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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the Quarterly Period Ended
March 31, 1999
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
For the Transition Period From
____________ to ____________
Commission file number 0-19688
DESTRON FEARING CORPORATION
(Exact name of Registrant as specified in its charter)
Delaware 84-1079037
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
490 Villaume Avenue
South St. Paul, MN 55075
(651) 455-1621
(Address of principal executive offices)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes X No
As of May 12, 1999, there were 13,353,982 outstanding shares of Common Stock.
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DESTRON FEARING CORPORATION
FORM 10-Q
FOR THE QUARTER ENDED MARCH 31, 1999
INDEX
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Page
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PART I -- FINANCIAL INFORMATION
Item 1 -- Financial Statements 3
Item 2 -- Management's Discussion and Analysis of Financial Condition
and Results of Operations 11
PART II -- OTHER INFORMATION
Item 1 -- Legal Proceedings 14
Item 6 -- Exhibits and Reports on Form 8-K 17
Signatures 18
</TABLE>
<PAGE>
PART 1. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
DESTRON FEARING CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (UNAUDITED) MARCH 31, 1999 AND SEPTEMBER 30, 1998
(in thousands, except share and per share amounts)
- --------------------------------------------------------------------------------
<TABLE>
ASSETS March 31, September 30,
1999 1998
-------- -------------
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 536 $ 104
Accounts receivable, net 3,743 2,212
Inventories, net 4,577 4,753
Vendor deposits 545 475
Prepaid expenses and other current assets 74 33
-------- --------
Total current assets 9,475 7,577
PROPERTY AND EQUIPMENT, net 1,978 1,922
GOODWILL, net 1,875 1,917
OTHER ASSETS, net 137 147
-------- --------
$ 13,465 $ 11,563
-------- --------
-------- --------
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Line of credit $ 1,828 $ 1,278
Accounts payable 1,170 988
Customer deposits 853 865
Accrued liabilities 572 495
Current portion of long-term obligations 662 2,544
-------- --------
Total current liabilities 5,085 6,170
LONG-TERM OBLIGATIONS,
net of current portion 1,744 677
-------- --------
Total liabilities 6,829 6,847
-------- --------
SHAREHOLDERS' EQUITY:
Common stock, $.01 par value;
20,000,000 shares authorized;
13,354,000 shares issued and outstanding 134 134
Common stock warrants 100 --
Additional paid-in capital 19,846 19,846
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Accumulated deficit (13,444) (15,264)
-------- --------
Total shareholders' equity 6,636 4,716
-------- --------
$ 13,465 $ 11,563
-------- --------
-------- --------
</TABLE>
The accompanying notes are an integral part
of these consolidated financial statements.
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DESTRON FEARING CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
FOR THE QUARTER AND SIX MONTHS ENDED MARCH 31, 1999 AND 1998
(in thousands, except per share amounts)
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<TABLE>
Three Months Ended March 31, Six Months Ended March 31,
---------------------------- --------------------------
1999 1998 1999 1998
-------- -------- -------- --------
<S> <C> <C> <C> <C>
NET REVENUE $ 5,449 $ 4,350 $ 9,511 $ 6,980
COSTS AND EXPENSES:
Cost of sales 3,099 2,892 5,730 4,775
Selling, general and administrative 856 1,095 1,723 1,875
Research and development 219 292 402 560
Interest expense and other 123 141 265 252
-------- -------- -------- --------
Total costs and expenses 4,297 4,420 8,120 7,462
INCOME (LOSS) BEFORE INCOME TAXES 1,152 (70) 1,391 (482)
PROVISION FOR INCOME TAXES 43 -- 43 --
-------- -------- -------- --------
NET INCOME (LOSS) BEFORE
EXTRAORDINARY GAIN 1,109 (70) 1,348 (482)
EXTRAORDINARY GAIN ON
DEBT RESTRUCTURING 472 -- 472 --
-------- -------- -------- --------
NET INCOME (LOSS) $ 1,581 $ (70) $1 ,820 $ (482)
-------- -------- -------- --------
-------- -------- -------- --------
BASIC AND DILUTED EARNINGS
(LOSS) PER COMMON SHARE:
Income before extraordinary item $ 0.08 $ (0.01) $ 0.10 $ (0.04)
Extraordinary item 0.04 -- 0.04 --
-------- -------- -------- --------
$ 0.12 $ (0.01) $ 0.14 $ (0.04)
-------- -------- -------- --------
-------- -------- -------- --------
WEIGHTED AVERAGE
COMMON AND COMMON EQUIVALENT
SHARES OUTSTANDING:
Basic 13,354 13,299 13,354 13,296
-------- -------- -------- --------
-------- -------- -------- --------
Diluted 13,370 13,299 13,362 13,296
-------- -------- -------- --------
-------- -------- -------- --------
</TABLE>
The accompanying notes are an integral
part of these consolidated financial statements.
<PAGE>
DESTRON FEARING CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE SIX MONTHS ENDED MARCH 31, 1999 AND 1998
(in thousands)
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<TABLE>
Six Months Ended March 31,
--------------------------
1999 1998
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OPERATING ACTIVITIES:
Net income (loss) $ 1,820 ( $ 482)
Adjustments to reconcile net income (loss) to net
cash provided by (used in) operating activities:
Extraordinary gain on debt restructuring (472) --
Depreciation and amortization 237 247
Changes in operating items:
Accounts receivable (1,531) (736)
Inventories 176 379
Vendor deposits (70) (234)
Prepaid expenses and other current assets (41) 19
Accounts payable and accrued liabilities 259 309
Customer deposits (12) --
------- -------
Net cash provided by (used in) operating activities 366 (498)
------- -------
INVESTING ACTIVITIES:
Purchases of fixed assets (241) (131)
------- -------
FINANCING ACTIVITIES:
Issuance of common stock -- 2
Repayments of long-term obligations (243) (759)
Net borrowings on bank line of credit 550 504
------- -------
Net cash provided (used in) by financing activities 307 (253)
------- -------
NET CHANGE IN CASH 432 (882)
CASH, beginning of period 104 1,075
------- -------
CASH, end of period $ 536 $ 193
------- -------
------- -------
SUPPLEMENTAL CASH FLOW INFORMATION:
Interest paid $ 259 $ 257
------- -------
------- -------
SUPPLEMENTAL DISCLOSURE OF NON CASH
ACTIVITIES:
Issuance of common stock warrants in
connection with debt restructuring $ 100 $ --
------- -------
------- -------
</TABLE>
The accompanying notes are an integral part
of these consolidated financial statements.
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DESTRON FEARING CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 1999 and 1998
(unaudited)
- -------------------------------------------------------------------------------
1. GENERAL
The information included in the accompanying consolidated interim financial
statements is unaudited and should be read in conjunction with the audited
consolidated financial statements and notes thereto contained in the most recent
Annual Report on Form 10-K filed for Destron Fearing Corporation and its
subsidiaries (collectively, the "Company"). In the opinion of management, all
adjustments, consisting of normal recurring items, necessary for a fair
presentation of the financial position and results of operations for the interim
periods presented have been reflected herein. The results of operations for
interim periods are not necessarily indicative of the results to be expected for
the entire fiscal year.
2. INVENTORIES
Inventories are valued at the lower of first in, first out, cost or market, and
consist of the following (in thousands):
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March 31, 1999 September 30, 1998
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Raw materials $2,586 $2,481
Finished goods 1,991 2,272
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Total inventories $4,577 $4,753
------ ------
------ ------
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3. NET INCOME (LOSS) PER COMMON SHARE
Net income (loss) per common and common equivalent share is based on the
weighted average number of common and common equivalent shares outstanding for
the period. Common equivalent shares consist primarily of stock options granted
to employees, directors and others, and outstanding warrants. In fiscal 1998,
the Company adopted Statement of Financial Accounting Standards (SFAS) No. 128,
"Earnings per Share." SFAS No. 128 established new accounting standards for
computing and presenting earnings (loss) per share data (EPS). Basic EPS is
computed by dividing net income (loss) by the weighted average number of shares
of common stock outstanding during the period, excluding potentially dilutive
securities. Diluted EPS is calculated using the treasury stock method and
reflects the dilutive effect of outstanding options, warrants and other
securities.
