U. S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
|X| ANNUAL REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the fiscal year ended December 31, 1998, or
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from_____________to_______________.
Commission File Number 1-11860
FOCUS Enhancements, Inc.
(Name of Small Business Issuer in its Charter)
Delaware 04-3186320
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
600 Research Drive
Wilmington, Massachusetts 01887
(Address of Principal Executive Offices)
(978) 988-5888
(Issuer's Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of Act:
NAME OF EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
Common Stock, $.01 par value NASDAQ
Securities registered pursuant to Section 12(g) of the Act: None
------------------------------------
Check whether the Issuer (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 other 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. [X] Yes [ ] No
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B contained in this form and no disclosure will 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-KSB or any
amendment to this Form 10-KSB [ ].
Issuer's revenues for the fiscal year ended December 31, 1998 were $18,440,226.
The aggregate market value of voting Common Stock held by non-affiliates of the
Registrant was approximately $21,429,809 based on the closing bid price of the
Registrant's Common Stock on November 24, 1998 as reported by NASDAQ ($1.281 per
share).
As of March 31, 1999, there were 18,005,090 shares of Common Stock outstanding.
Document Incorporated by Reference: Part
Proxy Statement for 1998 Annual Meeting of Stockholders III
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TABLE OF CONTENTS
PART I Page
<S> <C> <C>
Item 1. Business 3
Item 2. Properties 12
Item 3. Legal Proceedings 12
Item 4. Submission of Matters to a Vote of Security Holders 12
PART II
Item 5. Market for Registrant's Common Equity and
Related Stockholder Matters 13
Item 6. Management's Discussion and Analysis of Financial Condition
and Results of Operations 14
Item 7. Financial Statements F-1
Item 8. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 22
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons,
Compliance with Section 16(a) of the Exchange Act 22
Item 10. Executive Compensation 22
Item 11. Security Ownership of Certain Beneficial Owners
and Management 22
Item 12. Certain Relationships and Related Transactions 22
Item 13. Exhibits and Reports on Form 8-K 22
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PART I
ITEM 1. BUSINESS
Business of the Company
FOCUS Enhancements, Inc. (the "Company" or "FOCUS") internally develops, markets
and sells worldwide a line of proprietary video conversion products for PC's and
Macintoshes(R). Based on a 1997 independent survey by Frost & Sullivan, the
Company is an industry leader in the development and marketing of PC-to-TV video
conversion products that make personal computers "TV-ready" and televisions
"PC-ready."
The Company's proprietary PC-to-TV video conversion products include video
output devices marketed and sold under the Company's registered trademark
"TView." All of the Company's PC-to-TV conversion products enable users to
transmit at low-cost, high-quality, computer-generated images from any DOS,
Windows or Mac OS based personal computer to any television of any size with a
standard RCA or S-Video interface. FOCUS' PC-to-TV technology provides sharp,
flicker-free, computer-generated images on televisions for multimedia/business
presentations, classroom/training sessions, game playing, collective viewing of
computer applications, and Internet browsing.
The Company's TV-to-PC video conversion products include video output devices
marketed and sold under the registered trademark "InVideo." All of the Company's
TV-to-PC conversion products enable users to view television signals on a
computer monitor. The technology also enables such functions as video
conferencing.
The Company markets and sells its FOCUS branded consumer products globally
through a network of distributors, volume resellers, mail order, value-added
resellers ("VARs") and original equipment manufacturers ("OEMs"). In North
America, the Company markets and sells its products through national
distributors such as Ingram Micro, D & H, Tech Data, Academic and Nuvo; national
volume resellers such as CompUSA, Micro Center, Office Max, Office Depot, Best
Buy and through third party mail order companies such as MicroWarehouse,
Multiple Zones, PC Connection and CDW.
In addition, the FOCUS branded PC-to-TV products have been selected by leading
personal computer manufacturers to be marketed with the use of their select
brand of personal computers. Compaq has included the Company's PC-to-TV products
on their selected market price lists.
The Company also markets and sells its products internationally in over 30
countries by independent distributors in each country. These independent
distributors market and sell the FOCUS branded products to retailers, mail order
companies, and VARs in their respective countries.
In addition to the FOCUS branded products, the Company markets, sells or
licenses its proprietary PC-to-TV technology to television manufacturers.
However, due to publicly reported financial difficulties of one television
manufacturer, the Company reduced its marketing and sales activities with this
customer significantly in 1998. The Company is currently in discussions with
other PC manufacturers, television manufacturers, VGA chip developers and VGA
card developers globally. There can be no assurance, however, that any of these
discussions will result in the Company entering into any new marketing, sales,
or licensing arrangements or otherwise enhance the Company's earnings.
The Company was founded in December, 1991, as a Massachusetts corporation and
was reincorporated in Delaware in April 1993. In December 1993, the Company
acquired Lapis Technologies Inc. ("Lapis"), a developer of high-quality,
low-cost Macintosh PC to TV video graphics products. Effective September 30,
1996, the Company consummated the acquisition of TView, Inc., a developer of
PC-to-TV video conversion ASIC technology. This acquisition has played a major
strategic role in allowing FOCUS to gain a technological lead over competitors
in the video scan conversion category and has positioned FOCUS as a leader in
PC-to-TV video conversion technology. On September 30, 1997, the Company sold
its line of computer connectivity products. On March 31, 1998, the Company
acquired selected assets of Digital Vision, Inc., a manufacturer of both
PC-to-TV and TV-to-PC products. On July 29, 1998, the Company acquired the net
assets of PC Video Conversion, Inc., a manufacturer of Professional high-end
video conversion products. In December 1998, the Company restructured this
entity into a professional products research & development group and
consolidated its operating activities to the Company's corporate headquarters.
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The Company's principal executive offices are located at 600 Research Drive,
Wilmington, Massachusetts 01887. Its research and development center is located
at 9275 SW Nimbus Drive, Beaverton, Oregon 97008. The Company's European sales
and marketing office, FOCUS Enhancements B.V., is located at Schipholweg 118,
2316 XD Leiden, The Netherlands. The Company's professional A/V conversion team
is located at 16120 Caputo Drive, Suite A, Morgan Hill, CA 95037. The Company's
general telephone number is (978) 988-5888 and its Worldwide Web address is
http://www.focusinfo.com.
Business Strategy
According to a report on the market in the United States for PC-to-TV scan
conversion products published by Frost & Sullivan in 1997, the size of the
market is projected to grow from approximately $57 million in 1997 to $124
million in 2000 and $200 million by 2003. The report also projects an annual
compound growth rate for the PC-to-TV conversion market of approximately 24
percent. In 1997, it was projected that 450,000 units of PC-to-TV products were
sold, and it is expected that by 2000, there will be in excess of 1.4 million
units sold.
The Company has sought to address the growth in this market, not only through
increasing emphasis on internal research and development, but also by strategic
acquisition. The Company has completed four such acquisitions since 1993, the
most recent being the acquisition of selected assets of Digital Vision, Inc., a
manufacturer of both PC-to-TV and TV-to-PC products, in March 1998, and the
acquisition of the net assets of PC Video Conversion Inc., a manufacturer of
professional high-end video conversion products, in July 1998. As part of its
strategic focus, the Company discontinued the sale of any products that were not
targeted to the PC-to-TV video conversion marketplace, which included the
Company's sale in 1997 of its line of computer connectivity products.
The Company's digital video coprocessors are primarily sold directly to OEMs
worldwide through an international sales force. During the past year, the
Company has also gained a presence in the TV/Camcorder-to-PC market while
licensing its chip technology for use in hardware devices ranging from
set-top-boxes to HDTVs. The recent emergence of HDTV, requiring multiple
progressive scan digital standards to co-exist seamlessly, has once again
heightened projections for growth in the target market segment. The Company
anticipates that numerous television manufacturers worldwide will incorporate
FOCUS' next-generation FS400 chip into high-end television models released in
1999.
Product Strategy
The Company is committed to developing state-of-the-art products for the rapidly
converging computing and entertainment industries. Management believes that the
PC-to-TV video conversion marketplace shows potentially strong growth
opportunities in the coming decade. Management believes that FOCUS is well
positioned, as the market expands in the next three to five years, to develop
products that will win both market acceptance and technological acclaim.
Research and development expenses were $1,698,977 for the year ended December
31, 1998 and $1,112,487 for the year ended December 31, 1997. As a percentage of
total research and development expenses, approximately 90% of expenses represent
new product development activities.
Marketing and Sales Strategy
The Company's marketing and sales strategy is to ensure that its products are
well positioned and well received in the high-growth channels where computers
and consumer electronics are sold. Those channels include national distributors,
volume retailers, national mail-order companies, direct retail, systems
integrators and international distributors, resellers and mail order companies.
The Company's marketing strategy employs a range of tactics to reach its
customers. The Company seeks to reach retail end users by selected advertising
in leading computer magazines, both in the United States and abroad. To increase
brand awareness, the Company also cross-markets all of its products across
disparate channels to resellers, systems integrators and distributors through
fax transmission delivery of product specifications. These tactics are outlined
below:
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o Direct Marketing. The Company markets its products directly to business,
educational and end-user customers. The Company markets to these customers
through independent third party mail-order companies such as
MicroWarehouse, CDW, Global Computer Supplies, Multiple Zones, and PC
Connection.
o On-line Direct Marketing. The Company is also taking advantage of the
Internet megatrend as an essential element of its marketing plan. FOCUS has
adapted its direct marketing approach to the Internet by providing complete
product and Company information on the World Wide Web and assists customers
and prospects with both pre- and post-sales needs. In March 1999, the
Company also began accepting direct orders for its products on its Web
site.
o Customer Direct Marketing. The Company utilizes customer sponsored
marketing activities to generate global demand for its products. These
market development activities are funded as a percentage of product
purchases and the company authorizes certain cooperative marketing programs
such as sales incentives, special pricing programs and target advertising
campaigns.
The Company's web site contains an interactive list of resellers and outlets for
its products contributing to the goal of direct access to end users and building
relationships. The Company also offers the ability to buy direct on-line through
various computer resellers including Global Computer Supplies, MicroWarehouse
and Multiple Zones International. In March 1999, the Company went live with its
new Web site that allows for direct product purchasing from FOCUS.
The Company also utilizes a sophisticated 24-hour fax-on-demand system. Each
product specification fax requested by the customer is cross-marketed for
synergistic products.
o Cross-Marketing. The Company ships over 10,000 products per month, and a
FOCUS PC-to-TV product guide is provided in all shipped packages. This
strategy is designed to increase customer awareness of other FOCUS
products, and aids the Company's brand-recognition marketing goals.
o Display Advertising. The Company utilizes target advertising in popular
computer and consumer journals for the development of lead generation and
product brand recognition. The Company has advertised in magazines such as
Selling Power, Advanced Imaging, Mobile Computing, Laptop Buyer's Guide,
Inc. Magazine, Technology & Learning, and Presentations.
o Global Distribution. The Company has made significant investments over the
last several years in creating a global reseller/VAR channel. In 1995, the
Company had approximately 250 resellers globally. As of March 1999, the
Company has over 2,200 active resellers globally.
In the United States and Canada, the Company markets and sells its products
through national resellers such as CompUSA, Office Max, Office Depot, Best Buy,
Micro Center, Midwest Micro, Fry's Electronics, and J&R Music World. The Company
markets and sells its products through national distributors such as Ingram
Micro, Nuvo Electronics of Canada, Tech Data, D&H Distributing and Academic
Distributing. The Company also markets and sells its products through
third-party mail order resellers such as MicroWarehouse, Multiple Zones, PC
Connection and CDW.
In the rest of the world, the Company's products are sold to resellers,
independent mail order companies and distributors in Latin America, France, the
United Kingdom, Scandinavia, Germany, Switzerland, Italy, the Czech Republic,
Russia, Australia, Japan, China, Singapore, and the Republic of Korea.
Additionally, in February 1996, the Company established a European Sales and
Marketing office in Amsterdam to expand the number of and to service its
European partners.
o Telemarketing and Telesales. The Company is receiving and placing over
50,000 calls per year. The Company utilizes telemarketing and telesales
programs.
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Telemarketing. The Company gathers valuable marketing data from callers. This
data allows the Company to continuously analyze its market data such as customer
type, media response and product interest. The Company also receives
registration cards that provide the Company with marketing information such as
product quality, service quality and sales representative product knowledge.
Further, in 1998 a rebate program was established which required the completion
of an information card in order to receive the rebate.
Reactive Telesales. The Company receives calls and product orders from its lead
generation marketing efforts such as advertising, targeted business reply cards
and product guides (catalog) mailings.
Products and Applications
FOCUS develops internally all of its PC-to-TV video conversion products, both
external boxes and ASICs, thereby allowing the Company to market and sell a
proprietary group of products to the PC-to-TV video conversion marketplace. All
of the Company's products are compatible with both Windows and Mac OS personal
computers. FOCUS' products allow PC owners to utilize any television as a large
screen computer display for use in presentations, training, education, video
conferencing, Internet viewing and home gaming.
The Company's primary focus within the video/graphics category is in the
conversion of standard PC video output (VGA) into television video input (NTSC
or PAL). FOCUS' broad line of PC-to-TV products easily allows the user to
display Windows or Mac OS video output directly to a standard television or to
videotape. These products are currently available as either a board-level
product or an external set-top device. FOCUS currently sells its PC-to-TV video
conversion products under the TView(R) brand. These products have a variety of
features geared toward the needs of business, education and consumer customer
groups. The Company has developed various proprietary enhancements for its
PC-to-TV products including image stabilization, which eliminates all flicker,
and TrueScale(R) video compression technology which ensures proper aspect ratios
on the television screen even when a computer image is compressed to fit on a
television.
Consumer PC-to-TV Video Scan Conversion Products
1. External Set-Top Boxes. The Company currently offers four models of external
set-top boxes under the TView brand. The Company sells the TView, Micro XGA, the
TView Silver and the TView Gold, all of which are compatible with both Windows-
and Mac OS-based personal computers. All the external set-top boxes weigh less
than 7 ounces, and are easily connected to the VGA video port of the computer
and a television through the cables provided.
2. PCMCIA Card. The Company also offers a PCMCIA card under the TView brand that
provides PC-to-TV conversion capabilities to laptop computer users. Sold as the
TView Gold Card, this PCMCIA card fits into any laptop computer with a type II
or type III PC card slot. The TView Gold Card permits the user to make large
screen presentations without the size and weight associated with presentation
monitors and portable projection devices.
3. Internal Card. The Company also offers a PCI card under the TView brand that
provides PC-to-TV conversion capabilities to desktop computer users. Sold as the
TView Gold PCI Card, this card fits into any computer with a PCI card slot. The
TView Gold PCI Card permits the user to make presentations on any television.
All FOCUS products are shipped with the Company's proprietary Electronic
Marker(TM) software which turns the computer screen cursor into a drawing tool,
allowing the user to highlight or annotate text and graphics directly on the
screen.
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Commercial PC-to-TV Video Scan Conversion Products
Internal Board Level Products for PCs and TVs. For those environments where
portability is less important, such as classrooms or home entertainment systems,
the Company offers board level products that can be installed directly into a
personal computer or television. The Company currently offers board level
products for OEM television.
Professional PC-to-TV Video Scan Conversion Products
The Company's TView Pro AV products are high-end video conversion devices that
address the high quality standards of the professional broadcast and
presentation markets. The company offers each of its professional products in
desktop, rackmount, and board-level forms. The TView Pro AV products are the
most advanced broadcast quality conversion products in the marketplace. These
products allow the user to take any high-resolution computer image and project
it onto any compatible NTSC/PAL display or VCR or over a videoconference link.
The HyperConverter 1280 is the most advanced product in the market that brings
1280 x 1024 broadcast quality conversion to the enterprise. The QuadScan is a
line Quadrupler/Scaler that eliminates visible scan lines and flicker from
standard video.
Video Scan Conversion Integrated-Circuit Products (CHIPS)
Integrated Circuits. The Company currently offers one integrated circuit
product: the TView FS310. The FS310 is utilized on the Company's board level
products developed for both consumer and commercial applications. The TView
FS310 is the Company's third generation PC-to-TV video encoder designed to
increase the video conversion capabilities of FOCUS' products while reducing the
cost of manufacturing the Company's product. The TView FS310 supports
resolutions up to 1024 x 768 and features proprietary "video scaling" technology
whereby the image on the television is scaled both horizontally and vertically
to ensure that the entire contents of the computer screen are displayed on the
television with minimal loss to video quality. Both of these integrated circuits
can be used for the creation of products for televisions, PCs, information
appliances, video gaming products and external scan conversion devices. It is
this area where the Company intends to focus its research and development
efforts, furthering its core competency in this type of technology and expanding
the application and use of video scan conversion to address digital television,
LCD panels and plasma displays markets.
