Dollars ($600,000.00), and
provided no Event of Default exists or has occurred, then as of the next
scheduled Monthly Payment Date following Borrower's written request for such
reduction and Borrower's delivery of financial statements pursuant to this
Agreement which reflect such Net Profit, the Initial Rate shall be reduced to
three and one-quarter percent (3 1/4%) in excess of the Prime Rate (the
"Adjusted Rate"). Provided that Borrower obtains the Adjusted Rate reduction
described above, then in the further event Borrower earns Net Profit for twelve
months ended September 30, 1999 (or earlier) of at least One Million Dollars
($1,000,000.00), and provided no Event of Default exists or has occurred, then
as of the next scheduled Monthly Payment Date following Borrower's written
request and Borrower's delivery of financial statements pursuant to this
Agreement which reflect such Net Profit, the Adjusted Rate shall be reduced to
two and one-half percent (2 1/2%) in excess of the Prime Rate (the "Re-adjusted
Rate") commencing with the next scheduled Monthly Payment Date following
Lender's receipt of the financial statements delivered to Lender. (the Initial
Rate, the Adjusted Rate and the Re-adjusted Rate are sometimes hereinafter
collectively referred to as the "Interest Rate"). If Lender later learns that
the required Net Profit was not accurate or not compliant with GAAP, an Event of
Default shall occur hereunder and the Interest Rate shall be retroactively
adjusted to the Initial Rate as if no reduction had ever taken place.
Notwithstanding the foregoing, after an Event of Default, the Note shall bear
interest until paid at 5% per annum in excess of the rate otherwise then in
effect, which rate shall continue to vary based on further changes in the Prime
Rate; provided, however, that after an Event of Default, (i) in no event shall
the interest rate in effect under the Note at any time be less than 15% per
annum; and (ii) interest payable under the Note with respect to each calendar
month shall not be less than $6,250 regardless of the amount of loans, Advances
or other credit extensions that actually may have been outstanding during the
month.. The undersigned shall also pay a late fee equal to 10% of any payment
under the Note that is more than 10 days past due.
6. SET-OFF; ETC. Upon the occurrence of a Default or an Event of
Default, Lender is hereby authorized at any time and from time to time, without
notice to Borrower (any such notice being expressly waived by Borrower), to set
off and apply any and all deposits (general or special, time or demand,
provisional or final) at any time held and other indebtedness at any time owing
by Lender or any Participant to or for the credit or the account of Borrower,
including specifically any amounts held in any account maintained at Lender or
any Participant, against any and all amounts which may be owed to Lender or any
Participant by Borrower whether in connection with this Agreement or otherwise
and irrespective of whether Borrower shall have made any requests under this
Agreement.
7. REPORTS AND COLLECTIONS.
(a) Borrower agrees to furnish to Lender, at least weekly,
schedules describing Receivables created or acquired by Borrower
(including confirmatory written assignments thereof), including copies
of all invoices to account debtors and other obligors (all herein
referred to as "Customers") and original shipping or delivery receipts
for all goods sold, but if Borrower fails to do so the rights of Lender
as a secured party will not be impaired. At any time after the
occurrence of an Event of Default, Lender may notify Customers at any
time that Receivables have been assigned to Lender and collect them
directly in Lender's own name but unless and until Lender does so or
gives Borrower other instructions, Borrower shall make collection for
Lender at Borrower's sole cost and expense. Borrower shall advise
Lender promptly of any goods which are returned by Customers or
otherwise recovered involving an amount in excess of $5,000.00.
Borrower shall also advise Lender promptly of all disputes and claims
by Customers involving an amount in excess of $5,000.00. At any time
after the occurrence and during the continuance of an Event of Default,
Lender may at all times settle or adjust such disputes and claims
directly with the Customers for amounts and upon terms which Lender
considers advisable. If Lender so directs at any time after an Event of
Default, no discount, credit or allowance shall be granted by Borrower
to any Customer and no return of goods shall be accepted by Borrower
without Lender's written consent.
(b) Borrower agrees to furnish to Lender Inventory
certifications in accordance with Paragraph 17(a)(v) and a physical
listing of all Inventory, wherever located, at least once every twelve
months or, in either case, as more frequently requested by Lender.
(c) All full and partial payments arising from the sale,
collection or other disposition of Collateral (whether or not in the
ordinary course of business), including but not limited to the
collection of accounts receivable in the ordinary course of business
and the ordinary sale of inventory or services for cash, shall
immediately be delivered by Borrower to Lender IN THEIR ORIGINAL FORM
(except for endorsement where necessary) and UNCASHED (in the case of
checks or other documents). Borrower shall direct all customers and
other remitters of payments to mail payments to Lender's post office
box or other lockbox. Until such payments are so delivered to Lender
(or Lender's lockbox), such payments shall be held in trust by Borrower
for and as Lender's property and shall not be commingled with any funds
of
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Borrower. The net amount received by Lender as proceeds arising from
the sale or other disposition of Collateral will be credited by Lender
to Borrower's loan account (subject to final collection thereof) after
allowing the number of days required by the applicable bank for
collection of checks and other instruments.
8. WARRANTY AS TO COLLATERAL. Borrower warrants that:
(a) all Receivables listed in or reported on Borrower's
schedules will, when Borrower delivers the schedules to Lender, be bona
fide existing obligations created by the completed sale and actual
delivery of goods and/or the completed rendition of services to
Customers in the ordinary course of business in accordance with GAAP
which Borrower then owns free of any Security Interest except for the
Security Interest in favor of Lender created by this Agreement or
Security Interests permitted under Paragraph 18(d), and which are then
unconditionally owing to Borrower without defense, offset or
counterclaim; and that all shipping or delivery receipts, invoice
copies and other documents furnished to Lender in connection therewith
will be genuine; and
(b) all Inventory and Equipment is and shall be owned by
Borrower, free of any Security Interest except for the Security
Interest of Lender created by this Agreement or Security Interests
permitted by Paragraph 18(d).
Lender's rights to and security interest in the Collateral will not be impaired
by the ineligibility of any such Collateral for Advances and will continue to be
effective until all obligations chargeable to Borrower's loan account have been
fully satisfied.
9. POWER OF ATTORNEY. Borrower authorizes and appoints Lender, or any
of Lender's officers, employees or agents whom Lender may from time to time
designate, as Borrower's attorney with power to: (a) to endorse Borrower's name
on any checks, notes, acceptances, drafts or other forms of payment or security
that may come into Lender's possession; (b) to sign Borrower's name on any
invoice or bill of lading relating to any Receivables, on drafts against
Customers, on schedules and confirmatory assignments of Receivables, on notices
of assignment, financing statements and amendments under the Commercial Code and
other public records, on verifications of accounts and on notices to Customers;
(c) to notify the post office authorities to change the address for delivery of
Borrower's mail to an address designated by Lender; (d) to receive, open and
dispose of all mail addressed to Borrower; (e) to send requests for verification
of accounts to Customers; (f) to obtain information from any bank, creditor,
customer or other Person regarding Borrower's relationship, account, history
etc.; (g) to sign lien waivers and other releases or satisfactions of claims or
rights by Borrower in exchange for payment or other consideration which Lender
in its sole discretion believes is appropriate under the circumstances; (h) to
directly verify and/or confirm the existence, authenticity, accuracy or terms of
any Receivable (both in Lender's own name or in Borrower's name) without
previously notifying Borrower of its intention to do so and Borrower grants its
consent to Lender for Lender's employees and agents to represent themselves as
agents of Borrower for these purposes; and (i) to do all things necessary to
carry out this Agreement; provided however, that the powers specified in clauses
(b), (c), (d), (g), and (i) above may be exercised only after the occurrence of
an Event of Default. Borrower ratifies and approves all acts of the attorney
excluding acts of gross negligence or willful misconduct. Neither Lender nor the
attorney will be liable for any acts of commission or omission nor for any error
in judgment or mistake of fact or law. This power, being coupled with an
interest, is irrevocable so long as any Receivable in which Lender has a
security interest or any Obligation remains unpaid. Borrower waives presentment
and protest of all instruments and notice thereof, notice of default and
dishonor and all other notices to which Borrower may otherwise be entitled.