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A reconciliation of EPS calculations under SFAS No. 128 is as follows for the
quarter and six months ended March 31 (in thousands, except per share amounts):
<TABLE>
Quarter Ended March 31 Six Months Ended March 31
---------------------- -------------------------
1999 1998 1999 1998
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Net income (loss) $ 1,581 $ (70) $ 1,820 $ (482)
-------- -------- -------- --------
-------- -------- -------- --------
Weighted average number of
common shares outstanding 13,354 13,299 13,354 13,296
Dilutive effect of stock options
and warrants after application
of the treasury stock method 16 -- 8 --
-------- -------- -------- --------
13,370 13,299 13,362 13,296
-------- -------- -------- --------
-------- -------- -------- --------
Basic and diluted earnings
(loss) per common share $ 0.12 ($ 0.01) $ 0.14 ($ 0.04)
-------- -------- -------- --------
-------- -------- -------- --------
</TABLE>
4. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENT
In June 1997, the Financial Accounting Standards Board issued SFAS No. 131,
"Disclosures About Segments of an Enterprise and Related Information." SFAS
No.131, which is effective for fiscal years beginning after December 15, 1997,
requires that public business enterprises report information about operating
segments in annual financial statements and selected information in interim
financial reports. It also establishes standards for related disclosures about
products and services, geographic areas and major customers. The Company is
currently evaluating the impact of SFAS No. 131 and will adopt the disclosure
requirements in its annual report for fiscal year 1999, when required.
5. DEBT RESTRUCTURING
In March 1999, the Company completed a restructuring of its outstanding vendor
note payable (balance of $2,352,000 prior to restructuring), whereby the vendor
assigned the note to a third party. Effective March 1, 1999, the new noteholder
agreed to a reduction of the principal to $1,529,000 to reflect a 35% discount,
with interest at 9.25% and monthly payments of $50,000 through January 2001. In
connection with this restructuring, the Company granted warrants to the new
noteholder to purchase 275,000 shares of the Company's common stock at $1.00 per
share. The warrants are exercisable at any time through March 15, 2004.
In accordance with the requirements of SFAS No. 15, "Accounting by Debtors and
Creditors for Troubled Debt Restructurings," the Company recorded a net gain on
restructuring of $472,000 in the second quarter of fiscal 1999.
6. LEGAL PROCEEDINGS
Colorado Patent Actions
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On January 8, 1996, the Company commenced a patent infringement trial against
four competitors in the United States District Court of Colorado. (The patent
involved is No. 5,211,129, which relates to the Company's injectable
transponder technology.) On January 29, 1996, the jury in the trial returned
a verdict in favor of the Company and found that the defendants had willfully
infringed on the Company's patent and awarded damages of $444,000, including
prejudgment interest. The defendants appealed the judgment against them, and
the Company cross-appealed the failure of the court to increase the Company's
damages. On July 24, 1997, the Court of Appeals for the Federal Circuit
handed down its decision in the appeal. The decision of the Court of Appeals
affirmed the trial court's judgment, holding the Company's patent is valid
and was willfully infringed by the competitors. However, the Court of Appeals
remanded to the trial court for further proceedings the issue of whether the
Company engaged in inequitable conduct in prosecuting the patent application
before the United States Patent Office.
On November 7, 1997, the U.S. District Court of Colorado, on remand on the issue
of inequitable conduct, found no intent on the part of the Company to deceive
the Patent Office, and therefore that no inequitable conduct occurred and the
Company's '129 patent was enforceable. On February 9, 1998, the District Court
Judge issued an Order containing findings and conclusions and entered a Third
Amended Judgment confirming the Court's finding of no inequitable conduct. The
defendants appealed this decision, and oral argument to the U.S. Court of
Appeals for the Federal Circuit was held on December 8, 1998.
On January 26, 1999, the Court of Appeals entered an order affirming the U.S.
District Court's decision that the Company had not engaged in inequitable
conduct in obtaining the '129 patent and thus the patent was enforceable. The
order of the Court of Appeals has the effect of continuing the permanent
injunction entered by the United States District Court in Colorado which
prohibits the defendants from manufacturing, using, selling, or offering to sell
the transponders that violate the Company's '129 patent. Because the defendants
did not pursue a timely appeal to the United States Supreme Court, the January
26, 1999 decision of the Court of Appeals is now final and not appealable.
Further, during the pendency of the first appeal, the Company pursued a contempt
action against certain defendants for willful violations of the District Court's
permanent injunction. On November 7, 1997, a Magistrate Judge of the District
Court recommended that the defendants be found in willful contempt of the
permanent injunction and that the Company should be awarded double damages,
amounting to $33,000, as well as attorneys' fees and costs. On February 9, 1998,
the District Court Judge issued an Order adopting the Magistrate's
recommendation that the defendants were in contempt. This finding of contempt
has also been appealed and upheld.
On January 23, 1998, the Company filed a second Motion for Contempt against
certain defendants. Following a March 27, 1998 hearing, on April 23, 1998 the
Magistrate Judge entered a recommendation that the defendants be held in
contempt a second time, based upon their attempts to solicit purchase orders
from the Denver Metro Microchip Committee and their manufacture, use and sale of
the ID-100 Zip Quill transponder product. The Company has requested treble
damages, attorneys' fees, costs and sanctions against the defendants for their
contempt of the District Court permanent injunction. The defendants have
objected to the recommendations of the Magistrate Judge.
On March 18, 1999, the District Court entered an order of contempt against the
defendants arising from their efforts to solicit purchase orders from the Denver
Metro Microchip Committee, but found that it could not determine if the ID-100
Zip Quill transponder product was made for the purpose of evading the injunction
without essential change in the nature of the device and, therefore, determined
<PAGE>
a new infringement trial was necessary. As part of the same March 18, 1999
Order, the District Court instructed the parties to submit briefs on the issue
of damages flowing from the contempt and further held that the Company may
register its willful infringement judgment against the defendants with the
District Court for the District of Minnesota and for the District of Columbia
for purposes of enforcing the judgment and collecting the previously awarded
damages from the defendants.
On April 26, 1999, the parties simultaneously submitted briefs on the issue
of damages resulting from the defendants' contempt of court in soliciting
purchase orders from the Denver Metro Microchip Committee. The Company seeks
an award of several thousand dollars for the contempt. The defendants urged
the District Court to award no damages. The Company believes that the
District Court will likely resolve this issue without oral argument.
Minnesota Patent Actions
On December 17, 1996, the same three competitors found to be willful infringers
in the Colorado Patent Actions filed a lawsuit against the Company and its
United States distributor, Schering-Plough, in the United States District Court
for the District of Minnesota. The plaintiffs alleged that the defendants
participated in unfair competition, breached an oral contract and infringed on
three of the plaintiffs' United States patents. On January 24, 1997, the
plaintiffs withdrew this lawsuit in its entirety.
On April 21, 1997, four plaintiffs (including the three competitors identified
in the foregoing paragraph) filed a lawsuit against the Company and
Schering-Plough and another of the Company's competitors in the United States
District Court for the District of Minnesota. The plaintiffs allege that the
defendants participated in unfair competition, breached an oral agreement and
infringed on three of the plaintiffs' United States patents and requested that
the Court award compensatory and treble damages of an unspecified amount.
On May 16, 1997, the plaintiffs amended the lawsuit and, in their complaint as
amended, allege patent infringement, false advertising, unfair competition and
attempted monopolization on the part of the Company, among other matters,
stemming from the ISO standards. This lawsuit has been stayed by agreement of
all parties pending the outcome of the appeal of the Colorado Patent Action.
Since the Company was successful in obtaining an affirmance of the judgment of
enforceability in the Colorado Patent Action, the Company's exposure, if any, in
the Minnesota litigation may be reduced. As a result of the favorable ruling in
the Colorado Patent Action on February 9, 1998, and as indicated in the above
paragraph, the Minnesota litigation has been stayed pending the Federal Circuit
Court decision in the Colorado Patent Action. The Company is now assessing its
alternatives in the Minnesota Patent Actions in light of the January 26, 1999
decision of the Court of Appeals in the Colorado Patent Action.
Minnesota Class Action
On January 28, 1999, a class action lawsuit was commenced against the Company in
the United States District Court for the District of Minnesota on behalf of
persons who were shareholders of record of the Company's common stock on
December 29, 1998 and received the Company's Proxy Statement dated December 29,
1998 ("Proxy Statement") for the Company's annual meeting of stockholders to be
held on January 29, 1999 ("Annual Meeting"). The complaint principally alleged
violations of federal securities laws based on disclosures in the Proxy
Statement. The plaintiffs alleged that the Proxy Statement failed to inform the
stockholders of their ability to exercise dissenters' rights in connection with
the proposed reverse stock split described in the Proxy Statement. The
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Company believes the plaintiffs' case had no merit because the Proxy
Statement is believed to contain a complete and accurate description of the
reverse stock split, including the absence of dissenters' rights.
In connection with the above-described class action lawsuit, on January 28,
1999, the plaintiffs filed a motion requesting an order that would prevent the
Company from holding the Annual Meeting or, in the alternative, that would
prevent it from holding the vote on the proposed reverse stock split. A hearing
on the motion was held on January 29, 1999 in the United States District Court
for the District of Minnesota. In a strongly worded order from the bench, Judge
James M. Rosenbaum ruled in favor of the Company and denied plaintiffs' motion,
which allowed the Company to hold the Annual Meeting as planned.
