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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 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 0-21168
CHROMATICS COLOR SCIENCES INTERNATIONAL, INC
--------------------------------------------
(Exact Name of Registrant as Specified in Its Charter)
NEW YORK 13-3253392
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(State or Other Jurisdiction of (I.R.S. Employer Indentification
Identification or Organization) Number)
5 East 80th Street, New York, New York 10021
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(Address of principal executive offices)
(212) 717-6562
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(Registrant's Telephone Number, Including Area Code)
- --------------------------------------------------------------------------------
(Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report)
Indicate by check whether the registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes /X/ No / /
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS:
Indicate by check whether the registrant has filed all documents and reports
required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act
of 1934 subsequent to the distribution of securities under a plan confirmed by
court. Yes / / No / / N/A
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the registrant's classes
of common stock, as of the latest practicable date: 15,423,442.
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PART I -- FINANCIAL INFORMATION
Item 1. Financial Statements
CHROMATICS COLOR SCIENCES INTERNATIONAL, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
September 30, 1998 December 31, 1997
------------------ -----------------
(unaudited) (Note 1)
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and equivalents $6,267,700 $9,225,400
Accounts receivable 92,400 92,400
Inventories 148,300 148,100
Prepaid expenses and other assets 65,500 76,400
---------- -----------
Total Current Assets 6,573,900 9,542,300
COLORMATE (R) UNITS 1,546,500 715,700
PROPERTY AND EQUIPMENT, NET 314,400 344,900
SOFTWARE DEVELOPMENT COSTS 394,100 124,200
PATENT COSTS 343,000 --
OTHER ASSETS 16,900 25,500
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$9,188,800 $10,752,600
========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Notes payable - collateralized by equipment $ 1,000 $ 4,700
Amounts payable to related party 312,300 293,200
Accounts payable and accrued expenses:
Attorneys and accountants 559,400 361,900
Consultants 43,700 54,900
Trade 107,500 127,800
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Total Current Liabilities 1,023,900 842,500
---------- -----------
COMMITMENTS AND CONTINGENCIES
REDEEMABLE CLASS A PREFERRED STOCK,
PAR VALUE $.01 PER SHARE:
Authorized - 1,400,000 shares
Issued and outstanding - 1,380,000 shares
at par and redemption value 13,800 13,800
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SHAREHOLDERS' EQUITY:
Undesignated Class B Preferred Stock, No Par Value
Authorized - 10,000,000 shares
Issued and outstanding - None -- --
Common Stock, par value $.001 per share:
Authorized - 50,000,000 shares
Issued and outstanding - 15,423,442 (1998) and
13,814,859 (1997) shares 15,400 13,800
Capital in excess of par value 28,001,200 24,370,900
Accumulated deficit (19,865,500) (14,488,400)
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Total Shareholders' Equity 8,151,100 9,896,300
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$ 9,188,800 $ 10,752,600
============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
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CHROMATICS COLOR SCIENCES INTERNATIONAL, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------------------------------------------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Revenues:
Lease, license and service contracts $ 45,000 $ 9,000 $ 45,000 $ 10,500
Interest income 88,000 42,900 312,800 148,500
Other 1,200 200 1,400 1,000
----------- ---------- ----------- ------------
134,200 52,100 359,200 160,000
----------- ---------- ----------- ------------
COSTS AND EXPENSES:
Medical regulatory expenses 202,100 213,000 1,032,500 1,022,100
Patent application costs 59,000 176,900 186,300 459,000
Research and development costs 160,600 183,800 520,500 301,200
Cost relating to options granted to consultants 197,400 -- 615,400 --
Sales, marketing and trade show costs 265,600 -- 443,100 --
General and administrative:
Compensation - officers and employees 154,600 182,600 571,400 530,900
Consultants 71,500 43,200 193,500 138,200
Legal fees 401,800 47,300 730,000 203,100
Accounting fees 7,500 9,500 39,800 31,100
Rent and storage 72,200 49,800 192,300 152,400
Insurance 57,300 51,600 136,700 163,900
Travel and entertainment 19,600 13,600 74,700 17,600
Repairs and maintenance 38,500 31,500 64,000 89,800
Depreciation and amortization 28,500 26,600 103,000 79,200
Payroll taxes 10,500 16,800 45,400 70,400
Stock administrative fees 6,900 13,900 58,300 38,700
Interest 7,200 6,700 20,500 20,300
Employee benefit plan 24,300 -- 131,500 --
Public relations and promotions 195,200 30,300 422,900 48,200
Other 59,700 54,700 154,500 156,300
------------ ------------ ------------ ------------
2,040,000 1,151,800 5,736,300 3,522,400
------------ ------------ ------------ ------------
NET LOSS $ (1,905,800) $ (1,099,700) $ (5,377,100) $ (3,362,400)
============ ============ ============ ============
WEIGHTED AVERAGE NUMBER OF 15,315,530 1,369,230 14,815,017 11,218,407
COMMON SHARES OUTSTANDING ============ ============ ============ ============
BASIC AND DILUTED LOSS PER SHARE $ (0.12) $ (0.10) $ (0.36) $ (0.30)
============ ============ ============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
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CHROMATICS COLOR SCIENCES INTERNATIONAL, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIENCY)
(UNAUDITED)
<TABLE>
<CAPTION>
Common Stock
------------------------------------
Number of Capital in Excess Accumulated
Shares Outstanding Par Value of Par Value Deficit
------------------ --------- ----------------- -----------
<S> <C> <C> <C> <C>
Balances, December 31, 1997 13,814,859 $ 13,800 $ 24,370,900 $ (14,488,400)
Nine Months Ended September 30, 1998:
Net loss -- -- -- (5,377,100)
Exercise of stock options and warrants 1,608,583 1,600 3,014,900 --
Cost relating to options
granted to consultants -- -- 615,400 --
---------- --------- ------------- ------------
Balances, September 30, 1998 15,423,442 $ 15,400 $ 28,001,200 $(19,865,500)
========== ========== ============= ============
</TABLE>
See accompanying notes to consolidated financial statements.
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CHROMATICS COLOR SCIENCES INTERNATIONAL, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
Nine Months Ended September 30,
-------------------------------
1998 1997
------------ -------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(5,377,100) $ (3,362,400)
Adjustments to reconcile net loss to net
cash flows from operating activities:
Depreciation and amortization 103,000 79,400
Cost relating to options granted to consultants 615,400 --
Changes in operating assets and liabilities:
Accounts receivable -- (5,000)
Inventories (200) 100
Prepaid expenses and other current assets 10,900 (8,500)
Other assets 8,600 (7,500)
Accounts payable and accrued expenses 166,000 72,200
------------ ------------
Net cash flows from operating activities (4,473,400) (3,231,700)
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Software development costs (269,900) --
Capitalized patent costs (343,000) --
Purchases of property and equipment (72,500) (88,600)
Purchase of Colormate(R) Units (830,800) --
----------- ------------
Net cash flows from investing activities (1,516,200) (88,600)
----------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock net of related costs 3,016,500 1,934,300
Proceeds (payments) of amounts payable to related party 19,100 (26,400)
Payments of notes payable (3,700) (3,900)
----------- ------------
Net cash flows from financing activities 3,031,900 1,904,000
----------- ------------
NET CHANGE IN CASH AND EQUIVALENTS (2,957,700) (1,416,300)
CASH AND EQUIVALENTS, BEGINNING OF PERIOD 9,225,400 5,352,400
----------- ------------
CASH AND EQUIVALENTS, END OF PERIOD $ 6,267,700 $ 3,936,100
=========== ============
SUPPLEMENTAL CASH FLOW INFORMATION
Interest Paid $ 1,400 $ 17,100
=========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
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CHROMATICS COLOR SCIENCES INTERNATIONAL, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 -- Basis of Presentation:
Nature of Report -- The consolidated balance sheet at the end of the preceding
fiscal year has been derived from the audited consolidated balance sheet
contained in the Company's Form 10-K for the fiscal year ended December 31,
1997 and is presented for comparative purposes. All other financial statements
are unaudited. In the opinion of management, all adjustments, which include
only normal recurring adjustments necessary to present fairly the financial
position, results of operations and changes in cash flows, for all periods
presented have been made. The results of operations for interim periods are
not necessarily indicative of the operating results for the full year.
Footnotes -- Certain footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been omitted in accordance with the published rules and
regulations of the Securities and Exchange Commission. These consolidated
financial statements should be read in conjunction with the financial
statements and notes thereto included in the Company's Form 10-K for the
fiscal year ended December 31, 1997.
Estimates and Uncertainties -- The preparation of financial statements in
conformity with generally accepted accounting principles requires management
to make estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results, as determined at a later
date, could differ from those estimates.
Principles of Consolidation -- The consolidated financial statements include
the accounts of the Company and its wholly-owned subsidiary. All significant
intercompany accounts and transactions have been eliminated in consolidation.
Patent Application Costs -- Patent application costs had been expensed
previously because the Company was unable to determine the future
recoverability of such costs. In the first quarter of 1998, the Company was
able to determine future recoverability of such costs, due to marketing plans
and potential business proposals. Accordingly, the Company has begun
capitalizing certain patent application costs, commencing January 1, 1998, and
will amortize the costs over the remaining patent lives, generally 10 to 15
years. The Company will assess the continuing carrying value of these assets
when events and circumstances warrant.
Note 2 -- Commitments and Contingencies:
Business Risks -- The Company's business encompasses all of the risks inherent
in the establishment of a new business enterprise, including a limited
operating history with significant competition possessing substantially
greater resources. Current and future operations also depend upon the
continued employment of certain key executives, the ability to further
commercialize its proprietary technology and products and the Company's
ability to obtain adequate revenues and/or outside financing.
Operating Difficulties -- Since 1989, the Company has incurred losses from
operations and net cash outflows from operations, and has owned Colormate (R)
System units since June 1991 whose ultimate recoverability depends upon the
Company's future marketing success. The Company expects to license its patents
and proprietary technology, rent or sell its equipment and market its related
services and products to ultimately overcome these difficulties. In the event
the Colormate (R) System units and related proprietary technology are not
successfully leased/licensed and/or the products are not successfully marketed
in the future, the principal effect may be a substantial write-down of the book
value of such units and continued significant operating losses.
On July 30, 1997, the Company was granted clearance by the FDA for commercial
marketing of the colormate (R) BiliTest (TM) Bilirubin Device for the
non-invasive detection and monitoring of bilirubin infant jaundice in newborns
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by health care professionals in hospitals, pediatricians' offices or by home
healthcare agencies. Since that date, the Company has had discussions with
several companies interested in distributing the Colormate (R) Bilirubin Device
and is currently negotiating with certain of these companies to reach a
definitive agreement. It is not possible at the present time to determine the
impact of this development on future cash flows.
The Company anticipates incurring significant additional expenditures related to
manufacturing expenses, parts order, insurance, regulatory compliance and
staffing and marketing expenses for the sales division as production and
distribution commences over the next two quarters. Management expects that
taking into account existing resources, anticipated revenues from future sales
of the Colormate (R) units, anticipated payments received under any future
distribution agreements and/or the proceeds of any additional financing, the
Company will have sufficient liquidity at least until October 1999, although
there can be no assurance of such result.
If the Company is able to profitably market its TLcoBiliTest(TM) medical device,
Intellectual Properties, Colormate (R) units, new cosmetics line and products,
the Company would use any cash flow obtained from operations, and may seek
additional debt or equity financing, to further support and expand its
operations. The Company's(R) System units for all applications will be marketed
interchangeably, as the only difference between the different models are design,
power supply improvements and software systems. There can be no assurance that
the Company will not require additional funding. If the Company is not able to
attract additional future financing, enter into distribution agreements
generating such payments, generate significant revenue from operations and/or
successfully market its products and technologies, at such point in time, it may
have to significantly curtail and/or cease operations.