10. LOCATION OF COLLATERAL. Borrower warrants that its chief executive
office is at the address stated in the opening paragraph of this Agreement and
that its books and records concerning Receivables are located there. Borrower's
Inventory, Equipment and other goods are at the location or locations as
designated on Schedule A annexed hereto. Borrower shall immediately notify
Lender if any additional locations for Collateral are subsequently established.
Borrower shall not change the location of its chief executive office, the place
where it keeps its books and records, or the location of any Collateral (except
for sales of Inventory in the ordinary course of business) until Borrower has
obtained the written consent of Lender and all necessary filings have been made
and other actions taken to continue the perfection of Lender's Security Interest
in such new location. Lender's Security Interest attaches to all the Collateral
wherever located, and the failure of Borrower to inform Lender of the location
of any item or items of Collateral shall not impair Lender's Security Interest
therein.
11. OWNERSHIP AND PROTECTION OF COLLATERAL. Borrower warrants,
represents and covenants to Lender that the Collateral is now and, so long as
Borrower is obligated to Lender, will be owned by Borrower free and clear of all
Security Interests except for the Security Interest in favor of Lender created
by this Agreement and except the Security Interests, if any, permitted by
Paragraph 18(d), and that said Collateral, including the Receivables and
proceeds resulting from the collection, sale or other disposition thereof, will
remain free and clear of any and all Security Interests except for the Security
Interest in favor of Lender created by this Agreement and except the Security
Interests, if any, permitted under Paragraph 18(d). Borrower will not sell,
lease or otherwise dispose of the Collateral, or attempt to do so (except for
sales of Inventory in the ordinary course of business and sales of obsolete and
worn equipment not in excess of $25,000 in the aggregate in any calendar year)
without the prior written consent of Lender and unless the proceeds of any such
sale are paid to Lender for application on Borrower's Obligations. After the
occurrence of a Default or an Event of Default, Lender will at all times have
the right to take physical possession of any Inventory and Equipment
constituting Collateral and to maintain such
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possession on Borrower's premises or to remove the same or any part thereof to
such other places as Lender may wish. If Lender exercises Lender's right to take
possession of such Collateral, Borrower shall on Lender's demand, assemble the
same and make it available to Lender at a place reasonably convenient to Lender.
Borrower shall at all times keep the Equipment constituting Collateral in good
condition and repair. All expenses of protecting, storing, warehousing,
insuring, handling and shipping of the Collateral, all costs of keeping the
Collateral free of any Security Interests prohibited by this Agreement and of
removing the same if they should arise, and any and all excise, property, sales
and use taxes imposed by any state, federal or local authority on any of the
Collateral or in respect of the sale thereof, shall be borne and paid by
Borrower and if Borrower fails to promptly pay any thereof when due, Lender may,
at its option, but shall not be required to, pay the same and charge Borrower's
loan account therefor. Borrower agrees to renew all insurance required by this
Paragraph 11 or Paragraph 13 at least 15 days prior to its expiration. Borrower
agrees that, with respect to any Inventory maintained in a public warehouse, (i)
Borrower will ensure that any warehouse receipts issued are not in a negotiable
form, (ii) Borrower will, upon request from Lender, deliver all warehouse
receipts to Lender, and (iii) Borrower will cause the public warehouseman to
execute an agreement similar to those delivered pursuant to Paragraph 21 and in
form and substance satisfactory to Lender.
12. PERFECTION OF SECURITY INTEREST. Borrower agrees to execute such
financing statements together with any and all other instruments or documents
and take such other action, including delivery, as may be required to create,
evidence, perfect and maintain Lender's Security Interest in the Collateral and
Borrower shall not in any manner do any act or omit to do any act which would in
any manner impair or invalidate Lender's Security Interest in the Collateral or
the perfection thereof.
13. INSURANCE. Borrower shall maintain insurance coverage on any
Collateral other than Receivables with such companies, against such hazards, and
in such amounts as may from time to time be acceptable to Lender and shall
deliver such policies or copies thereof to Lender with satisfactory lender's
loss payable endorsements naming Lender. Each policy of insurance shall contain
a clause requiring the insurer to give not less than 30 days prior written
notice to Lender in the event of any anticipated cancellation of the policy for
any reason and a clause that the interest of Lender shall not be impaired or
invalidated by any act or neglect of Borrower nor by the occupation of the
premises wherein such Collateral is located for purposes more hazardous than are
permitted by said policy. Borrower will maintain, with financially sound and
reputable insurers, insurance with respect to its properties and business
against such casualties and contingencies of such types (which may include,
without limitation, public and product liability, larceny, embezzlement, or
other criminal misappropriation insurance) and in such amounts as may from time
to time be required by Lender.
14. BORROWER'S ACCOUNT. Lender may charge to Borrower's loan account at
any time the amounts of all Obligations (and interest, if any, thereon) owing by
Borrower to Lender, including (without limitation) loans, Advances, debts,
liabilities, obligations acquired by purchase, assignment or participation and
all other obligations, whenever arising, whether absolute or contingent and
whether due or to become due; also the amount of all costs and expenses and all
reasonable attorneys' fees and legal expenses incurred in connection with
efforts made to enforce payment of such obligations, or to obtain payment of any
Receivables, or the foreclosure of any Collateral or in the prosecution or
defense of any actions or proceedings relating in any way to this Agreement
(including but not limited to bankruptcy or insolvency proceedings) whether or
not suit is commenced, including reasonable attorneys' fees and legal expenses
incurred in connection with any appeal of a lower court's order or judgment; and
also the amounts of all unpaid taxes and the like, owing by Borrower to any
governmental authority or required to be deposited by Borrower, which Lender
pays or deposits for Borrower's account. All of Borrower's borrowings hereunder
and (unless otherwise specified) all other obligations which are chargeable to
Borrower's loan account shall be payable ON DEMAND; recourse to security will
not be required at any time. All sums at any time standing to Borrower's credit
on Lender's books and all of Borrower's property at any time in Lender's
possession or upon or in which Lender has a Security Interest, may be held by
Lender as security for all obligations which are chargeable to Borrower's loan
account. Subject to the foregoing, Lender, at Borrower's request, will remit to
Borrower any net balance standing to Borrower's credit on Lender's books. Lender
will account to Borrower monthly and each monthly accounting will be fully
binding on Borrower, unless, within thirty days thereafter, Borrower gives
Lender specific written notice of exceptions. All debit balances in Borrower's
loan account will bear interest as provided in Paragraph 5 of this Agreement. If
Lender so requests at any time, Borrower will immediately execute and deliver to
Lender a promissory note in negotiable form payable on demand to Lender's order
in a principal amount equal to the amount of the debit balance in Borrower's
loan account, with interest as provided in Paragraph 5 of this Agreement. In any
event, Borrower covenants to pay all Advances, debts, accounts and interest when
due.
15. PARTICIPATIONS. If any Person shall acquire a participation in
Advances made to Borrower hereunder, Borrower hereby grants to Lender as well as
any such Person holding a participation, and Lender and such Person shall have
and are hereby given a continuing Security Interest in any money, securities and
other property of Borrower in the custody or possession of such Participant,
including the right of set-off as fully as if such Participant had lent directly
to Borrower the amount of such participation. Borrower hereby grants to Lender
its continuing authority and consent to release any and all financial and other
information related to Borrower's financial condition, performance, its
business, operations or any other matter whatsoever to any Participant, or to
any other financial institution for their consideration of a possible
participation in Advances by such financial institution, provided such financial
institution agrees to consider such information only with respect to the
possibility of a participation and to otherwise maintain such information as
confidential.
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16. GENERAL REPRESENTATIONS AND WARRANTIES. To induce Lender to make
Advances hereunder, Borrower makes the following representations and warranties,
all of which shall survive the initial Advance:
(a) Borrower is a corporation duly organized, existing, and in
good standing under the laws of the State of Delaware, has corporate
power to own its property and to carry on its business as now
conducted, and is duly qualified to do business in all states in which
the nature of its business requires such qualification. During the past
five years, Borrower has done business solely under the names listed on
Schedule B attached hereto. Borrower does not own any capital stock of
any corporation, except as set forth on Schedule C attached hereto.
(b) The execution and delivery of this Agreement and the other
Loan Documents and the performance by Borrower of its obligations
hereunder and thereunder do not and will not conflict with any
provision of law, or of the charter or bylaws of Borrower, or of any
agreement binding upon Borrower.