In February of 1999, the Company announced its FS400 digital video coprocessor.
The FS400 supports high-resolution, faster speed, progressive scan displays, and
Macrovision for DVD. It also delivers such features with lower power
consumption, a smaller footprint and does so at half the cost of the FS300. The
Company plans to launch two more ASICs in 1999.
TV/Camcorder-to-PC Conversion Consumer Products
InVideo capture cards allow computers to capture and manipulate images and
videos originally displayed on a television, camcorder, or other conventional
video device. This technology is driving the burgeoning market for video
conferencing products. FOCUS' InVideo TV tuner cards allow for the
cost-effective conversion of analog television signals to digital video signals
for output on a computer monitor.
In March 1999, the Company announced two new InVideo products: the InVideo(TM)
USB Capture and the InVideo(TM) USB TV Tuner. The InVideo(TM) USB Capture allows
users to grab video from any NTSC/PAL video source and save it directly to any
computer. FOCUS' InVideo(TM) USB Capture combines MMX-enhanced software with
powerful video capture hardware and can be connected to a camcorder, VCR, DVD
video player, or any device that outputs NTSC or PAL video for full
motion/full-color video capture. InVideo USB Capture offers plug and play
installation for hardware platforms that support Windows 98 and MacOS 8.x
operating systems.
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The InVideo USB TV Tuner provides plug and play installation for any computer
with a USB port. Users can connect it to camcorders, VCRs, DVD video players,
and other video devices for full-color, full-motion video capture, or television
viewing on the desktop. Additionally, it is compatible with Apple iMac, G3
Desktops and Towers, and G3 Notebooks.
PC-to-TV Video Scan Conversion Applications
Television Display Device. The large screen area of a TV monitor makes it an
inexpensive way to present computer graphics and text to a large audience or
classroom environment. The Company's products can be used with a TV monitor for
presentations, education, training, video teleconferencing, Internet viewing,
and video gaming applications.
o Presentations. TView products are ideal for sales and business
presentations. In particular, because of the lightweight and small size of
the products, they have been embraced by mobile presenters and sales forces
as a cost-effective and space effective tool.
o Education and Training. In education, teachers and corporate trainers see
the benefit of using computers in the classroom to create an interactive
learning environment. Because TView products allow the use of one computer
for multiple students, teachers and curriculum developers no longer need to
be constrained in their use of computers for instructional purposes.
o Internet Viewing. TView products also take advantage of the rise in
popularity of the Internet and the advent of Internet-related products for
television. By allowing current PC owners to adapt their existing
technology to display on a television, TView products bridge the gap
between current and future Internet usage by offering the full
functionality of a PC on a television.
o Video Gaming. TView products make the PC gaming experience larger than life
by allowing users to play PC games on a television. By connecting a PC's
sound and video ports to a television, the gaming enthusiast can share in
the gaming experience with a group or simply play along with the impact of
a big screen television.
Print to Video. The TView systems will output the computer images directly to a
VCR allowing for an inexpensive way to print anything created on a Windows or
Mac OS personal computer to video tape.
Mirroring Mode. The Company's proprietary software allows the presenter to use
the small computer screen as a mirroring console to the same images displayed on
the larger TV monitor. Training of applications can be performed from the
Windows or Mac OS personal computer while the audience observes the images on
the TV monitor.
TV-to-PC Video Conversion Applications
The InVideo line of products allow television or camcorder images to be imported
into any computer with fully scalable, full-motion, full-color graphics for use
in desktop publishing, video-conferencing and video e-mail. This product is used
by businesses, web designers and distance learning customers who want to stream
video clips, create CD multimedia presentations and send video e-mail.
The two new InVideo offerings expand the potential applications. Combining
InVideo USB Capture with videoconferencing software allows users the ability to
host Internet videoconferences at their desktops. The InVideo USB TV Tuner
enables notebook customers to seamlessly integrate the InVideo USB TV Tuner into
their USB port, turning any notebook with USB into a mobile media center.
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Major Customers
Sales to major television manufacturers in 1998 totaled approximately $2,646,000
or 14% of the Company's revenues as compared to approximately $2,345,000 or 11%
of revenues for 1997. Sales to a major distributor in 1998 represented
approximately $5,686,000 or 31% of the Company's revenues as compared to
approximately $3,319,000, or 16% of revenues for 1997.
Customer Support
Management believes that its future success will depend, in part, upon the
continued strength of customer relationships. To ensure customer satisfaction,
the Company provides customer service and technical support through a
five-days-per-week "hot line" telephone service. The Company uses 800 telephone
numbers for customer service and a local telephone number for technical support
(the customer pays for the phone charge on technical support). The customer
service and support lines are currently staffed by technicians who provide
advice free of charge to ensure customer satisfaction and obtain valuable
feedback on new product concepts. In order to educate its own telephone support
personnel, the Company also periodically conducts in-house training programs and
seminars on new products and technology advances in the industry.
The Company offers this same level of support for its entire domestic market
including its direct market customers who purchase the Company's products
through computer superstores or system integrators. The Company also provides
technical support to its international resellers and distributors. The Company's
international resellers and distributors also provide local support to the
customers for their respective markets.
The Company provides customers with a one- to three-year warranty on all
products. The Company repairs or replaces a defective product which is still
under warranty coverage, and substantially all the components which the Company
purchases are also covered by vendor warranties of comparable duration. Returned
products with defective components are returned by the Company to the component
vendors for repair or replacement. Product returns, exclusive of reseller stock
balancing, averaged approximately 22% and 3% of total product revenue during the
years ended December 31, 1998 and 1997, respectively. The increase in product
returns was principally the result of the consolidation of one of the Company's
distribution channels. During 1998, the Company expanded its distribution
network into retail office superstores. The Company engaged with three North
American superstore retail chains representing approximately 2,400 aggregate
storefronts. Under the terms of the distribution agreements, each store was
inventoried with three distinct products with in-store stocking levels of three
units per product offering. In addition, the Company invested approximately
$500,000 in target marketing, point of purchase displays and insertion
advertisements in catalogs. However, the sales-out of the Company's products in
these stores were weak, prompting the Company to consolidate this channel in
December 1998 from three office superstore customers to two, and to reduce the
product offerings with the remaining superstores. The result of this decision
was the return of approximately $3,400,000 of finished goods inventory.
Competition
The Company currently competes with other developers of PC-to-TV conversion
products, TV-to-PC conversion products and with developers of videographic
integrated circuits. Although the Company believes that it is a leader in the
PC-to-TV conversion product marketplace, the videographic integrated circuit
market is intensely competitive and characterized by rapid technological
innovations. This has resulted in new product introductions over relatively
short time periods with frequent advances in price/performance ratios.
Competitive factors in these markets include product performance, functionality,
product quality and reliability, as well as volume pricing discounts, customer
service, customer support, marketing capability, corporate reputation, brand
recognition and increases in relative price/performance ratios for products
serving these markets. In the PC-to-TV conversion product market, the Company
competes with companies such as AI Tech and AVerMedia. In the TV-to-PC market,
the Company competes with other video-in and digital frame capture manufacturers
such as Hauppauge and A.T.I. In the videographic integrated circuits market, the
Company competes with Averlogic and Fairchild Semiconductor.
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Certain of the Company's competitors have greater technical and capital
resources, more marketing experience, and larger research and development staffs
than the Company. Management believes that it competes favorably on the basis of
product quality and technical benefits and features. The Company also believes
it provides competitive pricing, extended warranty coverage, and strong customer
relationships, including selling, servicing and after-market support. However,
there can be no assurance that the Company will be able to compete successfully
in the future against existing companies or new entrants to the marketplace.
Manufacturing
In the manufacture of its products, the Company relies primarily on turnkey
subcontractors who utilize components purchased or specified by the Company. The
"turnkey" house is responsible for component procurement, board level assembly,
product assembly, quality control testing, and in some cases, final pack-out and
direct shipment. All subcontracted turnkey houses currently used by the Company
are ISO 9002 certified. During 1998, the Company relied and currently continues
to rely on two turnkey manufacturers for approximately 90% of the Company's
product manufacturing.
Upon receipt of a customer's order, the Company's telemarketing representative
enters the order into the Company's computerized order entry and inventory
management system. Once the customer's credit has been verified and approved by
the finance department, the orders are electronically dispatched to operations
for order fulfillment and shipment. The Company then performs final packaging
and fulfillment of product orders with most customer orders being shipped in
less than three business days from the date they are placed into the system. For
certain commercial PC-to-TV video conversion products, the Company's turnkey
manufacturers ship directly to the OEM customer and forward-shipping information
to the Company for billing purposes.
Quality control is maintained through standardized ISO 9002 quality assurance
practices at the build site and random testing of finished products as they
arrive at the Company's fulfillment center. Management believes that the turnkey
model helps it to lower inventory and staff requirements, maintain better
quality control and product flexibility and achieve quicker product turns and
better cash flow.
All customer returns are processed by the Company in its fulfillment center.
Upon receipt of a returned product, a trained testing technician at the Company
tests the product to diagnose the problem. If a product is found to be defective
the unit is either returned to the turnkey subcontractor for rework and repair
or is repaired by the Company and returned to the customer. The majority of the
Company's defective returns are repaired or replaced and returned to customers
within five business days. In 1998, product returns that are determined to be
defective represented approximately 0.4% of the total product revenues.
Intellectual Property and Proprietary Rights
The Company currently has five patents pending and one patent issued, four of
which relate to its PC-to-TV video conversion chips, and anticipates filing
another two patent applications in the second quarter of this year. Patent
applications have also been filed to secure intellectual property rights in
foreign jurisdictions. The Company has also filed applications to register eight
trademarks to add to its two currently registered trademarks. Historically, the
Company has relied principally upon a combination of copyrights, common law
trademarks and trade secret laws to protect the rights to its products that it
markets under the FOCUS and TView brand names.
Upon joining the Company, employees and consultants are required to execute
agreements providing for the non-disclosure of confidential information and the
assignment of proprietary know-how and inventions developed on behalf of the
Company. In addition, the Company seeks to protect its trade secrets and
know-how through contractual restrictions with vendors and certain large
customers. There can be no assurance that these measures will adequately protect
the confidentiality of the Company's proprietary information or that others will
not independently develop products or technology that are equivalent or superior
to those of the Company.
10
<PAGE>
Additionally, in connection with OEM and VAR agreements, the Company often seeks
to require manufacturers to display the Company's logo conspicuously on their
product. Management expects that this should increase name recognition and
further the association of the Company's name with the associated goods.
Because of the rapid pace of technological innovation in the Company's markets,
management believes that in addition to the patents filed and issued, the
Company's success is greatly attributable to the creative skills and experience
of its employees, the frequency of Company product offerings and enhancements,
product pricing and performance features, its diversified marketing strategy,
and the quality and reliability of its support services
Management Information Systems
Year 2000
General
The Company's Year 2000 compliance project ("The Project") is proceeding on
schedule. The Project is addressing the issue of computer programs and embedded
computer chips being unable to distinguish between the year 1900 and the year
2000. In early 1998, in order to improve access to business information and to
strengthen its infrastructure through common, integrated computing systems
across the Company, the Company began a business systems replacement project
with systems that use programs from a nationally known business software company
("System"). The installation of the new systems, which are expected to make
approximately 90 percent of the Company's business computer systems Year 2000
compliant, is scheduled for completion by mid-1999. The System will replace a
non-compliant accounting and manufacturing system. Implementation of the System
is on schedule and approximately 50 percent complete. To facilitate the Project,
The Company has retained outside consultants with expertise in wide area
networking ("WAN"), systems integration and business/contact data management.
The Company has developed a contingency plan to make the programs that are
scheduled to be replaced by the System Year 2000 compliant. The contingency plan
includes contracted on-site support, work-flow modification, and integration of
Year 2000 compliant systems. At the end of first quarter 1999, management agreed
that there was not a need to implement the contingency plan at that time. The
decision will be re-evaluated monthly through year-end. Remaining business
software programs are expected to be made Year 2000 compliant through The
Project, including those supplied by vendors, or they will be retired. None of
the Company's other information technology ("IT") projects have been delayed due
to the implementation of The Project.
Project
The Project is being implemented in two phases: Phase I, installation of the
hardware and business applications, preceded the WAN installation and the
integration of various communications systems. Phase I was 75% completed on
December 31, 1998. Phase II is expected to be completed by June 30, 1999.
The Project is divided into two major sections - infrastructure and applications
software (sometimes collectively referred to as "IT Systems") and third-party
suppliers and customers ("External Agents"). The general phases common to all
sections are: (1) inventorying Year 2000 items; (2) assigning priorities to
identified items; (3) assessing the Year 2000 compliance of items determined to
be material to the Company; (4) repairing or replacing material items that are
determined not to be Year 2000 compliant; (5) testing material items; and (6)
designing and implementing contingency and business continuation plans for each
organization and company location.
11
<PAGE>
At September 30, 1998, the inventory and priority assessment phases of each
section of the Project had been completed. While substantially complete, the
process of assessing Year 2000 compliance of its material items and repairing or
replacing such items continues on an ongoing basis. Material items are those
believed by the Company to have a risk involving the safety of individuals, or
that may cause damage to property or the environment, or that have a material
effect on the Company's revenues. The testing phases of the Project will be
performed by the Company and will be ongoing as hardware or system software is
remedied, upgraded or replaced.
The infrastructure portion of the IT section consists of hardware and systems
software other than applications software. The Company estimates that
approximately 90 percent of the activities required to achieve infrastructure
Year 2000 compliance had been completed at December 31, 1998. All infrastructure
activities are expected to be completed by June 30, 1999. Contingency planning
for infrastructure is also substantially complete.
The application software portion of the IT section includes both the conversion
of applications software that is not Year 2000 compliant and, where available
from the supplier, the replacement of such software. The Company estimates that
the software conversion phase was approximately 50 percent complete at December
31, 1998, and the remaining conversions expected to be completed by mid-1999.
The testing phase for application software is ongoing and is expected to be
completed by mid-1999. The vendor software replacements and upgrades are
presently behind schedule, although the Company currently believes that
replacements and upgrades will be completed on schedule by mid-1999. Contingency
planning for application software has begun and is scheduled for completion by
mid-1999.
The External Agents section includes the process of identifying and prioritizing
critical suppliers and customers at the direct interface level, and
communicating with them about their plans and progress in addressing their own
Year 2000 issues. Detailed evaluations of the most critical third parties have
been initiated. These evaluations will be followed by the development of
contingency plans, which are scheduled for completion by mid-1999. The Company
estimates that this section was on schedule at December 31, 1998. Follow-up
reviews of External Agents are expected to be undertaken through the remainder
of 1999.
Costs
The total cost associated with required modifications to become Year 2000
compliant is not expected to be material to the Company's financial position.
The estimated total cost of The Project is approximately $300,000. The total
amount expended on the Project through December 31, 1998, was $200,000, of which
approximately $190,000 related to the cost to repair or replace software and
related hardware problems, and approximately $10,000 related to the cost of
identifying and communicating with External Agents. The estimated future cost of
completing the Project is estimated to be approximately $100,000 - $180,000 to
repair or replace software and related hardware, and $20,000 to identify and
communicate with External Agents. Funds for the Project are provided from a
separate budget of $300,000 for all items other than External Agent costs, which
are included in existing operating budgets. Ancillary costs of implementing the
System are not included in these cost estimates.
12
<PAGE>
Risks
The failure to correct a material Year 2000 problem could result in an
interruption in, or a failure of, certain normal business activities or
operations. Such failures could materially and adversely affect the Company's
results of operations, liquidity and financial condition. Due to the general
uncertainty inherent in the Year 2000 problem, resulting in part from the
uncertainty of the Year 2000 readiness of third-party suppliers and customers,
the Company is unable to determine at this time whether the consequences of Year
2000 failures will have a material impact on the Company's results of
operations, liquidity or financial condition. The Project is expected to
significantly reduce the Company's level of uncertainty about the Year 2000
problem and, in particular, about the Year 2000 compliance and readiness of its
material External Agents. The Company believes that, with the implementation of
new business systems and completion of the Project as scheduled, the possibility
of significant interruptions of normal operations should be reduced.