Legal Proceedings -- The Company and certain of its officers and directors
were sued in three separate class actions ("Actions") brought in United States
District Court, Southern District of New York. Two of the actions were brought
in June 1998 and are entitled (i) L.F. Monk v. Chromatics Color Sciences
International, Inc., Darby S. Macfarlane, Arthur Guiry, David K. Macfarlane
and Leslie Foglesong and (ii) Daniel R. Marquis, on behalf of himself and all
others similarly situated v. Chromatics Color Sciences International, Inc.,
Darby S. Macfarlane, Arthur Guiry and Leslie Foglesong. The third action was
brought in August 1998, and is entitled Grunberg v. Chromatics Color Sciences
International, Inc., Darby S. Macfarlane, Arthur Guiry, David Kenneth
Macfarlane and Leslie Foglesong. Based on the Asensio Report discussed under
"Recent Events" below, the plaintiffs in the Actions, on behalf of a class of
the Company's stockholders, claim unspecified damages arising from alleged
violations of the anti-fraud provisions of the federal securities laws,
relating to (i) the alleged misleading nature of prior public disclosures and
announcements made by the Company and (ii) sales of company stock by the
individual defendants allegedly while in possession of material adverse
non-public information regarding the Company's financial condition, prospects
and the capabilities and potential market for the Company's Colormate(R)
TLcoBiliTest(TM) Bilirubin Device. A motion has been made to consolidate the
two actions brought in June 1998 and to approve a group of shareholders as
lead plaintiffs and to approve the selection by the group of lead counsel.
Additional actions may be brought against the Company and its officers and
directors arising from the matters described above. The Company has directors
and officers insurance which may cover a portion of the liability asserted in
the Actions. The Company believes the Actions are without merit and intends to
defend the Actions vigorously. No assurance can be given that the resolution
of the Actions and/or future actions will not have a material adverse effect
on the Company's results of operations and liquidity.
Note 3 -- Colormate Units
Colormate(R) Systems -- In connection with a license with Avon Products, Inc.
("Avon"), Avon paid approximately $4,600,000 to purchase color measurement
instruments and related equipment for its use during the term of the license
period. Due to missing and damaged units, Avon and the Company executed mutual
releases at the termination of the lease on June 24, 1991, with the principal
effect that the Company received 1,947 units of
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which 1,400 were useable and not in need of significant repair. For accounting
purposes, the $700,000 estimated fair value of the nonproprietary equipment
(based upon an independent appraisal of the complete units with allowances for
the lack of a verifiable used equipment market, varying usage, the need for
refurbishment and similar factors) was recorded as an asset. The 1,700 useable
units of nonproprietary equipment were received in the form of (i) 1,400
complete units valued at $500 per unit and (ii) 300 complete units in need of
significant repair that were assigned zero value. No valuation of the
proprietary portion of the units or of the additional 247 unusable units
returned by Avon was performed.
Following the FDA marketing clearance in 1997, the Company has decided to use
certain components from the existing Colormate(R) units for use in the Colormate
(R) Bilirubin Device. The costs will be expensed as incurred, remaining
components will not be valued and the cost currently assigned to the existing
Colormate (R) units ($500 per unit) will be assigned to the Colormate (R)
Bilirubin Device, as the current replacement cost of these
components exceeds the book value of the Colormate (R) units.
In connection with the Company's efforts to distribute the Colormate (R) TLc o
BiliTest (TM) Bilirubin Device and in anticipation of entering into the
manufacturing agreement, the Company commenced purchasing equipment and
component parts in the second quarter of 1998 (approximately $830,800 in the
aggregate for the nine months ended September 30, 1998). At this time, the
Company is uncertain as to whether it will sell or lease such equipment to
customers; accordingly, the cost of such items, as well as units previously
obtained from Avon Products, Inc. in connection with a prior license agreement,
has been classified as a non-current asset in the accompanying consolidated
balance sheets.
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
The following is intended to update the information
contained in the Company's Form 10-K for the year ended December 31, 1997 (the
"Form 10-K") and presumes that readers have access to, and will have read,
Management's Discussion and Analysis contained in the Form 10-K.
EXCEPT FOR THE HISTORICAL INFORMATION CONTAINED HEREIN, THIS
QUARTERLY REPORT ON FORM 10-Q CONTAINS CERTAIN FORWARD-LOOKING STATEMENTS
WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES ACT OF 1933 AND SECTION
21E OF THE SECURITIES EXCHANGE ACT OF 1934. WHEN USED IN THIS REPORT, THE
WORDS "BELIEVE," "ANTICIPATE," "THINK," "INTEND," "PLAN," "WILL BE," "EXPECT"
AND SIMILAR EXPRESSIONS IDENTIFY SUCH FORWARD-LOOKING STATEMENTS. SUCH
STATEMENTS REGARDING FUTURE EVENTS AND/OR THE FUTURE FINANCIAL PERFORMANCE OF
THE COMPANY ARE SUBJECT TO CERTAIN RISKS AND UNCERTAINTIES, INCLUDING THOSE
DISCUSSED IN "RISK FACTORS" BELOW AT PAGES 15 TO 29, WHICH COULD CAUSE ACTUAL
EVENTS OR THE ACTUAL FUTURE RESULTS OF THE COMPANY TO DIFFER MATERIALLY FROM
ANY FORWARD-LOOKING STATEMENT. SUCH RISKS AND UNCERTAINTIES INCLUDE, AMONG
OTHER THINGS, THE AVAILABILITY OF ANY NEEDED FINANCING, THE COMPANY'S ABILITY
TO IMPLEMENT ITS BUSINESS PLAN FOR VARIOUS APPLICATIONS OF ITS TECHNOLOGIES,
INCLUDING MEDICAL AND INDUSTRIAL APPLICATIONS, THE COMPANY'S ABILITY TO ENTER
INTO AGREEMENTS WITH MANUFACTURING, MARKETING AND DISTRIBUTION PARTNERS, THE
OBTAINING AND MAINTAINING OF AND COMPLIANCE WITH REGULATORY APPROVALS OR
CLEARANCES APPLICABLE TO APPLICATIONS OF THE COMPANY'S TECHNOLOGY, THE IMPACT
OF COMPETITION, THE MANAGEMENT OF GROWTH, AND OTHER RISKS AND UNCERTAINTIES
THAT MAY BE DETAILED FROM TIME TO TIME IN THE COMPANY'S REPORTS FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. IN LIGHT OF THE SIGNIFICANT RISKS AND
UNCERTAINTIES INHERENT IN THE FORWARD-LOOKING STATEMENTS INCLUDED HEREIN, THE
INCLUSION OF SUCH STATEMENTS SHOULD NOT BE REGARDED AS A
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REPRESENTATION BY THE COMPANY OR ANY OTHER PERSON THAT THE OBJECTIVES AND
PLANS OF THE COMPANY WILL BE ACHIEVED.
Overview
Chromatics Color Sciences International, Inc., (the
"Company") was formed in 1984 to research and develop and to commercialize
certain intellectual property rights, proprietary technology and instrumentation
in the field of color science (collectively, the "Intellectual Properties") for
marketing to a variety of industries, including, but not limited to, the
medical, dental, biological, cosmetic, hair color, beauty-aid and fashion
industries. The Intellectual Properties relate to the application of color
science technology to the scientific measurement and analysis of human skin,
tissue, fluid, hair, teeth or biological subject, the classification of such
measurements, the detection and monitoring of conditions affecting the
coloration of such human skin, tissue, fluid, hair, teeth or biological subjects
and the scientific classification and color-oriented organization of various
consumer-sensitive products such as cosmetics, tooth enamel, hair color,
hosiery, fashion, textiles, etc. The Company has incorporated certain of the
Intellectual Properties into a proprietary color measurement system and software
marketed for various commercial applications as the Colormate (R) System (the
"Colormate (R) System"). The Company has developed Intellectual Properties which
it believes are capable of detecting and monitoring certain chromogenic diseases
and disorders, which are defined by the Company as those which are diagnosed or
monitored by the coloration of human skin, tissue or fluid being affected
("Chromogenic Diseases"). In this regard, the Company developed a Colormate (R)
TLco BiliTest (TM) device to measure the incremental change of the yellow
content of the skin color in newborns to monitor bilirubin infant jaundice. On
July 30, 1997, the Company received U.S. Food and Drug Administration ("FDA")
clearance for commercial marketing of the Colormate (R) TLc o BiliTest (TM)
device for the non-invasive monitoring of bilirubin infant jaundice in newborns
by health care professionals in hospitals, pediatricians' offices or by home
healthcare agencies (the "Colormate (R) TLc oBiliTest (TM) Bilirubin Device" or
the "o (R) TLc BiliTest (TM)"). The Company's efforts are currently focused on
seeking to commercialize this medical application of its Intellectual Properties
for non-invasive detection and monitoring of bilirubin infant jaundice. See
"Risk Factors."
The Company also has developed its own line of
scientifically color coordinated proprietary cosmetics ("My Colors by
Chromatics(TM)") and scientifically color coordinated proprietary color charts
and material swatchpacks for use in the cosmetics, beauty, dental and fashion
industries. The Company's (R) System products, cosmetic line and material
swatchpacks for the cosmetic, beauty and fashion industries are referred to
herein collectively as the "Beauty-Aid Products."
The Company's marketing activities have principally involved
licensing the Intellectual Properties, including conducting laboratory product
chromaticity studies ("Chromaticity Studies"), leasing the Colormate (R) System
and marketing the Beauty-Aid Products, all in the cosmetic, hair color, beauty
aid and fashion industries (i) in a national sales program (the "Avon Project")
with Avon Products, Inc. ("Avon"), and in limited test markets with Clairol,
Inc. ("Clairol") and Hanes Hosiery, Inc. ("Hanes"), all conducted prior to June
1991, and (ii) under a current agreement with Gordon Laboratories, Inc. ("Gordon
Laboratories") and under certain leases and licenses to beauty-related
businesses and beauty salons. Although the Company from time to time has been
engaged in preliminary discussions (including limited consumer testing and
laboratory Chromaticity Study activities) for use of its technology in the
cosmetics, dental and beauty aid fields, there can be no assurance that any
final agreements will be reached. In this regard, the Company has completed
research and development for the working prototype of a hand-held less expensive
light-emitting diode ("LED") model of the Colormate (R) System (the "Colormate
(R) LED Device") which the Company anticipates may enhance its marketing efforts
in these fields.
In 1997, the Company furthered implementation of its
long-range plans to exploit certain medical applications for its technology. In
this regard, the Company submitted a marketing application for its Colormate (R)
unit for a certain medical application with the FDA on November 14, 1996. The
application,
9
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known as a premarket notification or 510(k) submission, was accepted officially
for filing and review by the FDA on November 18, 1996. The application
requested, and on July 30, 1997, the Company received from the FDA's Center for
Devices and Radiological Health ("CDRH"), marketing clearance pursuant to a
"substantial equivalence" determination order, in the form of a letter dated
July 24, 1997, authorizing the Company to commercially distribute its Colormate
(R) Bilirubin Device for non-invasive detection and monitoring of bilirubin
infant jaundice in newborns by healthcare professionals. The "substantial
equivalence" order states that the Company must comply with the medical device
"general controls," e.g., device establishment registration, medical device
listing, good manufacturing practices quality system regulations ("QSR"),
labeling, and the statutory prohibitions against adulteration and misbranding.
The order also states that the Colormate (R) device is a Class II device which
may be subject to additional "special controls." The Company and its consultants
have prepared the necessary procedures and documentation in furtherance of
complying with such QSR regulatory requirements and obtaining ISO 9000
certification. The Company intends to maintain compliance with any applicable
"general controls" and "special controls" for purposes of commercial
distribution but there can be no assurance it will be able to do so. See "Risk
Factors."