(c) The execution and delivery of this Agreement and the other
Loan Documents have been duly authorized by all necessary corporate
action by directors and shareholders of Borrower; and this Agreement
and the other Loan Documents have in fact been duly executed and
delivered by Borrower and constitute its lawful and binding
obligations, legally enforceable against it in accordance with their
respective terms.
(d) Except as disclosed to Lender on Schedule D attached
hereto, there is no action, suit or proceeding at law or equity, or
before or by any federal, state, local or other governmental
department, commission, board, bureau, agency or instrumentality,
domestic or foreign, pending or, to the knowledge of Borrower,
threatened against Borrower or the property of Borrower which, if
determined adversely, would be a Material Adverse Occurrence, and
Borrower is not in default with respect to any final judgment, writ,
injunction, decree, rule or regulation of any court or federal, state,
local or other governmental department, commission, board, bureau,
agency or instrumentality, domestic or foreign, where the effect of
such default would be a Material Adverse Occurrence.
(e) The authorization, execution and delivery of this
Agreement, and the payment of the loans and interest hereon, is not,
and will not be, subject to the jurisdiction, approval or consent of
any federal, state or local regulatory body or administrative agency.
(f) All of the assets of Borrower are free and clear of
Security Interests except those listed on Schedule E attached hereto.
(g) Borrower has filed all federal, state and local tax
returns which, to the knowledge of Borrower, are required to be filed,
and Borrower has paid all taxes shown on such returns and all
assessments which are due. Borrower has made all required withholding
deposits. Federal income tax returns of Borrower have been examined and
approved or adjusted by the applicable taxing authorities or closed by
applicable statutes for all fiscal years prior to and including the
fiscal year ended on September 30, 1997. Borrower does not have
knowledge of any objections to or claims for additional taxes by
federal, state or local taxing authorities for subsequent years which
would be a Material Adverse Occurrence.
(h) Borrower has furnished to Lender the financial statements
listed on Schedule G attached hereto. These statements were prepared in
accordance with GAAP and present fairly the financial condition of
Borrower and its Consolidated Subsidiaries. There has been no material
adverse change in the condition of Borrower and its Consolidated
Subsidiaries, financial or otherwise, since the date of the most recent
of such financial statements.
(i) The value of the assets and properties of Borrower at a
fair valuation and at their then present fair salable value is and,
after giving effect to any pending Advance and the application of the
amount advanced, will be materially greater than its total liabilities,
including Contingent Obligations, and Borrower has (and has no reason
to believe that it will not have) capital sufficient to pay its
liabilities, including Contingent Obligations, as they become due.
(j) Borrower is in compliance with all requirements of law
relating to pollution control and environmental regulations in the
respective jurisdictions where Borrower is presently doing business or
conducting operations.
(k) All amounts obtained pursuant to Advances will be used for
Borrower's working capital purposes.
(l) Except for the trademarks, patents, copyrights and
franchise rights listed on Schedule F attached hereto, Borrower is not
the owner of any patent, trademark, copyright or franchise rights.
(m) (i) Each Plan is in compliance in all material respects
with all applicable provisions of ERISA and the Code; (ii) the
aggregate present value of all accrued vested benefits under all Plans
(calculated on the basis of the actuarial assumptions specified in the
most recent actuarial
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valuation for such Plans) did not exceed as of the date of the most
recent actuarial valuation for such Plans the fair market value of the
assets of such Plans allocable to such benefits; (iii) Borrower is not
aware of any information since the date of such valuations which would
materially affect the information contained therein; (iv) no Plan which
is subject to Part 3 of Subtitle B of Title I of ERISA or Section 412
of the Code has incurred an accumulated funding deficiency, as that
term is defined in Section 302 of ERISA or Section 412 of the Code
(whether or not waived); (v) no liability to the PBGC (other than
required premiums which have become due and payable, all of which have
been paid) has been incurred with respect to any Plan, and there has
not been any Reportable Event which presents a material risk of
termination of any Plan by the PBGC; and (vi) Borrower has not engaged
in a transaction which would subject it to tax, penalty or liability
for prohibited transactions imposed by ERISA or the Code. Borrower does
not contribute to any Multiemployer Plan.
(n) No part of any Advance shall be used at any time by
Borrower to purchase or carry margin stock (within the meaning of
Regulation U promulgated by the Board of Governors of the Federal
Reserve System) or to extend credit to others for the purpose of
purchasing or carrying any margin stock. Borrower is not engaged
principally, or as one of its important activities, in the business of
extending credit for the purposes of purchasing or carrying any such
margin stock. No part of the proceeds of any Advance will be used by
Borrower for any purpose which violates, or which is inconsistent with,
any regulations promulgated by the Board of Governors of the Federal
Reserve System.
(o) Borrower is not an "investment company", or an "affiliated
person" of, or a "promoter" or "principal underwriter" for, an
"investment company", as such terms are defined in the Investment
Company Act of 1940, as amended. The making of the Advances, the
application of the proceeds and repayment thereof by Borrower and the
performance of the transactions contemplated by this Agreement will not
violate any provision of said Act, or any rule, regulation or order
issued by the Securities and Exchange Commission thereunder.
(p) The number of shares and classes of the capital stock of
Borrower are accurately set forth on Schedule H attached hereto.
Borrower has not: (i) issued any unregistered securities in violation
of the registration requirements of Section 5 of the Securities Act of
1933, as amended, or any other law; or (ii) violated any rule,
regulation or requirement under the Securities Act of 1933, as amended,
or the Securities Exchange Act of 1934, as amended, in either case
where the effect of such violation would be a Material Adverse
Occurrence. No proceeds of the Advances will be used to acquire any
security in any transaction which is subject to Section 13(d) or 14(d)
of the Securities Exchange Act of 1934, as amended.
(q) Except for Contingent Obligations shown on Schedule I
attached hereto, Borrower does not have any Contingent Obligations.
(r) All factual information heretofore or herewith furnished
by or on behalf of Borrower to Lender for purposes of or in connection
with this Agreement or any transaction contemplated hereby is, and all
other such factual information hereafter furnished by or on behalf of
Borrower to Lender will be, true and accurate in every material respect
on the date as of which such information is dated or certified and no
such information contains any material misstatement of fact or omits to
state a material fact or any fact necessary to make the statements
contained therein not misleading.
(s) Each representation and warranty shall be deemed to be
restated and reaffirmed to Lender on and as of the date of each Advance
under this Agreement (unless otherwise disclosed by Borrower) except
that any reference to the financial statements referred to in Paragraph
16(h) shall be deemed to refer to the financial statements then most
recently delivered to Lender pursuant to Paragraphs 17(a)(i) and (ii).
17. AFFIRMATIVE COVENANTS. Borrower agrees that it will:
(a) Furnish to Lender in form satisfactory to Lender:
(i) Within 90 days after the end of each fiscal year
of Borrower, a complete audited financial report prepared and
certified without qualification or explanatory language by
Independent Public Accountants on a Consolidated and
consolidating basis for Borrower and any Consolidated
Subsidiaries of Borrower; together with a copy of the
management letter or memorandum, if any, delivered by such
independent certified public accountant to Borrower and
Borrower's response thereto. If Borrower shall fail to supply
the report within such time limit, Lender shall have the right
(but not the duty) to employ certified public accountants
acceptable to Lender to prepare such report at Borrower's
expense;
(ii) Within 30 days after the end of each month, a
balance sheet with operating figures as to that month,
certified as correct by the chief financial officer or
treasurer of Borrower but subject to
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adjustments as to inventories or other items to which an
officer of Borrower directs attention in writing, together
with a reconciliation of any variances between the information
provided on such balance sheet and the information for that
day previously delivered to Lender pursuant to Paragraph
17(a)(v);
(iii) With the financial statements described in
Paragraph 17(a)(i) and (ii), a compliance certificate in the
form attached as Exhibit A certified as true and accurate by
the chief financial officer or treasurer of Borrower;
(iv) Within 10 days after the end of each month, an
aging of accounts receivable together with a reconciliation in
a form satisfactory to Lender and an aging of accounts payable
in form acceptable to Lender, both certified as true and
accurate by an officer of Borrower;
(v) Within 10 days after the end of each month, an
inventory certification report for all Inventory at all
locations and in form acceptable to Lender and certified as
true and accurate by an officer of Borrower; and
(vi) From time to time, at Lender's request, any and
all other material, reports, information, tax returns and/or
figures reasonably required by Lender.