Readers are cautioned that forward-looking statements contained in the year 2000
Update should be read in conjunction with the Company's disclosures under the
heading: "CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS" herein.
The Company is including the following cautionary statement to take advantage of
the "safe harbor" provisions of the PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995 for any forward-looking statement made by, or on behalf of, the Company.
The factors identified in this cautionary statement are important factors (but
not necessarily all important factors) that could cause actual results to differ
materially from those expressed in any forward-looking statement made by, or on
behalf of, the Company.
Where any such forward-looking statement includes a statement of the assumptions
or bases underlying such forward-looking statement, the Company cautions that,
while it believes such assumptions or bases to be reasonable and makes them in
good faith, assumed facts or bases almost always vary from actual results, and
the differences between assumed facts or bases and actual results can be
material, depending on the circumstances. Where, in any forward-looking
statement, the Company, or its management, expresses an expectation or belief as
to future results, such expectation or belief is expressed in good faith and
believed to have a reasonable basis, but there can be no assurance that the
statement of expectation or belief will result, or be achieved or accomplished.
Taking into account the foregoing, the following are identified as important
risk factors that could cause actual results with respect to the Company's Year
2000 compliance to differ materially from those expressed in any forward-looking
statement made by, or on behalf of, the Company:
o The dates on which the Company believes the Project will be completed and
the System will be implemented are based on management's best estimates,
which were derived utilizing numerous assumptions of future events,
including the continued availability of certain resources, third-party
modification plans and other factors. However, there can be no guarantee
that these estimates will be achieved, or that there will not be a delay
in, or increased costs associated with, the implementation of the Project.
o A delay in the implementation of the System could impact the Company's
readiness for transactions involving the Euro currency in connection with
the Company's European sales activities.
o Other specific factors that might cause differences between the estimates
and actual results include, but are not limited to, the availability and
cost of personnel trained in these areas, the ability to locate and correct
all relevant computer code, timely responses to and corrections by
third-parties and suppliers, the ability to implement interfaces between
the new systems and the systems not being replaced, and similar
uncertainties.
o Due to the general uncertainty inherent in the Year 2000 problem, resulting
in part from the uncertainty of the Year 2000 readiness of third-parties
and the interconnection of global businesses, the Company cannot ensure its
ability to timely and cost-effectively resolve problems associated with the
Year 2000 issue that may materially and adversely affect its operations and
business, or expose it to third-party liability.
13
<PAGE>
Personnel
As of December 31, 1998, the Company employed 54 people on a full-time basis, of
which 14 are in research and development, 15 in marketing and sales, 4 in
customer support, 9 in operations, and 12 in finance and administration.
Backlog
At December 31, 1998, the Company had a backlog of approximately $282,000 for
products ordered by customers as compared to a backlog of $4,400,000 at December
31, 1997, a decrease of $4,118,000 or 94%. The Company expects to fill these
orders in 1999. The decrease in backlog in 1998 as compared to 1997 is primarily
due production delays on the FS300 products in the fourth quarter of 1997.
Generally, management does not believe backlog for products ordered by customers
is a meaningful indicator of sales that can be expected for a particular time
period.
Item 2. PROPERTIES
As of December 31, 1998, the Company leased approximately 50,000 square feet of
space at four locations. The Company leased approximately 32,000 square feet of
space in Sudbury, Massachusetts, which was used for administration, sales,
marketing, customer service, limited assembly, quality control, packaging and
shipping. This lease originally was scheduled to expire on July 30, 2001 but the
Company obtained permission from its landlord to terminate the lease as of April
15, 1999. On February 22, 1999, the Company relocated this office to Wilmington,
Massachusetts to provide better access to customers and employees while reducing
its monthly rental payments from $18,910 to $16,380 per month. The company
leases additional space in the following locations: Orinda, California, Morgan
Hill, California, Beaverton, Oregon, and Leiden, Netherlands. The Orinda
facility is mainly used for research and development with approximately 500
square feet at $500 per month. The Morgan Hill facility is mainly used for
high-end video conversion development and final production, with approximately
11,640 square feet at $5,878 per month, expiration being March 2000. The
Beaverton facility is mainly used for research and development, with
approximately 4,700 square feet at $3,631 per month, expiration being June 30,
2000. The Company is currently in negotiations for new space in Beaverton,
Oregon. The Company's European sales and marketing subsidiary, FOCUS
Enhancements, B.V., occupies approximately 1,000 square feet of space in the
Leiden facility. The rent on this facility is approximately $2,735 per month and
the lease expires June 30, 2001. The Company believes that its existing
facilities are adequate to meet current requirements and that it can readily
obtain appropriate additional space as may be required on comparable terms.
Item 3. LEGAL PROCEEDINGS
From time to time, the Company is party to certain claims and legal proceedings
that arise in the ordinary course of business. Currently there are no claims or
legal proceedings which, in the opinion of management, would have a material
adverse effect on the Company's financial position or results of operation.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted during the fourth quarter of the year ended December
31, 1998 to a vote of security holders of the Company, whether through
solicitation of proxies or otherwise.
14
<PAGE>
PART II
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
Trading in the Company's Common Stock and public warrants (the "Warrants")
commenced on May 25, 1993, when the Company completed its initial public
offering, and since that time the Company's Common Stock and Warrants have
traded principally on the NASDAQ SmallCap Market under the symbol "FCSE" and
"FCSEW", respectively. The Company's Common Stock and Warrants were also traded
on the Boston Stock Exchange under the symbols "FCS" and "FCSW", respectively,
during the period May 26, 1993 through March 7, 1997. On May 27, 1998, the
Company's Warrants expired. The following table sets forth the range of
quarterly high and low bid quotations for the Company's Common Stock and
Warrants as reported by NASDAQ. The quotations represent inter-dealer quotations
without adjustment for retail markups, markdowns or commissions, and may not
necessarily represent actual transactions. The closing bid price of the
Company's Common Stock on the NASDAQ SmallCap Market on March 31, 1999 was
$1.625 per share.
<TABLE>
<CAPTION>
Warrants Common Stock
High Bid Low Bid High Bid Low Bid
Calendar 1998 Quotations
<S> <C> <C> <C> <C>
First Quarter $ 1.25 $ 0.50 $ 4.25 $ 2.50
Second Quarter $ 1.17 $ 0.03 $ 4.75 $ 2.38
Third Quarter Expired Expired $ 3.47 $ 1.19
Fourth Quarter Expired Expired $ 1.28 $ 1.19
Calendar 1997 Quotations
First Quarter $ 0.44 $ 0.31 $ 2.25 $ 1.63
Second Quarter $ 0.88 $ 0.25 $ 3.63 $ 1.56
Third Quarter $ 4.31 $ 0.44 $ 6.31 $ 2.06
Fourth Quarter $ 5.56 $ 1.06 $ 7.50 $ 2.88
</TABLE>
As of March 3, 1999, there were 229 holders of record of the Company's
18,005,090 shares of Common Stock outstanding on that date. The Company
estimates that approximately 6,466 shareholders hold securities in street name.
The Company does not know the actual number of beneficial owners who may be the
underlying holders of such shares.
The Company has not declared nor paid any cash dividends on its Common Stock
since its inception. The Company's bank line of credit prohibits the payment of
cash dividends. The Company intends to retain future earnings, if any, for use
in its business.
15
<PAGE>
Item 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Introduction
On March 31, 1998, the Company Acquired selected assets of Digital Vision, Inc.,
a manufacturer of both PC-to-TV and TV-to-PC products. The Company has two new
products as a result of the acquisition, identified as its InVideo product line.
Sales of this product line totaled approximately $500,000 yielding gross profit
of approximately $200,000 in 1998. Sales related expenses totaled $200,000 in
1998. This acquisition resulted in no additional personnel being added to the
Company.
On July 30, 1998, the Company acquired the net assets of PC Video Conversion,
Inc. ("PC Video"), a manufacturer of Professional A/V products. Revenues from
date of acquisition were approximately $700,000 in 1998 yielding approximately
$500,000 in gross margin. Operating expenses totaled approximately $600,000 in
1998. In December 1998, the company restructured the acquired business of PC
Video into a professional products research and development center and
consolidated its operating activities at the Company's corporate office. The
Company accrued $70,000 for estimated restructuring changes in 1998. In December
1998, this R&D center launched a newly developed, high quality, high resolution
professional audio visual scan converter, the TView Gold Pro AV for the
broadcast industry.
In connection with the Company's sale of its line of computer connectivity
products in 1997, the company acquired 189,701 shares of the common stock of
Advanced Electronic Support Products, Inc. ("AESP").
Due to a prolonged decline in the per share market price of the AESP stock
investment, the Company adjusted this investment to its estimated net realizable
value. This resulted in a charge to earnings of approximately $346,000 in 1998.
Results of Operations
Year ended December 31, 1998 as compared to year ended December 31, 1997
The following table sets forth, for the periods indicated, income and expense
items included in the Consolidated Statements of Operations, expressed as a
percentage of net sales:
Year Ended December 31, 1998 1997
---- ----
Net sales 100% 100%
Cost of good sold 84 72
----- -----
Gross profit 16 28
----- -----
Operating expenses:
Sales, marketing and support 37 22
General and administrative 12 9
Research and development 9 5
Depreciation and amortization 8 2
Impairment of goodwiil 17 --
----- -----
Total operating expenses 83 38
----- -----
Loss from operations (67) (10)
Interest expense, net (1) (1)
Other income 1 2
16
<PAGE>
Loss on securities available for sale (2) --
Loss before income taxes (69) (9)
Income tax expense -- --
----- -----
Net loss (69%) (9%)
===== =====
Net Sales
Net sales for the year ended December 31, 1998 were $18,440,000 as compared with
$21,026,000 for the year ended December 31, 1997, a decrease of $2,586,000, or
12%. This decrease was principally due to the Company's decision to consolidate
its reseller channels. This resulted in finished goods returns of approximately
$6,856,000 in Q498. This consolidation was implemented by management to
re-direct inventory from non-performing sales channels to other high performing
channels. Products returned in Q498 are scheduled to ship to customers
throughout 1999. During the year ended December 31, 1998, the Company had a net
sales increase to US Resellers (22%) while it had decreases in net sales to OEM
customers (a decrease of 53%), Other sales (a decrease of 6%) and International
customers (a decrease of 42%).
In 1998, the growth in net sales to US Resellers (Distributors, Retailers, VAR's
and Education segments) were comprised of approximately $12,498,000 as compared
to $10,285,000 in 1997, an increase of $2,213,000 or 22%. Net sales included
sales to a major distributor totaling approximately $5,686,000 or 31% as
compared to $3,319,000 or 16% in 1997. The increase is a result of the addition
of major retailers that were directed to this distributor as well as continued
sales growth in existing channels.
During 1998, net sales to OEM customers were approximately $3,866,000 as
compared to $8,138,000 in 1997, a decrease of $4,272,000 or 53%. The decline in
OEM sales was primarily due to the Company's decision not to ship its PC-to-TV
products to a large television manufacturer that is experiencing financial
difficulty. In addition, a significant OEM customer utilizing the FS310 Digital
Video Co-Processor for the Asian marketplace delayed its Q398 and Q498
procurement requirements to Q299.
Other net sales in 1998 were approximately $1,472,000 as compared to $1,571,000
in 1997, a decrease of $99,000 or 6%. Other sales in 1997 principally consisted
of networking product sales. The Company sold its networking product line in
September, 1997 to AESP. In 1998, other sales are primarily comprised of sales
of high-end video conversion products acquired from the PC Video acquisition.
Net sales to International customers in 1998 were approximately $605,000
compared to $1,033,000 in 1997, a decrease of $428,000 or 42%. In 1997, sales
were principally from networking products that the Company no longer distributes
due to the sale of this product line. In 1998, international sales were
comprised exclusively of PC-to-TV products.
Cost of Goods Sold
Cost of goods sold was $15,411,000, or 84% of net sales, for the year ended
December 31, 1998, as compared with $15,092,000 or 72% of net sales, for the
year ended December 31, 1997, an increase of $319,000 or 2.1%. The increase in
cost of goods sold in absolute dollars is attributable to the write-off and
write-down of in stock inventory of approximately $2,600,000 or 14% of net
sales. In addition, the Company recognized an increase of $240,000 in market
development costs in 1998 as compared to 1997 as a result of its expansion into
the office superstore retail market. Exclusive of the inventory write-offs and
market development expenses, cost of sales in 1998 were significantly lower as a
percentage of sales in 1998 as compared to 1997. This is a result of a cost
advantage of utilizing the Company's proprietary FS300 integrated circuit in the
manufacturing of its products.
17
<PAGE>
During the fourth quarter of 1998, the Company reduced cost of sales by
$3,400,000, representing the cost of anticipated sales returns from major
customers that were to be returned in the first quarter of 1999. The Company
also adjusted cost of sales by allowing for Price Protection claims on prior
products sold as Focus anticipated reducing its Suggested Retail Price in 1999
to remain competitive to competition. This accrual resulted in a charge of
approximately $684,000.
Sales, Marketing and Support Expenses.
Sales, marketing and support expenses were $6,902,000, or 37% of net sales, for
the year ended December 31, 1998, as compared with $4,648,000, or 22% of net
sales, for the year ended December 31, 1997, an increase of $2,254,000 or 49%.
The increase in sales, marketing and support expenses in absolute dollars is
primarily the result of increased marketing and advertising expenditures related
to the Company's efforts to expand its OEM and domestic distribution channels
and to introduce the new FOCUS Scan 310 Chip products throughout 1998. The
company also engaged in many high priced exclusive advertisements including USA
Today, Inc. Magazine and major US Retailers weekly catalogs. The advertisement,
marketing and support expenses totaled approximately $2,826,000 in the fourth
quarter of 1998 as compared to approximately $1,500,000 in the same quarter of
1997.
General and Administrative Expenses.
General and administrative expenses for the year ended December 31, 1998 were
$2,166,000 or 12% of net sales, as compared with $1,974,000 or 9% of net sales,
for the year ended December 31, 1997, an increase of $193,000 or 10%. The
increase in terms of absolute dollars and as a percentage of net sales is
primarily due to increases in staffing of approximately $140,000, professional
services of $60,000 and acquisition related expenses of $118,000 offset by a
reduction of bad debts of $130,000.
Research and Development Expenses.
Research and development expenses for the year ended December 31, 1998 were
$1,699,000 or 9% of net sales, as compared with $1,112,000, or 5% of net sales,
for the year ended December 31, 1997, an increase of $586,000 or 53%. The
increase in research and development expenses in both absolute dollars and as a
percentage of revenues is due primarily to an incremental $461,000 in expenses
resulting from the acquisition of PC Video. The Company also increased staffing
and compensation at its Beaverton, Oregon research and development center
amounting to approximately $120,000.
Depreciation and Amortization.
Depreciation and Amortization expenses for the year ended December 31, 1998 were
$1,499,496 or 8% of net sales, as compared with $426,000 or 2% of net sales, for
the year ended December 31, 1997, an increase of $1,074,000 or 252%. The
increase in terms of absolute dollars and as a percentage of net sales is
primarily due to amortization of goodwill resulting from the acquisition of
Digital Vision, Inc. and PC Video Conversions, Inc. totaling approximately
$175,000, plus the write-off of obsolete computer equipment, office equipment,
and capitalized tooling and chip development costs aggregating approximately
$766,000.
Interest Expense, Net.
Net interest expense for the year ended December 31, 1998 was $226,000, or 1% of
net sales, as compared to $266,000, or 1% of net sales, for the year ended
December 31, 1997, a decrease of $40,000 or 15%. The reduction in interest
expense is principally attributable to a reduction in outstanding debt balances
and the reduction of the prime lending rate combined with reduced fees
associated with the extension of the Company's revolving line of credit.
18
<PAGE>
Impairment of Goodwill
The Company recognized a write-off of $3,054,000 in 1998 representing impaired
goodwill resulting from the acquisitions of Lapis Technologies, Inc. ("Lapis"),
Digital Vision, Inc. ("Digital Vision") and PC Video Conversion, Inc. ("PC
Video").
The Company acquired Lapis in December, 1993 and utilized its video conversion
technology in its products through 1998. In 1997, the Company began developing
its own proprietary video conversion technology and in Q198 introduced its FS300
video conversion ASIC to the market place. During 1998, the Company began
including this ASIC in its manufactured products and simultaneously began the
end-of-life cycle for Lapis based products. By the end of Q498, all remaining
inventory incorporating Lapis technology was disposed of by sale or write-off.