Since inception the Company has financed its operations
through (i) private placements of its securities, (ii) collaborative research
and development arrangements with licensees, (iii) cash receipts from lease and
licensing agreements, (iv) loans from private investors and certain
shareholders, (v) the February 1993 initial public offering (the "IPO") and (vi)
the proceeds of exercise of stock options and warrants. Over the past two years,
the Company has used substantial portions of the proceeds of such exercise, and
proceeds from the private placement in 1995 and 1996 of its securities, to
further its long-range business plan with respect to the medical application of
its technologies and for the development of the Colormate (R) units, including a
transcutaneous bilirubinometer.
The Company has incurred significant research and
development and marketing expenses since inception, resulting in losses from
operations since 1990 and, prior to its IPO, negative shareholders' equity. In
particular, over the past two years, the Company has incurred significant FDA
related expenses, research and development expenses and marketing start-up
expenses relating to the Colormate (R) TLc o BiliTest (TM) Bilirubin Device. The
Company also has not achieved significant operating revenues from marketing its
Intellectual Properties, Beauty-Aid Products and Colormate (R) units in the
cosmetic and beauty aid industries since termination of the Avon Project in
1991, and has never generated any revenue from licensing its Intellectual
Properties or the Colormate (R) System in any industry other than the cosmetics,
haircolor, beauty aid and fashion industries. See Note 1 of Notes to Financial
Statements and "Risk Factors."
Since 1990 limited revenues have been derived from licenses,
leases, service contracts and Beauty-Aid Product sales to several
beauty-related businesses, testing and laboratory fees from potential licensees
evaluating the Company's technology, and from an exclusive licensing and lease
contract with IMS Cosmetics, Inc. ("IMS"). In 1997 and the first three quarters
of 1998, the Company did not generate any lease, license and service contract
revenues from IMS. To the extent the Company receives payments from licensees,
distributors or other sources, such payments may occur at various times during
the year. Accordingly, these payments have had, and payments that may be
received in the future will have, a significant impact on quarter-to-quarter
comparisons inasmuch as the Company has not developed stable sources of repeat
revenues. From December 31, 1990 until the IPO, the Company had been primarily
engaged in (a) pursuing the Company's litigation against Avon, (b) developing
and testing further applications of the Intellectual Properties and Colormate(R)
units, such as the clinical research studies for medical applications, and (c)
obtaining additional financing to support marketing of the Company's
Intellectual Properties, systems, Beauty-Aid Products and related services.
The Company's ability to generate revenues in the future
will depend on its success in marketing its Intellectual Properties, the related
Chromaticity Studies capabilities, the Colormate (R) TLc o BiliTest (TM)
Bilirubin Device, the Colormate (R) units and the Beauty-Aid Products. In
addition, the Company's future ability to generate revenues from its
technologies and its Colormate (R) units will depend on, among other things, the
Company's ability to establish marketing, distribution and manufacturing
arrangements with
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third parties. If these efforts are not successful in the future, the principal
effect would be a write-down of the book value of the Colormate (R) units and an
impairment of the Company's ability to obtain future financing, which could
result in diminution in the value of an investment in the Company. There can be
no assurance the Company will be able to establish such arrangements, timely
place such units or identify alternative markets. See "Risk Factors."
Recent Events
The Company experienced a series of significant developments
during the first nine months of 1998, summaries of which are provided below.
See also "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and "Risk Factors" for additional information.
On November 3, 1998, the Company executed a renewable
four-year medical device manufacturing agreement under which the contract
manufacturer is the exclusive manufacturer/assembler and packager of two
models of the Company's instrument for noninvasive monitoring of bilirubin
infant jaundice for distribution in the United States (subject to limited
volume exceptions with respect to one model of the instrument). The
manufacturer also has a right of first refusal to match third-party bids to
manufacture/assemble and package a third model of such instrument and a
further right of first refusal to match third-party bids to
manufacture/assemble and package the two models referenced above for
distribution outside the United States. In this regard, subject to any failure
of the manufacturer to exercise its right of first refusal to match
third-party bids (thus permitting the Company to use other manufacturers), the
manufacturer is the Company's sole source of supply for the instrument. Under
the agreement, the Company is responsible for providing to the manufacturer,
for assembly, certain component parts.
On September 1, 1998, the Company entered into a lease and
license agreement with Nordstrom, Inc. ("Nordstrom") granting Nordstrom a
license to use the Colormate (R) System to formulate and recommend Nordstrom's
"C2O Color to Order" line of proprietary cosmetic products in four Nordstrom
flagship department stores. The products will be introduced and evaluated over a
three month period for potential extended use, including additional store
locations. In connection with this license agreement, the Company is
collaborating with a consultant to provide training, marketing, sales,
promotional and liaison services (including assisting in development of all
applicable non-color product formulas, manuals, promotional materials and
training aids) at each of the four Nordstrom's stores.
During the first and second quarters of 1998, a significant
"short position" built up in the Company's publicly traded common stock. In
June 1998, a series of negative, and what the Company believes to be false,
press reports were issued by Asensio and Company, Inc. ("Asensio") (a
short-seller which publicly admitted it held a 300,000 share short position in
the Company's stock) amid increased trading volume and short-selling activity
in the Company's stock. The Company publicly responded to these reports,
denying Asensio's allegations and providing additional support for the
Company's prior public statements. The public trading price of the Company's
stock decreased from 12 1/4 to 4 1/2 in the two days immediately following
Asensio's reports (and decreased from a high of 17 5/8 on May 4, 1998 before
such reports and increased trading activity, to 3 3/4 on June 30, 1998 and to
a low of 2 15/16 on September 1, 1998). Following the release of the Asensio
reports, the Company and certain of its officers were sued in federal class
actions alleging violations of the securities laws based on Asensio's
allegations. The Company believes the suits are without merit and intends to
defend them vigorously. The Company is also exploring all of its legal
remedies against those persons it believes have unlawfully harmed the Company.
See "Risk Factors" and "Legal Proceedings."
As a result of these recent actions and in order to assist
the Company in connection with certain related investor relations and public
relations matters, the Company retained Rubenstein Associates, Inc., in
addition to the existing public relations services provided by Hill &
Knowlton.
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Although the Company has been in ongoing negotiations to
reach a definitive agreement for global distribution of the Colormate (R)
TLcoBiliTest(TM), the Company has experienced delays in concluding these
negotiations in order to provide additional due diligence and supporting
materials requested, as a result of the recent flurry of press reports and legal
activity surrounding the Asensio allegations. The Company's board of directors,
executives, financial consultants and legal advisors intend to evaluate the
distribution proposals, accommodate due diligence requests and review applicable
legal documentation.
In response to the interest generated for the Corlormate(R)
TLc BiliTest (TM) at the Company's exhibitions to the medical community, the
Company recently opened a medical marketing, sales and distribution support
division in Connecticut. The Company has entered into an office lease for this
division and has hired Sheila Kempf as Vice President of this medical division,
in addition to two regulatory personnel, two registered nurses, administrative
staff and is in the process of seeking to hire national sales managers for this
division. Ms. Kempf is a former Vice President - Marketing of Corometrics, a
Marquette Medical Inc. company, and a former director of Marketing for Sensors
and accessories of Nelcor Puritan Bennet, Inc. and has extensive experience for
over 13 years in the medical marketing field. Ms. Kempf holds a bachelor of
science nursing degree from Villanova University and a masters degree from
Columbia University. The newly formed division will initially provide support
for the Colormate (R) TLc o BiliTest (TM) TLcoBiliTest(TM) delivered to
customers in the medical community, including hospitals, pediatricians, clinics
and home health care agencies, and will perform delivery, training and
in-servicing for customers initially generated by the Company's presentations to
the medical community.
The Company thus far in 1998 has presented the Colormate (R)
TLc o BiliTest (TM) at the Pediatric Academic Society (New Orleans), Sinomed
(China), International Congress of Pediatrics (Amsterdam), the National
Association of Neonatal Nurses (Cincinnati), the American Academy of
Pediatrics (San Francisco) and at the 5th Annual Pediatric Critical Care
Medicine Conference (China). The Company's medical division will additionally
be available to provide the training, technical and marketing support
anticipated in the transition period expected when the Company enters into any
contracts with potential global distributors, oversee the setup of the new
offices to be opened in Beijing China (for which 2 employees have been hired,
as discussed below), coordinate the business relationships with the Ministry
of Health in China and develop the marketing plans for the home health care
markets for the Colormate (R) TLc BiliTest (TM) worldwide.
In support of its marketing efforts to the medical
community, the Company began independent multi-center studies of the Colormate
(R) TLc o BiliTest (TM) Bilirubin Device. These studies were successfully
completed at William Beaumont Hospital (Detroit) and Parkland Hospital
(Dallas) and showed a high correlation between the results of the Company's
technology and standard blood serum testing.
In October 1998, the Company initiated clinical trials of
the Colormate (R) TLcoBiliTest(TM) at the Beijing OB GYN Hospital in China. The
Company has hired two employees in South Africa and in November 1998 initiated
clinical trials of the Colormate(R) TLcoBiliTest(TM) in monitoring bilirubinemia
at King Edward Hospital in Durban. In addition, in 1998 and early 1999, the
Company anticipates commencing multicenter studies of the Colormate (R) TLc o
BiliTest(TM) in monitoring bilirubinemia in a number of hospitals located in the
United States, England, Israel, Brazil and Argentina, although there can be no
assurance of the exact timing of implementation at each hospital. These studies,
as well as those to be conducted in South Africa and Beijing, are being
coordinated by Dr. Jeffrey Maisels pursuant to international testing protocols
developed by Dr. Maisels.
In connection with the Company's efforts to distribute the
Colormate (R) TLc o BiliTest (TM) Bilirubin Device and in anticipation of
entering into the manufacturing agreement, the Company commenced purchasing
equipment and component parts in the second quarter of 1998 (approximately
$830,800 in the aggregate for the nine months ended September 30, 1998).
All of these medical marketing, manufacturing and support
activities were contemplated by the Company for distribution of the Colormate
(R) TLc o BiliTest (TM), to ensure that no time was lost in the regulatory,
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technical, manufacturing, sales and training transition following the Company
entering into agreements with distribution partners to distribute the
Colormate (R) TLc o BiliTest (TM) . There can be no assurance the Company will
be able to successfully conclude negotiations or enter into definitive
distribution agreements or that its efforts to market the Colormate (R)
TLcoBiliTest(TM) will be successful.
In July 1998 following internal review board approval from
Mt. Sinai, Dr. Mark Lebwohl, chairman of the Department of Dermatology at Mt.
Sinai, commenced clinical trials of the Colormate (R) non-invasive medical
technology for dermatological use in determining the appropriate levels of
phototherapy to treat various skin diseases, and patient tolerance for such
levels of phototherapy by quantifying the amount of pigmentation and hence,
photo-sensitivity in the skin of patients. This potential dermatological
application of the Company's proprietary technology and device would be for
patients for a variety of diseases including psoriasis, excema, cutaneous T-cell
lymphoma, vitiligo, and others. Post inflammatory hyperpigmentation also would
be a condition subject to monitoring by the Colormate (R) System. The
noninvasive measurement of the skin by the Company's Colormate (R) System will
be tested and verified against minimal erythema dose-testing including the
Fitzpatrick skin type test. The results of these studies are intended to be used
in support of future applications for FDA marketing clearance of the Company's
technology for such uses.
The Company launched the Colormate (R) TLc o BiliTest (TM)
Bilirubin Device to the Chinese medical community at the Sinomed '98
Exhibition, the 7th China International Medical Equipment and Facilities
Exhibition ("Sinomed"), held from June 9 to June 12 in Beijing, the People's
Republic of China. This exhibition was attended by over 80,000 physicians,
healthcare professionals, hospital administrators and medical equipment
manufacturers and distributors. In conjunction with Sinomed, doctors from the
Company's Medical Advisory Board conducted seminars on the technology and use
of the Colormate (R) TLc BiliTest (TM) at two hospitals in Beijing. In
connection with SINOMED, the Company signed a Memorandum of Understanding
("M.O.U.") with the International Health Exchange Center, Ministry of Health
("M.O.H.") of the People's Republic of China in Beijing regarding the Company's
Colormate (R) TLc o BiliTest (TM) non-invasive newborn bilirubin detection and
monitoring device. Under the M.O.U., the M.O.H. will launch a nationwide study
and develop a plan on the most advantageous structure to implement the device's
use in the People's Republic of China, based on the results of the study. There
can be no assurance as to the timing of the actions anticipated to be taken by
M.O.H.