(b) Permit Lender and its representatives access to, and the
right to make copies of, the books, records, and properties of Borrower
at all reasonable times; and permit Lender and its representatives to
discuss Borrower's financial matters with officers of Borrower and with
its Independent Public Accountant (and, by this provision, Borrower
authorizes its Independent Public Accountant to participate in such
discussions).
(c) Pay when due all taxes, assessments, and other liabilities
against it or its properties except those which are being contested in
good faith and for which an adequate reserve has been established;
Borrower shall make all withholding payments when due.
(d) Promptly notify Lender in writing of any substantial
change in present management or present business, of its intention to
enter into a new business or industry, or of its intention to wind
down, liquidate or close substantially all of its business;
(e) Pay when due all amounts necessary to fund in accordance
with its terms any Plan;
(f) Comply in all material respects with all laws, acts,
rules, regulations and orders of any legislative, administrative or
judicial body or official applicable to Borrower's business operation
or Collateral or any part thereof; provided, however, that Borrower may
contest any such law, act, rule, regulation or order in good faith by
appropriate proceedings so long as (i) Borrower first notifies Lender
of such contest, and (ii) such contest does not, in Lender's sole
discretion, adversely affect Lender's right or priority in the
Collateral or impair Borrower's ability to pay the Obligations when
due;
(g) Permit Lender and its representatives, at any time, to
examine and inspect any Collateral, and to examine, inspect and copy
the Debtor's records pertaining to the Collateral and the Debtor's
financial condition, business and property.
(h) Loan Administration Fee. Pay Lender for the period
commencing on the date of this Agreement and continuing through the
date of full payment of all Obligations, a reasonable administration
fee (herein called the "Loan Administration Fee"), which shall be equal
to the sum of $3,000 per calendar quarter (or any partial quarter),
commencing as of the date hereof and pro-rated for the balance of the
current calendar quarter, plus all reasonable out-of-pocket expenses
incurred by Lender in conducting examinations. The Loan Administration
Fee shall be non-refundable, shall be deemed earned when paid, and
shall be payable to Lender as of the date hereof (for the balance of
the current calendar quarter), and thereafter on October 1, 1998 and on
the first day of each subsequent 3 month period/quarter. The existence
or payment of the Loan Administration Fee, Line Maintenance Fee or any
other fee or charge, shall in no way alter or diminish the obligation
to pay interest, Lender's costs of collection and reasonable attorneys'
fees, or any other fees or charges imposed under this agreement or any
other agreement between Lender and Borrower;
(i) Origination Fee. Pay to Lender an origination fee (the
"Origination Fee") in the amount of Twenty Thousand and No/100ths
Dollars ($20,000.00) less the $10,000 survey fee which has already been
paid and which is credited against the Origination Fee. The entire
amount of the Origination Fee shall be nonrefundable and shall be
deemed to have been earned upon execution of this Agreement.
(j) Promptly notify Lender in writing of (x) any litigation
which (i) involves an amount in dispute in excess of $10,000.00 (ii)
relates to the matters which are the subject of this Agreement,
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or (iii) if determined adversely to Borrower would be a Material
Adverse Occurrence; and (y) any adverse development in any litigation
described in clause (x).
(k) Promptly notify Lender of any Default or Event of Default.
18. NEGATIVE COVENANTS. Borrower agrees that it will not:
(a) Expend or contract to expend an aggregate in excess of
$500,000 for fixed assets in any fiscal year, whether by way of
purchase, lease or otherwise, and whether payable currently or in the
future.
(b) Purchase or redeem any shares of Borrower's capital stock;
or declare or pay any dividends (other than dividends payable in
capital stock); or make any distribution to stockholders of any assets
of Borrower.
(c) Incur or permit to exist any indebtedness, secured or
unsecured, for money borrowed, except: (i) borrowings under this
Agreement; (ii) borrowings, if any, which are existing on the date of
this Agreement and which are disclosed on Schedule J attached hereto;
(iii) up to $500,000 in convertible subordinated debentures according
to the existing purchase agreement therefore; or (iv) indebtedness, not
exceeding $50,000.00 at any one time in the aggregate outstanding,
which was incurred to acquire fixed assets, but only to the extent that
such fixed asset acquisition is permitted by Paragraph 18(a).
(d) Create or permit to exist any Security Interest on any
assets now owned or hereafter acquired except: (i) those created in
Lender's favor and held by Lender; (ii) liens of current taxes not
delinquent or taxes which are being contested in good faith for which
an adequate reserve has been established; (iii) purchase money security
interests securing indebtedness permitted by Paragraph 18(c)(iii);
provided, however, that such Security Interest extends only to the
fixed assets acquired with the proceeds of such indebtedness; and (iv)
Security Interests disclosed on Schedule E attached hereto, securing
only debt outstanding on the date of this Agreement and disclosed on
Schedule J.
(e) Effect any recapitalization; or be a party to any merger
or consolidation; or, except in the normal course of business, sell,
transfer, convey or lease all or any substantial part of its property;
or sell or assign (except to Lender), with or without recourse, any
Receivables or General Intangibles.
(f) Enter into a new business or purchase or otherwise acquire
any business enterprise or any substantial assets of any person or
entity; or make any loans to any person or entity; or purchase any
shares of stock of, or similar interest in, or make any capital
contribution to or investment in, any entity other than Integral
Partners, Inc. which is being formed to operate Borrower's so called
IIS business.
(g) Permit more than $50,000.00 to be owing at any one time to
Borrower by all of Borrower's employees, officers, directors, or
shareholders, or members of their families, as a result of any
borrowings, purchases, travel advances or other transactions or events;
(h) Become a guarantor or surety or pledge its credit or its
assets on any undertaking of another, except for the Contingent
Obligations shown on Schedule I attached hereto;
(i) Except for payments pursuant to agreements and Board of
Directors resolutions existing on the date hereof, in any fiscal year
pay excessive or unreasonable salaries, bonuses, fees, commissions,
fringe benefits or other forms of compensation (such salaries, bonuses,
fees, commissions, fringe benefits or other forms of compensation being
"Compensation") to any of its officers or directors; or increase the
Compensation of any officers by more than twenty five percent (25%) or
pay any such increases in Compensation of officers other than from
profits earned in the year of such payment;
(j) Permit any default to occur under the terms of any Loan
Document, note, loan agreement, lease, mortgage, contract for deed,
security agreement, or other contractual obligation binding upon
Borrower;
(k) Make any substantial change in present ownership,
management or present business, enter into a new business or industry,
or take actions to wind down, liquidate or close substantially all of
its business; provided however, that the sale of additional equity is
expressly permitted;
(l) Enter into any agreement providing for the leasing by
Borrower of property which has been or is to be sold or transferred by
Borrower to the lessor thereof, or which is substantially similar in
purpose to the property so sold or transferred;
(m) Change its terms of trade with respect to the due date of
any Receivable;
(n) Change its fiscal year;
(o) (i) Permit or suffer any Plan maintained for employees of
Borrower or any
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<PAGE>
commonly controlled entity to engage in any transaction which results
in a liability of Borrower under Section 409 or 502(i) of ERISA or
Section 4975 of the Code; (ii) permit or suffer any such Plan to incur
any "accumulated funding deficiency" (within the meaning of Section 302
of ERISA and Section 412 of the Code), whether or not waived; (iii)
terminate, or suffer to be terminated, any Plan covered by Title IV of
ERISA maintained by Borrower or any commonly controlled entity or
permit or suffer to exist a condition under which PBGC may terminate
any such Plan; or (iv) permit to exist the occurrence of any Reportable
Event (as defined in Title IV of ERISA) which represents termination by
the PBGC of any Plan;
(p) Enter into any transaction with any Affiliate of Borrower
upon terms and conditions less favorable to Borrower than the terms and
conditions which would apply in a similar transaction with an unrelated
third party;
(q) Enter into any agreement containing any provision which
would be violated or breached by Borrower under any Loan Document or by
the performance by Borrower of its obligations under any Loan Document;
(r) Amend or modify the provisions of any Subordinated Debt;
or
(s) Maintain any Inventory at a warehouse which issues
negotiable warehouse receipts with respect to such Inventory.