At the January 29, 1999 Annual Meeting of the Company's shareholders, the
shareholders authorized the Company's Board of Directors to carry out the
reverse stock split at any time before April 1, 1999. Due to increases in the
price of the Company's common stock as quoted on The Nasdaq SmallCap Market,
the Board determined to forgo the reverse stock split and allowed its
authority to execute the stock split to expire unexercised on April 1, 1999.
In view of that development, the plaintiffs in the class action lawsuit have
agreed to dismiss the complaint with prejudice and without any further cost
to the Company.
<PAGE>
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS
Net income before an extraordinary gain for the second quarter of fiscal year
1999 was $1,109,000 compared to a net loss of $70,000 in the prior year's second
quarter. Year-to-date net income before the extraordinary gain was $1,348,000
compared to a net loss of $482,000 in the comparable year earlier period. After
an extraordinary gain of $472,000 resulting from a debt restructuring, net
income for the second quarter and six-month period was $1,581,000 and
$1,820,000, respectively. The increase in net income for the quarter and six
months was the result of significant sales growth, higher gross margin
percentages and lower operating expenses.
Net revenue for the quarter ended March 31, 1999 of $5,449,000 was 25% higher
than the $4,350,000 reported for the comparable quarter of fiscal 1998. For the
six-month period, revenue was $9,511,000, representing a 36% increase from the
fiscal 1998 period. Revenue for the second quarter and six-month period from
Radio Frequency Identification (RFID) products was up by 45% and 55%,
respectively, from last year with higher sales occurring in the United States
fisheries market and in the European companion animal market. Visual
identification product revenue increased 3% in the second quarter and 14% for
the six-month period when compared to the fiscal 1998 amounts because of
increased unit sales of visual products.
Cost of sales of $3,099,000 for the second quarter and $5,730,000 for the
six-month period was higher than the comparable fiscal 1998 periods by 8% and
20%, respectively. The higher costs were attributable to higher revenues during
the quarter. Gross profit margins improved to 43% and 40% of revenue in the
second quarter and six-month period of fiscal 1999, respectively, compared to
34% and 32% for each of those periods in fiscal 1998. Gross margins improved
significantly for quarter and year-to-date results due to ongoing cost cutting
and expense reduction programs in tandem with increased revenues and a favorable
product mix for both the electronic and visual divisions, including higher
margin sales in the fisheries market.
Selling, general and administrative expenses for the second quarter of fiscal
1999 were $856,000 or 22% lower than for the same period last year. For the
six-month period ended March 31, 1999, these expenses were $1,723,000, which was
an 8% decrease over last year's comparable period. Selling expenses decreased
20% for the quarter and 18% for the six-month period due to a decrease in
personnel and related expenses in sales and marketing areas. While general and
administrative expenses are down $127,000 from the comparable quarter for 1998,
these amounts remain higher for the six-month period than last year by $27,000
due primarily to continuing legal expenses.
Research and development expenses of $219,000 in the second quarter of fiscal
1999 decreased 25% over last year and, for the six-month period, were down 28%
from fiscal 1998 to $402,000. The lower research and development expense was due
to an increased emphasis on in-house development and lower usage of outside
engineering consultants.
Interest and other of $123,000 in the second quarter of fiscal 1999 were 13%
lower than the $141,000 reported for the comparable 1998 period principally
because the second quarter debt restructuring caused a lower principal balance
and interest rate on the long-term note payable. For the six-month period of
fiscal 1999, interest and other increased 5% to $265,000.
During the second quarter of fiscal 1999, the Company recorded an extraordinary
gain of $472,000 resulting from a restructuring of a vendor note. In a
transaction involving the sale of the note to a third party, the debt was
reduced as of March 1, 1999 to $1,529,000 at 9 1/4% interest from $2,552,000 at
<PAGE>
11 1/4% interest and the Company issued five-year warrants to the note holder to
purchase 275,000 shares of common stock at $1.00 per share. Net of costs
directly associated with the restructuring, the total gain on the transaction
was $693,000, $221,000 of which will be deferred to offset future interest
charges on the note. (See Exhibits 10.1, 10.2 and 10.3 hereto).
The Company derives a significant portion of its revenue from export sales.
The gross profit and cash requirements of these sales do not vary materially
from the requirements of its domestic sales.
LIQUIDITY AND CAPITAL RESOURCES
Historically, the Company has utilized financing sources such as public and
private equity offerings and borrowings from financial institutions and
individual investors to fund its operating activities. The Company believes that
its cash on hand at March 31, 1999 and funds available under its existing credit
agreement combined with funds generated by operations will provide the Company
with adequate liquidity and capital resources for working capital and other cash
requirements through at least fiscal 1999.
As reflected in the financial statements included in the Company's most recent
Annual Report on Form 10-K, the Company incurred a net loss of $1,980,000 for
the year ended September 30, 1998, and also experienced negative cash flow from
operations. Prior to the successful restructuring of its vendor note payable in
March 1999, the Company had also been in default on this note. Additionally, the
Company's current line of credit agreement is effective through June 30,1999,
and although management expects to be able to renew the agreement, there can be
no assurance that a renewal agreement with acceptable terms will be reached.
Fiscal 1999 cash flow projections are dependent on the availability of an
operating line of credit with sufficient borrowing base and achievable financial
covenants from the present lender or another financing source. As a result of
conditions at September 30, 1998, and as of the date of filing of the most
recent Form 10-K, the auditors' report on the Company's financial statements as
of and for the year ended September 30, 1998 contains a modification which
indicates substantial doubt about the Company's ability to continue as a going
concern.
The Company's operating activities provided $366,000 during the six-month period
ended March 31, 1999 because of net income, as offset by increases in accounts
receivable and other operating items, including the non-cash gain on debt
restructuring.
The Company's investing activities used $241,000 during the six-month period
ended March 31, 1999 for the purchase of fixed assets. Its financing activities
provided net cash of $307,000 during the same period for repayments of long-term
obligations of $243,000, offset by increases in its net borrowings on its bank
line of credit.
As of March 31, 1999, the Company had net working capital of $4,390,000 with a
current ratio of 1.86 to 1.0, which represents a $2,983,000 increase in working
capital from September 30, 1998. The debt restructuring allowed a significant
reclassification of debt from short-term to long-term, thereby significantly
improving the Company's working capital position.
The Company has a $3,000,000 revolving credit facility with Coast Business
Credit, a division of Southern Pacific Thrift and Loan Association of Los
Angeles, California. The credit facility is secured by all of the Company's
receivables, inventories, investment property, equipment and general
intangibles, as defined in the agreement. Borrowings under the facility are
payable on demand and are limited to a portion of eligible accounts receivable
and inventories, as defined in a borrowing formula in the agreement. The
agreement is effective through June 30, 1999, with provisions for extensions of
the maturity date. Interest on the credit facility is paid monthly at a rate
equal to the
<PAGE>
greater of eight percent (8%) or prime plus one and three-quarters percent (1
3/4%). At March 31, 1999, the Company had outstanding borrowings of
$1,828,000 under the facility and had a maximum availability under the
borrowing formula of $3,000,000.
In June 1997, the Company completed an agreement with a vendor whereby
$4,290,000 of a trade payable was converted into a promissory note. In August
1998, the Company advised the vendor it could not comply with the original
payment schedule of the promissory note. Beginning in September 1998, the
Company unilaterally reduced the monthly payment to $50,000. In March 1999, the
note was restructured as described above. The Company will continue to make
monthly payments of $50,000 until the restructured note is paid in full in
January 2002. While management believes that this restructuring will improve the
Company's ability to meet its ongoing cash flow requirements in the foreseeable
future, there can be no assurance in this regard.
In November 1998, the Company received notice from The Nasdaq Stock Market that
the Company's common stock would be delisted from The Nasdaq Small Cap Market if
the closing bid price did not trade at or above $1.00 for ten consecutive
trading days prior to February 17, 1999. The Company's common stock was able to
meet this requirement. Management is no longer considering a reverse stock split
at this time.
YEAR 2000
During fiscal 1997 and 1998, the Company undertook a comprehensive review of its
computer systems and related software to ensure that all systems would properly
recognize Year 2000 and continue to process data. The review encompassed
information technology systems, significant third party relationships and
manufactured product lines.
Based upon this internal assessment, the Company upgraded major portions of its
information systems during the first quarter of fiscal 1998 to ensure Year 2000
compliance. The cost of evaluating and replacing certain business systems did
not have a significant impact on the Company's results of operations. The cost
of approximately $100,000 was funded through operating cash flows. These costs
were attributable primarily to the purchase of new software and equipment and
were expensed or capitalized on a basis consistent with the Company's accounting
policies for capital assets.