The Company also announced that it signed a letter of intent
with the China National Medical Equipment and Supplies, Import and Export
Corporation, M.O.H., People's Republic of China, which is interested in
supporting the distribution of the Company's device, including investigations
for acceptable price structures for marketing the Colormate(R)
TLcoBiliTest(TM) in China. There can be no assurance as to the timing of the
actions anticipated to be taken by M.O.H.
In support of any potential distribution partner and the
relationships established between the Company and the M.O.H., other officials,
physicians and the Chinese business community, the Company will continue to
support these collaborations with the People's Republic of China and in this
regard is in the process of opening an office in Beijing and has hired two
Chinese representatives of the Company to expedite the Company's potential for
manufacturing, marketing and distribution of the Colormate (R) TLc o BiliTest
(TM) in China.
The Company launched the Colormate (R) TLc o BiliTest (TM)
Bilirubin Device to the European medical community at the International
Congress of Pediatrics and the First International Congress of Pediatric
Nursing, held in Amsterdam on August 4 to August 14. The conference, held
every 4 years, is one of the largest pediatric conferences in Europe with
attendance of approximately 8,000 pediatricians, neonatologists and health
care professionals. At the conference, Dr. Ian Holzman, Chief of Newborn
Medicine at Mt. Sinai Hospital, New York, presented a paper on the results of
extensive clinical trials of the Colormate (R) TLc o BiliTest (TM) Bilirubin
Device at two hospitals in New York. Dr. Holzman's paper on the studies was
published in the September 1998 issue of Pediatrics.
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Results of Operations
The Company incurred net losses of $1,905,800 and $1,099,700
for the three month periods ended September 30, 1998 and 1997 respectively,
and $5,377,100 and $3,362,400 for the nine-month periods ended September 30,
1998 and 1997, respectively, as revenues received have not been significant
relative to the Company's expenses incurred in implementing its business plan.
Loss per share increased from $.30 to $.36 per share in the 1998 nine month
period compared to the 1997 nine month period, despite the 1998 nine month
period being favorably impacted by a significant increase of 3,596,610
weighted average number of shares outstanding attributable to the exercise of
options and warrants. The dollar increase in such losses in the 1998 three and
nine month periods as compared to the 1997 three and nine month periods is
primarily attributable to the Company continuing implementation of its
long-range business plan to seek commercial applications of its Intellectual
Properties and technologies in the medical field, including an increase in
costs and expenses regarding: consultants' compensation; expenses relating to
legal fees incurred in respect of the Company's negotiations with its medical
device manufacturer and potential distribution partners, the recent litigation
and matters related to the short selling activities in the Company's stock,
and regulatory compliance in respect of manufacturing of the Company's
Colormate (R) TLc o BiliTest (TM); sales, marketing and trade show expenses,
primarily attributable to the Company's presentations at the Annual Convention
of the Pediatric Academic Societies, the Sinomed Conference in China, the
International Congress of Pediatrics, the National Association of Neonatal
Nurses, the American Academy of Pediatrics and the 5th Annual Pediatric
Critical Care Medicine Conference in China; option grants; public relations
and promotions; and contributions to the new employee benefit plan. These
increased expenses were partially offset by a decrease in patent application
costs, as the Company has begun capitalizing certain of these expenses in
1998. See Note 1 of Notes to Financial Statements. In connection with the
Company's efforts to distribute the Colormate (R) TLc o BiliTest (TM)
Bilirubin Device and in anticipation of entering into the manufacturing
agreement, the Company commenced purchasing equipment and component parts in
the second quarter of 1998 (approximately $830,800 in the aggregate for the
nine months ended September 30, 1998).
Although the Company anticipates that the future expenses
regarding FDA application costs and related patent application costs should be
significantly less than amounts incurred prior to receipt of the FDA marketing
clearance, the Company will continue to incur significant additional costs and
expenses in connection with manufacturing, FDA manufacturing regulations and
state regulatory requirements as well as foreign market clearances. Additional
expenses are anticipated in connection with certain international multicenter
studies being conducted on the Colormate (R) TLc o BiliTest Bilirubin Device.
See "Recent Events." In addition, the Company expects to incur significant
expenses relating to manufacturing expenses, products liability insurance,
legal and regulatory compliance, including QSR/GMP quality system compliance,
as well as research and development for new potential applications, as it
implements the next phase of its efforts to commercialize the medical
application of its technology. The Company also anticipates significantly
higher compensation expenses in connection with increased hiring to staff its
medical division. See "Liquidity and Capital Resources," below. The Company
will also incur additional expenses implementing additional testing and
clinical trials of its technologies for the possible monitoring and diagnosis
of other chromogenic diseases. See "Recent Events." Further, the Company
anticipates significantly higher legal expenses in connection with its defense
of certain class action suits that have been brought against the Company and
as the Company explores all of its potential legal remedies. See "Legal
Proceedings."
In the first nine months of 1998, the Company focused its
resources on implementation of its long-range business plan for the
FDA-cleared medical applications of its technologies and received no revenues
from operations. The Company believes the absence of sales in the 1998
nine-month period was also attributable to ongoing delays in manufacturing
certain color shades of the Company's new line of cosmetic products for its
Colormate (R) System (which delays were attributable to finalizing color
formulations). The Company anticipates the new cosmetics will be ready to market
in the winter of 1998-1999 pursuant to the Nordstrom's contract, although there
can be no assurance of this.
The Company anticipates that it will continue to incur
substantial and increasing net losses for the foreseeable future as increased
expenses are incurred in implementing its long-range business plan for the
medical
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application of its technologies and as revenues from the cosmetics, beauty aid
and fashion areas are anticipated to continue to be insignificant relative to
the Company's anticipated expenses in the foreseeable future.
Liquidity and Capital Resources
Current assets decreased by $2,968,400 at September 30, 1998
as compared to December 31, 1997, primarily attributable to a decrease in cash
and cash equivalents resulting from the purchase of equipment and component
parts in respect of future manufacturing, sales, marketing and trade show
costs, legal fees and public relations and promotions.
As indicated in the Company's Statements of Cash Flows, the
Company continued to experience significant negative net cash flows from
operating and investing activities in the first nine months of 1998. The 1998
increase in cash outflows from operating activities is primarily attributable
to the increase in the Company's net loss, offset by an increase in non-cash
compensation costs to consultants. Cash flows from financing activities during
the 1998 period principally represent $3,016,500 from the issuance of Common
Stock (net of related costs) representing the receipt of proceeds from the
exercise of options and warrants.
Although the Company anticipates that penetration of the
medical marketplace will be through establishing relationships with
specialized distributors, rather than through a direct sales force, the
Company has established a medical division to support its own efforts to
initially market and distribute the Colormate TLc oBiliTest (TM) , and to
support training, technical and marketing efforts in the transition period
once the Company enters into distribution arrangements. See "Recent Events"
and "Risk Factors." Management believes that if its proposed marketing plans
for nonmedical applications of its technology are successful, then it will
generate revenues from fees from the licensing of the Intellectual Properties
and leasing of the Colormate(R) units, consulting fees, and sales of cosmetics,
although there can be no prediction or assurance as to which, or whether any, of
these potential revenue sources will be successful. In the first three quarters
of 1998, such licensing, leasing and sales yielded no revenue, primarily because
the Company devoted its resources to the commercialization of its technologies
for medical application and because the Company's new cosmetics line was not yet
available.
The Company anticipates incurring significant additional
expenditures related to manufacturing expenses, parts order, insurance,
regulatory compliance and standing and marketing expenses for the sales
division as production and distribution commences. Further, the Company
anticipates significantly higher legal expenses in connection with its defense
of certain class action suits that have been brought against the Company and as
the Company explores all of its potential legal remedies. Management expects
that taking into account existing resources, anticipated revenues from future
sales of the Colormate (R) units, anticipated payments received under any future
distribution agreements and/or the proceeds of any additional financing, the
Company will have sufficient liquidity at least until October 1999, although
there can be no assurance of such result.
If the Company is able to profitably market its Intellectual
Properties, Colormate(R) units and Beauty-Aid Products, the Company would use
any cash flow obtained from operations, and may seek additional debt or equity
financing, to further support and expand its operations. The Company's
Colormate(R) units will be marketed interchangeably as the only differences
between the different models are design and power supply improvements and
software systems. There can be no assurance that the Company will not require
additional funding. If the Company is not able to attract additional future
financing, enter into a distribution agreement generating such payments,
generate significant revenue from operations and/or successfully market its
products and technologies, at such point in time, it may have to significantly
curtail and/or cease operations.
Risk Factors
Limited Operating History. The Company has a limited
operating history upon which its prospects can be evaluated. Such prospects
must be considered in light of the substantial risks, expenses and
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difficulties encountered by entrants into the medical device industry, which is
characterized by an increasing number of participants, intense competition and a
high failure rate. Until 1986, the Company was principally engaged in research
and development relating to the Intellectual Properties, Colormate (R) units and
the Company's Beauty-Aid Products. From early 1986 through October 1987, the
Company was engaged in limited test-marketing of certain of the Intellectual
Properties and Beauty-Aid Products through its former licensees. From October
1987 until June 1991, the Company was principally engaged in the Avon Project.
Since 1991, the Company has been engaged in the research and development of its
Colormate (R) TLc o BiliTest (TM) Bilirubin Device for the monitoring of
bilirubin infant jaundice, the development of prototypes of additional versions
of the Colormate (R) unit and the refinement of its technologies for other
applications. From October 1990 to date, the Company has not conducted any
material revenue producing operations and there can be no assurance it will be
able to do so in the future. The Company's business is subject to the risks
inherent in the development of new products using new technologies and
approaches, many of which are beyond the Company's control, such as
unanticipated development, manufacturing and regulatory delays and expenses.
There can be no assurance that unforeseen problems will not develop with these
technologies or applications, that the Company will be able to successfully
address technological challenges it encounters in its research and development
program or that commercially feasible products will ultimately be developed and
marketed by the Company.
Operating Losses. The Company has incurred significant
losses from operations for the year ended December 31, 1997 and the nine
months ended September 30, 1998, ($5,053,100 and $5,377,100, respectively), as
well as in prior periods. The Company anticipates incurring increased
operating expenses as the Company attempts to expand its marketing and sales
activity and otherwise continues to implement its business plan, including its
business plan for the medical application involving the monitoring of
hyperbilirubinemia. There can be no assurance the Company will not continue to
incur such losses or will ever generate revenues at levels sufficient to
support profitable operations.
Need for Additional Financing; Cessation of Operations. The
Company has limited resources and has not been able to finance its activities
with cash flow from operations since fiscal 1989. There can be no assurance that
the Company will not continue to incur operating losses. There can be no
assurance that remaining proceeds from the previous exercise of its Placement
Agent Warrants and Warrants together with any anticipated sales revenues, future
distributor payments and/or additional financing, if any, will be sufficient to
fund operations until October 1999, that sufficient sales levels, if any, will
be achieved thereafter to fund operations or that the Company will not incur
additional unanticipated expenses. In this regard, if the Company is unable to
successfully market its Intellectual Properties, Colormate (R) units and
Beauty-Aid Products, and in particular, its Colormate (R) TLc o BiliTest (TM)
for monitoring of bilirubin infant jaundice, it is extremely doubtful it will be
able to obtain additional future financing and, at such point, may have to cease
operations. The Company's continued operation will depend on the successful
marketing of the Colormate (R), its ability to obtain significant commercial
sales of the Beauty-Aid Products and/or licensing and leasing fees from its
Intellectual Properties and the Colormate (R) units, and the availability of
future financing. The Company expects that additional financing will be required
to commercialize the Colormate (R) TLc oBiliTest (TM) and any additional medical
application of its technologies. There can be no assurance that the Company will
be able to obtain additional financing or distributor payments, such commercial
sales or fees, in which case the Company's operations would be materially
adversely affected and it may be forced to significantly curtail and/or cease
operations.