19. AVAILABILITY OF COLLATERAL. Lender may from time to time, for its
convenience, segregate or apportion the Collateral for purposes of determining
the amounts and maximum amounts of Advances which may be made hereunder.
Nevertheless, Lender's security interest in all such Collateral, and any other
collateral rights, interests and properties which may now or hereafter be
available to Lender, shall secure and may be applied to the payment of any and
all loans, Advances and other Obligations secured by Lender's security interest,
in any order or manner of application and without regard to the method by which
Lender determines to make Advances hereunder.
20. DEFAULT AND REMEDIES. It shall be an Event of Default under this
Agreement if:
(a) Borrower fails to make any payment required under this
Agreement or any present or future supplements hereto or under any
other agreement between Borrower and Lender when due, or if payable
upon demand, upon demand; or
(b) Borrower fails to perform or observe any covenant,
condition or agreement contained in this Agreement or in any other Loan
Document; or
(c) Any warranty, representation or statement made or
furnished to Lender by or on behalf of Borrower proves to have been
false, incorrect or misleading in a material respect when made; or
(d) A proceeding seeking an order for relief under the
Bankruptcy Code is commenced by or against Borrower provided however,
that if such a proceeding is commenced against Borrower on an
involuntary basis, then only if such action is not dismissed within 60
days of first being filed; or
(e) Borrower becomes insolvent or generally fails to pay, or
admit in writing its or his inability to pay, its or his debts as they
become due; or
(f) Borrower applies for, consents to, or acquiesces in, the
appointment of a trustee, receiver or other custodian for it or him or
for any of its or his property, or makes a general assignment for the
benefit of creditors; or, in the absence of such application, consent
or acquiescence, a trustee, receiver or other custodian is appointed
for Borrower or for a substantial part of Borrower's property; or
(g) Any other reorganization, debt arrangement, or other case
or proceeding under any bankruptcy or insolvency law, or any
dissolution or liquidation proceeding is commenced in respect of
Borrower; or
(h) Borrower takes any action to authorize, or in furtherance
of, any of the events described in the foregoing clauses (d) through
(g); or
(i) All or a substantial part of the assets of Borrower are
sold, leased, or otherwise disposed of (whether in one transaction or
in a series of transactions) to one or more Persons;
(j) Any judgments, writs or warrants of attachment, executions
or similar process (not covered by insurance) in the aggregate amount
that exceeds $25,000.00 is issued or levied against Borrower or any of
its or his assets and is not released, vacated or fully bonded prior to
any sale and in any event within five days after its issue or levy; or
(k) The issuance or levy of any garnishment, summons, writ of
attachment, writ, warrant, attachment, tax lien or tax levy, execution
or other process against any property of Borrower; or
(l) The attachment of any tax lien to any property of Borrower
which is other than for taxes or assessments not yet due and payable;
or
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<PAGE>
(m) A Material Adverse Occurrence takes place.
Upon the occurrence of any Event of Default described in Paragraphs 20(d), (e),
(f), (g) or (h), all Obligations shall be and become immediately due and payable
without any declaration, notice, presentment, protest, demand or dishonor of any
kind (all of which are hereby waived by Borrower) and Borrower's ability to
obtain any additional credit extensions or Advances under this Agreement shall
be immediately and automatically terminated. Upon the occurrence of any other
Event of Default, Lender, without notice to Borrower, may terminate Borrower's
ability to obtain any additional credit extensions or Advances under this
Agreement and may declare all or any portion of the Obligations to be due and
payable, without notice, presentment, protest or demand or dishonor of any kind
(all of which are hereby waived), whereupon the full unpaid amount of the
obligations which shall be so declared due and payable shall be and become
immediately due and payable. Upon the occurrence of an Event of Default, Lender
shall have all the rights and remedies of a secured party under the Commercial
Code and may require Borrower to assemble the Collateral and make it available
to Lender at a place designated by Lender, and Lender shall have the right to
take immediate possession of the Collateral and may enter any of the premises of
Borrower or wherever the Collateral is located with or without process of law
and to keep and store the same on said premises until sold (and if said premises
be the property of Borrower, Borrower agrees not to charge Lender or a purchaser
from Lender for storage thereof for a period of at least 90 days). Upon the
occurrence of an Event of Default, Lender, without further demand, at any time
or times, may sell and deliver any or all of the Collateral at public or private
sale, for cash, upon credit or otherwise, at such prices and upon such terms as
Lender deems advisable, at its sole discretion. Any requirement under the
Commercial Code or other applicable law of reasonable notice will be met if such
notice is mailed to Borrower at its address set forth in the opening paragraph
of this Agreement at least ten days before the date of sale. Lender may be the
purchaser at any such sale, if it is public. The proceeds of sale will be
applied first to all expenses of retaking, holding, preparing for sale, selling
and the like, including reasonable attorneys' fees and legal expenses (whether
or not suit is commenced) including, without limitation, reasonable attorneys'
fees and legal expenses incurred in connection with any appeal of a lower
court's order or judgment, and second to the payment (in whatever order Lender
elects) of all other obligations chargeable to Borrower's loan account
hereunder. Subject to the provisions of the Commercial Code, Lender will return
any excess to Borrower and Borrower shall remain liable to Lender for any
deficiency. Borrower agrees to give Lender immediate notice of the existence of
any Default or Event of Default.
21. CONDITIONS PRECEDENT TO INITIAL ADVANCE. The obligation of Lender
to make the initial Advance is subject to the condition precedent that Lender
shall have received on or before the date of the initial Advance copies of all
of the following, unless waived by Lender:
(a) A favorable opinion of counsel to Borrower in form and
substance satisfactory to Lender;
(b) UCC-1 Financing Statements in a form acceptable to Lender
appropriately completed and duly executed by Borrower;
(c) Acceptable recent UCC, tax lien, judgment, and bankruptcy
searches from the filing offices in all states required by Lender;
(d) [Deleted];
(e) Subordination Agreements relating to all notes payable
under which Borrower is obligated;
(f) A certified copy of all documents evidencing any necessary
consent or governmental approvals (if any) with respect to the Loan
Documents or any other documents provided for in this Agreement;
(g) A certificate by the Secretary or any Assistant Secretary
of Borrower certifying as to: (i) attached resolutions of Borrower's
Board of Directors authorizing or ratifying the execution, delivery and
performance of the Loan Documents to which Borrower is a party and any
other documents provided for by this Agreement, (ii) the names of the
officers of Borrower authorized to sign the Loan Documents together
with a sample of the true signature of such officers, and (iii)
attached bylaws of Borrower;
(h) Certificates of Good Standing for Borrower issued by its
state of incorporation and by those states requested by Lender;
(i) [deleted];
(j) Evidence of insurance for all insurance required by the
Loan Documents;
(k) An officer certificate, in form and substance satisfactory
to Lender, executed by the President or Chief Financial Officer of
Borrower;
(l) The Note, in form and substance satisfactory to Lender in
its sole and absolute discretion, appropriately completed and duly
executed by the Borrower;
(m) Appropriate collateral account agreements executed by
Borrower and the other parties thereto;
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<PAGE>
(n) Such landlord lien waivers and mortgagee consents as
Lender, in its sole discretion, may require, in form and substance
satisfactory to Lender in its sole discretion, appropriately completed
and duly executed;
(o) Such other approvals, opinions or documents as Lender may
require.
22. CONDITIONS PRECEDENT TO ALL ADVANCES. The obligation of Lender to
make any Advance (including the initial Advance) shall be subject to the
satisfaction of each of the following conditions, unless waived in writing by
Lender:
(a) The representations and warranties of Borrower set forth
in this Agreement are true and correct on the date of the Advance (and
after giving effect to the Advance then being made);
(b) No Default, no Event of Default and no Material Adverse
Occurrence shall then have occurred and be continuing on the date of
the Advance or result from the making of the Advance; and
(c) No litigation, arbitration or governmental investigation
or proceeding shall be pending or, to the knowledge of Borrower,
threatened against Borrower or affecting its business or operations or
its ability to perform its obligations hereunder which, if adversely
determined to Borrower, would constitute a Material Adverse Occurrence.