The Company is currently in the process of evaluating the Year 2000 preparedness
of its customers, suppliers and service providers by soliciting representations
and assurances from such third parties. If these representations prove to be
inadequate, the Company's business, financial condition and results of
operations could be adversely affected. With regard to its manufactured
electronic products, the Company believes that its embedded technologies are
Year 2000 compliant.
As of the date of this report, the Company also is in the process of preparing
contingency plans to address any remaining exposures to Year 2000 matters, after
consideration of the above plans. There can be no assurance that these plans
will successfully mitigate all Year 2000 risks.
FORWARD-LOOKING INFORMATION
The information set forth in the preceding paragraphs and certain areas
elsewhere in this Form 10-Q contains forward-looking information. Therefore, if,
for any reason (including, without limitation, those described below), the
Company's operations require more capital than anticipated, revenues do not
reach anticipated levels, or cash flow needs are greater than planned, the
Company may need additional financing in order to maintain its operations. There
can be no assurance that the Company would be able to obtain any required
additional financing when needed or that such financing, if obtained, would be
on terms favorable or acceptable to the Company. If the Company was unable to
<PAGE>
obtain additional financing when needed and under acceptable conditions, it
would be required to significantly scale back plans for growth and perhaps
reduce the scope of its operations. Factors that may affect the Company's
revenues, use of capital, expenses and/or cash flow, and that would cause actual
results to differ materially from those anticipated include, but are not limited
to, the introduction of competing products with performance equivalent to or
exceeding that of the Company's products, a claim (whether or not successfully
made) that the Company's products infringe a patent held by another company or
individual, any performance problems involving the Company's products, changes
in technology that could cause the Company's products to become obsolete, the
departure of key members of management and/or key employees, regulatory
requirements that would make the Company's products difficult or uneconomical to
produce, and general economic conditions.
<PAGE>
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Colorado Patent Actions
On January 8, 1996, the Company commenced a patent infringement trial
against four competitors in the United States District Court of
Colorado. (The patent involved is No. 5,211,129, which relates to the
Company's injectable transponder technology.) On January 29, 1996, the
jury in the trial returned a verdict in favor of the Company and found
that the defendants had willfully infringed on the Company's patent
and awarded damages of $444,000, including prejudgment interest. The
defendants appealed the judgment against them, and the Company
cross-appealed the failure of the court to increase the Company's
damages. On July 24, 1997, the Court of Appeals for the Federal
Circuit handed down its decision in the appeal. The decision of the
Court of Appeals affirmed the trial court's judgment, holding that the
Company's patent is valid and was willfully infringed by the
competitors. However, the Court of Appeals remanded to the trial court
for further proceedings the issue of whether the Company engaged in
inequitable conduct in prosecuting the patent application before the
United States Patent Office.
On November 7, 1997, the U.S. District Court of Colorado, on remand on
the issue of inequitable conduct, found no intent on the part of the
Company to deceive the Patent Office, and therefore that no
inequitable conduct occurred and the Company's '129 patent was
enforceable. On February 9, 1998, the District Court Judge issued an
Order containing findings and conclusions and entered a Third Amended
Judgment confirming the Court's finding of no inequitable conduct. The
defendants appealed this decision, and oral argument to the U.S. Court
of Appeals for the Federal Circuit was held on December 8, 1998.
On January 26, 1999, the Court of Appeals entered an order affirming
the U.S. District Court's decision that the Company had not engaged in
inequitable conduct in obtaining the '129 patent and thus the patent
was enforceable. The order of the Court of Appeals has the effect of
continuing the permanent injunction entered by the United States
District Court in Colorado which prohibits the defendants from
manufacturing, using, selling, or offering to sell the transponders
that violate the Company's '129 patent. Because the defendants did not
pursue a timely appeal to the United States Supreme Court, the January
26, 1999 decision of the Court of Appeals is now final and not
appealable.
Further, during the pendency of the first appeal, the Company pursued
a contempt action against certain defendants for willful violations of
the District Court's permanent injunction. On November 7, 1997, a
Magistrate Judge of the District Court recommended that the defendants
be found in willful contempt of the permanent injunction and that the
Company should be awarded double damages, amounting to $33,000, as
well as attorneys' fees and costs. On February 9, 1998, the District
Court Judge issued an Order adopting the Magistrate's recommendation
that the defendants were in contempt. This finding of contempt has
also been appealed and upheld.
On January 23, 1998, the Company filed a second Motion for Contempt
against certain defendants. Following a March 27, 1998 hearing, on
April 23, 1998 the Magistrate Judge entered a recommendation that the
defendants be held in contempt a second time, based
<PAGE>
upon their attempts to solicit purchase orders from the Denver
Metro Microchip Committee and their manufacture, use and sale of
the ID-100 Zip Quill transponder product. The Company has requested
treble damages, attorneys' fees, costs and sanctions against the
defendants for their contempt of the District Court permanent
injunction. The defendants have objected to the recommendations of
the Magistrate Judge.
On March 18, 1999, the District Court entered an order of contempt
against the defendants arising from their efforts to solicit purchase
orders from the Denver Metro Microchip Committee, but found that it
could not determine if the ID-100 Zip Quill transponder product was
made for the purpose of evading the injunction without essential
change in the nature of the device and, therefore, determined a new
infringement trial was necessary. As part of the same March 18, 1999
Order, the District Court instructed the parties to submit briefs on
the issue of damages flowing from the contempt and further held that
the Company may register its willful infringement judgment against the
defendants with the District Court for the District of Minnesota and
for the District of Columbia for purposes of enforcing the judgment
and collecting the previously awarded damages from the defendants.
On April 26, 1999, the parties simultaneously submitted briefs on the
issue of damages resulting from the defendants' contempt of court in
soliciting purchase orders from the Denver Metro Microchip Committee.
The Company seeks an award of several thousand dollars for the
contempt. The defendants urged the District Court to award no damages.
The Company believes that the District Court will likely resolve this
issue without oral argument.
Minnesota Patent Actions
On December 17, 1996, the same three competitors found to be willful
infringers in the Colorado Patent Actions filed a lawsuit against the
Company and its United States distributor, Schering- Plough, in the
United States District Court for the District of Minnesota. The
plaintiffs alleged that the defendants participated in unfair
competition, breached an oral contract and infringed on three of the
plaintiffs' United States patents. On January 24, 1997, the plaintiffs
withdrew this lawsuit in its entirety.
On April 21, 1997, four plaintiffs (including the three competitors
identified in the foregoing paragraph) filed a lawsuit against the
Company and Schering-Plough and another of the Company's competitors
in the United States District Court for the District of Minnesota. The
plaintiffs allege that the defendants participated in unfair
competition, breached an oral agreement and infringed on three of the
plaintiffs' United States patents and requested that the Court award
compensatory and treble damages of an unspecified amount.
On May 16, 1997, the plaintiffs amended the lawsuit and, in their
complaint as amended, allege patent infringement, false advertising,
unfair competition and attempted monopolization on the part of the
Company, among other matters, stemming from the ISO standards. This
lawsuit has been stayed by agreement of all parties pending the
outcome of the appeal of the Colorado Patent Action.
Since the Company was successful in obtaining an affirmance of the
judgment of enforceability in the Colorado Patent Action, the
Company's exposure, if any, in the
<PAGE>
Minnesota litigation may be reduced. As a result of the favorable
ruling in the Colorado Patent Action on February 9, 1998, and as
indicated in the above paragraph, the Minnesota litigation has been
stayed pending the Federal Circuit Court decision in the Colorado
Patent Action. The Company is now assessing its alternatives in the
Minnesota Patent Actions in light of the January 26, 1999 decision
of the Court of Appeals in the Colorado Patent Action.
Minnesota Class Action
On January 28, 1999, a class action lawsuit was commenced against
the Company in the United States District Court for the District of
Minnesota on behalf of persons who were shareholders of record of
the Company's common stock on December 29, 1998 and received the
Company's Proxy Statement dated December 29, 1998 ("Proxy
Statement") for the Company's annual meeting of stockholders to be
held on January 29, 1999 ("Annual Meeting"). The complaint
principally alleged violations of federal securities laws based on
disclosures in the Proxy Statement. The plaintiffs alleged that the
Proxy Statement failed to inform the stockholders of their ability
to exercise dissenters' rights in connection with the proposed
reverse stock split described in the Proxy Statement. The Company
believes the plaintiffs' case had no merit because the Proxy
Statement is believed to contain a complete and accurate
description of the reverse stock split, including the absence of
dissenters' rights.