No Assurance of Successful Commercialization of Colormate
(R) TLc o BiliTest (TM) Bilirubin Device. The Company's current ability to
generate revenues and to achieve profitability and positive cash flow in the
immediate future substantially will depend on the successful introduction of
the medical application of its technology to monitor bilirubin infant
jaundice. Although the Company is aware that studies have been conducted on
non-invasive transcutaneous bilirubinometer devices other than the Colormate
(R) TLc o BiliTest (TM) , the Company believes the ability of the Colormate
(R) TLc o BiliTest (TM) to accurately provide an estimate of serum bilirubin
levels in babies over a wide range of gestation, in babies of all racial
categories and in babies receiving phototherapy, distinguishes it from the
only other existing non-invasive bilirubinometer with FDA clearance for
commercial marketing. The Company believes its Colormate (R) TLc o BiliTest
(TM) Bilirubin Device provides a new
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alternative for the monitoring and screening of bilirubin infant jaundice, but
there can be no assurance that it will gain market acceptance. There is no
assurance that the Company's Colormate (R) TLc o BiliTest (TM) Bilirubin
Device for monitoring bilirubin infant jaundice, or other future medical
applications of the Company's technology, will be capable of being produced in
commercial quantities at acceptable costs, or even if all regulatory and
reimbursement approvals are obtained, will be successfully marketed or achieve
any significant degree of market acceptance among physicians, health care
payors and others. To date, except for the FDA marketing clearance, the
independent hospital clinical studies and related information regarding the
Company's Colormate (R) TLc o BiliTest (TM) Bilirubin Device, and the
Company's presentations in 1998 at various medical community exhibitions, the
medical community generally has had no exposure to the Company or its proposed
medical application. See "Recent Events." Because the medical community is
generally relatively slow to adopt new technologies, procedures or devices,
the Company might be unable to gain access to potential customers in order to
attempt to demonstrate the operation and efficacy of its Intellectual
Properties in the medical field. Even if the Company gains access to potential
customers, no assurance can be given that members of the medical community
will perceive a need for or accept the Company's proposed medical application.
Physicians and other health care professionals will not
recommend or use the Colormate (R) TLc o BiliTest (TM) Bilirubin Device unless
they determine, based on experience, clinical data, relative cost, and other
factors, that the Colormate (R) TLc o BiliTest (TM) Bilirubin Device is an
attractive alternative to current traumatic blood tests that have a long
history of safe and effective use. The Company has begun to conduct additional
independent studies in order to achieve acceptance in the medical community.
See "Recent Events." The Company believes that recommendations by physicians
and clinicians will be essential for the market acceptance of these products,
and there can be no assurance that any such recommendations will be obtained.
To the extent the Company is able to market and distribute its Colormate (R)
TLc o BiliTest (TM) Bilirubin Device for non-invasive monitoring of bilirubin
infant jaundice, broad market acceptance of the Company's device will require
the training of numerous physicians and clinicians, and the time required to
complete such training could result in a delay of commercial distribution to
the medical market. Moreover, obtaining and maintaining health care payors'
approval of reimbursement for the Company's products, and the level of
reimbursement made available, will be an important factor in establishing
pricing, structure and market acceptance. In addition, purchase decisions for
the device will be greatly influenced by health care administrators who are
subject to increasing pressures to reduce costs. Some purchasers, such as
hospitals, pediatrician's offices and home health care facilities, also might
be reluctant to purchase products from a company that has not demonstrated the
ability to satisfy ongoing delivery requirements. In addition, hospitals,
clinics and pediatricians may be unwilling or unable to commit funds to the
purchase of the Company's Colormate (R) TLc o BiliTest (TM) Bilirubin Device
due to institutional budgetary constraints.
User acceptance of these products will depend on many
factors, including physician recommendations, the degree, rate and severity of
potential complications, the cost and benefits compared to competing products
or alternative medical treatments, available reimbursement and other
considerations. In addition, the Company's pricing policies could adversely
impact market acceptance of these products as compared to competing products
and alternative treatments. If any of the Company's marketing or development
programs are not successfully completed, required regulatory approvals or
clearances are not obtained or maintained, or products for which approvals or
clearances are obtained (such as the Colormate (R) TLc o BiliTest (TM) ) are
not commercially successful, the Company's business, financial condition and
results of operations would be materially adversely affected.
Presently, the Company conducts its research and development
through its Spokane, Washington office. There can be no assurance that the
Company will be able to successfully address any problems that may arise
during the commercialization process of its Colormate (R) TLc o BiliTest (TM)
Bilirubin Device.
Early Stage of Development of Other Potential Medical
Applications. Although the Company has received FDA clearance to commercially
market its Colormate (R) Bilirubin Device as described above, has conducted
early stage research and commenced initial clinical studies with respect to
certain other Chromogenic Diseases identified by the Company (See "Recent
Events"), the Company's clinical and research
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development programs for other medical applications of its technology are at a
very preliminary stage and substantial additional research and development and
clinical trials will be necessary before commercial versions of any additional
proposed products can be submitted for FDA clearance and produced for other
such medical applications. The Company could encounter unforeseen problems in
the development of such other products such as delays in conducting clinical
trials, delays in the supply of key components or delays in overcoming
technical hurdles. There can be no assurance that the Company will be able to
successfully address the problems that may arise during the
development/commercialization process. In addition, there can be no assurance
that any of the Company's proposed products for any such other medical
application will be successfully developed, proven safe and efficacious in
clinical trials or meet applicable regulatory standards and requirements.
Risks Associated With Medical Business Plan and Strategy;
Need for Additional Personnel. The Company has formulated its medical business
plan and strategy based upon certain assumptions regarding the size of the
bilirubin monitoring market, the Company's anticipated short term and eventual
share of this market, the price at which the Company believes it will be able
to sell its products, and consumer acceptance of the Company's products. There
can be no assurance that the Company's assumptions will prove to be correct.
The Company's ability to operate in the future will depend upon many factors,
including technological advances and product obsolescence; levels of
competition, including the entry into the market of additional competitors and
increased success by existing competitors; changes in general economic
conditions; increases in operating costs including costs of production,
supplies, personnel or equipment; and changes in requirements and regulations
promulgated by applicable federal, state and local regulatory authorities.
There can be no assurance that the Company will successfully obtain or apply
the human, operational and financial resources needed to manage a developing
business. Failure by the Company to manage its growth effectively could have a
material adverse effect on the Company's business, financial condition and
results of operations.
In order to generate and service sales of the Company's
medical product, the Company needs to attract and retain significant
additional senior and midlevel personnel experienced in marketing and sales in
the medical industry. The Company currently has only 31 full-time employees,
of which 12 are medical marketing or regulatory personnel. In order to
effectively launch its marketing and sales strategy for the medical market,
the Company will need to hire additional sales, marketing, technical and
operations personnel. The success of the Company will also be dependent upon
its ability to hire, train and retain new and existing personnel. The Company
will compete with other companies with greater financial and other resources
for such qualified personnel. There can be no assurance that the Company will
be able to hire and retain additional personnel to support the Company's
marketing, sales, research and product development efforts.
Lack of Marketing and Sales Experience. In order to
successfully market and sell its Colormate (R) units, including the Colormate
(R) TLc o BiliTest (TM) Bilirubin Device, the Company must either develop a
medical marketing and sales force or enter into arrangements with third parties
to market and sell the devices. See "Recent Events." The Company has not
previously licensed its Intellectual Properties for use in any industry other
than the beauty aid, hosiery and cosmetics industries and management of the
Company has not had any experience in marketing the Intellectual Properties,
Colormate (R) units or Beauty-Aid Products in any other field. Prior to
licensing the Company's Intellectual Properties in any other industry, including
the cosmetic, beauty aids and fashion industries, the Company will be required
to develop additional marketing skills relevant to such industries and conduct
significant further marketing activity, and in certain of these industries,
overcome regulatory hurdles, professional skepticism and develop specific
practical applications therefor, which to date has not been achieved. There can
be no assurance that the Company will be able to successfully develop a
marketing and sales force or that it will be able to enter into marketing and
sales agreements with third parties on acceptable terms. If the Company develops
its own marketing and sales capabilities, it will compete with other companies
that have experienced and well-funded marketing and sales operations. In
addition, the Company's Colormate (R) TLc o BiliTest (TM) Bilirubin Device, as
well as any future medical applications marketed by the Company, will compete
with existing devices, technologies and methods in achieving acceptance in the
medical community and in attracting support from independent medical device
distribution organizations which sell medical equipment to the anticipated
target market (i.e., hospitals, pediatrician's offices and home health care
services).
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While the Company believes the non-invasive nature of its Colormate (R) TLc o
BiliTest (TM) Bilirubin Device for monitoring bilirubin infant jaundice
provides benefits to patients, no assurance can be given that the medical
community will accept and support the Company's medical device.
Need for Manufacturing, Marketing and Distributing
Arrangements with Third Parties. Although the Company has established a
medical division to support its own initial marketing efforts, the Company's
business strategy for the commercialization of its medical products depends
upon the Company's ability to selectively enter into and maintain arrangements
with leading manufacturing, marketing and distribution companies in the
medical field. There can be no assurance that the Company will be able to do
so. If the Company enters into arrangements with a third party for the
marketing, distribution and sale of its Colormate (R) units or its Colormate (R)
TLc o BiliTest (TM) Bilirubin Device, any revenues to be received by the Company
from these products will be dependent on this third party. The obligation of any
potential third party to fund or undertake the manufacturing, marketing,
distribution and/or sale of the product covered by any arrangements with the
Company may be dependent upon the satisfaction of certain goals or "milestones"
by certain specified dates, some of which are outside the Company's control. To
the extent that the obligations of any third party to fund or undertake the
foregoing activities are not contingent upon the satisfaction of certain goals
or milestones, a third party may retain a significant degree of discretion
regarding the timing of these activities and the amount and quality of
financial, personnel and other resources that they devote to these activities.
Furthermore, there can be no assurance that disputes will not arise between the
Company and any third party regarding their respective rights and obligations
under the arrangements. Finally, there can be no assurance that a third party
will not be unable, due to financial, regulatory or other reasons, to satisfy
its obligations under its collaborative arrangement with the Company or will not
intentionally or unintentionally breach its obligations under the arrangement.
There can be no assurance that any third party will not, for
competitive reasons, support, directly or indirectly, a company or product
that competes with the Company's business. Furthermore, any dispute between
the Company and a third party might require the Company to initiate or defend
expensive litigation or arbitration proceedings.
The Company does not itself manufacture the Colormate (R)
units, the Colormate (R) TLc o BiliTest (TM) Bilirubin Device or the Beauty-Aid
Products, and in the past has been wholly dependent on third-party OEMs of
parts, assemblers, cosmetics suppliers and textile suppliers. The Company has
just entered into an agreement for the manufacture and assembly of the Colormate
(R) TLc o BiliTest (TM) on an exclusive basis and accordingly such manufacturer
is the Company's sole source of supply for certain models of this device. In
addition, the Company will have to maintain relationships with such manufacturer
and third party suppliers of component parts for the production of its devices.
There can be no assurance the Company will be able to maintain its relationships
with its current manufacturer, or will be able to maintain arrangements with the
other parts suppliers or assemblers on terms satisfactory to the Company.