23. TERMINATION. Subject to automatic termination of Borrower's ability
to obtain additional Advances or credit extensions under this Agreement upon the
occurrence of any Event of Default specified in Paragraphs 20(d), (e), (f), (g)
or (h) and to Lender's right to terminate Borrower's ability to obtain
additional credit extensions and Advances under this Agreement upon the
occurrence of any other Event of Default or upon demand, this Agreement shall
have a term ending on the Termination Date provided, however, that Borrower may
terminate this Agreement at any earlier time upon sixty days prior written
notice; provided further, however, that if Borrower terminates this Agreement at
any time prior to the then current Maturity Date, then Borrower shall pay to
Lender a prepayment charge equal to the product arrived at by multiplying
$5,200.00 times the number of calendar months (whole and fractional) from the
Termination Date to and including the then current Maturity Date; provided
further, that if Borrower terminates this Agreement prior to the then current
Maturity Date and repays all amounts owing to Lender hereunder completely from
funds borrowed from Riverside Bank (and not from any other source of funds),
then no prepayment charge shall be due. On the Termination Date, all obligations
arising under this Agreement shall become immediately due and payable without
further notice or demand. Lender's rights with respect to outstanding
Obligations owing on or prior to the Termination Date will not be affected by
termination and all of said rights including (without limitation) Lender's
Security Interest in the Collateral existing on such Termination Date or
acquired by Borrower thereafter, and the requirements of this Agreement that
Borrower furnish schedules and confirmatory assignments of Receivables and
Inventory and turn over to Lender all full and partial payments thereof shall
continue to be operative until all such Obligations have been duly satisfied.
24. GRANT OF LICENSE TO USE PATENTS AND TRADEMARKS COLLATERAL. For the
purpose of enabling Lender to exercise rights and remedies under this Agreement,
Borrower hereby grants to Lender an irrevocable, non-exclusive license
(exercisable without payment of royalty or other compensation to Borrower but
only after the occurrence and during the continuance of an Event of Default) to
use, license or sublicense any patent or trademark now owned or hereafter
acquired by Borrower and wherever the same may be located, and including in such
license reasonable access to all media in which any of the licensed items may be
recorded or stored and to all computer and automatic machinery software and
programs used for the compilation or printout thereof.
25. MISCELLANEOUS.
(a) The performance or observance of any affirmative or
negative covenant or other provision of this Agreement and any
supplement hereto may be waived by Lender in a writing signed by Lender
but not otherwise. No delay on the part of Lender in the exercise of
any remedy, power or right shall operate as a waiver thereof, nor shall
any single or partial exercise of any remedy, power or right preclude
other or further exercise thereof or the exercise of any other remedy,
power or right. Each of the rights and remedies of Lender under this
Agreement will be cumulative and not exclusive of any other right or
remedy which Lender may have hereunder or as allowed by law.
(b) Any notice, demand or consent authorized by this Agreement
to be given to Borrower shall be deemed to be given when transmitted by
telex or telecopier (provided a confirmation copy thereof is sent by
U.S. mail, first class, within 24 hours of transmission) or personally
delivered, or three days after being deposited in the U.S. mail,
postage prepaid, or one day after delivery to Federal Express or other
overnight courier service, in each case addressed to Borrower at its
address shown in the opening paragraph of this Agreement, or at such
other address as Borrower may, by written notice received by Lender,
designate as Borrower's address for purposes of notice hereunder. Any
notice or request authorized by this Agreement to be given to Lender
shall be deemed to be given when personally delivered, or three
business days after being deposited in the U.S. mail, certified, return
receipt requested, postage prepaid, or one business day after delivery
to and receipt by Federal Express or other overnight courier, in each
case addressed to Lender at its address shown
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<PAGE>
in the opening paragraph of this Agreement, or at such other address as
Lender may, by written notice received by Borrower, designate as
Lender's address for purposes of notice hereunder; provided, however,
that any notice to Lender given pursuant to Paragraph 4(b) shall not be
deemed given until received.
(c) This Agreement, including exhibits and schedules and other
agreements referred to herein, is the entire agreement between the
parties, supersedes and rescinds all prior agreements relating to the
subject matter herein, cannot be changed, terminated or amended orally,
and shall be deemed effective as of the date it is accepted by Lender.
(d) Borrower agrees to pay and will reimburse Lender on demand
for all expenses incurred by Lender arising out of the origination of,
or during the duration of, this transaction including without
limitation filing and recording fees and reasonable attorneys' fees and
legal expenses, including costs of in-house counsel (whether or not
suit is commenced), whether incurred in the negotiation and preparation
of this Agreement, in the operation of cash management,
delivery/courier or other services including Lender's then current
charges for the operation of a lockbox and wire transfer or advance
fees, in the protection and perfection of Lender's security interest in
the Collateral, in the enforcement of any of the provisions of this
Agreement or of Lender's rights and remedies hereunder and against the
Collateral, in the defense of any claim or claims made or threatened
against Lender arising out of this transaction, or otherwise including,
without limitation, in each instance, all reasonable attorneys' fees
and legal expenses incurred in connection with any appeal of a lower
court's order or judgment. Borrower acknowledges that, at Lender's
discretion, certain expenses may be charged to Borrower at Lender's
then current rate for such services to its customers generally or
alternatively, at its actual cost including overhead charges. Lender
may also impose other miscellaneous charges for additional products or
services provided to Borrower based on the cost agreed to by Borrower
from time to time. Lender is authorized to deduct any such expenses
from any amount due Borrower and/or to add such expenses to Borrower's
loan account hereunder.
Borrower acknowledges that Lender has certain responsibilities
in connection with the making of Advances and the administration of
this Agreement. Consequently, Borrower hereby indemnifies, exonerates
and holds Lender, and its officers, directors, employees and agents
(the "Indemnified Parties") free and harmless from and against any and
all actions, causes of action, suits, losses, liabilities and damages,
and expenses in connection therewith including, without limitation,
reasonable attorneys' fees and disbursements (the 'Indemnified
Liabilities"), incurred by the Indemnified Parties or any of them as a
result of, or arising out of, or relating to:
(i) any transaction financed or to be financed in
whole or in part directly or indirectly with proceeds of any
Advance, or
(ii) the execution, delivery, performance or
enforcement of this Agreement or any document executed
pursuant hereto by any of the Indemnified Parties, except for
any such Indemnified Liabilities arising on account of any
Indemnified Party's gross negligence or willful misconduct.
If and to the extent that the foregoing undertaking may be
unenforceable for any reason, Borrower hereby agrees to make the
maximum contribution to the payment and satisfaction of each of the
Indemnified Liabilities which is permissible under applicable law. The
provisions of this Paragraph shall survive termination of this
Agreement.
(e) This Agreement is made under and shall be governed by and
interpreted in accordance with the internal laws of the state of
Minnesota, except to the extent that the perfection of the Security
Interest hereunder, or the enforcement of any remedies hereunder with
respect to any particular Collateral, shall be governed by the laws of
a jurisdiction other than the State of Minnesota. Captions herein are
for convenience only and shall not be deemed part of this Agreement.
(f) This Agreement shall be binding upon Borrower and Lender
and their respective successors, assigns, heirs, and personal
representatives and shall inure to the benefit of Borrower, Lender and
the successors and assigns of Lender, except that Borrower may not
assign or transfer its rights hereunder without the prior written
consent of Lender, and any assignment or transfer in violation of this
provision shall be null and void. In connection with the actual or
prospective sale by Lender of any interest or participation in the
obligations, Borrower authorizes Lender to furnish any information in
its possession, however acquired, concerning Borrower or any of its
Affiliates to any financial institution or other lender, provided that
such institution or lender agrees in writing to maintain any
confidential information as confidential.
(g) Borrower hereby irrevocably consents and submits to the
personal jurisdiction of any Minnesota state court or federal court
over any action or proceeding arising out of or relating to the
Agreement, and Borrower hereby irrevocably agrees that all claims in
respect of such
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<PAGE>
action or proceeding shall be venued (at the sole option of Lender) in
either the District Court of Dakota or Hennepin County, Minnesota, or
the United States District Court, Fourth District of Minnesota.