In connection with the above-described class action lawsuit, on
January 28, 1999, the plaintiffs filed a motion requesting an order
that would prevent the Company from holding the Annual Meeting or, in
the alternative, that would prevent it from holding the vote on the
proposed reverse stock split. A hearing on the motion was held on
January 29, 1999 in the United States District Court for the District
of Minnesota. In a strongly worded order from the bench, Judge James
M. Rosenbaum ruled in favor of the Company and denied plaintiffs'
motion, which allowed the Company to hold the Annual Meeting as
planned.
At the January 29, 1999 Annual Meeting of the Company's shareholders,
the shareholders authorized the Company's Board of Directors to carry
out the reverse stock split at any time before April 1, 1999. Due to
increases in the price of the Company's common stock as quoted on The
Nasdaq SmallCap Market, the Board determined to forgo the reverse
stock split and allowed its authority to execute the stock split to
expire unexercised on April 1, 1999. In view of that development, the
plaintiffs in the class action lawsuit have agreed to dismiss the
complaint with prejudice and without any further cost to the Company.
<PAGE>
Item 6. Exhibits and Reports on Form 8-K
a. Exhibits:
The following exhibit is hereby incorporated by reference to
Exhibit 10.32 to the Company's Annual Report on Form 10-K
for the year ended September 30, 1997:
10.1 Promissory Note dated June 1, 1997 issued by the
Company to Hughes Microelectronics Europa Espana S.A.
The following exhibits are hereby filed as part of this
Quarterly Report on Form 10-Q:
10.2 Amendment No. 1 to Promissory Note dated as of March
15, 1999 by and between the Company and Data Sales Co.,
Inc.
10.3 Warrant Agreement dated as of March 15, 1999 by and
between the Company and Data Sales Co., Inc.
27 Financial Data Schedule
b. Reports on Form 8-K
A report on Form 8-K was filed on February 19, 1999 relating
to the Nasdaq minimum bid requirements. No other reports on
Form 8-K were filed in the quarter ended March 31, 1999.
<PAGE>
SIGNATURES
In accordance with the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
DESTRON FEARING CORPORATION
(Registrant)
Dated: May 12, 1999 /s/ Randolph K. Geissler
---------------------------------
By: Randolph K. Geissler
President
Chief Executive Officer
<PAGE>
AMENDMENT NO. 1 TO
PROMISSORY NOTE
THIS AMENDMENT, is made as of the 15th day of March, 1999, by and between
Destron Fearing Corporation, a Delaware corporation (the "Maker"), and Data
Sales Co., Inc., a Minnesota corporation ("Holder"), as assignee of Raytheon
Marine Company ("Raytheon").
WITNESSETH:
WHEREAS, the Maker previously executed and delivered to Hughes Microelectronics
Europa Espana S.A. ("Hughes") that certain Promissory Note (the "Hughes Note")
dated as of June 1, 1997 in the original principal amount of $4,290,562.00 and
payable to the order of Hughes, a copy of which is attached hereto as EXHIBIT A;
WHEREAS, Raytheon acquired all right, title and interest of Hughes in the Hughes
Note when Raytheon acquired Hughes' assets;
WHEREAS, on the date hereof, Raytheon assigned to the Holder the Hughes Note and
all of Raytheon's right, title and interest in and to the Hughes Note; and
WHEREAS, in consideration of, among other things, the issuance by the Maker to
the Holder on the date hereof of warrants to purchase 275,000 shares of the
Maker's $0.01 per share par value common stock, the Maker and the Holder have
agreed to amend the Hughes Note as hereinafter provided.
NOW, THEREFORE, in consideration of the foregoing premises, and further in
consideration of the mutual promises herein contained, the receipt and
sufficiency of which are hereby acknowledged, the Maker and the Holder hereby
agree to amend the Hughes Note as follows:
1. The first sentence in the first paragraph of the Hughes Note is hereby
deleted in its entirety and is replaced and superseded by the following
sentence:
FOR VALUE RECEIVED, the undersigned, Destron Fearing Corporation, a
Delaware corporation ("Maker"), promises to pay to Data Sales Co.,
Inc. ("Holder"), the principal amount of One Million Five Hundred
Twenty-Eight Thousand Seven Hundred Eighty-One and 00/100 U.S. Dollars
(U.S. $1,528,781.00), with interest from March 1, 1999 on the unpaid
principal balance hereunder accruing at the rate of 9.25% per annum.
This Note shall be payable in monthly installments of Fifty Thousand
and 00/100 U.S. Dollars (U.S. $50,000.00), with the first installment
of interest and principal due on March 31, 1999, and continuing on the
last day of each calendar month until the amounts evidenced by this
Note are paid in full.
2. The dollar amount of "$4,290,562.00," wherever such amount appears in the
Hughes Note and whether such amount appears in numbers or words, is hereby
changed to "$1,528,781.00."
3. The second paragraph of the Hughes Note, beginning with "This Note arises
from a debt owing on the sale of industrial property . . .," is hereby
deleted in its entirety.
<PAGE>
4. The third sentence in what was the third paragraph of the Hughes Note,
beginning with "All amounts due hereunder shall be payable without defense,
set off or counterclaim . . .," is hereby deleted in its entirety and is
replaced and superseded by the following sentence:
All amounts due hereunder shall be payable without defense, set off or
counterclaim, in lawful money of the United States of America, by
check make payable to the Holder and sent by the Maker to the Holder
at 3450 Burnsville Parkway, Burnsville, Minnesota 55337, or in such
other manner or at such other place as Holder or any holder hereof
shall designate in writing for such purpose from time to time.
5. What was the fourth paragraph of the Hughes Note, beginning with "The
foregoing notwithstanding, to the extent permitted by Maker's existing Loan
and Security Agreement with Coast Business Credit-Registered Trademark-
("Senior Lender") any and all amounts received by Maker . . .," is hereby
deleted in its entirety.
6. What was the fifth paragraph of the Hughes Note, beginning with "At the end
of each calendar quarter commencing with the quarter ending December 31,
1997, to the extent Maker is in compliance with the Senior Lender's payment
schedule . . . ," is hereby deleted in its entirety.
7. The portion of the first sentence of what was the eighth paragraph of the
Hughes Note, consisting of "Upon the occurrence that Maker should be found
in default as stated under Senior Lender's Events of Default (Exhibit B),"
is hereby deleted in its entirety and is replaced and superseded by the
following:
Upon the occurrence that Maker should be found in default as
stated under the Events of Default of Coast Business
Credit-Registered Trademark- ("Senior Lender") (Exhibit B),
8. The second sentence of what was the ninth paragraph of the Hughes Note,
beginning with "At all times while this Note is outstanding, Maker will
provide the Holder and a copy to its parent, Hughes Electronic Corporation
. . .," is hereby deleted in its entirety and is replaced and superseded by
the following:
At all times while this Note is outstanding, Maker will provide
the Holder its Form 10-Q quarterly filings and Form 10-K annual
filing with the Securities and Exchange Commission ("SEC")
simultaneously with making its filing with the SEC.
9. What was the tenth paragraph of the Hughes Note, beginning with "Maker
convenants to deliver to Holder, to the attention of Mr. Amnon Carr, on or
before June 30, 1997, a letter or letters from Maker's outside legal
counsel . . .," is hereby deleted in its entirety. What was the eleventh
paragraph of the Hughes Note, beginning with "Maker covenants to deliver to
Holder, to the attention of Mr. Amnon Carr, within ninety (90) days after
the end of each of Maker's fiscal years . . .," is hereby deleted in its
entirety.
10. What was the twentieth paragraph of the Note, beginning with "Notices to
the Holder required in the terms of this Note shall be provided . . .," is
hereby deleted in its entirety and is replaced and superseded by the
following sentence:
2
<PAGE>
Notices to the Holder required in the terms of this Note shall be
provided to the Holder at 3450 Burnsville Parkway, Burnsville,
Minnesota 55337.
11. Exhibit A and Exhibit C to the Hughes Note are hereby deleted in their
entirety.
12. To the extent of any conflict between the paragraph numbers of the Hughes
Note, or what were the paragraph numbers of the Hughes Note, and the
portions of the Hughes Note quoted herein, the quoted portions of the
Hughes Note shall govern.
13. Except as expressly amended hereby, the Hughes Note shall remain in full
force and effect in accordance with its original terms.
IN WITNESS WHEREOF, the parties have caused this Amendment No. 1 to Promissory
Note to be executed as of the date and year first above written.
MAKER:
Destron Fearing Corporation
By: /s/ Randolph K. Geissler
--------------------------------------
Randolph K. Geissler
Its: President and Chief Executive Officer
HOLDER:
Data Sales Co., Inc.