As a result of a discounted cash flow analysis, the Company wrote-off
approximately $543,000 of impaired goodwill on Lapis Technologies, Inc.
The Company acquired Digital Vision on March 31, 1998 to obtain its TV-to-PC
product line. Upon evaluation of the product line, the Company deemed that only
two products warranted inclusion in its product portfolio. However, this line,
the InVideo product line was not widely accepted by the Company's customer base
due to significant competition in its category, limited product features in
comparison with the competition, and its cost structure required pricing higher
than many of the competing products. In addition, no proprietary technology was
acquired with this acquisition, and the products were distributed as an OEM
offering to the Company. The Company achieved sales, gross profit and expenses
of $500,000, $200,000 and $200,000 respectively for the InVideo product line in
1998. As result of an impairment analysis in Q498, the Company determined that
the acquired goodwill was impaired. The remaining goodwill was valued using a
discounted cash flow model that resulted in a write-off of approximately
$1,070,000 of impaired goodwill.
On July 30, 1998 the Company purchased the net assets of PC Video. This
acquisition was intended to provide the Company with an entry into high quality,
professional audio/video scan conversion market. Upon review of the product
offerings of PC Video, the Company realized that the product quality,
manufacturing capacity, and distribution network were inadequate to provide
positive operating income from this venture on an on-going basis and
discontinued producing all products of the former PC Video. The engineering
resources pertaining to product design and technology vision were evaluated and
deemed exceptional by management. Accordingly, the Company decided to
restructure the PC Video operation into a high-end, professional A/V research
and development center in Q498 tasked to produce new high quality, professional
A/V product utilizing the Company's proprietary ASIC technology. During 1998,
sales of legacy PC Video products were approximately $700,000 yielding gross
profits of approximately $500,000 offset by operating expenses of approximately
$600,000. The Company performed an impairment analysis in Q498 utilizing a
discounted cash flow model, resulting in a write-off of impaired goodwill of
approximately $1,441,000.
Other Income.
For the year ended December 31, 1998, the Company had other income of $100,000
or 0.5% of net sales as compared to other income of $510,000 or 2% of net sales
for the year ended December 31, 1997, a decrease of $410,000 or 80%. The primary
reason for this reduction is that in 1997 there was a gain of $349,000 due to
the sale of the Company's networking product line to AESP.
Loss on Stock Investment
On September 30, 1997, the Company sold its line of computer connectivity
products to AESP for 189,701 shares of AESP common stock. Included in the sale
were customer lists and the right to use the FOCUS networking brand name to
market the product line as well as certain of AESP's complementary products. In
connection with this transaction, the Company recorded other income in the
amount of $358,000. During 1998, the fair market value of this investment
declined 58%. At December 31, 1998, there is no indication that the fair market
value of this investment will increase substantially in the foreseeable future,
therefore the Company recognized a loss on this investment of approximately
$346,000 in the quarter ended December 31, 1998.
19
<PAGE>
Net Loss.
For the year ended December 31, 1998, the Company reported a net loss of
$12,787,000, or $0.78 per share (basic), as compared to a net loss of
$1,986,000, or $.16 per share (basic), for the year ended December 31, 1997, an
increase in loss of $10,801,000. For the quarter ended December 31, 1998, the
Company recorded a net loss of approximately $14,235,000. This loss was
comprised of approximately $3,060,000 resulting from reduced sales in the
quarter due to lower than anticipated sell through of the Company's products and
higher than expected inventory levels at certain retail customers. The remainder
of the loss in the quarter ended December 31, 1998 was from non-operating
activities and charges totaling approximately $11,175,000 summarized as follows:
product returns from non-performing resellers (approximately $2,500,000),
impaired goodwill (approximately $3,054,000), inventory obsolescence
(approximately $1,734,000), aggressive retail marketing programs (approximately
$2,171,000), fixed assets write-off (approximately $587,000),
lower-of-cost-or-market revaluation of inventory (approximately $783,000) and
revaluation of stock investments (approximately $346,000).
Financial Condition
Total Assets.
Total Assets decreased $1,184,000 or 9%, from December 31, 1998 to December 31,
1997. The decrease in assets is due to: reductions of securities available for
sale by $346,000, accounts receivable by $2,985,000 and goodwill by $439,000
offset by increases of cash and certificates of deposit by $662,000, inventory
by $1,959,000, and property, plant and equipment by $204,000. Securities
available for sale decreased by 58% in 1998 compared with 1997 primarily due to
the reduction in market value of the 189,701 shares of AESP stock held at
December 31, 1998. Accounts receivable decreased by 54% in 1998 compared with
1997 principally due to product returns in Q498 from non-performing reseller
channels. Goodwill decreased by 35% in 1998 compared with 1997 primarily due to
impaired goodwill associated with Lapis, Digital Vision and PC Video. The
increase in inventory in 1998 as compared with 1997 is the result of the
aforementioned product returns in Q498.
Total Liabilities.
Total liabilities increased $1,007,000, or 11% from December 31, 1997 to
December 31, 1998. The increase is primarily due to: increases of accounts
payable by $484,000, accrued liabilities by $955,000, and capital leases by
$265,000 offset by decreases of notes payable by $696,000. Accounts payable
increased by 9% in 1998 compared with 1997 primarily due to increased purchases
of inventory for anticipated Q498 sales that did not materialize due to
sufficient stocking levels in reseller channels. Accrued liabilities increased
by 111% principally from the result of accruals for marketing and advertising
programs in Q498 to further develop reseller markets and to create end user
demand at the office superstore retail stores. Capital leases increased mainly
due to system hardware and software upgrades to satisfy Year 2000 computing
requirements.
Stockholders' Equity.
Stockholders' equity decreased $2,191,000 from December 31, 1997 to December 31,
1998. The decrease is primarily due to the net loss incurred in fiscal year 1998
of $12,787,000, offset by the issuance of common stock resulting from the
exercise of common stock options and warrants, as well as a private offering of
the Company's common stock. In addition, the Company issued common stock in
conjunction with the acquisitions Digital Vision and PC Video.
20
<PAGE>
Liquidity and Capital Resources
Since inception, the Company has financed its operations primarily through the
public and private sale of common stock, operating income, short-term borrowing
from private lenders, favorable credit arrangements with vendors and suppliers,
and a line of credit with its commercial bank ($620,000 at December 31, 1998).
Net cash used in operating activities for the years ended December 31, 1998 and
1997 was $4,592,000 and $4,657,000, respectively. In 1998, net cash used in
operating activities consisted primarily of the net loss of $12,787,000, and
increases in inventories of $1,587,000, accounts payable of $387,000, accrued
liabilities of $916,000 with decreases in accounts receivable of $3,325,000. In
addition, the Company had a decrease in value of marketable securities of
$346,000, write-off of impaired goodwill of $3,054,000. In 1997, net cash used
in operating activities consisted primarily of the net loss of $1,986,000, and
increases in accounts receivable of $2,325,000, inventories of $2,014,000,
prepaid expenses and other assets of $406,000, accounts payable of $2,176,000,
and accrued expenses of $228,000. In addition, the Company had a gain on
settlement of accounts payable of $244,000 and securities received on sale of
networking assets of $595,000.
Net cash used in investing activities for the years ended December 31, 1998 and
1997 was $2,042,000 and $653,000, respectively. In 1998, cash used in investing
activities consisted primarily of the purchase of property and equipment of
$858,000 and cash paid in acquisitions, net of cash received of $931,000. In
1997, cash used in investing activities consisted primarily of purchases of
property and equipment of $654,000.
Net cash from financing activities for the years ended December 31, 1998 and
1997 was $7,042,000 and $5,616,000, respectively. In 1998, the Company received
$2,827,000 in net proceeds from private offerings of Common Stock and $7,004,000
from the exercise of common stock options and warrants. The proceeds in 1998
were offset by $1,954,000 in payments on notes payable, $700,000 in payments for
treasury stock acquired, and payments made under capital lease obligations of
$135,000. In 1997, the Company received $5,578,000 in net proceeds from private
offerings of common stock and $504,000 in net proceeds from the exercise of
common stock options and warrants. The proceeds in 1997 were offset by $297,000
in payments on notes payable to banks and $169,000 in payments under capital
leases.
As of December 31, 1998, the Company had working capital of $1,435,000, as
compared to working capital deficit of $2,619,000 at December 31, 1997, a
decrease of $1,184,000. The Company's cash and certificates of deposit were
$1,382,000 at December 31, 1998, an increase of $662,000, or 92%, over amounts
at December 31, 1997.
On March 3, 1998, the Company issued 1,092,150 shares of common stock and
warrants to purchase 327,645 shares of common stock for gross proceeds of
approximately $3,000,000 in a private placement financing to an unaffiliated
accredited investor. The warrants are exercisable until March 3, 2005 if during
the period ending August 25, 1999, the average of the closing bid prices of the
Company's common stock during any consecutive 20 trading days is equal to or
less than $2.7469. As a result of this provision, on December 2, 1998 the
warrant holder exercised their warrants and purchased 327,645 shares of common
stock at an aggregate exercise price of $1.2188 per share resulting in gross
proceeds of $399,000. The shares issued in connection with this transaction and
issuable upon exercise of the warrants were registered under the Securities Act
of 1933 on April 22, 1998. Fees and expenses associated with this offering
amounted to approximately $173,000 yielding net proceeds of $2,827,000. In
connection with this transaction, the Board of Directors authorized the grant of
warrants to the placement agent to purchase 21,429 shares of the Company's
common stock at a price of $4.2118 per share exercisable for a period of five
years.
On June 3, 1998, the Company received gross proceeds of $6,147,000 as a result
of the conversion of 910,650 of the Company's redeemable Common Stock Purchase
Warrants (the "Warrants") issued in connection with the Company's initial public
offering in May 1993. The Company issued 1,649,202 shares of common stock as a
result of the conversion. In accordance with the anti-dilution provisions of the
Warrants, the holder was entitled to receive 1.811 shares of common stock for
each Warrant exercised. The Warrants were exercisable at a price of $6.75 per
Warrant until May 26, 1998.
21
<PAGE>
In November 1998, the Company negotiated and received a waiver of certain
restrictive covenants contained in its revolving line of credit with its
commercial bank, together with a revision of the loan covenants and an agreement
to extend the line until December 15, 1998. At December 31, 1998, the Company
had borrowings under its line of credit of $620,000 with the expectation that
the Company would refinance this indebtedness shortly thereafter. On March 31,
1999, the Company repaid all monies owed on this line of credit with its
commercial bank totaling approximately $637,000 from proceeds received under a
$2,000,000 accounts receivable financing agreement with the same commercial
bank. This financing agreement allows for advances on accounts receivable not to
exceed 80% of qualified invoices. The bank charges interest on the outstanding
balance at a rate of the prime lending rate plus 4.5%. In addition, under the
terms of this agreement the bank has been issued warrant to purchase 100,000
shares of the Company's common stock at a price of $1.70 per share. At March 31,
1999, the Company had borrowings under this agreement of approximately $970,000.
The Company maintains incentive stock option plans for all employees and
directors. Management believes that these plans provide long term incentives to
employees and directors and promote longevity of service. The Company prices
issued options at the closing of NASDAQ market price of its common stock on the
date of the option issuance. In addition, the Company maintains the right to
re-price the options under such plans to reflect devaluation in the market value
of its common stock. On September 1, 1998, the Company re-priced all employee
and director options under all plans to $1.22 per share for those options priced
in excess of this value. This price represented the closing market prices of the
Company's common stock on September 1, 1998. On February 22, 1999, the Company
re-priced all employee options under all plans to $1.0625 per share for all
options priced in excess of this amount. This price represented the closing
marked prices for the Company's common stock on February 22, 1999. The FASB has
issued a proposal interpretative release - Stock Compensation - Interpretation
of APB No. 25, which will have a prospective impact on the Company's stock
option plans, if adopted.
Although the Company has been successful in the past in raising sufficient
capital to fund its operations, there can be no assurance that the Company will
achieve sustained profitability or obtain sufficient financing in the future to
provide the liquidity necessary for the Company to continue operations.
Effects of Inflation and Seasonality
The Company believes that inflation has not had a significant impact on the
Company's sales or operating results. The Company's business does not experience
substantial variations in revenues or operating income during the year due to
seasonality.
Environmental Liability
The Company has no known environmental violations or assessments.
22
<PAGE>
Recent Accounting Pronouncements
In June 1997, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive
Income," effective for fiscal years beginning after December 15, 1997.
Accounting principles generally require that recognized revenue, expenses, gains
and losses be included in net income. Certain FASB statements, however, require
entities to report specific changes in assets and liabilities, such as
unrealized gains and losses on available-for-sale securities and foreign
currency items, as a separate component of the equity section of the balance
sheet. Such items, along with net income, are components of comprehensive
income. SFAS No. 130 requires that all items of comprehensive income be reported
in a financial statement that is displayed with the same prominence as other
financial statements. Additionally, SFAS No. 130 requires that the accumulated
balance of other comprehensive income be displayed separately from retained
earnings and additional paid-in-capital in the equity section of the balance
sheet. The Company adopted these disclosure requirements beginning in the first
quarter of 1998.
In June 1997, FASB issued SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information," effective for fiscal years beginning after
December 15, 1997. SFAS No. 131 establishes standards for the way that public
business enterprises report information about operating segments in annual and
interim financial statements. It also establishes standards for related
disclosures about products and services, geographic areas and major customers.
Generally, financial information is required to be reported on the basis that it
is used internally for evaluating segment performance and deciding how to
allocate resources to segments. The Statement also requires descriptive
information about the way that the operating segments were determined, the
products and services provided by the operating segments, differences between
the measurements used in reporting segment information and those used by the
enterprise in its general-purpose financial statements, and changes in the
measurement of segment amounts from period to period.
The FASB has issued a proposed interpretive release, Stock compensation -
Interpretation of Opinion 25 (Interpretation). The Interpretation will provide
accounting guidance on several issues that are not specifically addressed in
Accounting Principles Board (APB) No. 25, Accounting for Stock Issued to
Employees. Two of the issues discussed in the Interpretation could result in
significant accounting changes for many companies, the accounting for re-pricing
of employee stock options, and the definition of an "employee" for purposes of
applying APB No. 25.
The effective date of the proposed Interpretation would be the issuance date of
the final Interpretation (expected to be in September, 1999). If adopted, the
Interpretation would be applied prospectively, but would cover events that occur
after December 15, 1998. There would be no effect on financial statements for
the period prior to the effective date of the final interpretation.
Certain Factors That May Affect Future Results
The Company does not provide forecasts of the future financial performance of
the Company. However, from time to time, information provided by the Company or
statements made by its employees may contain "forward looking" information that
involve risks and uncertainties. In particular, statements contained in this
Form 10-KSB which are not historical facts (including, but not limited to,
statements concerning international revenues, anticipated operating expense
levels and such expense levels relative to the Company's total revenues)
constitute forward looking statements and are made under the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995. The
Company's actual results of operations and financial condition have varied and
may in the future vary significantly from those stated in any forward looking
statements. Factors that may cause such differences include, without limitation,
the availability of capital to fund the Company's future cash needs, reliance on
major customers, history of operating losses, limited availability of capital
under credit arrangements with lenders, market acceptance of the Company's
products, technological obsolescence, competition, component supply problems and
protection of proprietary information, as well as the accuracy of the Company's
internal estimates of revenue and operating expense levels.
23
<PAGE>
Item 7. FINANCIAL STATEMENTS
The Company's consolidated financial statements and the related report of
independent accountants are presented in the following pages. The consolidated
financial statements filed in this Item 7 are as follows:
Page
Report of Independent Accountants F-1
Consolidated Balance Sheets as of December 31, 1998 and 1997 F-2
Consolidated Statements of Operations for the Years Ended
December 31, 1998 and 1997 F-3
Consolidated Statements of Stockholders' Equity for the Years Ended
December 31, 1998 and 1997 F-4
Consolidated Statements of Cash Flows for the Years Ended
December 31, 1998 and 1997 F-5
Notes to Consolidated Financial Statements F-7
24
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of
FOCUS Enhancements, Inc. Wilmington, Massachusetts
We have audited the accompanying consolidated balance sheets of FOCUS
Enhancements, Inc. and subsidiaries as of December 31, 1998 and 1997, and the
related consolidated statements of operations, stockholders' equity and cash
flows for the years then ended. 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 consolidated financial position of FOCUS
Enhancements, Inc. and subsidiaries as of December 31, 1998 and 1997, and the
consolidated results of their operations and cash flows for the years then
ended, in conformity with generally accepted accounting principles.