Borrower hereby irrevocably waives, to the fullest extent it may
effectively do so, the defense of an inconvenient forum to the
maintenance of such action or proceeding. Borrower irrevocably consents
to the service of copies of the summons and complaint and any other
process which may be served in any such action or proceeding by the
mailing by United States certified mail, return receipt requested, of
copies of such process to Borrower's address stated in the preamble
hereto or as later notified in writing. Borrower agrees that judgment
final by appeal, or expiration of time to appeal without an appeal
being taken, in any such action or proceeding shall be conclusive and
may be enforced in any other jurisdictions by suit on the judgment or
in any other manner provided by law. Nothing in this Paragraph shall
affect the right of Lender to serve legal process in any other manner
permitted by law or affect the right of Lender to bring any action or
proceeding against Borrower or its property in the courts of any other
jurisdiction. Borrower agrees that, if it brings any action or
proceeding arising out of or relating to this Agreement, it shall bring
such action or proceeding in the District Court of Hennepin County,
Minnesota.
(h) The provisions of this Agreement are severable, and in any
action or proceeding involving any State corporate law, or any State or
Federal bankruptcy, insolvency, reorganization or other law affecting
the rights of creditors generally, if the obligations of the Borrower
hereunder would otherwise be held or determined to be void, invalid, or
unenforceable on account of the grant of a security interest hereunder
to secure Borrower's contingent obligations, then, notwithstanding any
other provision of this Agreement to the contrary, the amount of such
liability shall, without any further action by Borrower, Lender or any
other person, be automatically limited and reduced to the highest
amount which is valid and enforceable as determined in such action or
proceeding.
(i) A photocopy or other reproduction hereof may be filed as a
financing statement.
IN WITNESS WHEREOF, the parties have executed this Agreement as of the
date first above written.
LENDER: SPECTRUM COMMERCIAL SERVICES
By /s/ Steven Lowenthal
-----------------------------------------
Its Senior Vice President
---------------------------------------
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<PAGE>
BORROWER: DIGITAL BIOMETRICS, INC..
By /s/ John J. Metil
-------------------------------------------------------
Its Chief Operating Officer and Chief Financial Officer
-----------------------------------------------------
Fed. Tax ID #:41-1545069
-18-
<PAGE>
List of Exhibits
Exhibit A Compliance Certificate
List of Schedules
<TABLE>
<CAPTION>
<S> <C>
Schedule A Locations of Inventory and Equipment
(Paragraph 10)
Schedule B Names Under Which Borrower Has Done Business (Paragraph 16(a))
Schedule C Capital Stock of Corporations Owned by Borrower (Paragraph 16(a))
Schedule D Litigation (Paragraph 16(d))
Schedule E Security Interests (Paragraphs 16(f) and 18(d))
Schedule F Patents, Trademarks, Copyrights and Franchise Rights (Paragraph 16(l))
Schedule G Financial Statements (Paragraph 16(h))
Schedule H Stock of Borrower (Paragraph 16(p))
Schedule I Contingent Obligations (Paragraph 16(q))
Schedule J Permitted Existing Indebtedness (Paragraphs 18(c) and (d))
</TABLE>
-19-
EXHIBIT 10.5
FIRST AMENDED REVOLVING NOTE
$2,000,000.00 October 15, 1998
Bloomington, Minnesota
FOR VALUE RECEIVED, the undersigned, DIGITAL BIOMETRICS, INC. promises to pay to
the order of SPECTRUM COMMERCIAL SERVICES, a division of Lyon Financial
Services, Inc., (the "Lender") at its office in Bloomington, Minnesota, or at
such other place as any present or future holder of this Note may designate from
time to time, the principal sum of (i) Two Million and 00/100 Dollars
($2,000,000.00), or (ii) the aggregate unpaid principal amount of all advances
and/or extensions of credit made by the Lender to the undersigned pursuant to
this Note as shown in the records of any present or future holder of this Note,
whichever is less, plus interest thereon from the date of each advance in whole
or in part included in such amount until this Note is fully paid. Interest shall
be computed on the basis of the actual number of days elapsed and a 360-day
year, at an annual rate equal to 4% per annum in excess of the Prime Rate of
Norwest Bank Minnesota, NA, and that shall change when and as said Prime Rate
shall change (the "Initial Rate"); provided, however, that (i) in no event shall
the interest rate in effect hereunder at any time be less than 10% per annum;
and (ii) interest payable hereunder with respect to each calendar month shall
not be less than $5,200.00 regardless of the amount of loans, advances or other
credit extensions that actually may have been outstanding during the month.
Interest is due and payable on the first day of each calendar month and at
maturity. The term "Prime Rate" means the rate established by Norwest Bank in
its sole discretion from time to time as its Prime or Base Rate, and the
undersigned acknowledges that Norwest Bank and/or Lender may lend to its
customers at rates that are at, above or below the Prime Rate. Notwithstanding
the foregoing, after an Event of Default, this Note shall bear interest until
fully paid at five percent (5%) per annum in excess of the rate otherwise then
in effect, which rate shall continue to vary based on further changes in the
Prime Rate; provided, however, that after an Event of Default, (i) in no event
shall the interest rate in effect hereunder at any time be less than 15% per
annum; and (ii) interest payable hereunder with respect to each calendar month
shall not be less than $6,250 regardless of the amount of loans, advances or
other credit extensions that actually may have been outstanding during the
month. The undersigned also shall pay the holder of this Note a late fee equal
to 10% of any payment under this Note that is more than 10 days past due.
In the event the undersigned earns "Net Income" (as defined in the General
Credit and Security Agreement dated September 29, 1998 ("Agreement") for the
nine months ending June 30, 1999 (or earlier) of at least Six Hundred Thousand
Dollars ($600,000.00), and provided no Event of Default exists or has occurred,
then pursuant to the Agreement the Initial Rate may be reduced to three and
one-quarter percent (3 1/4%) in excess of the Prime Rate (the "Adjusted Rate").
Provided that Borrower obtains the Adjusted Rate reduction described above, then
in the further event Borrower earns Net Income for the fiscal year ending
September 30, 1999 (or earlier) of at least One Million Dollars ($1,000,000.00),
and provided no Event of Default exists or has occurred, then pursuant to the
Agreement the Adjusted Rate may be reduced to two and one-half percent (2 1/2%)
in excess of the Prime Rate (the "Re-adjusted Rate") (the Initial Rate, the
Adjusted Rate and the Re-adjusted Rate are sometimes collectively referred to as
the "Interest Rate").
All interest, principal, and any other amounts owing hereunder are due on
September 29, 2000 or earlier UPON DEMAND by Lender or any holder hereof, and
Lender specifically reserves the absolute right to demand payment of all such
amounts at any time, with or without advance notice, for any
-1- Initial________________
<PAGE>
reason or no reason whatsoever. Lender's right to make such demand is not
exclusive and Lender may coincidentally or separately from such demand make
further demand for payment pursuant to the terms hereof (including but not
limited to upon the occurrence of an Event of Default), and further, amounts may
become due hereunder without a demand by Lender.
All or any part of the unpaid balance of this Note may be prepaid upon sixty
days prior written notice, provided, however, that if this Note is fully
pre-paid prior to September 29, 2000, then there shall be a prepayment charge
equal to the product arrived at by multiplying $5,200.00 times the number of
calendar months (whole and fractional) from the date of complete prepayment to
and including September 29, 2000; provided further, however, that if all amounts
owing under this Note are paid completely from funds borrowed from Riverside
Bank (and not from any other source of funds), then no prepayment charge shall
be due. At the option of the then holder of this Note, any payment under this
Note may be applied first to the payment of other charges, fees and expenses
under this Note and any other agreement or writing in connection with this Note,
second to the payment of interest accrued through the date of payment, and third
to the payment of principal. Amounts may be advanced and readvanced under this
Note at the Lender's sole and absolute discretion, provided the principal
balance outstanding shall not exceed the amount first above written. Neither the
Lender nor any other person has any obligation to make any advance or readvance
under this Note.
The occurrence of any of the following events shall constitute an Event of
Default under this Note: (i) any default in the payment of this Note; or (ii)
any other default under the terms of any now existing or hereafter arising debt,
obligation or liability of any maker, endorser, guarantor or surety of this Note
or any other person providing security for this Note or for any guaranty of this
Note, including, but not limited to, that certain General Credit and Security
Agreement dated September 29, 1998. Upon the occurrence of any Event of Default,
all amounts outstanding under this Note (including unpaid principal, interest
and other charges due or accruing hereunder) shall be and become immediately due
and payable without any declaration, notice, presentment, protest, demand or
dishonor of any kind (all of which are hereby waived by Borrower) and Borrower's
ability to obtain any additional credit extensions or advances under this Note
shall be immediately and automatically terminated. Upon the occurrence of an
Event of Default and at any time thereafter while an Event of Default is
continuing, the then holder of this Note may, at its option, declare this Note
to be immediately due and payable and thereupon this Note shall become due and
payable for the entire unpaid principal balance of this Note plus accrued
interest and other charges on this Note without any presentment, demand, protest
or other notice of any kind.