By: /s/ R. C. Breckner
--------------------------------------
Ronald Breckner
Its: President
--------------------------------------
Title Typed or Printed
3
<PAGE>
DESTRON FEARING CORPORATION
WARRANT AGREEMENT
THIS WARRANT HAS NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS
AMENDED, OR ANY STATE SECURITIES LAWS. THIS WARRANT MAY NOT BE TRANSFERRED IN
THE ABSENCE OF SUCH REGISTRATION OR UNLESS AN EXEMPTION THEREFROM IS AVAILABLE.
This Warrant Agreement (this "Agreement") is entered into as of March 15,
1999 by and between Destron Fearing Corporation, a Delaware corporation (the
"Company"), and Data Sales Co., Inc., a Minnesota corporation, or its assignees
(the "Holder").
RECITALS
WHEREAS, the Company has agreed to grant to Holder warrants to purchase
shares of Company Common Stock in exchange and in consideration of certain
financing.
NOW, THEREFORE, BE IT RESOLVED, the parties agree hereto as follows:
1. DESCRIPTION; EXECUTION.
(a) The Company agrees to issue to the Holder and the Holder agrees
to accept the Warrant Certificate evidencing the right to
purchase up to two hundred seventy-five thousand (275,000) shares
(the "Warrant Shares") of the Company's $0.01 per share par value
common stock ("Common Stock") at the "Exercise Price" (as defined
below). The Warrant Certificate shall be substantially in the
form annexed hereto as Exhibit A.
(b) This Agreement shall be executed on behalf of the Company by its
President. Upon delivery of this Warrant to the Holder, this
Agreement shall be binding upon the Company, and the Holder shall
be entitled to all the benefits set forth herein.
2. TERM OF WARRANT.
The Warrant shall become exercisable at any time after the date hereof, and
remain exercisable, subject to the conditions set forth in Section 3, until the
close of business on March 15, 2004 (the "Expiration Date").
3. EXERCISE OF WARRANT.
(a) Subject to subsection 3(b) below, at any time until the
Expiration Date, the Holder shall have the right to purchase from
the Company (and the Company shall promptly issue to the Holder)
up to two hundred seventy-five thousand (275,000) fully-paid and
nonassessable shares of Company Common Stock at the Exercise
Price (as defined below), by surrendering
<PAGE>
the appropriate Warrant Certificate and the Subscription Form
attached hereto to the Company at its executive offices and
paying the aggregate Exercise Price for the shares to be
purchased, in cash or by check or shares of Company Common Stock.
(b) The Warrant may be exercised in whole and in part but not in
increments of less than 100 shares. In case of a partial
exercise, the Warrant Certificate shall be surrendered and a new
Warrant Certificate of the same tenor and for the purchase of the
number of shares not purchased upon such partial exercise shall
be issued by the Company to the Holder hereof. The Warrants
shall be deemed to have been exercised immediately prior to the
close of business on the date of their surrender for exercise as
provided above, and the person or entity entitled to receive the
shares of Common Stock issuable upon the exercise shall be
treated for all purposes as the holder of such shares of record
as of the close of business on such date. Prior to any such
exercise, neither the Holder nor any person entitled to receive
shares issuable upon exercise shall be, or have any of the rights
of, a shareholder of the Company. Except as provided in Section
5.1, no adjustment shall be made for dividends or other
stockholder rights for which the record date is prior to the date
of exercise. As soon as practicable on or after such date, the
Company shall issue in the name of, and deliver to the person or
persons entitled to receive, a certificate or certificates for
the full number of shares of Common Stock issuable upon such
exercise.
4. EXERCISE PRICE. The initial exercise price for each share of Common Stock
issuable pursuant to the Warrant shall be One and 00/100 Dollars ($1.00)
per Warrant Share, adjusted as provided below (the "Exercise Price"). The
Exercise Price may be paid, at the election of the Holder, in cash,
cashier's check and/or by delivering shares of Common Stock having a
"Current Fair Market Value" (as defined below) equal to the Exercise Price,
including shares which would be deliverable upon exercise of the Warrants
(a "cashless exercise"). The Holder may elect to effectuate a cashless
exercise by delivering to the Company a written notice of its exercise,
stating the number of Warrants to be exercised and that the Exercise Price
shall be paid by cancelling Warrants representing the right to purchase a
number of Warrant Shares having a value equal to such Exercise Price. The
value of such cancelled Warrants shall be the Current Fair Market Value of
the Company Common Stock on the date such notice is first sent or given
less the Exercise Price therefor.
5. EXERCISE PRICE ADJUSTMENTS FOR CERTAIN SPLITS AND COMBINATIONS. The
Exercise Price of the Warrants shall be subject to adjustment from time to
time as follows.
(a) In the event the Company should at any time or from time to time
after the date of this Warrant Agreement ("Grant Date") fix a
record date for the effectuation of a split or subdivision of the
outstanding shares of Common Stock or a dividend or other
distribution payable in additional shares of Common Stock or
other securities or rights convertible into, or entitling
2
<PAGE>
the holder thereof to receive directly or indirectly, additional
shares of Common Stock (hereinafter referred to as "Common Stock
Equivalents") without payment of any consideration by such holder
for the additional shares of Common Stock or the Common Stock
Equivalents (including the additional shares of Common Stock
issuable upon exercise or exercise thereof), then, as of such
record date (or the date of such dividend distribution, split or
subdivision, if no record date is fixed), the Exercise Price of
the Warrants shall be proportionately decreased and the number of
shares of Common Stock issuable on exercise of each share of such
series shall be increased in proportion to such increase of the
aggregate of shares of Common Stock outstanding and those
issuable with respect to such Common Stock Equivalents.
(b) If the number of shares of Common Stock outstanding at any time
after the Grant Date is decreased by a combination of the
outstanding shares of Common Stock, then, following the record
date of such combination, the Exercise Price for the Warrants
shall be proportionately increased and the number of shares of
Common Stock issuable on exercise of each share of such series
shall be decreased in proportion to such decrease in outstanding
shares.
5.2 OTHER DISTRIBUTIONS. In the event this Company shall declare a
distribution payable in securities of other persons, evidences of
indebtedness issued by the Company or other persons, assets (excluding
cash dividends) or options or rights not referred to in subsection
5.1(a), then, in each such case for the purpose of this Section 5.2,
the Holders of the Warrants shall be entitled to a proportionate share
of any such distribution as though they were the holders of the number
of shares of Common Stock of the Company into which their shares of
Warrants are convertible as of the record date fixed for the
determination of the holders of Common Stock of the Company entitled
to receive such distribution.
5.3 RECAPITALIZATIONS. If at any time or from time to time there shall be
a recapitalization of the Common Stock (other than a subdivision,
combination or merger or sale of assets transaction provided for
elsewhere in this Section 5), provision shall be made so that the
Holders of the Warrants shall thereafter be entitled to receive upon
exercise of the Warrants the number of shares of stock or other
securities or property of the Company or otherwise, to which a holder
of Common Stock deliverable upon exercise would have been entitled on
such recapitalization. In any such case, appropriate adjustment shall
be made in the application of the provisions of this Section 5 with
respect to the rights of the Holders of the Warrants after the
recapitalization to the end that the provisions of this Section 5
(including adjustment of the Exercise Price then in effect and the
number of shares purchasable upon exercise of the Warrants) shall be
applicable after that event as nearly equivalent as may be
practicable.
5.4 NO IMPAIRMENT. This Company will not, by amendment of its Certificate
of Incorporation or through any reorganization, recapitalization,
transfer or assets,
3
<PAGE>
consolidation, merger, dissolution, issue or sale of securities or
any other voluntary action, avoid or seek to avoid the observance or
performance of any of the terms to be observed or performed hereunder
by this Company, but it will at all times in good faith assist in
the carrying out of all the provisions of this Section 5 and in the
taking of all such action as may be necessary or appropriate in
order to protect the exercise rights of the Holders of the Warrants
against impairment.
5.5 CERTIFICATE AS TO ADJUSTMENTS. Upon the occurrence of each adjustment
or readjustment of the Exercise Price of Warrants pursuant to this
Section 5, the Company, at its expense, shall promptly compute such
adjustment or readjustment in accordance with the terms hereof and
prepare and furnish to each Holder of Warrants a certificate setting
forth such adjustment or readjustment and showing in detail the facts
upon which such adjustment or readjustment is based. This Company
shall, upon the written request at any time of any Holder of Warrants,
furnish or cause to be furnished to such Holder a like certificate
setting forth (a) such adjustment and readjustment, (b) the Exercise
Price for such warrants at the time in effect, and (c) the number of
shares of Common Stock and the amount, if any, of other property which
at the time would be received upon the exercise of the then
outstanding Warrants.