/s/ WOLF & COMPANY, P.C.
WOLF & COMPANY, P.C.
Boston, Massachusetts
April 9, 1999
F-1
<PAGE>
<TABLE>
<CAPTION>
FOCUS ENHANCEMENTS, INC.
CONSOLIDATED BALANCE SHEETS
ASSETS
December 31,
1998 1997
------ ------
<S> <C> <C>
Current Assets:
Cash and cash equivalents $1,128,380 $ 719,851
Certificate of deposit 253,067 --
Securities available for sale 248,983 595,000
Accounts receivable, net of allowances of $649,987 and $820,998 at December 31,
1998 and 1997, respectively 2,553,139 5,538,132
Inventories 5,948,624 3,989,604
Prepaid expenses and other current assets 217,092 470,907
------------ -----------
Total current assets 10,349,285 11,313,494
Property and equipment, net 1,272,477 1,068,918
Other assets, net 304,498 288,482
Goodwill, net 810,673 1,249,750
------------ -----------
Total assets $ 12,736,933 $13,920,644
============ ===========
<CAPTION>
LIABILITIES AND STOCKHOLDERS' EQUITY
<S> <C> <C>
Current liabilities:
Notes payable $ 702,057 $ 2,220,000
Current portion of long-term debt 283,180 --
Obligations under capital leases 119,536 102,320
Accounts payable 5,999,694 5,515,913
Accrued liabilities 1,810,025 855,961
----------- -----------
Total current liabilities 8,914,492 8,694,194
Deferred income 84,212 84,212
Obligations under capital leases, non-current 321,760 73,855
Long-term debt, net of current portion 538,597 --
----------- -----------
Total liabilities 9,859,061 8,852,261
----------- -----------
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.01 par value; 3,000,000 shares authorized; none issued -- --
Common stock, $.01 par value; 25,000,000 shares authorized, 18,005,090 and 180,051 140,102
14,010,186 shares issued and outstanding at December 31, 1998 and 1997,
respectively
Additional paid-in capital 38,913,304 27,339,892
Accumulated deficit (35,198,935) (22,411,611)
Notes receivable, common stock (316,418) --
Treasury stock at cost, 450,000 shares (700,130) --
----------- -----------
Total stockholders' equity 2,877,872 5,068,383
----------- -----------
Total liabilities and stockholders' equity $12,736,933 $13,920,644
=========== ===========
<FN>
The accompanying notes are an integral part of the consolidated financial statements.
</FN>
</TABLE>
F-2
<PAGE>
<TABLE>
<CAPTION>
FOCUS ENHANCEMENTS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
Years ended December 31,
------------------------
1998 1997
---- ----
<S> <C> <C>
Net sales $ 18,440,226 $21,026,011
Cost of goods sold 15,410,912 15,091,641
-------------- -------------
Gross profit 3,029,314 5,934,370
-------------- -------------
Operating expenses:
Sales, marketing and support 6,901,546 4,647,657
General and administrative 2,166,352 1,973,502
Research and development 1,698,977 1,112,487
Depreciation and amortization expense 1,499,496 425,989
Impairment of goodwill 3,053,880 --
-------------- -------------
Total operating expenses 15,320,251 8,159,635
-------------- -------------
Loss from operations (12,290,937) (2,225,265)
Interest expense, net (225,802) (266,095)
Loss on securities available for sale (346,017) --
Other income, net 100,073 510,378
-------------- -------------
Loss before income taxes (12,762,683) (1,980,982)
Income tax expense 24,641 5,097
-------------- -------------
Net loss $ (12,787,324) $ (1,986,079)
============== =============
Loss per common share:
Basic $(0.78) $(0.16)
============== =============
$(0.78) $(0.16)
============== =============
Weighted average common shares outstanding:
Basic 16,336,872 12,727,934
============== =============
Diluted 16,336,872 12,727,934
============== =============
<FN>
The accompanying notes are an integral part of the consolidated financial statements.
</FN>
</TABLE>
F-3
<PAGE>
<TABLE>
<CAPTION>
FOCUS ENHANCEMENTS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1998 and 1997
Additional Note Total
Common Stock Paid-in Accumulated Receivable, Treasury Stockholders'
Shares Amount Capital Deficit Common Stock Stock Equity
----------- ----------- ----------- -------------- ----------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1996 11,301,845 $113,018 $21,285,037 $(20,425,532) $ -- $ -- $ 972,523
Issuance of common stock 315,160 3,152 501,287 -- -- 504,439
upon exercise of stock
options and warrants
Issuance of common stock 2,393,181 23,932 5,553,568 -- -- 5,577,500
from private offerings, net
of issuance cost of $359,431
Net loss -- -- -- (1,986,079) -- (1,986,079)
----------- ----------- ----------- -------------- ----------- -------------
Balance at December 31, 1997 14,010,186 140,102 27,339,892 (22,411,611) -- 5,068,383
Issuance of common stock 2,429,958 24,299 7,296,082 -- (316,418) -- 7,003,963
upon exercise of stock
options and warrants
Issuance of common stock 10,922 2,816,433 2,827,355
form private offerings, net 1,092,150
of issuance costs of
$172,645
Issuance of common stock for 472,796 4,728 1,460,897 1,465,625
acquisitions of Digital
Vision, Inc. and PC Video
Conversion, Inc.
Purchase of treasury stock -- -- -- -- (700,130) (700,130)
Net loss -- -- -- (12,787,324) -- (12,787,324)
----------- ----------- ----------- -------------- ----------- ----------- -------------
Balance at December 31, 1998 18,005,090 $ 180,051 $38,913,304 $ (35,198,935) $ (316,418) $ (700,130) $ 2,877,872
=========== =========== =========== ============== =========== =========== =============
<FN>
The accompanying notes are an integral part of the consolidated financial statements.
</FN>
</TABLE>
F-4
<PAGE>
<TABLE>
<CAPTION>
FOCUS ENHANCEMENTS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
------------------------
1998 1997
---- ----
<S> <C> <C>
Cash flows from operating activities:
Net loss $ (12,787,324) $ (1,986,079)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 1,499,496 425,989
Amortization of discount on note payable 17,696 --
Gain on settlement of accounts payable -- (244,176)
Securities received on sale of networking assets -- (595,000)
Deferred income -- 84,212
Loss on securities available for sale 346,017 --
Write down of impaired goodwill 3,053,880 --
Changes in operating assets and liabilities, net of the effects of acquisitions;
(Increase) decrease in accounts receivable 3,324,750 (2,324,567)
Decrease (increase) in inventories (1,587,185) (2,014,223)
Decrease (increase) in prepaid expenses and other assets 237,799 (405,559)
Increase (decrease) in accounts payable 386,892 2,175,805
Increase (decrease) in accrued liabilities 916,044 227,657
-------------- -------------
Net cash used in operating activities (4,591,935) (4,655,941)
Cash flows from investing activities:
Increase in certificate of deposit (253.067) --
Purchase of property and equipment (858,011) (653,926)
Cash paid in acquisitions, net of cash received (930,563) --
-------------- -------------
Net cash used in investing activities (2,041,641) (653,926)
Cash flows from financing activities:
Payments on notes payable and long-term debt (1,953,900) (297,458)
Payments under capital lease obligations (135,183) (168,657)
Payments for purchase of treasury stock (700,130) --
Loan payments for the purchase of common stock (316,418) --
Net proceeds from private offerings of common stock 2,827,355 5,577,500
Net proceeds from exercise of common stock options and warrants 7,003,963 504,439
-------------- -------------
Net cash provided by financing activities 7,042,105 5,615,824
-------------- -------------
Net increase in cash and cash equivalents 408,429 305,957
Cash and cash equivalents at beginning of year 719,851 413,894
-------------- -------------
Cash and cash equivalents at end of year $ 1,128,380 $ 719,851
============== =============
F-5
<PAGE>
Supplemental Cash Flow Information:
Interest paid $ 200,129 $ 153,549
Income taxes paid 5,020 5,414
Equipment acquired under capital leases 400,304 140,034
Sale of networking assets (Note 7)
Supplemental schedule of non-cash investing and financing activities:
On March 31, 1998, the Company purchased certain assets and assumed certain
liabilities of Digital Vision, Inc. as follows:
Fair value of tangible assets acquired $ 224,957
Fair value of liabilities assumed (384,495)
-------------
Fair value of net assets (liabilities) acquired (159,538)
Common stock issued (1,115,625)
Cash paid (46,980)
-------------
Excess of cost over fair value of net assets acquired $ (1,322,143)
=============
On July 29, 1998, the Company purchased certain assets and assumed certain
liabilities of PC Video Conversion Inc. as follows:
Fair value of tangible assets acquired $ 613,336
Fair value of liabilities assumed (80,367)
------------
Fair value of net assets acquired 532,969
Common stock issued (350,000)
Cash paid (700,000)
Note payable (910,085)
Acquisition costs (229,781)
------------
Excess of cost over fair value of net assets acquired $(1,656,897)
============
<FN>
The accompanying notes are an integral part of the consolidated financial statements.
</FN>
</TABLE>
F-6
<PAGE>
FOCUS ENHANCEMENTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies
Business of the Company. FOCUS Enhancements, Inc. (the "Company" or
"FOCUS") is involved in the development and marketing of proprietary PC-to-TV
convergence products for Windows(TM) and Mac(TM) OS based personal computers.
The Company's products, which are sold globally through original equipment
manufacturers (OEM's) and resellers, merge computer generated graphics and
television displays for presentations, training, education, video
teleconferencing, Internet viewing and home gaming markets. Based on a targeted
product plan and its experience in video conversion technology, FOCUS has
developed a strategy to play a major role in the PC-to-TV convergence industry.
Over 90% of the components for the Company's products are manufactured on a
turnkey basis by two vendors, Pagg Corporation and Asia ITN Corporation. In the
event that these vendors were to cease supplying the Company, management
believes that alternative turnkey manufacturers for the Company's products could
be secured. However, the Company would most likely experience short-term delays
in the shipments of its products.
The personal computer enhancements market is characterized by extensive research
and development and rapid technological change resulting in product life cycles
of nine to eighteen months. Development by others of new or improved products,
processes or technologies may make the Company's products or proposed products
obsolete or less competitive. Management believes it necessary to devote
substantial efforts and financial resources to enhance its existing PC-to-TV
products and to develop new products. There can be no assurance that the Company
will succeed with these efforts.
Basis of Presentation. The consolidated financial statements include
the accounts of the Company and its wholly-owned subsidiaries PC Video
Conversion, Inc., Lapis Technologies, Inc., TView, Inc., and FOCUS Enhancements
B.V. (a Netherlands corporation). On March 31, 1998, the Company acquired
certain assets and assumed certain liabilities of Digital Vision, Inc. in a
transaction accounted for under the purchase method of accounting. On July 29,
1998, the Company acquired certain assets and assumed certain liabilities of PC
Video Conversion, Inc. in a transaction accounted for under the purchase method
of accounting. All intercompany accounts and transactions have been eliminated
upon consolidation.
The results of operations of Digital Vision, Inc. have been included in
the accompanying consolidated financial statements since April 1, 1998. The
results of operations of PC Video Conversion, Inc. have been included in the
accompanying consolidated financial statements since July 29, 1998. The
following unaudited pro forma information presents a summary of the consolidated
results of operations of the Company as if the acquisitions had occurred at the
beginning of the periods presented.
Year ended December 31,
1998 1997
Net sales $ 2,023,000 $ 24,098,000
Loss from operations (11,753,700) (1,797,000)
Net loss (12,254,500) (1,559,300)
Net loss per common share
Basic $ (.73) $ (.12)
Diluted $ (.73) $ (.12)
F-7
<PAGE>
Use of Estimates. The process of preparing financial statements in
conformity with generally accepted accounting principles requires the use of
estimates and assumptions regarding certain types of assets, liabilities,
revenues and expenses. Actual results may differ from estimated amounts.
Significant estimates used in preparing these financial statements related to
accounts receivable allowances, stock balancing allowances, inventory valuation,
deferred tax asset valuation, the recoverability of goodwill related to
acquisitions. It is at least reasonably possible that the estimates will change
within the next year.
Financial Instruments. The carrying amounts reflected in the
consolidated balance sheets for cash, receivables and accounts payable
approximate the respective fair values due to the short-term maturity of these
instruments. Notes payable and log-term debt approximate the respective fair
values as these instruments bear interest at terms that would be available
through similar transactions with other third parties. The fair value of
securities available for sale are based on the quoted market prices.
Cash and Cash Equivalents. The Company considers all highly liquid
investments purchased with an original maturity of three months or less to be
cash equivalents.
Securities Available for Sale. Securities available for sale consist of
marketable equity securities carried at fair value, with unrealized gains and
losses reported as a separate component of stockholders' equity. Declines in the
fair value of securities available for sale below their cost that are deemed to
be other than temporary are reflected in operations as realized losses.
Revenue Recognition. Revenue from product sales is recognized when
products are shipped. Revenue from sales to distributors may be subject to
agreements allowing rights of return and price protection. The Company provides
allowances for potential uncollectible amounts, estimated stock balancing and
future returns, exchanges and price protection credits.
Concentration of Credit Risk. As of December 31, 1998, a major
distributor represented approximately 14% of the Company's accounts receivable,
a major retailer represented approximately 13% of the Company's accounts
receivable and a major television manufacturer customer represented
approximately 20% of the Company's accounts receivable. As of December 31, 1997,
the same major distributor, represented approximately 35% of the Company's
accounts receivable, and a major television manufacturer customer represented
approximately 12% of the Company's accounts receivable. The Company provides
credit to customers in the normal course of business with terms generally
ranging between 30 to 90 days. The Company does not usually require collateral
for trade receivables, but attempts to limit credit risk through its customer
credit evaluation process.
Inventories. Inventories are stated at the lower of cost or market
value using the first-in, first-out method, but not in excess of net realizable
value. The Company periodically reviews its inventories for potential slow
moving or obsolete items and provides valuation allowances for specific items,
as appropriate.
Property and Equipment. Property and equipment are recorded at cost and
depreciated using the straight-line method over the estimated useful lives of
the related assets as set forth below. Equipment leased under capital leases is
stated at the present value of future lease obligations and is amortized over
estimated useful lives.
Category Depreciation Period
Equipment 3 years
Furniture and fixtures 5 years
Tooling and dies 1-2 years
Purchases software 1-3 years
Leasehold improvements Lesser or 5 years or the term of the lease
F-8
<PAGE>
Goodwill. Goodwill resulting from business combinations is amortized on
a straight-line basis over periods ranging from five to seven years. The Company
evaluates the net realizable value of goodwill periodically based on a number of
factors including operating results, business plans, budgets and economic
projections. The Company's evaluation also considers non-financial data such as
market trends, customer relationships, product development cycles and changes in
management's market emphasis.
Advertising and Sales Promotion Costs. Advertising and sales promotion
costs are expensed as incurred. Advertising expense was approximately $3,309,000
and $1,715,000 for the years ended December 31, 1998 and 1997, respectively.
Research and Development. Research and development costs are expensed
as incurred.
Product Warranty Costs. The Company's warranty period for its products
is generally one to three years. Estimated future costs for initial product
warranties are not material.
Income Taxes. Deferred taxes are determined based on the differences
between the financial statement and tax basis carrying amounts of assets and
liabilities, using enacted tax rates in effect in the years in which the
differences are expected to reverse. Valuation allowances are provided if, based
upon the weight of available evidence, it is more likely than not that some or
all of the deferred tax assets will not be realized.
Foreign Currency Translation. The functional currency of the Company's
foreign subsidiary, FOCUS Enhancements, B.V., is its local currency, the Gilder.
Financial statements are translated into U.S. dollars using the exchange rates
at each balance sheet date for assets and liabilities and using a weighted
average exchange rate for each period for revenue, expenses, gains and losses.
Foreign exchange gains or losses, which are not material, are recognized in
income for the years presented.
Stock Compensation Plans. In 1995, the Financial Accounting Standards
Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No.