The undersigned: (i) waives demand, presentment, protest, notice of
protest, notice of dishonor and notice of nonpayment of this Note; (ii) agrees
to promptly provide all present and future holders of this Note from time to
time with financial statements of the undersigned and such other information
respecting the financial condition, business and property of the undersigned as
any such holder of this Note may reasonably request, in form and substance
acceptable to such holder of this Note; (iii) agrees that when or at any time
after this Note becomes due the then holder of this note may offset or charge
the full amount owing on this note against any account then maintained by the
undersigned with such holder of this Note without notice; (iv) agrees to pay on
demand all fees, costs and expenses of all present and future holders of this
Note in connection with this Note and any security and guaranties for this Note,
including but not limited to audit fees and expenses and reasonable attorneys'
fees and legal expenses, plus interest on such amounts at the rate set forth in
this Note; and (v) consents to the personal jurisdiction of the state and
federal courts located in the State of Minnesota in connection with any
controversy related in any way to this Note or any security of guaranty for this
Note, waives any argument that venue in such forums is not convenient, and
agrees that any litigation initiated by the undersigned against the Lender or
any other present or future holder of this Note relating in any way to this Note
or any security or guaranty for this Note shall be venued (at the sole option of
Lender or the
-2- Initial________________
<PAGE>
holder hereof) in either the District Court of Dakota or Hennepin County,
Minnesota, or the United States District Court, District of Minnesota. Interest
on any amount under this Note shall continue to accrue, at the option of any
present or future holder of this Note, until such holder receives final payment
of such amount in collected funds in form and substance acceptable to such
holder. The maker agrees that, if it brings any action or proceeding arising out
of or relating to this Agreement, it shall bring such action or proceeding in
the District Court of Hennepin County, Minnesota.
In the event a court of competent jurisdiction determines that any of the
figures called the Rate of Interest violates any usury laws or any other law,
then, such Rate of Interest or other provision shall be accordingly and
retroactively adjusted or modified to comply with the highest rate allowed under
applicable law. Further, if any provision or application of any provision of
this Note other than the Rate of Interest (including but not limited to any
provision relating to the calculation of interest) is held unlawful or
unenforceable in any respect (including but not limited to any usury or similar
law), such illegality or unenforceability shall not affect other provisions or
applications which can be given effect, and this Note shall be construed as if
the unlawful or unenforceable provision or application had never been contained
herein or prescribed hereby. The undersigned waives notice of acceptance hereof.
No waiver of any right or remedy under this Note shall be valid unless in
writing executed by the holder of this Note, and any such waiver shall be
effective only in the specific instance and for the specific purpose given. All
rights and remedies of all present and future holders of this Note shall be
cumulative and may be exercised singly, concurrently or successively. The
undersigned, if more than one, shall be jointly and severally liable under this
Note, and the term "undersigned," wherever used in this Note, shall mean the
undersigned or any one or more of them. This Note shall bind the undersigned and
the successors and assigns of the undersigned. This Note shall be governed by
and construed in accordance with the laws of the State of Minnesota.
THE UNDERSIGNED REPRESENTS, CERTIFIES, WARRANTS AND AGREES THAT THE UNDERSIGNED
HAS READ ALL OF THIS NOTE AND UNDERSTANDS ALL OF THE PROVISIONS OF THIS NOTE.
THE UNDERSIGNED ALSO AGREES THAT COMPLIANCE BY ANY PRESENT OR FUTURE HOLDER OF
THIS NOTE WITH THE EXPRESS PROVISIONS OF THIS NOTE SHALL CONSTITUTE GOOD FAITH
AND SHALL BE CONSIDERED REASONABLE FOR ALL PURPOSES.
This Note amends and restates, but does not repay, that certain Revolving Note
dated as of September 29, 1998 (at it may have subsequently been amended and/or
restated) made by the undersigned payable to the order of Lender in the original
principal amount of $2,000,000.00.
DIGITAL BIOMETRICS, INC.
By /s/ John J. Metil
---------------------------------------------------
John J. Metil
Chief Financial Officer and Chief Operating Officer
-3- Initial________________
EXHIBIT 11.0
DIGITAL BIOMETRICS, INC.
STATEMENT RE: COMPUTATION OF LOSS PER SHARE
<TABLE>
<CAPTION>
YEARS ENDED SEPTEMBER 30,
--------------------------------------------------------------
1998 1997 1996
------------------ ------------------- -------------------
<S> <C> <C> <C>
Shares outstanding at beginning of year 12,361,038 10,777,288 7,833,633
Shares awarded for retirement plan 55,963 41,798 16,831
Restricted stock awards, net 47,304 31,072 17,456
Exercise of stock options and warrants 2,000 25,000 157,500
Shares issued upon conversion of debentures 1,195,527 1,485,880 2,751,868
------------------ ------------------- -------------------
Shares outstanding at end of year 13,661,832 12,361,038 10,777,288
================== =================== ===================
Weighted average shares outstanding (a) 12,748,140 11,766,220 9,451,015
================== =================== ===================
Net loss $(4,888,432) $(6,275,394) $(11,686,903)
================== =================== ===================
Loss per common share - basic and diluted $(0.38) $(0.53) $(1.24)
================== =================== ===================
</TABLE>
(a) Stock options and other assumed conversion shares are not included in the
calculation of the net loss per common share as their effect is
antidilutive.
EXHIBIT 21.1
Subsidiaries of the Company:
Integral Partners, Inc. (a Minnesota corporation)
EXHIBIT 23.0
INDEPENDENT AUDITORS' CONSENT
The Board of Directors
Digital Biometrics, Inc.:
We consent to incorporation by reference in the registration statements
(Numbers 33-41510, 33-63984, 33-90900, 333-34725, 333-43791 and 333-59067) on
Forms S-3 and S-8 of Digital Biometrics, Inc., of our reports dated November 13,
1998 relating to the balance sheets of Digital Biometrics, Inc., as of September
30, 1998 and 1997, and the related statements of operations, stockholders'
equity and cash flows and the related financial statement schedule for each of
the years in the three-year period ended September 30, 1998, which reports
appear in the September 30, 1998, Annual Report on Form 10-K of Digital
Biometrics, Inc., and to the reference to our firm under the heading "Selected
Financial Data" in the Company's September 30, 1998, Annual Report on Form 10-K
which is incorporated by reference in the registration statements.
KPMG Peat Marwick LLP
Minneapolis, Minnesota
December 29, 1998
<TABLE> <S> <C>
<ARTICLE> 5
<CIK> 0000868373
<NAME> DIGITAL BIOMETRICS INC
<MULTIPLIER> 1
<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> SEP-30-1998
<PERIOD-START> OCT-01-1997
<PERIOD-END> SEP-30-1998
<EXCHANGE-RATE> 1
<CASH> 840,616
<SECURITIES> 0
<RECEIVABLES> 4,648,780
<ALLOWANCES> 296,583
<INVENTORY> 2,848,421
<CURRENT-ASSETS> 8,255,793
<PP&E> 2,410,172
<DEPRECIATION> 1,355,161
<TOTAL-ASSETS> 9,418,461
<CURRENT-LIABILITIES> 4,472,392
<BONDS> 884,840
0
0
<COMMON> 136,618
<OTHER-SE> 3,811,494
<TOTAL-LIABILITY-AND-EQUITY> 9,418,461
<SALES> 8,078,333
<TOTAL-REVENUES> 11,322,691
<CGS> 5,973,043
<TOTAL-COSTS> 8,516,958
<OTHER-EXPENSES> 7,081,579
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 594,430
<INCOME-PRETAX> (4,888,432)
<INCOME-TAX> 0
<INCOME-CONTINUING> (4,888,432)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (4,888,432)
<EPS-PRIMARY> (0.38)
<EPS-DILUTED> (0.38)
</TABLE>