5.6 NOTICES OF RECORD DATE. In the event of any taking by this Company of
a record of the Holder of any class of securities for the purpose of
determining the holders thereof who are entitled to receive any
dividend (other than a cash dividend) or other distribution, any right
to subscribe for, purchase or otherwise acquire any shares of stock of
any class or any other securities or property, or to receive any other
right, this Company shall mail to each Holder of Warrants, at least
twenty (20) days prior to the date specified therein, a notice
specifying the date on which any such record is to be taken for the
purpose of such dividend, distribution or right, and the amount and
character of such dividend, distribution or right.
5.7 RESERVATION OF STOCK ISSUABLE UPON EXERCISE. This Company shall at
all times reserve and keep available out of its authorized but
unissued shares of Common Stock, solely for the purpose of effecting
the exercise of the Warrants, such number of its shares of Common
Stock as shall from time to time be sufficient to effect the exercise
of all outstanding Warrants to purchase all shares of Common Stock
underlying the Warrants; and if at any time the number of authorized
but unissued shares of Common Stock shall not be sufficient to effect
the exercise of all outstanding Warrants to purchase all shares of
Common Stock underlying the Warrants, in addition to such other
remedies as shall be available to the Holder of such Warrants, this
Company will take such corporate action as may, in the opinion of its
counsel, be necessary to increase its authorized but unissued shares
of Common Stock to such number of shares as shall be sufficient for
such purposes, including, without limitation, engaging in its best
efforts to obtain the requisite shareholder approval of any necessary
amendment to its Certificate of Incorporation.
4
<PAGE>
5.8 NOTICES. Any notice required by the provisions of this Section 5 to
be given to the Holders of Warrants shall be given as provided in
Section 9.1.
6. REGISTRATION RIGHTS.
6.1 DEFINITIONS.
(a) "Commission" shall mean the Securities and Exchange Commission or
any other federal agency at the time administering the Securities
Act of 1933, as amended (the "Securities Act").
(b) "Registrable Securities" shall mean (x) shares of Common Stock
issuable upon exercise of the Warrants and (y) any Common Stock
issued as a dividend or other distribution with respect to or in
exchange for or in replacement of the shares referenced in (x)
above; provided, however, that Registrable Securities shall not
include any shares of Common Stock which have previously been
registered or which have been sold to the public.
(c) The terms "register," "registered" and "registration" shall refer
to a registration effected by preparing and filing with the
Commission a registration statement in compliance with the
Securities Act and applicable rules and regulations thereunder,
and the declaration or ordering of the effectiveness of such
registration statement by the Commission.
(d) "Registration Expenses" shall mean all expenses incurred in
effecting any registration pursuant to this Agreement, including,
without limitation, all registration, qualification, and filing
fees, printing expenses, escrow fees, fees and disbursements of
counsel for the Company, blue sky fees and expenses of any
regular or special audits incident to or required by any such
registration, but shall not include selling expenses and fees and
disbursements of counsel for the Holder.
(e) "Rule 144" shall mean Rule 144 as promulgated by the Commission
under the Securities Act, as such Rule may be amended from time
to time, or any similar successor rule that may be promulgated by
the Commission.
(f) "Rule 145" shall mean Rule 145 as promulgated by the Commission
under the Securities Act, as such Rule may be amended from time
to time, or any similar successor rule that may be promulgated by
the Commission.
6.2 "PIGGYBACK" REGISTRATION. During the period beginning with the Grant
Date and ending 5:00 p.m., Central Time, on March 15, 2004, if the
Company shall determine to register any of its shares of Common Stock
in a firm commitment public offering for its own account, other than a
registration relating solely to a Rule 145 transaction on Form S-4 or
any successor registration statement, a registration on Form S-8 or
any successor registration statement, or a registration on any
registration form that does not permit secondary sales, the Company
will:
5
<PAGE>
(a) promptly give to Holder written notice thereof;
(b) use its best efforts to include in such registration (and any
related qualification under the blue sky laws or other
compliance), except as set forth in Sections 6.4 and 6.5 below,
and in any underwriting involved therein, all the Registrable
Securities specified in a written request or requests, made by
Holder within twenty (20) days after the written notice from the
Company described in clause 6.2(a) above is given, which written
request may specify all or a part of Holder's Registrable
Securities; and
(c) pay all Registration Expenses, other than the selling expenses of
Holder's Registrable Securities.
6.3 DEMAND REGISTRATION.
(a) In the event that the Company has not registered the Registrable
Securities on or before March 15, 2001, then for the period from
March 15, 2001 until 5:00 p.m., Central Time, on March 15, 2004,
the Holder shall be entitled to one demand registration of the
Registrable Securities on the following terms and conditions:
(i) The Company shall have received a written request of the
Holders requesting registration of all Registrable
Securities (a "Demand"); and
(ii) Such demand registration rights may not be exercised (A)
after the Company has initiated any previous demand
registration or (B) in any particular jurisdiction in which
the Company would be required to execute a general consent
to service of process in effecting such registration.
Within twenty (20) days after delivery of such written notice, the Company
shall file with the Commission the registration including all Registrable
Securities.
6.4 UNDERWRITING. If the registration of which the Company gives notice
is for a registered public offering involving an underwriting, the
Company shall so advise the Holder as a part of the written notice.
In such event, the right of the Holder to registration pursuant to
this Section 6 shall be conditioned upon Holder's participation in
such underwriting and the inclusion of the Holder's Registrable
Securities in the underwriting to the extent provided herein. The
Holder shall (together with the Company) enter into an underwriting
agreement in customary form with the representative of the underwriter
or underwriters selected by the Company.
6.5 EXCLUSION OF REGISTRABLE SECURITIES. Notwithstanding any other
provisions of this Section 6, if the representative of the
underwriters advises the Company in writing that marketing factors
require a limitation on the number of shares to be
6
<PAGE>
underwritten, the representative may (subject to the limitations set
forth below) exclude all Registrable Securities from, or limit the
number of Registrable Securities to be included in, the registration
and underwriting. The Company shall so advise the Holder, and the
number of shares that are entitled to be included in the registration
and underwriting shall be allocated first to the Company for
securities being sold for its own account and thereafter to the
Holder, pro rata with any other holders of Common Stock having
registration rights. If a Holder does not agree to the terms of any
such underwriting, such Holder shall be excluded therefrom by
written notice from the Company or the underwriter. Any Registrable
Securities or other securities excluded or withdrawn from such
underwriting shall be withdrawn from such registration.
If shares of the Holder are so withdrawn from the registration or if
the number of shares of Registrable Securities of the Holder to be
included in such registration was previously reduced as a result of
marketing factors, in any subsequent registration in which the Holder
is permitted to participate under this Section 6, the Company shall
then offer to the Holder the right to include additional securities in
the registration in an aggregate amount equal to the number of shares
so withdrawn, with such shares to be allocated among the persons
requesting additional inclusion pro rata amongst those persons
requesting inclusion.
6.6 REGISTRATION PROCEDURES. In the case of each registration effected by
the Company pursuant to Section 6, the Company will keep Holder
advised in writing as to the initiation of each registration and as to
the completion thereof, at its expense, and the Company will use its
best efforts to:
(a) Keep such registration effective for a period of one hundred
twenty (120) days or until the Holder has completed the
distribution described in the registration statement relating
thereto, whichever first occurs; provided, however, that (x) such
120-day period shall be extended for a period of time equal to
the period the Holder refrains from selling any securities
included in such registration at the request of an underwriter of
Common Stock (or other securities) of the Company; and (y) in the
case of any registration of Registrable Securities on Form S-3
which are intended to be offered on a continuous or delayed
basis, such 120-day period shall be extended, if necessary, to
keep the registration statement effective until all such
Registrable Securities are sold, but only if Rule 415 under the
Securities Act, or any successor rule under the Securities Act,
permits an offering on a continuous or delayed basis, and
provided further that applicable rules under the Securities Act
governing the obligation to file a post-effective amendment
permit, in lieu of filing a post-effective amendment that (I)
includes any prospectus required by Section 10(a)(3) of the
Securities Act or (II) reflects facts or events representing a
material or fundamental change in the information set forth in
the registration statement, the incorporation by reference of
information required to be included in (I) and (II) above to be
contained in periodic reports filed
7
<PAGE>
pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 in the registration statement;
(b) Prepare and file with the Commission such amendments and
supplements to such registration statement and the prospectus
used in connection with such registration statement as may be
necessary to comply with the provisions of the Securities Act
with respect to the disposition of all securities covered by such
registration statement;
(c) Furnish such number of prospectuses and other documents incident
thereto, including any amendment of or supplement to the
prospectus, as the Holder from time to time may reasonably
request;
(d) Notify the Holder at any time when a prospectus relating thereto
is required to be delivered under the Securities Act of the
happening of any event as a result of which the prospectus
included in such registration statement, as then in effect,
includes an untrue statement of a material fact or omits to state
a material fact required to be stated therein or necessary to
make the statements therein not misleading or incomplete in the
light of the circumstances then existing, and at the request of
Holder, prepare and furnish to the Holder a reasonable number of
copies of a supplement to or an amendment of such prospectus as
may be necessary so that, as thereafter delivered to the
purchasers of such shares, such prospectus shall not include an
untrue statement of a material fact or omit to state a material
fact required to be stated therein or necessary to make the
statements therein not misleading or incomplete in the light of
the circumstances then existing;
(e) Cause all such Registrable Securities registered pursuant
hereunder to be listed on each securities exchange on which
similar securities issued by the Company are then listed;
(f) Provide a transfer agent and registrar for all Registrable
Securities registered pursuant to such registration statement and
a CUSIP number for all such Registrable Securities, in each case
not later than the effective date of such registration; and
(g) Otherwise use its best efforts to comply with all applicable
rules and regulations of the Commission, and make available to
its security holders, as soon as reasonably practicable, an
earnings statement covering the period of at least twelve months,
but not more than eighteen months, beginning with the first month
after the effective date of the Registration Statement, which
earnings statement shall satisfy the provisions of Section 11(a)
of the Securities Act.