123, "Accounting for Stock-Based Compensation." This statement encourages all
entities to adopt a fair value based method of accounting for employee stock
compensation plans, whereby compensation cost is measured at the grant date
based on the fair value of the award which is recognized over the service
period, which is usually the vesting period. However, it also allows an entity
to continue to measure compensation cost for those plans using the intrinsic
value based method of accounting prescribed by Accounting Principles Board
("APB") Opinion No. 25, "Accounting for Stock Issued to Employees," whereby
compensation cost is the excess, if any, of the quoted market price of the stock
at the grant date (or other measurement date) over the amount an employee must
pay to acquire the stock. Stock options issued under the Company's stock option
plan have no intrinsic value at the grant date, accordingly, under APB Opinion
No. 25, no compensation cost is recognized. The Company has elected to continue
with the accounting prescribed in APB Opinion No. 25 and, as a result, must make
pro forma disclosures of net income and earnings per share and other disclosures
as if the fair value based method of accounting had been applied.
F-9
<PAGE>
Net Income (Loss) Per Share. In February 1997, FASB issued SFAS No.
128, "Earnings per Share" which requires earnings per share to be calculated on
a basic and dilutive basis. Basic earnings per share represents income available
to common stock divided by the weighted-average number of common shares
outstanding during the period. Diluted earnings per share reflects additional
common shares that would have been outstanding if dilutive potential common
shares had been issued, as well as any adjustment to income that would result
from the assumed conversion. Potential common shares that may be issued by the
Company relate solely to outstanding stock options and warrants, and are
determined using the treasury stock method. The assumed conversion of
outstanding dilutive stock options and warrants would increase the shares
outstanding but would not require an adjustment to income as a result of the
conversion. For the years ended December 31, 1998 and 1997, options and warrants
applicable to 4,604,645 shares and 6,681,903 shares, respectively were
anti-dilutive and excluded from the diluted earnings per share computation.
Recent Accounting Pronouncements. In June 1997, FASB issued SFAS No.
130, "Reporting Comprehensive Income," effective for fiscal years beginning
after December 15, 1997. Accounting principles generally require that recognized
revenue, expenses, gains and losses be included in net income. Certain FASB
statements, however, require entities to report specific changes in assets and
liabilities, such as unrealized gains and losses on available-for-sale
securities and foreign currency items, as a separate component of the equity
section of the balance sheet. Such items, along with net income, are components
of comprehensive income. SFAS No. 130 requires that all items of comprehensive
income be reported in a financial statement that is displayed with the same
prominence as other financial statements. Additionally, SFAS No. 130 requires
that the accumulated balance of other comprehensive income be displayed
separately from retained earnings and additional paid-in-capital in the equity
section of the balance sheet. The Company adopted these disclosure requirements
beginning in the first quarter of 1998. There was no accumulated comprehensive
income at December 31, 1998 and 1997.
In June 1997, FASB issued SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information," effective for fiscal years beginning after
December 15, 1997. SFAS No. 131 establishes standards for the way that public
business enterprises report information about operating segments in annual and
interim financial statements. It also establishes standards for related
disclosures about products and services, geographic areas and major customers.
Generally, financial information is required to be reported on the basis that it
is used internally for evaluating segment performance and deciding how to
allocate resources to segments. The Statement also requires descriptive
information about the way that the operating segments were determined, the
products and services provided by the operating segments, differences between
the measurements used in reporting segment information and those used by the
enterprise in its general-purpose financial statements, and changes in the
measurement of segment amounts from period to period.
The FASB has issued a proposed interpretive release, Stock compensation -
Interpretation of Opinion 25 (Interpretation). The Interpretation will provide
accounting guidance on several issues that are not specifically addressed in
Accounting Principles Board (APB) No. 25, Accounting for Stock Issued to
Employees. Two of the issues discussed in the Interpretation could result in
significant accounting changes for many companies, the accounting for repricing
of employee stock options, and the definition of an "employee" for purposes of
applying APB No. 25.
The effective date of the proposed Interpretation would be the issuance date of
the final Interpretation (expected to be in September, 1999). If adopted, the
Interpretation would be applied prospectively, but would cover events that occur
after December 15, 1998. There would be no effect on financial statements for
the period prior to the effective date of the final interpretation.
F-10
<PAGE>
2. Fourth Quarter
In the fourth quarter of 1998, the Company sustained a net loss of
$14,235,000. This loss was due to significant sales returns and certain year-end
adjustments made in the fourth quarter. A summary of the effect of sales returns
and the significant year-end adjustments follows:
Description Amount
Sales Returns $3,455,000
Impairment loss goodwill 3,054,000
Inventory obsolescence 1,799,000
Write-off of fixed assets 766,000
Price protection accruals 645,000
Write down of investment 346,000
Marketing costs 1,480,000
3. Inventories
Inventories at December 31, consist of the following:
1998 1997
---- ----
Raw materials $ 230,364 $ 685,160
Finished goods 5,718,260 3,304,444
--------- ---------
Totals $ 5,948,624 $ 3,989,604
========= =========
4. Property and Equipment
Property and equipment consist of the following at:
December 31,
-------------------------
1998 1997
---- ----
Equipment $ 878,471 $ 1,478,696
Furniture and fixtures 134,599 442,749
Leasehold and improvements 492,406 179,573
Tooling and dies 477,761 548,639
Purchased software 29,100 70,632
----------- -----------
1,667,098 2,720,289
Less accumulated depreciation and
amortization 394,621 1,651,371
----------- -----------
Net book value $ 1,272,477 $1,068,918
=========== ==========
Depreciation and amortization expense related to property and equipment
for the years ended December 31, 1998 and 1997 totaled $ 1,135,259 and $208,633,
respectively.
5. Other Assets
Notes Receivable.
On January 5, 1996, an officer of the Company borrowed $40,000 under a
promissory note bearing interest at 8.5% per annum. This amount is in addition
to an existing $30,000 promissory note to the same officer. In November 1998,
the same officer of the Company borrowed an additional $70,000 under a
promissory note bearing interest at 8.5% per annum.
Restricted Assets
As part of the Company's acquisition of TView, Inc. in September 1996, the
Company assumed a $125,000 irrevocable stand-by letter of credit with a bank to
secure office space in Beaverton, Oregon. During 1997, the Company placed
$125,000 in an interest bearing account at the Company's bank to secure the
letter of credit. This amount has been recorded as an other asset as of December
31, 1998 and 1997.
6. Notes Payable / Security Arrangements
Line of Credit, Bank.
F-11
<PAGE>
As of December 31, 1998, the Company maintained a revolving line of credit with
a bank. Borrowings under the line are payable upon demand and are collateralized
by all of the assets of the Company, except as noted below. Borrowings,
aggregating $620,000 and $720,000 at December 31, 1998 and 1997, respectively,
bear interest at the bank's prime rate plus 1% (8.75% at December 31, 1998).
Under the terms of the line of credit agreement, the Company was required to
comply with certain restrictive covenants and was in violation of certain of
these covenants at December 31, 1998. On March 31, 1999, the Company repaid all
monies owed on this line of credit with its commercial bank totaling
approximately $637,000 from proceeds received under a $2,000,000 accounts
receivable financing agreement with the same commercial bank. The agreement
allows for advances on accounts receivable not to exceed 80% of qualified
invoices. Interest is charged on the outstanding balance at a rate of the prime
lending rate plus 4.5%. Under the terms of this agreement the bank has been
issued warrants to purchase 100,000 shares of the Company's common stock at a
price of $1.70 per share. At March 31, 1999, the Company had borrowings under
this agreement of approximately $969,500.
Term Line of Credit.
On July 10, 1998, the Company paid off in full $1,500,000 to an unrelated party
under a term line of credit.
Term Loan, Bank
On March 31, 1998, the Company assumed a $329,953 bank loan resulting from the
purchase of certain assets and the assumption of certain liabilities of Digital
Vision, Inc. The borrowings bear interest at the prime rate plus 2% (9.75% at
December 31, 1998). The outstanding balance is payable thereafter in monthly
installments, with interest, until the loan expiration date of June 30, 1999. At
December 31, 1998, the outstanding amount owed on this loan was $82,057.
Long-Term Debt
On July 29, 1998, the Company issued a $1,000,000 note payable to a related
party in conjunction with the acquisition on PC Video providing payment of
principal and interest at 3.5 % over a period of 36 months. The Company computed
a discount of $89,915 on this note based on its incremental borrowing rate.
Maturation of long-term debt at December 31, 1998 are as follows:
1999 $ 283,180
2000 312,556
2001 226,041
---------
Total $ 821,777
Vendor Security Agreement
In June 1996, the Company entered into a security agreement with its principal
contract manufacturer and inventory supplier regarding certain amounts owed by
the Company to the supplier. At December 31, 1998 and 1997, the outstanding
amounts owed the supplier were approximately $2,375,000 and $2,533,000
respectively. The amounts owed the supplier are secured by a tertiary position
security interest in certain of the Company's assets and amounts past due bear
interest at 10.25%. Interest expense on this arrangement amounted to
approximately $3,900 for the year ended December 31, 1996. There was no interest
expense for the years ended December 31, 1998 and 1997.
F-12
<PAGE>
7. Other Income
Sale of Networking Assets.
Effective September 30, 1997, the Company sold its line of computer connectivity
products to Advanced Electronic Support Products, Inc. ("AESP") for 189,701
shares of AESP common stock. Included in the sale were customer lists and the
rights to use the FOCUS networking brand name to market the product line as well
as certain of AESP's complementary products. In connection with this
transaction, the Company recorded other income in the amount of $358,288,
securities available for sale in the amount of $595,000 (discounted 15% to
reflect temporary restrictions on the common stock), and deferred income of
$84,212. In addition, the Company sold networking inventory to AESP in the
amount of $159,000 at cost. A director of the Company is also a director of
AESP. At December 31, 1998, the fair value of the securities available for sale
was $248,983. The Company recorded a loss of $346,017 on the securities
available for sale in 1998 as the decline in value was considered to be other
than temporary.
Accounts Payable.
During the year ended December 31, 1997, the Company recognized a total of
$244,176 of other income in connection with the release of selected obligations
and the reduction of certain accounts payable.
8. Commitments
Leases.
The Company leases office facilities and certain equipment under operating
leases. Under the lease agreements, the Company is obligated to pay for
utilities, taxes, insurance and maintenance. Total rent expense for the years
ended December 31, 1998 and 1997 was approximately $351,000 and $300,000,
respectively
The Company leases certain computer and office equipment under capital leases
with five-year terms. The carrying values of assets under capital leases were
$496,982 and $236,301 at December 31, 1998 and 1997, respectively, which is net
of accumulated amortization of $442,901and $40,421, respectively. The cost and
net book value of capitalized leased assets are included in property and
equipment.
Minimum lease commitments at December 31, 1998 are as follows:
Capital Leases Operating Leases
1999 $ 165,614 $ 491,607
2000 162,613 317,285
2001 114,595 254,382
2002 62,387 212,216
2003 40,449 210,660
Thereafter -- 51,984
--------- -----------
Total minimum lease payments 545,658 $ 1,542,134
========= ===========
Less amounts representing interest 104,362
---------
Present value of minimum obligations 441,296
Less current portion 119,536
---------
Non-current portion $ 321,760
=========
F-13
<PAGE>
Employment Agreements.
The Company has employment agreements with certain corporate officers. The
agreements are generally one to three years in length and provide for minimum
salary levels. These agreements include severance payments of approximately one
to three times each officer's annual compensation.
Letter of Credit.
In July, 1998, the Company entered into an agreement with a subcontractor. As
part of the agreement the Company's bank issued a $250,000 irrevocable stand-by
letter of credit to secure payment of the vendor's invoices. The Company placed
$250,000 in an interest bearing account at the Company's bank to secure the
letter of credit. This amount is recorded in current assets as of December 31,
1998.
Purchase Commitment.
The Company has agreed to purchase a minimum of $2,500,000 of cables and other
products from Advanced Electronic Support Products, Inc. ("AESP") during the
three-year period ending September 29, 2000, with a one-year automatic renewal.
In return, the Company has received certain pricing commitments over the term of
the master purchase agreement. For the period October 1, 1997 through March 31,
1999, the Company purchased approximately $685,000 of products from AESP. In the
event that the Company does not purchase at least $2,500,000 of cables and other
products during the initial two-year term of the master purchase agreement, the
Company must pay AESP an amount equal to 20% of the difference between
$2,500,000 and the aggregate amount of purchases.
9. Stockholders' Equity
Common Stock.
On March 3, 1998, the Company received approximately $3,000,000 in gross
proceeds from the sale of 1,092,150 shares of Common Stock and warrants to
purchase 327,645 shares of common stock in a private placement to an
unaffiliated accredited investor. The shares issued in connection with this
transaction and issuable upon exercise of the warrants were registered under the
Securities Act of 1933 on April 22, 1998. Fees and expenses associated with this
offering amounted to approximately $172,600 yielding net proceeds of $2,827,400.
In connection with this transaction, the Board of Directors authorized the grant
of warrants to the placement agent to purchase 21,429 shares of the Company's
common stock at a price of $4.2118 per share exercisable for a period of five
years. During December 1998, the investor exercised its warrants to acquire
327,645 shares for approximately $399,000.
The Company received gross proceeds of $6,146,888 as a result of the conversion
of 910,650 of the Company's Redeemable Common Stock Purchase Warrants (the
"Warrants") issued in connection with the Company's initial public offering in
May 1993. The Company issued 1,649,202 shares of common stock as a result of the
conversion. In accordance with the anti-dilution provisions of the Warrants, the
holder was entitled to receive 1.811 shares of common stock for each Warrant
exercised. The Warrants were exercisable at a price of $6.75 per Warrant until
expiration on May 27, 1998.
During the year ended December 31, 1998, the Company issued at various times,
453,111 shares of common stock resulting from other exercises of options and
warrants, receiving cash and notes receivable of approximately $774,000. On June
1, 1998, the Company recorded a note receivable in the amount of $316,418 in
connection with the exercise of stock options to purchase 171,000 shares of
common stock by a former director. The note is due on demand and bears interest
at 8% due quarterly. At December 31, 1998, the note receivable has been recorded
in stockholders' equity.
F-14
<PAGE>
On January 15, 1997, the Company sold 75,000 shares of its common stock for
gross proceeds of $138,750, in connection with a private offering to foreign
investors. This stock is unregistered and was subject to restrictions on trading
in the United States for a period of forty days. In connection with the
offering, the Company paid $26,250 to the placement agent. Net proceeds of the
private offering were approximately $112,500. On February 12, 1997, the Company
sold 218,181 shares of common stock for gross proceeds of $338,181 in connection
with a private offering to foreign investors. This stock is unregistered and was
subject to restrictions on trading in the United States for a period of forty
days. In connection with the offering, the Company incurred fees of $38,181
receiving net proceeds of $300,000.
On March 27, 1997, the Company completed a financing of $1,650,000 in gross
proceeds for the sale of 1,100,000 shares of common stock in a private placement
to unaffiliated accredited investors. The shares issued as part of this
transaction were registered through Form S-3 with the Securities and Exchange
Commission on May 12, 1997. Fees and expenses associated with this offering
amounted to $55,000 yielding net proceeds of $1,595,000. In connection with this
transaction, the Board of Directors authorized the grant of warrants to the
placement agent to purchase 110,000 shares of the Company's common stock at
$1.6875 per share exercisable for a period of five years.
On September 10, 1997, the Company sold 1,000,000 shares of common stock for
$3,810,000 in gross proceeds in a private placement to Smith Barney Fundamental
Value Fund, Inc. Because the last sale price of the Company's common stock was
less than $3.00 per share for 20 consecutive trading days during the 12 month
period following the closing, the Company issued seven year warrants to purchase
333,000 shares of common stock at $3.00 per share to the investor. The shares
issued and issuable as part of this transaction were registered on a Form S-3
with the Securities and Exchange Commission. Fees and expenses associated with
this offering amounted to approximately $240,000, yielding net proceeds of
$3,570,000. In connection with this transaction, the Board of Directors
authorized the grant of warrants to the placement agent to purchase 100,000
shares of the Company's common stock at $6.00 per share exercisable for a period
of five years.
During the year ended December 31, 1997, the Company issued at various times,
121,596 shares of common stock resulting from the exercise of public and private
warrants, receiving proceeds of approximately $209,700. Additionally, during the
year ended December 31, 1997, stock options to purchase 193,564 shares of common
stock were exercised for proceeds of approximately $294,700.
F-15
<PAGE>
Common Stock Purchase Warrants.