Any significant dispute with or breach, inability to
perform, or termination of any arrangement with such third party, including
the device manufacturer, would require the Company to seek and reach an
agreement with another third party or to assume, to the extent possible and at
its own expense, all the responsibilities being undertaken by the first such
third party. There can be no assurance that the Company would be able to reach
an agreement with a replacement third party. If the Company were not able to
find a replacement third party, there can be no assurance that the Company
would be able to perform or fund the activities for which the first such third
party would be responsible. Even if the Company were able to perform and fund
these activities, the Company's capital requirements would increase
substantially. In addition, the further manufacture, development, marketing,
distribution and sale of the product covered by such arrangement would be
significantly delayed.
Any of the foregoing circumstances could have a material
adverse effect upon the Company's business, financial condition and results of
operations.
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In connection with manufacturing of the Colormate (R)
units, the Company could be required to make significant advance payments,
obtain letters of credit, cause potential customers or licensees to advance
funds under their agreements entered into with the Company or otherwise secure
its payment obligations to third-party manufacturers. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
Although the Company's existing manufacturing agreement does not require such
obligations, there can be no assurance the Company will be able to maintain the
existing relationship, or that the Company will be able to enter into
replacement agreements that do not provide for such obligations and are
otherwise on acceptable terms. There can be no assurance the Company will be
able to secure its payment obligations itself or by having customers and/or
licensees advance funds, or otherwise be able to manufacture the Colormate (R)
units or obtain further manufacture of the Colormate (R) units or its Products.
Lack of Market Penetration in Other Industries. The Company
has not yet achieved commercial market penetration in any industry, and there
can be no assurance the Company will be able to do so in the future. The
Company has not achieved significant levels of cosmetics sales from its
Colormate (R) unit locations, and expects based on the deminimus cosmetics sales
levels achieved per location to date, that it will have to greatly increase the
number of Colormate (R) unit installations to achieve significant levels of
cosmetics sale revenues. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations." The Company also believes, based on its
operating history since February 1993, that obtaining such increased cosmetic
sales revenue will take significantly longer to achieve than was originally
anticipated. At December 31, 1997, most of the inventory of the Company's
cosmetics products was in excess of requirements based on the recent level of
sales. After giving effect to the $100,000 write off in 1996 and the $75,000
write off in 1997, management believes no further significant loss will be
incurred on the disposition of inventory. No estimate can be made of a range of
amounts of loss that are reasonably possible should the Company's expectations
not be met. There can be no assurance that no such loss will be incurred upon
the disposition of inventory. However, the Company completed its inventory of a
new line of chromatically balanced and color coordinated cosmetics earlier in
the year, and although there can be no assurance, expects to commence marketing
its new line of custom blended foundations in the winter of 1999 pursuant to the
Nordstrom's contract. In order to implement its marketing plans in the United
States and abroad, including in industries in which the Company does not have
prior experience, the Company will have to develop additional marketing skills
and incur significant expenses on sales and marketing activities, including
hiring finders, new personnel and consultants, and entering into arrangements
with retailers and distribution companies having a regional or national
presence. There can be no assurance the Company's marketing plan will be
successful.
Legal Proceedings. The Company and certain of its officers
and directors were sued in three separate class actions ("Actions") brought in
United States District Court, Southern District of New York. Two of the
actions were brought in June 1998 and are entitled (i) L.F. Monk v. Chromatics
Color Sciences International, Inc., Darby S. Macfarlane, Arthur Guiry, David
K. Macfarlane and Leslie Foglesong and (ii) Daniel R. Marquis, on behalf of
himself and all others similarly situated v. Chromatics Color Sciences
International, Inc., Darby S. Macfarlane, Arthur Guiry and Leslie Foglesong.
The third action was brought in August 1998, and is entitled Grunberg v.
Chromatics Color Sciences International, Inc., Darby S. Macfarlane, Arthur
Guiry, David Kenneth Macfarlane and Leslie Foglesong. Based on the Asensio
Report discussed under "Recent Events" below, the plaintiffs in the Actions,
on behalf of a class of the Company's stockholders, claim unspecified damages
arising from alleged violations of the anti-fraud provisions of the federal
securities laws, relating to (i) the alleged misleading nature of prior public
disclosures and announcements made by the Company and (ii) sales of company
stock by the individual defendants allegedly while in possession of material
adverse non-public information regarding the Company's financial condition,
prospects and the capabilities and potential market for the Company's
Colormate (R) TLc o BiliTest (TM) Bilirubin Device. A motion has been made to
consolidate the two actions brought in June and to approve a group of
shareholders as lead plaintiffs and to approve the selection by the group of
lead counsel.
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Additional actions may be brought against the Company and
its officers and directors arising from the matters described above. The
Company has directors and officers insurance which may cover a portion of the
liability asserted in the Actions. The Company believes the Actions are
without merit and intends to defend the Actions vigorously. No assurance can
be given that the resolution of the Actions and/or future actions will not
have a material adverse effect on the Company's results of operations and
liquidity. The Company is exploring its legal remedies in respect of what it
believes to be false allegations against the Company made by short sellers of
its stock; the Company expects to incur significant expenses in this regard.
See "Recent Events."
Potential International Operations. The Company believes
that sales of products to customers outside of the United States represents a
significant potential source of growth. Following compliance with applicable
foreign regulatory requirements, the Company expects to market its medical
products internationally through affiliates and distributors. The primary
targeted markets for the Company's products outside the United States are
Western Europe, Canada, Asia, South Africa and South America. See "Recent
Events." The Company also intends to contract with a number of foreign
manufacturers to provide certain of its sourcing needs for its medical device,
although there can be no assurance it will be able to do so.
Foreign operations are subject to special risks that can
materially affect potential sales, including currency exchange rate
devaluations and fluctuations, the impact of inflation, exchange controls,
labor unrest, political instability, import and export duties and quotas,
domestic and international customs and tariffs, unexpected changes in
regulatory environments, potentially adverse tax consequences and other risks.
Changes in certain exchange rates could have a material adverse effect on the
Company.
Prior Marketing Attempts. Other than the Company's marketing
efforts with Avon, arrangements with IMS and its beauty salon placements, the
Nordstrom's contract, the Company's own attempts to license and/or lease its
Intellectual Properties and the Colormate (R) units and to market its Beauty-Aid
Products independently and/or through licensees never proceeded beyond the test
marketing stage. There can be no assurance the Company will in the future
achieve commercial leasing of its Colormate (R) units and commercial licensing
of the Intellectual Properties or the sale of the Beauty-Aid Products. In
addition, other than its installation of Colormate (R) units in beauty salons
and beauty-related businesses (which are not generating current revenue), the
Company's revenue generating activities have been primarily conducted in
conjunction with its former licensees (i.e., Clairol, Hanes and Avon), that
provided substantial economic, administrative, marketing and advertising
support. There can be no assurance that without the support of a marketing
partner with financial resources, an advertising budget, market presence and
consumer recognition, the Company will be able to achieve successful operations,
including for medical applications of its products and technologies. Further,
there can be no assurance the Company will ever develop a commercial market for
the licensing or leasing of its Colormate (R) units and Intellectual Properties,
for the sale of the Beauty-Aid Products or for any medical applications of its
technologies.
Competition. To the extent the Company implements its
business plan to commercialize a medical application for its Intellectual
Properties, it will be entering a field characterized by rapidly changing
technology, intense competition and extensive research and development. The
medical products market in general is highly competitive. The Company's
ability to compete in the bilirubin infant jaundice market depends primarily
on the acceptance by the medical community of the Company's new technology,
which can be influenced by factors such as price, product quality and
features, technical capability, breadth of product line and distribution
capabilities. The Company will be competing with companies, some of which are
more established and which have greater financial, technical, manufacturing,
marketing, research and development and management resources than the Company
(including companies such as Minolta Co., Ltd., Respironics, Inc. and SpectRx,
Inc., among others), some of which have greater name recognition and lengthier
operating histories in the health care industry and which have actively
pursued development of non-invasive monitoring of bilirubin infant jaundice.
The Company believes the only commercially available non-invasive
bilirubinometer with FDA marketing clearance in the United States is the
Minolta Jaundice Meter. In addition, there will be other companies with which
the Company will compete regarding other potential medical applications which
the Company may pursue. Furthermore, the monitoring
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methods currently in use for bilirubin infant jaundice as well as
dermatological diseases and tuberculosis, the principal diseases with respect
to which the Company intends to seek regulatory marketing clearance, have
already achieved acceptance by and are in widespread use in the medical
community, unlike the Company's proposed methods. There can be no assurance
that the Company's proposed methods will be accepted by the medical community.
There can be no assurance that the Company will be able to effectively compete
against these and other competitors, including those competitors who intend to
promote their versions of non-invasive devices. Additionally, there can be no
assurance that the Company's competitors will not succeed in developing,
either before or after the commercialization of the Company's product, devices
and technologies that permit more efficient, less expensive non-invasive
detection and monitoring of bilirubin infant jaundice. It is also possible
that one or more pharmaceutical or other health care companies will develop
therapeutic drugs, treatments or other products that will substantially reduce
the prevalence of bilirubin infant jaundice or otherwise render the Company's
products obsolete. There can be no assurance that the Company will be able to
upgrade its medical applications and devices to compete with such competitors
or with persons who may in the future develop products or detection methods
competitive with the Company's proposed medical applications and devices.
Independent medical supply distributors who may be retained
by the Company will distribute other products which may compete with those of
the Company or which would provide greater revenues to such distributors than
would be provided by the Company's products. In addition, many medical supply
companies with which the Company's proposed medical application and device
will compete, and which have significantly greater financial research,
technical, manufacturing, and distribution resources and broader product lines
than the Company, have their own in-house marketing and distribution
capabilities and have established relationships with potential customers for
the Company's proposed medical application, such as pediatricians and
hospitals. In addition, many of the Company's competitors offer broader
product lines than the Company, which may be a competitive advantage in
obtaining contracts with health care purchasing groups. No assurance can be
given that the Company will successfully and effectively market its medical
products against these and other competitors or contract with health care
providers.
The cosmetics industry and fashion industry are particularly
sensitive to changing consumer preferences and demands, which are difficult to
predict and beyond the Company's control. Competition in the cosmetics
industry is diverse and fragmented, but is nevertheless dominated by a number
of large, established, well-known corporations having, among other things,
significantly greater financial, marketing and human resources than the
Company. Virtually all of such companies have in the past marketed, and
continue to market, their products based on their own color analysis system
and advertised claims of "color compatibility" with the personal color and/or
wardrobe of the consumer. These competitors also have established presence in
the market and their own cosmetic manufacturing facilities, unlike the
Company. There can be no assurance that consumers will prefer products based
on the Company's scientifically based color determinations, rather than the
products sold by the Company's competitors based on subjective techniques.
Protection of Intellectual Property. The Company depends on
its ability to obtain and maintain patent protection for its products and
processes, to preserve its trade secrets, and to operate without infringing
upon the proprietary rights of third parties. The validity and breadth of
claims covered in medical technology patents involve complex legal and factual
questions and therefore, may be highly uncertain. No assurance can be given
that the scope of any patent protection under the Company's current patents,
or under any patent the Company might obtain in the future, will exclude
competitors or provide competitive advantages to the Company; that any of the
Company's patents will not be held invalid if subsequently challenged; or that
others will not claim rights in or ownership of the patents and other
proprietary rights held by the Company.
The Company's U.S. Patents Nos. 4,909,632 and 5,311,293
expire in 2007; the Company's U.S. Patent No. 5,313,267 expires in 2011; the
Company's U.S. Patent No. 5,671,735 expires in 2014; after the respective
expiration date of each, the proprietary technology and instrumentation
disclosed in each Patent will be available for
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use by others without compensation to the Company, unless protected by the
claims of other U.S. patents that may be issued to the Company. The Company
has developed intellectual property rights in color analysis, calibration and
verification in a number of fields including medical, biological, dental,
cosmetic and materials testing. The intellectual property rights include trade
secrets, know how and 14 pending United States patent applications. These
rights also include various foreign patent applications corresponding, at
least in part, to the U.S. Patents and the U.S. patent applications. There can
be no assurance that patents will issue based on these patent applications or
that any patent claims will provide sufficient protection to exclude others
from the Company's proprietary technology and instrumentation. There can be no
assurance that the Company will not be involved in litigation to protect its
trade secrets and know how or that the Company will prevail in such
litigation. There can be no assurance that challenges will not be instituted
against the validity or enforceability of any patents owned by or issued in
the future to the Company, or that such challenges will not be successful.