8
<PAGE>
7. FRACTIONAL SHARES; ISSUANCE OF SHARES; LEGENDS.
7.1 FRACTIONAL SHARES. The Company shall not be required to issue
fractional shares of Company Common Stock on the exercise of a
Warrant. If any fraction of a share of Common Stock would, except for
the provisions of this Section 7, be issuable on the exercise of a
Warrant (or specified portion thereof), the Company shall in lieu
thereof pay an amount in cash equal to the then Current Fair Market
Value, multiplied by such fraction. For purposes of this Agreement,
the term "Current Fair Market Value" shall mean (i) if the Common
Stock is traded in the over-the-counter market and not quoted on The
Nasdaq SmallCap Market or The Nasdaq National Market or on any
national securities exchange, the average of the per share closing bid
prices of the Common Stock on the 10 consecutive trading days
immediately preceding the date in question, as reported by Nasdaq or
an equivalent generally accepted reporting service, or (ii) if the
Common Stock is quoted on The Nasdaq SmallCap Market or The Nasdaq
National Market or on a national securities exchange, the average for
the 10 consecutive trading days immediately preceding the date in
question of the daily per share closing prices of the Common Stock as
quoted on The Nasdaq SmallCap Market or The Nasdaq National Market or
on the principal stock exchange on which it is listed, as the case may
be, or (iii) if the Common Stock is not publicly traded or quoted on
The Nasdaq SmallCap Market or The Nasdaq National Market, the fair
market value as determined by the Board of Directors of the Company
based on (with appropriate adjustments) the most recent purchases of
the Company's Common Stock and/or other relevant factors, including
the Company's income and assets or evaluation reports received by the
Company.
7.2 ISSUANCE OF SHARES. All shares of Common Stock issued upon exercise
of a Warrant will be duly authorized, validly issued, fully paid and
nonassessable.
7.3 LEGENDS. If the Common Stock to be issued upon exercise of this
Warrant has not been registered under the Securities Act of 1933, as
amended, then the stock certificates representing such shares of
Common Stock shall bear a legend substantially in the following form:
THE SHARES OF STOCK REPRESENTED BY THIS CERTIFICATE HAVE NOT BEEN
REGISTERED UNDER THE SECURITIES ACT OF 1933 (THE "ACT") OR APPLICABLE
STATE SECURITIES LAWS AND ARE RESTRICTED SECURITIES. SUCH SECURITIES
MAY NOT BE SOLD OR TRANSFERRED IN THE ABSENCE OF SUCH REGISTRATION OR
AN EXEMPTION THEREFROM UNDER THE ACT AND STATE SECURITIES LAWS.
8. TRANSFERABILITY. The Warrant or the Shares of Company Common Stock
underlying the Warrant may be transferred and the Company shall be required
to register any transfer on the books of the Company; provided, however,
the Company may request an opinion of
9
<PAGE>
counsel satisfactory to it prior to such transfer that registration under
the Securities Act and applicable state securities laws is not required
in connection with the transaction resulting in such transfer. Each new
Warrant or Company Common Stock certificate issued upon any transfer as
above provided shall bear an appropriate investment legend, except that
such Warrant or Company Common Stock certificate shall not bear such
restrictive legend if the opinion of counsel referred to above is to
further effect that such legend is not required in order to establish
compliance with the provisions of the Securities Act or if such
transfer is made in accordance with the provisions of Rule 144(k)
promulgated under the Securities Act. The Warrant may also be
transferred by will or by devise and by the laws of descent.
9. MISCELLANEOUS.
9.1 NOTICES. All notices, requests, demands and other communications
required or permitted to be given hereunder shall be deemed to have
been duly given if in writing and delivered personally, given by
prepaid telegram, or mailed first class, postage prepaid, registered
or certified mail, return receipt requested, to the following
addresses:
If to the Company: Destron Fearing Corporation
490 Villaume Avenue
South St. Paul, Minnesota 55075
Attention: President
With a copy to: Winthrop & Weinstine, P.A.
3000 Dain Rauscher Plaza
60 South Sixth Street
Minneapolis, Minnesota 55402
Attention: Michele D. Vaillancourt, Esq.
If to the Holder: Data Sales Co., Inc.
3450 West Burnsville Parkway
Burnsville, MN 55337
Attention: President
With a copy to: Gregory VanGompel, Esq.
Data Sales Co., Inc.
3450 West Burnsville Parkway
Burnsville, MN 55337
Any party may change the address to which such communications are to be
directed to it by giving written notice to the other party pursuant to the
terms of this Section. Except as otherwise provided in this Warrant, all
notices shall be deemed to be given when delivered in person, or if placed in
the mail as aforesaid, then two (2) days thereafter.
10
<PAGE>
9.2 MODIFICATIONS. The parties may, by mutual consent, amend, modify,
supplement and waive any right under this Warrant in any manner agreed
by them in writing at any time.
9.3 ENTIRE AGREEMENT. This Agreement, and any documents, instruments or
agreements specifically referred to herein, set forth the entire
agreement and understanding of the parties with respect to the
transactions contemplated hereby and supersede all prior agreements,
arrangements and understandings relating to the subject matter hereof.
9.4 HEADINGS. The section and paragraph headings contained in this
Agreement are for convenient reference only, and shall not in any way
affect the meaning or interpretation hereof.
9.5 GOVERNING LAW; ARBITRATION. This Agreement shall be governed by and
construed in accordance with the laws of the State of Minnesota,
without any regard to the choice of law provisions thereof. Any
dispute arising under this Agreement shall be resolved by binding
arbitration under the rules of commercial arbitration of the American
Arbitration Association in Ramsey County, Minnesota.
9.6 SEVERABILITY. If any provision of this Agreement shall be held to be
invalid, illegal or unenforceable, it shall be deemed severable from
the remaining provisions of this Agreement, which shall remain in full
force and effect.
9.7 WAIVER. No waiver of any provision of this Agreement or any breach
thereof shall be deemed or shall constitute a waiver of any other
provision hereof (whether or not similar) or any other breach
hereunder nor shall such waiver constitute a continuing waiver.
Either party may waive performance of any provision of this Agreement,
the non-performance of which would otherwise constitute a breach of
this Agreement, including, but not limited to, the non-performance of
any condition precedent to such party's performance, without affecting
the enforceability of this Agreement or the provisions contained
herein.
9.8 HEIRS, SUCCESSORS AND ASSIGNS. The terms and conditions of this
Agreement shall inure to the benefit of and be binding upon the
respective heirs, successors and assigns of the parties hereto.
Holders may transfer and assign the Warrants only as provided in
Section 8, and any assignment in violation of the foregoing shall be
void.
(The remainder of this page was left blank intentionally.)
11
<PAGE>
9.9 ATTORNEYS' FEES. If any legal action is instituted to enforce or
interpret the terms of this Agreement, the prevailing party in such
action shall be entitled to actual attorneys' fees in addition to any
other relief to which the party is entitled.
IN WITNESS WHEREOF, the parties have executed this instrument as of the
date first written above.
Destron Fearing Corporation,
a Delaware corporation
By: /s/ Randolph K. Geissler
------------------------------------
Randolph K. Geissler, President and
Chief Executive Officer
"HOLDER"
Data Sales Co., Inc.,
a Minnesota corporation
By: /s/ R. C. Breckner
------------------------------------
Ronald Breckner
Its: President
------------------------------------
Title Typed or Printed
12
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