Common stock warrant activity is summarized as follows:
<TABLE>
<CAPTION>
1998 1997
----------------------------- ------------------------------
Shares Grant Price Shares Grant Price
Range Range
----------- ------------- --------- -------------
<S> <C> <C> <C> <C>
Warrants outstanding at 3,715,507 $0.90 - $9.11 3,218,060 $0.90 - $9.11
beginning of year
Anti-dilution adjustment 61,237 298,910
Warrants granted 682,074 $2.75-$4.21 323,333 $1.69 - $6.00
Warrants exercised (2,035,180) $1.22-$3.73 (121,596) $1.69 - $1.69
Warrants canceled (1,405,309) $3.25-$3.81 (3,200) $1.29 - $2.35
----------- ------------- --------- -------------
Warrants Outstanding at 1,018,329 $0.90 - $9.11 3,715,507 $0.90 - $9.11
end of year =========== ============= ========= =============
Warrants exercisable at 1,018,329 $0.90 - $9.11 3,657,174 $0.90 - $9.11
end of year =========== ============= ========= =============
Weighted average fair $1.25 $1.87
value of warrants granted
during the year
</TABLE>
1992 Stock Option Plan.
The Company's 1992 Stock Option Plan (the "Plaf"), provides for the granting of
incentive and non-qualified options to purchase up to approximately 1,800,000
shares of common stock. Incentive stock options may be granted to employees of
the Company. Non-qualified options may be granted to employees, directors or
consultants of the Company. Incentive stock options may not be granted at a
price less than 100% (110% in certain cases) of the fair-market value of common
stock at date of grant. Non-qualified options may not be granted at a price less
than 85% of fair-market value of common stock at date of grant. As of December
31, 1998, all options granted under the plan were issued at market value at the
date of grant. Options generally vest annually over a three-year period and are
exercisable over a five-year period from date of grant. The term of each option
under the Plan is for a period not exceeding ten years from date of grant.
During 1998 and 1997, the Board of Directors authorized reductions in the
exercise price of certain options granted under the plan to prices reflecting
the fair market value on the re-pricing date. As of December 31, 1998, options
under the 1992 Plan to purchase 1,494,316 shares of the Company's common stock
were outstanding with exercise prices of $1.22 to $1.34 per share.
1993 Director Stock Option Plan.
The 1993 Director Plan offers non-qualified stock options to members of the
Board of Directors who are neither employees nor officers of the Company. The
1993 Director Plan authorized the grant of options to purchase up to an
aggregate of 125,000 shares of common stock. As of December 31, 1998, there were
no options outstanding under this plan.
1995 Director Stock Option Plan.
In August 1995, the Board of Directors adopted the 1995 Director Stock Option
Plan (the "1995 Director Plan"), subject to stockholder approval that was
received on July 15, 1996. The 1995 Director Plan authorized the grant of
options to purchase up to an aggregate of 400,000 shares of common stock. On
March 19, 1997, the options granted under the 1995 Plan were canceled and a new
1997 Director Stock Option Plan was established.
F-16
<PAGE>
1995 Key Officer Non Qualified Stock Options.
In April 1995, the Board of Directors authorized and ratified on June 26, 1995,
the issuance to two officers warrants to purchase an aggregate of 500,000 shares
of Series A Preferred Stock at $1.10 per share. In accordance with their terms,
the Series A warrants were automatically exchanged for non-qualified options to
purchase an equivalent number of shares of common stock at $1.10 per share in
August 1995. The options are 100% vested and expire in April 2002. As of
December 31, 1998, options to purchase 500,000 shares of the Company's common
stock were outstanding with an exercise price of $1.10 per share.
1997 Director Stock Option Plan.
In March 1997, the Board of Directors adopted the 1997 Director Stock Option
Plan (the "1997 Director Plan"), subject to stockholder approval which was
received on July 25, 1997. The 1997 Director Plan authorized the grant of
options to purchase up to an aggregate of 800,000 shares of common stock. Each
non-employee director who was in office on March 19, 1997 received an automatic
grant of an option to purchase shares of common stock ranging between 100,000
and 200,000 shares based on time of service. The exercise price per share of
options granted under the 1997 Director Plan is 100% of the market value of the
common stock of the Company on the date of grant. Options granted under the 1997
Director Plan are exercisable over a five-year period with vesting determined at
varying amounts over a three year period. As of December 31, 1998, options under
the 1997 Director Plan to purchase 450,000 shares of the Company's common stock
were outstanding with an exercise price between $ 1.22 and $1.88 per share.
1997 Key Officer Non Qualified Stock Options.
In March 1997, the Board of Directors authorized the grant of non-qualified
stock options to certain key officers of the Company (the "1997 Key Officer
Agreements"). The 1997 Key Officer Agreements related to the grant of options to
purchase up to an aggregate of 920,000 shares of common stock. The exercise
price per share of options granted under the 1997 Key Officer Agreements equaled
100% of the market value of the common stock of the Company on the date of
grant. Options granted under the 1997 Key Officer Agreements are exercisable in
installments over a three-year period. As of December 31, 1998, options under
the 1997 Key Officer Agreements to purchase 750,000 shares of the Company's
common stock were outstanding with exercise prices of $1.22 per share.
1998 Director Stock Option Plan.
On September 1, 1998, the Board of Directors adopted the 1998 Non-qualified
Stock Option Plan (the "1998 NQSO Plan"). The 1998 NQSO Plan authorized the
grant of options to purchase up to an aggregate of 1,250,000 shares of common
stock. Each non-employee director who was in office on September 1, 1998
received an automatic grant of an option to purchase 75,000 shares of common
stock. Employee officers and directors received a grant of an option to purchase
shares of common stock ranging from 10,000 to 200,000 shares based upon time in
service. The exercise price per share of options granted under the 1998 NQSO
Plan is 100% of the market value of the common stock of the Company on the date
of grant. Options granted under the 1998 NQSO Plan are exercisable over a
five-year period with vesting determined at varying amounts over a three year
period. As of December 31, 1998, options under the 1998 NQSO Plan to purchase
750,000 shares of the Company's common stock were outstanding with an exercise
price of $1.22.
A summary of the status of the Company's outstanding stock options as of
December 31, 1998 and 1997, and the changes during the years then ended, is
presented below:
F-17
<PAGE>
<TABLE>
<CAPTION>
1998 1997
-------------------------------- -------------------------------
Weighted Average Weighted Average
Shares Exercise Price Shares Exercise Price
----------- ---------------- --------- ----------------
<S> <C> <C> <C> <C>
Options outstanding 2,966,396 $1.81 1,763,604 $2.57
At beginning of year
Options Granted 3,873,680 1.42 1,923,750 1.88
F-18
<PAGE>
Options Exercised (394,778) 1.90 (193,564) 1.52
Options Canceled (2,528,982) $ 1.96 (527,394) 3.17
----------- ====== --------- -----
Options outstanding 3,919,316 $ 1.22 2,966,396 $1.81
=========== ====== ========= =====
At end of year
Options exercisable 1,289,536 $ 1.20 954,830 $1.54
=========== ====== ========= =====
At end of year
Weighted average fair value of $ .92 $1.12
options granted during the year
</TABLE>
Information pertaining to options outstanding at December 31, 1998 is as
follows:
<TABLE>
<CAPTION>
- ---------------------------- -------------------------------------------------------- -----------------------------------------
Options Outstanding Options Exercisable
- ---------------------------- ------------------ ------------------ ------------------ -------------------- --------------------
Weighted Weighted Weighted
Average Average Average
Range of Outstanding Remaining Exercise Exercisable Exercise
Exercise Prices 12/31/98 Life Price 12/31/98 Price
- ---------------------------- ------------------ ------------------ ------------------ -------------------- --------------------
<S> <C> <C> <C> <C> <C>
$0.24 - 0.91 - - - - -
- ---------------------------- ------------------ ------------------ ------------------ -------------------- --------------------
$0.91 - 1.82 3,869,316 4.14 yrs $1.22 1,239,536 $1.22
- ---------------------------- ------------------ ------------------ ------------------ -------------------- --------------------
$1.83 - 2.73 50,000 4.00 yrs 1.22 50,000 1.88
- ---------------------------- ------------------ ------------------ ------------------ -------------------- --------------------
$2.74 - 3.64 - - - - -
- ---------------------------- ------------------ ------------------ ------------------ -------------------- --------------------
$3.65 - 4.56 - - - - -
- ---------------------------- ------------------ ------------------ ------------------ -------------------- --------------------
$4.57 - 5.47 - - - - -
- ---------------------------- ------------------ ------------------ ------------------ -------------------- --------------------
- ---------------------------- ------------------ ------------------ ------------------ -------------------- --------------------
Outstanding at 3,919,316 4.12 yrs 1.22 1,289,536 1.20
December 31, 1998
- ---------------------------- ------------------ ------------------ ------------------ -------------------- --------------------
</TABLE>
Stock-based Compensation.
At December 31, 1998, the Company has four plans and non-plan stock options that
are described above. The Company applies APB Opinion No. 25 and related
interpretations in accounting for the plans. Accordingly, no compensation cost
has been recognized for its fixed stock option plans. Had compensation cost for
the Company's stock-based compensation plans and non-plan stock options
outstanding been determined based on the fair value at the grant dates for
awards under those plans consistent with the method prescribed by SFAS No. 123,
the Company's net loss and loss per share would have been adjusted to the pro
forma amounts indicated below:
F-19
<PAGE>
<TABLE>
<CAPTION>
- --------------------------------- ------------------------------ --------------------------------------------------------------
Years ended December 31,
- --------------------------------- ------------------------------ ------------------------------- ------------------------------
1998 1997
- --------------------------------- ------------------------------ ------------------------------- ------------------------------
<S> <C> <C> <C>
Net Loss As reported ($12,787,324) ($1,986,079)
- --------------------------------- ------------------------------ ------------------------------- ------------------------------
Pro forma ($14,483,121) ($2,840,079)
- --------------------------------- ------------------------------ ------------------------------- ------------------------------
Basic loss per share As reported ($ .78) ($ .16)
- --------------------------------- ------------------------------ ------------------------------- ------------------------------
Pro forma ($ .89) ($ .22)
- --------------------------------- ------------------------------ ------------------------------- ------------------------------
Diluted Loss per share As reported ($ .78) ($ .16)
- --------------------------------- ------------------------------ ------------------------------- ------------------------------
Pro forma ($ .89) ($ .22)
- --------------------------------- ------------------------------ ------------------------------- ------------------------------
</TABLE>
F-20
<PAGE>
Common stock equivalents have been excluded from all calculations of loss per
share and pro forma loss per share in 1998 and 1997 because the effect of
including them would be anti-dilutive.
The fair value of each grant is estimated on the date of the grant using the
Black-Scholes option-pricing model with the following weighted-average
assumptions used for grants in 1998 and 1997, respectively; dividend yield of
0.0 percent; expected volatility of 75% and 66%, risk-free interest rates of
6.0% and 5.0% and expected lives of 5.0 and 5.0 years.
10. Income Taxes
The Company and its subsidiaries file a consolidated federal income tax return.
Allocation of the provision for income taxes between federal and state income
taxes is as follows:
Years Ended December 31,
Current: 1998 1997
---- ----
Federal income taxes $ -- $ --
State income taxes 24,641 5,097
-------- -------
24,641 5,097
Deferred federal and state income taxes -- --
-------- -------
$ 24,641 $ 5,097
======== =======
The differences between the provision for income taxes from the benefit computed
by applying the statutory Federal income tax rate are as follows:
Years Ended December 31,
1998 1997
---- ----
Benefit computed at statutory rate (34%) ($4,348,000) ($673,500)
State income tax benefit, net of federal tax (792,800) (124,000)
Increase in valuation allowance on deferred tax asset 4,938,441 536,000
Other, net 227,000 266,597
--------- -------
$ 24,641 $ 5,097
The net deferred tax asset consists of the following:
Years Ended December 31,
1998 1997
---- ----
Deferred tax asset $14,974,441 $10,036,000
Deferred tax liability -- --
Valuation allowance on deferred tax asset (14,974,441) (10,036,000)
------------ ------------
Net deferred tax asset $ - $ -
============ ============
The tax effects of each type of income and expense item that give rise to
deferred taxes are as follows:
<TABLE>
<CAPTION>
Years Ended December 31,
1998 1997
---- ----
<S> <C> <C>
Net operating loss carry-forward $ $ 6,872,000
F-21
<PAGE>
Income tax credit carry-forward 173,000
Tax basis in excess of book basis of fixed assets 137,000
------------- -------------
Book inventory cost less than tax basis 157,000
------------- -------------
Reserve for bad debts not deductible for income taxes 328,000
------------- -------------
Tax basis in excess of book basis of other assets 465,000
------------- -------------
Tax basis in subsidiaries in excess of book value 1,904,000
------------- -------------
14,974,441 10,036,000
------------- -------------
Valuation allowance on deferred tax asset (14,974,441) (10,036,000)
============= -------------
Net deferred tax asset $ -- $ --
============= =============
</TABLE>
A summary of the change in the valuation allowance on deferred tax assets is as
follows:
<TABLE>
<CAPTION>
Years Ended December 31,
1998 1997
---- ----
<S> <C> <C>
Balance at beginning of year $10,036,000 $ 9,500,000
Increase in allowance due to loss carry-forwards of -- --
PC Video at date of acquisition
Addition to the allowance for the benefit of net 4,938,441 536,000
operating loss carry-forwards not recognized ----------- -----------
Balance at end of year $14,974,441 $10,036,000
=========== ===========
</TABLE>
At December 31, 1997, the Company has the following carry-forwards available for
income tax purposes:
- ------------------------------------------- ----------------------------------
Federal net operating loss carry-forwards
expiring in various amounts through 2012
- ------------------------------------------- ----------------------------------
- ------------------------------------------- ----------------------------------
State net operating loss carry-forwards
expiring in various amounts through 2002
- ------------------------------------------- ----------------------------------
Credit for research activities
- ------------------------------------------- ----------------------------------
Due to the uncertainty surrounding the realization of these favorable tax
attributes, the Company has placed a valuation allowance against its otherwise
recognizable net deferred tax assets. The net operating loss carry-forwards may
be subject to annual limitations based on ownership changes in the Company's
common stock as provided in Section 382 of the Internal Revenue Code.
F-22
<PAGE>
11. Business Combinations
Lapis Technologies, Inc. On December 16, 1993, FOCUS issued 500,000 shares of
its common stock, subject to adjustment based on the value of the common stock,
in exchange for all of the outstanding common stock of Lapis Technologies, Inc.
("Lapis"). The business combination was accounted for using the purchase method
of accounting. From May to August 1995, the Company settled substantially all
claims by the former Lapis shareholders arising from the Company's acquisition
of Lapis by issuing 123,879 shares of common stock to the former Lapis
shareholders. This stock issuance was accounted for as an adjustment to the
purchase price. Negotiations are ongoing to settle the claims of two remaining
Lapis shareholders but the outcome is not expected to be material to the
Company's financial position.
In the fourth quarter of 1998, as a result of its evaluation of the impairment
of intangible assets related to this acquisition, the Company wrote-off the
balance of the goodwill in the amount of approximately $543,000. The evaluation
considered the Company's acquisition, the declining Macintosh marketplace,
shifting of the market to PC-based products and technological advances and
projected future sales of Lapis products. At December 31, 1997, the balance of
the goodwill was $657,140 net of accumulated amortization and write-offs of
$2,341,607.
TView, Inc. Effective September 30, 1996, FOCUS acquired all of the capital
stock of TView, Inc. ("TView"), The business combination has been accounted for
using the purchase method of accounting. Accordingly, the purchase price was
allocated to the assets acquired based on their estimated fair value. This
accounting treatment resulted in approximately $716,000 of goodwill that will be
amortized over its estimated benefit period of seven years. At December 31, 1998
and 1997, the balance of the goodwill was $488,355 and $592,610, net of
accumulated amortization of $227,669 and $123,414, respectively.
On March 31, 1998, the Company issued approximately 350,000 shares of common
stock valued at approximately $1,115,600 in conjunction with the acquisition of
certain assets of Digital Vision, Inc. ("Digital Vision"). Shares issued as part
of this transaction have been registered under the Securities Act of 1933. In
addition, the Company agreed to pay approximately $47,000 in cash for the net
assets with a preliminary estimated fair value of approximately ($160,000),
consisting of accounts receivable ($164,400), inventory ($60,600) offset by the
assumption of notes payable ($330,000) and accounts payable ($55,000). At March
31, 1998, the Company recorded goodwill of approximately $1,322,000 as a result
of this acquisition.