There can be no assurance that patent infringement claims will not be asserted
against the Company and found to have merit, that the Company will not be
enjoined from using its proprietary technology and instrumentation and from
manufacturing and selling certain of its Products, or would not be forced to
obtain a license and pay future royalty fees as well as past damages to the
party claiming infringement in amounts not presently determinable. There can
be no assurance that any such license will be available to the Company.
Conversely, to the extent third parties infringe upon the Company's patented
Intellectual Properties, the Company may have to litigate against such third
parties in order to prevent further infringement. There can be no assurance
the Company will have the resources to prosecute any such litigation, or that
any such litigation would be resolved in favor of the Company. In the event it
is unable to bring such litigation or obtain a favorable outcome, the
Company's operations could be materially adversely affected in that the
Company's failure to enforce its Patents could result in increased
competition. If the Patents are declared invalid, the Company would lose
patent protection for certain of its Intellectual Properties, which could have
a material adverse effect on its operations.
There can be no assurance that the Company's Intellectual
Properties will provide it with a competitive advantage in that it may be
possible for a competitor independently to develop non-infringing
technologies, independently duplicate the Company's unpatented technology
through reverse engineering, design around the patented aspects of the
Company's technology, or otherwise independently develop scientifically
accurate processes, instruments or color charts to measure skin coloration,
skin tone color categories and conduct comparative color analysis without
infringing the Company's Patents.
The Company's U.S. Patents apply only to the United States.
The Company has filed patent applications in a number of foreign jurisdictions
which correspond, at least in part, to the Company's U.S. Patents. The Company
has been granted European Patent No. 0446512, nationalizations of that
European Patent in Austria, Belgium, France, Germany, Great Britain, Italy,
Luxembourg, The Netherlands, Spain, Sweden and Switzerland and Liechtenstein,
a Singapore registration of that European Patent, as well as Australian,
Brazilian and Mexican Patents corresponding, at least in part, to its U.S.
Patent No. 4,909,632, Taiwanese and Colombian Patents corresponding, at least
in part, to its U.S. Patent No. 5,313,267 and two Taiwanese Patents
corresponding, at least in part, to its U.S. Patent No. 5,671,735. The Company
has not yet been granted any other foreign patents for its Intellectual
Properties and there can be no assurance it will be granted any such patents.
Consequently, wherever the Company does not have foreign patents, third
parties currently could exploit, outside the United States, the technology
disclosed in the U.S. Patents, thereby increasing competition in such foreign
markets. In addition, persons gaining access to the Company's unpatented
proprietary information and technology and who are not bound by
confidentiality agreements with the Company would have the ability to exploit
the Company's unpatented proprietary information and technology both inside
and outside the United States, thereby increasing competition.
There can be no assurance that one or more of the Patents
held by the Company will not be successfully challenged or circumvented or
that the Company will otherwise be able to rely on such Patents. In addition,
there can be no assurance that competitors, many of whom have substantial
resources and have made substantial investments in competing technologies,
will not seek to apply for and obtain patents that prevent, limit or interfere
with the Company's ability to make, use and sell its products either in the
United States or in foreign markets. If the Company's right or ability to
manufacture its products were to be proscribed or limited, the
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Company's ability to continue to manufacture and market its Products could be
adversely affected, which would likely have a material adverse effect upon the
Company's business, financial condition and results of operations.
The Company has not applied for patent protection for many
aspects of the Intellectual Properties (i.e., its proprietary trade secrets
and other confidential information). The Company typically imposes on its
consultants, key employees and advisers confidentiality obligations in
connection with their employment, consulting or advisory relationship with the
Company. There can be no assurance that such confidentiality obligations will
be observed or that the Company will have adequate remedies if those
obligations are breached. To the extent that consultants, key employees or
other advisors apply technological information taken from the Company in
violation of confidentiality obligations, disputes may arise as to the
proprietary rights to such information which may not be resolved in favor of
the Company. There can be no assurance that others will not independently
develop technology that is substantially equivalent or superior to that
included in the Company's Intellectual Properties which are not protected by
patents.
There can be no assurance that the Company's copyright
protection for the software used in the Colormate (R) Systems will provide it
with a competitive advantage in that it may be possible for a competitor
independently to develop similar software, design around the Company's
copyrighted software or otherwise independently develop software with the
capacity to accurately measure skin tone categories and conduct comparative
color analysis.
The medical device industry has been characterized by
extensive litigation regarding patents and other intellectual property rights,
particularly with respect to newly developed technology. In addition,
re-examination or interference proceedings may be instituted in the United
States Patent and Trademark Office ("USPTO"). There can be no assurance that
the Company will not become subject to patent infringement claims brought by
third parties, or re-examination of previously issued patents by the USPTO or
interference proceedings instituted in the USPTO to determine the priority of
inventions. The defense and prosecution of intellectual property suits, USPTO
re-examination and interference proceedings and related legal and
administrative proceedings are both costly and time consuming. Litigation may
be necessary to enforce patents issued to the Company, to protect trade
secrets or know-how owned by the Company or to determine the enforceability,
scope and validity of the proprietary rights of the Company and others. Any
litigation or interference proceedings brought against, initiated by or
otherwise involving the Company may require the Company to incur substantial
legal and other fees and expenses and may require some of the Company's
employees to devote all or a substantial portion of their time to the
prosecution or defense of such litigation or proceedings. An adverse
determination in litigation or interference proceedings to which the Company
may become a party, including any litigation that may arise against the
Company, could subject the Company to significant liabilities to third
parties, disputed rights to be licensed from such third parties or prevent the
Company from selling its products in certain markets, or at all. If
third-party patents containing claims affecting the Company's technology were
issued, and such claims were determined to be valid, there can be no assurance
that the Company would be able to obtain licenses to such patents at costs
reasonable to the Company, if at all, or be able to develop or obtain
alternate technology. Although patent and intellectual property disputes
regarding medical devices are often settled through licensing or similar
arrangements, there can be no assurance that the Company would be able to
reach a satisfactory settlement of such a dispute that would allow it to
license necessary patents or other intellectual property. Even if such a
settlement were reached, the settlement process may be expensive and time
consuming, and the terms of the settlement may require the Company to pay
substantial royalties. An adverse determination in a judicial or
administrative proceeding or the failure to obtain a necessary license could
prevent the Company from manufacturing and selling its products, which would
have a material adverse effect on the Company's business, financial condition
and results of operations.
The Company is aware that others have obtained or are
pursuing patent protection for various aspects of the design, production and
manufacturing of bilirubin infant jaundice diagnostic and monitoring products,
including products that are non-invasive. There can be no assurance that the
Company's technology, current or future products or activities will not be
deemed to infringe upon the rights of others.
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Failure to Obtain and Maintain Third-Party Reimbursement. In
the United States and elsewhere, sales of medical products are dependent, in
part, on the ability of consumers of these products to obtain reimbursement
for all or a portion of their cost from third-party payors, such as government
and private insurance plans. Third-party payors are increasingly challenging
the prices charged for medical products and services. If the Company succeeds
in bringing its Colormate (R) TLc o BiliTest (TM) Bilirubin Device or other
products to market, there can no assurance that such products will be
considered cost effective and that reimbursement to the consumer will be or
continue to be available, or sufficient to allow the Company to sell its
medical device products on a competitive basis. Moreover, obtaining and
maintaining health care payors' approval of reimbursement for the Company's
products, and the level of reimbursement made available, will be an important
factor in establishing pricing, structure and market acceptance. The Company
is unable to predict what changes will be made in the reimbursement methods
utilized by third-party health care payors. Furthermore, the Company could be
adversely affected by changes in reimbursement policies of governmental or
private health care payors.
On March 16, 1998, the Company announced that the American
Medical Association had assigned AMA Code CPT 82250 as the applicable code to
be used for processing insurance reimbursement claims for uses of the
Colormate (R) TLc o BiliTest (TM) Bilirubin Device, which is the same code
used for laboratory blood testing currently used to monitor
hyperbilirubinemia. AMA CPT codes are generally used to facilitate claims
processing and to provide a simplified reporting procedure; the codes do not
assume that an insurer will reimburse claims, or that the AMA endorses the
medical procedure at issue. However, following a review conducted by the CPT
Laboratory Advisors Committee which resulted in the committee advising
confirmation of CPT 82250 for the test performed by the Company's device, the
AMA CPT Editorial and Information Services determined to submit to the CPT
Executive Committee for review the assignment of CPT Code 82250, and has
advised the Company that until such final review is completed, it is the AMA's
position that CPT Code 84999 ("Unlisted Chemistry Procedure") is the
appropriate code. The Company believes the original code 82250 is correct, and
has submitted additional supporting materials to the AMA. There can be no
assurance the Company will be granted the original CPT Code 82250. Claims for
reimbursement under the CPT Code 84999 will not be as easily processed for
reimbursement as claims made under AMA CPT Code 82250.
Since receiving FDA marketing clearance in the United
States, the Company has undertaken the procedures to obtain required
international regulatory clearances for its monitoring technology for
bilirubin infant jaundice. If the Company obtains the necessary foreign
regulatory clearances, market acceptance of the Company's products in
international markets will be dependent in part, upon the availability of
reimbursement within prevailing health care payment systems. Reimbursement and
health care payment systems in international markets vary significantly by
country and include both government sponsored health care and private
insurance. Although the Company intends to seek international reimbursement
approvals, there can be no assurance that such approvals will be obtained in a
timely manner, if at all.
Failure to obtain and maintain third-party reimbursement
coverage for use of the Colormate TLc o BiliTest (TM) Bilirubin Device will
have a material adverse effect on the Company's ability to commercialize its
technology for medical applications.
Government Regulations. The Company's advertising, sales
practices and cosmetics and medical products (including the labeling and
packaging thereof) are and will be subject to applicable federal, state and
local regulation (including regulation by the FDA, the Federal Trade
Commission, and the Federal Communications Commission, under various laws such
as the Fair Packaging and Labeling Act and/or any comparable state authority,
agency or statute) and will be subject to regulation by comparable foreign
authorities if the Company markets its products abroad. The Company will also
be subject to regulation by various governmental agencies that regulate direct
selling activities.
Although the Company has received FDA clearance on its
Colormate (R) Bilirubin Device pursuant to a "substantial equivalence"
determination order, in the form of a letter dated July 24, 1997 from the FDA's
CDRH, authorizing the Company to commercially distribute its Colormate (R)
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Bilirubin Device for monitoring bilirubin infant jaundice by healthcare
professionals in the United States, the Company also must comply with the
other applicable statutes and applicable rules and regulations, promulgated by
the FDA, in order to legally market the device. The "substantial equivalence"
order states that the Company must comply with the medical device general
controls, e.g., device establishment registration, medical device listing,
good manufacturing practices (QSR requirements), medical device reporting,
labeling, and the statutory prohibitions against adulteration and misbranding.
The order also states that the Colormate (R) Bilirubin
Device is a Class II device which may be subject to additional special
controls.