In the fourth quarter of 1998, as a result of its evaluation of the impairment
of intangible assets related to this acquisition, the Company wrote-off a
portion of the goodwill in the amount of approximately $1,070,000. Upon
evaluation of the product line, the Company deemed that only two products
warranted inclusion in its family of products. However, this In-Video product
line was not widely accepted by the Company's customer base due to significant
competition in its category, limited product features in comparison with the
competition, and its cost structure required pricing higher then many of the
competing products. In addition, no proprietary technology was acquired with
this acquisition, and the products were distributed as an OEM offering to the
Company. As a result of a discounted cash flow analysis in December 1998, the
Company determined goodwill recorded on the acquisition of Digital Vision should
be written down to approximately $127,000. The operations of Digital Vision have
been included in the financial statements of the Company since April 1, 1998.
On July 29, 1998, the Company acquired certain assets and assumed certain
liabilities of PC Video Conversion, Inc. ("PC Video"). At the closing, the
Company paid PC Video $700,000 in cash and delivered a promissory note in the
principal amount of $1,000,000 providing payment of principal and interest at
3.5% over a period of 36 months. The Company computed a discount of $89,915 on
the note based on its incremental borrowing rate. In addition, the Company
issued 122,796 shares of common stock as a result of the acquisition, which were
valued at $350,000 and the Company has agreed to register under the Securities
Act of 1933, as amended, by no later than November 30, 1998. The Company also
assumed approximately $79,650 of liabilities in connection with this
acquisition. The acquisition was accounted for as a purchase and resulted in
goodwill of approximately $1,657,000.
F-23
<PAGE>
In the December 1998, as a result of its evaluation of the impairment of
intangible assets related to this acquisition, the Company wrote-off a portion
of the goodwill in the amount of approximately $1,441,000. The evaluation
considered the acquisition, a limited distribution network, limited product
features in comparison with the competition, and the lack of proprietary
technology. However, based on an evaluation of the technical engineering
resources and product vision, management of the Company restructured the PC
Video business into a professional products research & development center and
consolidated its remaining operating activities into its corporate office. This
restructuring resulted in approximately $70,000 in one-time charges in 1998.
12. Segment Information
The Company operates in one business segment: the development, manufacturing,
marketing and sale of computer enhancement devices for personal computers and
televisions. Sales to a major television manufacturer in 1998 totaled
approximately $2,646,000 or 14% of the Company's revenues as compared to
approximately $2,345,000, or 11% of revenues for 1997. Sales to a major
distributor in 1998 represented approximately $5,686,000, or 31% of the
Company's revenues as compared to approximately $3,319,000 or 16% of revenues
for 1997. During 1998, the Company discontinued sales to a major manufacturer of
personal computers as compared to approximately $5.6 million, or 27% of net
sales for the year ended December 31, 1997.
Sales outside North America for the year ended December 31, 1998 were
approximately $951,000, principally to Europe ($604,000) and Asia ($347,000).
Sales outside North America for the year ended December 31, 1997 were
approximately $2,969,000, principally to Europe ($1,667,000), Asia ($1,267,000)
and Latin America ($35,000).
13. Employee Benefit Plan
Effective July 1, 1998, the Company has implemented a Section 401(k) Profit
Sharing Plan (the "401(k) Plan") for all eligible employees. The Company may
make discretionary contributions to the 401(k) Plan. Employees are permitted to
make elective deferrals of up to 15% of employee compensation and employee
contributions to the 401(k) Plan are fully vested at all times. Company
contributions become vested over a period of five years. The Company has made no
contributions to the 401(k) Plan as of December 31, 1998.
13. Subsequent Events
Item 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not Applicable
F-24
<PAGE>
PART III
Item 9. DIRECTORS AND EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
The information required hereunder is incorporated by reference from the
Company's Proxy Statement to be filed within 120 days of December 31, 1998 in
connection with the Company's 1999 Annual Meeting of Stockholders.
Item 10. EXECUTIVE COMPENSATION
The information required hereunder is incorporated by reference from the
Company's Proxy Statement to be filed within 120 days of December 31, 1998 in
connection with the Company's 1999 Annual Meeting of Stockholders.
Item 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required hereunder is incorporated by reference from the
Company's Proxy Statement to be filed within 120 days of December 31, 1998 in
connection with the Company's 1999 Annual Meeting of Stockholders.
Item 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required hereunder is incorporated by reference from the
Company's Proxy Statement to be filed within 120 days of December 31, 1998 in
connection with the Company's 1999 Annual Meeting of Stockholders.
Item 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
The following exhibits, required by Item 601 of Regulation S-B, are filed as a
part of this Annual Report on Form 10-KSB or are incorporated by reference to
previous filings as indicated by the footnote immediately following the exhibit.
Exhibit numbers, where applicable, in the left column correspond to those of
Item 601 of Regulation S-B.
Exhibit Item No. Item and Description
1.4 Form of Stock Escrow Agreement (1)
2.1 Agreement of Merger, dated April 12, 1993, between FOCUS Enhancement, Inc.,
a Massachusetts corporation, and the Company (1)
2.2 Certificate of Merger, as filed with the Delaware Secretary of State on
April 12, 1993 (1)
2.3 Articles of Merger, as filed with the Massachusetts Secretary of State on
April 14, 1993 (1)
2.4 Agreement and Plan of Reorganization and Merger between the Company, FOCUS
Acquisition Corporation and Lapis Technologies, Inc. dated as of November 29,
1993 (2)
3.1 Second Restated Certificate of Incorporation of the Company (1)
3.2 Certificate of Amendment to Second Restated Certificate of Incorporation of
the Company (3)
3.3 Restated By-laws of the Company (1)
F-25
<PAGE>
4.1 Specimen certificate for Common Stock of the Company (1)
4.2 Specimen certificate for Redeemable Common Stock Purchase Warrant (1)
4.3 Form of Warrant Agreement between the Company, Mellon Securities Trust
Company and Thomas James Associates, Inc. (1)
4.4 Form of Warrant issued to Thomas James Associates, Inc. (1)
10.1 Amended and Restated Employment Contract between the Company and a
Corporate Officer, effective January 1, 1992 (1)
10.2 1992 Stock Option Plan, as amended (4)
10.3 Form of Incentive Stock Option Agreement, as amended, under the 1992 Stock
Option Plan, as amended (1)
10.4 Form of Non-Qualified Stock Option Agreement, as amended, under the 1992
Stock Option Plan, as amended (1)
10.5 1993 Non-Employee Director Stock Option Plan (4)
10.6 Form of Non-Qualified Stock Option Agreement under the 1993 Non-Employee
Director Stock Option Plan (4)
10.7 Credit Agreement between the Company, Lapis and Silicon Valley Bank dated
January 20, 1994 (4)
10.8 Promissory Note in the principal amount of $2,000,000, dated as of January
20, 1994, made by the Company and Lapis to the order of Silicon Valley Bank (4)
10.9 Security Agreement, dated as of January 20, 1994, by the Company in favor
of Silicon Valley Bank (4)
10.10 Security Agreement, dated as of January 20, 1994, by Lapis in favor of
Silicon Valley Bank (4)
10.11 Pledge Agreement, dated as of January 20, 1994, by the Company in favor of
Silicon Valley Bank (4)
10.12 Purchase and Sale Agreement, dated as of May 25, 1994, between the Company
and Inline Software, Inc. (5)
10.13 Master Purchase Agreement, dated as of August 12, 1994, between the
Company and Apple Computer, Inc. (5)
10.14 Forbearance Letter, dated as of October 6, 1994, to the Company from
Silicon Valley Bank (5)
10.15 Note and Warrant Subscription Agreement, dated as of October 18, 1994,
between the Company and a Private Lender (5)
10.16 Security Agreement, dated as of October 18, 1994, between the Company and
a Private Lender (5)
10.17 Term Line of Credit Note, dated October 18, 1994, by the Company in favor
of a Private Lender (5)
10.18 Warrant W-K issued to a Private Lender, dated as of October 18, 1995 (5)
10.19 Intercreditor and Subordination Agreement, dated as of October 18, 1994,
by and between the Company, a Private Lender and Silicon Valley Bank (5)
10.20 Debt Extension Agreement, dated as of February 22, 1995, by and between
the Company and a Private Lender (5)
F-26
<PAGE>
10.21 1995 Non-Employee Director Stock Plan (7)
10.22 Form of Non-Qualified Stock Option Agreement under the 1995 Non-Employee
Director Stock Plan (6)
10.23 Form of Settlement Agreement between the Company and Lapis Technologies,
Inc. Shareholders (7)
10.24 Manufacturing Agreement between the Company and a manufacturer (7)
10.25 Loan Document Modification Agreement dated as of April 5, 1996 by and
between the Company, Lapis Technologies, Inc. and Silicon Valley Bank (8)
10.26 Amended and Restated Promissory Note dated as of April 5, 1996 in favor of
Silicon Valley Bank (8)
10.27 Amendment No. 2 to the Note and Warrant Subscription Agreement dated as of
June 28, 1996 between the Company and a Private Lender (8)
10.28 Amended and Restated Term Line of Credit Note dated as of June 28, 1996 in
favor of a Private Lender (8)
10.29 Security Agreement dated as of June 28, 1996 between the Company and a
Private Lender (8)
10.30 Warrant W96/6, dated June 28, 1996, issued to a Private Lender (8)
10.31 Agreement dated as of June 28, 1996 between the Company and a manufacturer
(8)
10.32 Security Agreement dated as of June 28, 1996 between the Company and a
manufacturer (8)
10.33 Amendment to Master Purchase Agreement between the Company and TV OEM.
(10)
10.34 Lease Agreement between the Company and Cummings Properties for the
facility at 142 North Road, Sudbury, Massachusetts (10)
10.35 Agreement of Plan of Merger dated September 30, 1996, by and among the
Company, FOCUS Acquisition Corp., and TView, Inc. (9)
10.36 Form of Stock Subscription Agreement between the Company and various
investors in the December 95 Offering (11)
10.37 Form of Amendment No. 1 to Stock Subscription Agreement dated April 1996
between the Company and various investors in the December 95 Offering (11)
10.38 Form of Warrant issued to various investors pursuant to Amendment No. 1
(11)
10.39 Form of Subscription Agreement between the Company and various investors
in the March 97 Offering (11)
10.40 Form of Warrant issued to the placement agent in the March 97 Offering
(11)
10.41 1997 Director Stock Option Plan (12)
10.42 Form of Director Stock Option Agreement (12)
10.43 Key Officer Non-Qualified Stock Option Agreement for a Corporate Officer
(12)
10.44 Key Officer Non-Qualified Stock Option Agreement for a Corporate Officer
(12)
10.45 Key Officer Non-Qualified Stock Option Agreement for a Corporate Officer
(12)
F-27
<PAGE>
10.46 Subscription Agreement between the Company and Smith Barney Fundamental
Value Fund, Inc. dated September 8, 1997 (13)
10.47 Form of Warrant dated September 10, 1997 issued to designees of the
placement agent (13)
11 Statement re Computation of Earnings [Loss] Per Share
21 Subsidiaries of the Company
23 Consent of Wolf & Company P.C., Independent Accountants
27 Financial Data Schedule for year ended December 31, 1998
- -------------
1 Filed as an exhibit to the Company's Registration Statement on Form SB-2, No.
33-60248-B, and incorporated herein by reference.
2 Filed as an exhibit to the Company's Current Report on Form 8-K dated November
29, 1993, and incorporated herein by reference.
3 Filed as an exhibit to the Company's Form 10-QSB for the period ended
September 30, 1995, and incorporated herein by reference.
4 Filed as an exhibit to the Company's Form 10-KSB for the year ended December
31, 1993, and incorporated herein by reference.
5 Filed as an exhibit to the Company's Form 10-KSB for the year ended December
31, 1994, and incorporated herein by reference.
6 Filed as an exhibit to the Company's Registration Statement on Form S-8, No.
33-80651, filed with the Commission on December 19, 1995, and incorporated
herein by reference.
7 Filed as an exhibit to the Company's Registration Statement on Form SB-2, No.
33-80033, and incorporated herein by reference.
8 Filed as an exhibit to the Company's Form 10-QSB for the period ended June 30,
1995, and incorporated herein by reference.
9 Filed as an exhibit to the Company's Form 8-K dated November 4, 1996
10 Filed as an exhibit to the Company Form 10-KSB for the year ended December
31, 1995 and incorporated herein by reference.
11 Filed as an exhibit to the Company's Registration Statement on Form S-3, No.
333-26911, filed with the Commission on May 12, 1997, and incorporated herein by
reference.
12 Filed as an exhibit to the Company's Registration Statement on Form S-8, No.
333-33243, filed with the Commission on August 8, 1997, and incorporated herein
by reference.
13 Filed as an exhibit to the Company's Form 8-K dated September 10, 1997
F-28
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934,
the Registrant has duly caused this report on Form 10-KSB to be signed on its
behalf by the undersigned, thereunto duly authorized.
FOCUS ENHANCEMENTS, INC.
By: /s/ Thomas L. Massie
A Corporate Officer
President, Chief Executive Officer
and Chairman of the Board
In accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the Registrant and in the capacities and on the
dates indicated.
Signature Title Date --------- ----- ----
/s/ Thomas L. Massie
President, CEA & Chairman of the Board
April 15, 1999
A Corporate Officer
/s/ Gary M. Cebula
Vice President of Finance & Administration
(Principal Accounting Officer)
April 15, 1999
Gary M. Cebula
________________________
Director
April 15, 1999
John C. Cavalier
/s/ William B. Coldrick
Director
April 15, 1999
William B. Coldrick
/s/ Timothy E. Mahoney
Director
April 15, 1999
Timothy E. Mahoney
________________________
Director
April 15, 1999
Robert C. Eimers
EXHIBIT 11
<TABLE>
<CAPTION>
FOCUS ENHANCEMENTS, INC.
STATEMENT OF COMPUTATION OF LOSS PER SHARE
December 31,
------------------------------
1998 1997
---- ----
<S> <C> <C>
Net loss $ (12,787,324) $(1,986,079)
============== ============
Basic:
Weighted average number of common shares outstanding 16,336,872 12,727,934
============== ============
Diluted:
Weighted average number of common shares outstanding 16,336,872 12,727,934
Weighted average common equivalent shares -- --
============== ============
Weighted average number of common
shares outstanding used to calculate per share data 16,336,872 12,727,934
============== ============
Loss per share
Basic $ (.78) $ (.16)
Diluted $ (.78) $ (.16)
</TABLE>
EXHIBIT 21
SUBSIDIARIES
The following is a list of subsidiaries of Focus Enhancements, Inc.:
Name State of Incorporation
Lapis, Inc California
TView, Inc. Oregon
PC Video Conversion, Inc. Delaware
EXHIBIT 23
CONSENT OF INDEPENDENT ACCOUNTANTS
We consent to the incorporation by reference in the registration statements of
FOCUS Enhancements, Inc. on Form S-8 (Nos. 33-80498, 33-80651 and 333-33243) and
on Form S-3 (Nos. 33-80033, 333-26911, 333-43285, 333-49467 and 333-57923) of
our report, dated April 9, 1999 on the consolidated financial statements of
FOCUS Enhancements, Inc. as of December 31, 1998 and 1997 and for the years then
ended, which report is included in this Annual Report on Form 10-KSB.
/s/ WOLF & COMPANY, P.C.
WOLF & COMPANY, P.C.
Boston, Massachusetts
April 9, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> DEC-31-1998
<CASH> 1,128,381
<SECURITIES> 248,983
<RECEIVABLES> 3,203,126
<ALLOWANCES> 649,987
<INVENTORY> 5,948,624
<CURRENT-ASSETS> 10,349,285
<PP&E> 1,667,098
<DEPRECIATION> (394,621)
<TOTAL-ASSETS> 12,736,933
<CURRENT-LIABILITIES> 8,914,492
<BONDS> 860,357
0
0
<COMMON> 180,051
<OTHER-SE> 2,697,821
<TOTAL-LIABILITY-AND-EQUITY> 12,736,933
<SALES> 18,440,226
<TOTAL-REVENUES> 18,440,226
<CGS> 15,410,912
<TOTAL-COSTS> 15,320,251
<OTHER-EXPENSES> (100,074)
<LOSS-PROVISION> 346,017
<INTEREST-EXPENSE> 225,802
<INCOME-PRETAX> (12,762,683)
<INCOME-TAX> 24,641
<INCOME-CONTINUING> (12,787,324)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (12,787,324)
<EPS-PRIMARY> (0.78)
<EPS-DILUTED> (0.78)
</TABLE>