In the United States, the FDA regulates the introduction of
medical devices as well as, among other things, manufacturing, labeling and
recordkeeping procedures for such products. The process of obtaining marketing
clearance for new medical products from the FDA can be costly and time
consuming, and there can be no assurance that such clearance will be granted
for the Company's future products on a timely basis, if at all, or that FDA
review will not involve delays that would adversely affect the Company's
ability to commercialize additional products or to expand permitted uses of
existing products. Regulatory clearance to market a product from the FDA may
entail limitations on the indicated uses of the product. The ability to market
can be challenged (and possibly withdrawn) by the FDA due to failure to comply
with regulatory standards or the occurrence of unforeseen problems following
initial clearance. The Company may be required to file further marketing
applications with the FDA under certain circumstances, such as the addition of
product claims or product redesign. The FDA also could limit or prevent the
manufacture or distribution of the Company's products, and has the power to
require the recall of such products, given certain circumstances. FDA
regulations depend heavily on administrative interpretation, and there can be
no assurance that future interpretation made by the FDA or other regulatory
bodies, will not adversely affect the Company. The FDA will and various state
agencies may inspect the Company and its facilities from time to time to
determine whether the Company is in compliance with regulations relating to
medical device manufacturing companies, including regulations concerning
manufacturing, testing, quality control and product labeling practices. A
determination that the Company is in violation of such regulations could lead
to the imposition of civil penalties, including fines, product recalls,
product seizures, or, in extreme cases, criminal sanctions.
In order for the Company to market its products in Europe and
certain other foreign jurisdictions, the Company and its distributors and agents
must obtain required regulatory registrations or approvals and otherwise comply
with extensive regulations regarding safety, efficacy and quality in those
jurisdictions. Specifically, certain foreign regulatory bodies have adopted
various regulations, among other things, governing product standards, packaging
requirements, labeling requirements, import restrictions, tariff regulations,
duties and tax requirements. These regulations vary from country to country. The
Company is prohibited from selling its Colormate (R) TLc o BiliTest (TM)
Bilirubin Device in Europe until such time as the Company receives the right to
affix the CE mark, which is a symbol of quality and compliance with applicable
European medical device directives. ISO 9001/EN 46001 certification is one
option for pursuing the CE mark under the CE mark certification process
requirements. There can be no assurance that the Company will be successful in
obtaining ISO 9001/EN 46001 certification or CE mark rights. The Company and its
consultants have prepared the necessary procedures and documentation in
furtherance of complying with such controls, including QSR regulatory
requirements and obtaining ISO 9000 certification. The Company intends to
maintain compliance with any applicable "general controls" and "special
controls" for purposes of commercial distribution but there can be no assurance
it will be able to do so. The Company is unaware of any applicable special
controls at this time. Failure to receive ISO 9001/EN 46001 certification, CE
mark rights or other foreign regulatory approvals for Company's medical products
would prevent the Company from marketing its medical products abroad, which
would have a material adverse effect on the Company's business, financial
condition and results of operations. There can be no assurance that the Company
will obtain any other required regulatory registrations or approval in such
countries or that it will not be required to incur significant costs in
obtaining or maintaining such regulatory registrations or approvals. Delays in
obtaining any registrations or approvals required to market the Company's
products, failure to receive these registrations or approvals, or future loss of
previously obtained registration or approvals could have a material adverse
effect on the Company's business, financial condition and results of operations.
The Company may rely on its third-party foreign distributors to comply with
certain foreign regulatory requirements. The inability or failure of the Company
or such foreign distributors to comply with varying foreign regulations or the
imposition of new
26
<PAGE>
regulations could restrict the sale of the Company's products internationally
and thereby adversely affect the Company's business, financial condition and
results of operations.
The Company and any third party with which it has made
contract manufacturing or other regulated arrangements will be required to
adhere to applicable FDA regulations, including the QSR requirements and
similar regulations in other countries, which include, among other things,
testing, control, and documentation requirements. Ongoing compliance with QSR
requirements and other applicable regulatory requirements will be strictly
enforced in the United States through periodic inspections by federal and
possibly state agencies, including the FDA, and in foreign jurisdictions by
comparable agencies. Failure to comply with applicable regulatory requirements
could result in, among other things, warning letters, injunctions, civil
monetary penalties, recall or seizure of products, total or partial suspension
of production, refusal of the government to grant premarket clearance or
premarket approval for devices, possible rescission or withdrawal of
clearances or approvals previously obtained and criminal prosecution. The
restriction, suspension or revocation of regulatory clearances or approvals or
government enforcement actions due to any other failure to comply with
regulatory requirements would have a material adverse effect on the Company's
business, financial condition and results of operations.
If the FDA believes that any of its legal requirements have
not been fulfilled, it has extensive enforcement powers, including but not
limited to the ability to bar or seize products from the market, to prohibit
the operation of manufacturing facilities, to require recalls of devices from
customer locations and to seek civil monetary or criminal penalties.
Product Liability and Malpractice. The medical products
industry is subject to substantial product liability litigation, and the
Company faces an inherent business risk of exposure to product liability
claims in the event that the use of its products is alleged to have resulted
in adverse effects to a patient or product user. Any such claims could have a
material adverse effect on the Company, including on market acceptance of its
Colormate (R) TLc o BiliTest (TM) Bilirubin Device. Once the Colormate (R) TLc
o BiliTest (TM) Bilirubin Device is in commercial use, the Company will be
entering a field where it may become subject to product liability claims by
patients and/or users and might become a defendant in product liability and/or
malpractice litigation. The Company does not have malpractice insurance for
such applications and does not intend to obtain such insurance prior to
achieving commercialization of such proposed medical application. Even if the
Company obtains such insurance, there can be no assurance that it will be able
to maintain such insurance or that such insurance would be sufficient to
protect the Company against any such liabilities.
The Company maintains its own product liability insurance
with respect to cosmetic and beauty aid applications. There can be no
assurance that such insurance will be adequate to protect the Company from
claims that may be brought against it by users of the Colormate (R) units or its
Beauty-Aid Products.
The Company has not established, and the Company does not
intend to establish, any reserves against any of the foregoing liabilities. In
the event of an uninsured or inadequately insured product liability or
malpractice claim in the future based on the performance of the Company's
Colormate (R) units or Beauty-Aid Products, the Company's business and financial
condition could be materially adversely affected and the Company could be forced
to cease operations.
Year 2000 Compliance. Until recently computer programs were
generally written using two digits rather than four to define the applicable
year. Accordingly, such programs may be unable to distinguish properly between
the Year 1900 and the Year 2000. This could result in system failures or data
corruption for the Company or its vendors which could cause disruptions of
operations, including, among other things, a temporary inability to process
transactions or engage in business activities or to receive information,
services or payment from vendors.
27
<PAGE>
The Company's internal computing systems are primarily
limited to hardware and software for its financial systems, such as general
ledger and accounts receivable and payable systems, and word processing and
database systems. The Company is not dependent on large legacy systems and
does not use mainframes.
The Company's management is continuing to conduct an
assessment of the Company's operations from an internal, vendor and customer
perspective. The assessment addresses all of the Company's material computer
systems, applications and any other material systems that the Company believes
may be vulnerable to the Year 2000 issue and significantly affect the
Company's operations. This assessment includes contacting third parties with
whom the Company has a material relationship to determine their Year 2000
readiness. The Company's assessment is not yet complete and there can be no
assurances that any such problems will not arise.
The total costs associated with the Company's Year 2000
compliance are not expected to be material to the Company's financial
position. However, satisfactory remediation of Year 2000 issues is dependent
upon many factors, some of which are not completely within the Company's
control. The Company's current estimates of the impact of Year 2000 compliance
on its financial position do not include costs that may result from the
failure of third parties with whom the Company has a material relationship to
be Year 2000 compliant. Should the Company's internal systems or systems of
one or more significant third parties fail to achieve Year 2000 compliance,
the Company's business and its operations could be materially adversely
affected.
Control; Dependence on Management. Darby Simpson Macfarlane,
Chief Executive Officer of the Company, owns shares of Common Stock and Series
A preferred stock, par value $0.001 per share (the "Preferred Stock")
aggregating 2,266,220 (excluding currently exercisable stock options) of the
shares eligible to vote on matters presented to the shareholders, which amount
is sufficient to permit her to significantly influence the election of
directors or to approve any matter submitted to a vote of shareholders, and
otherwise be in control of the Company. The Company is dependent primarily on
the services of Darby Simpson Macfarlane and David Kenneth Macfarlane, Vice
President, Research and Development. The loss of either of their services
could have a material adverse effect on the Company. Although the Company has
purchased key-man life insurance policies in the amounts of $1,000,000 on the
lives of both Mrs. and Mr. Macfarlane, there can be no assurance that the
proceeds from such policies would enable the Company to retain suitable
replacements for them.
No Assurance of continued Nasdaq SmallCap Market Listing;
Risk of Application of Penny Stock Rules. The trading of the Company's stock
in the Nasdaq SmallCap Market will be conditioned upon the Company's
continuing to meet certain asset, capitalization, earnings and stock price
tests. To maintain eligibility for trading on the Nasdaq SmallCap Market, the
Company will be required to maintain, among other things, net tangible assets
of at least $2,000,000; a minimum bid price for the listed securities of $1.00
per share; a market value of the public float of at least $1,000,000; and at
least two market makers for its securities. If the Common Stock were to be
delisted from the Nasdaq SmallCap market, the prices and the holders' ability
to sell such securities would be adversely affected. If the Common Stock were
delisted and the Company desired to have it relisted, the Company would be
required to satisfy the more stringent initial listing requirements of the
Nasdaq SmallCap Market.
If the Company is delisted from the Nasdaq SmallCap Market
and the price per share dropped below $5.00, then unless the Company satisfied
certain net assets tests, the Common stock would become subject to certain
penny stock rules promulgated by the Securities and Exchange Commission (the
"Commission"). The penny stock rules require a broker-dealer, prior to a
transaction in a penny stock not otherwise exempt from the rules, to deliver a
standardized risk disclosure document prepared by the Commission that provides
information about penny stocks and the nature and level of risks in the penny
stock market. The broker-dealer must also provide the customer with current
bid and offer quotations for the penny stock, the compensation of the
broker-dealer and its salesperson in the transaction and monthly account
statements showing the market value of each penny stock held in the customer's
account. In addition, the penny stock rules require that prior to a
transaction in a penny stock not otherwise exempt from such rules, the
broker-dealer must make a special written determination that the penny stock
is a suitable investment for the purchaser and receive the purchaser's written
agreement to the transaction. These disclosure requirements may have the
effect of reducing the level of trading activities in the secondary market for
28
<PAGE>
stock that becomes subject to the penny stock rules. If the Common Stock
becomes subject to the penny stock rules, investors may find it more difficult
to sell their Common Stock.
Lack of Public Market; Possible Volatility of Stock Price.
There is no assurance that a regular trading market for the Company's
securities will be sustained. The market price for the Company's Common Stock
may be significantly affected by such factors as the Company's financial
performance, the results of the Company's efforts to license its Intellectual
Properties and to market its products, and various factors affecting the color
science industry and the beauty aid and cosmetics industries generally.
Additionally, in recent years, the stock market has experienced a high level
of price and volume volatility for many companies, particularly small and
emerging growth companies traded in the over-the-counter market, and these
wide price fluctuations are not necessarily related to the operating
performance of these companies. Accordingly, there may be significant
volatility in the market for the Company's securities.
Exercise of Private Placement Warrants. The price which the
Company will receive for the Common Stock issued upon exercise of the
remaining Warrants issued to the placement agent in the 1995 Private Placement
is expected to be substantially less than the market price of the Common Stock
at the time such Private Placement Warrants are exercised. For the life of
such Private Placement Warrants, the holders thereof are given, at little or
no cost, the opportunity to profit from a rise in the market price of the
Common Stock, if any, without assuming the risk of ownership. So long as such
Private Placement Warrants remain unexercised, the terms under which the
Company could obtain additional equity financing may be adversely affected.
Moreover, the holders of such Private Placement Warrants may be expected to
exercise them at a time when the Company would, in all likelihood, be able to
obtain any needed capital by a new offering of securities on terms more
favorable than those provided by such Private Placement Warrants. To the
extent of any exercise of the Private Placement Warrants, the interests of the
Company's shareholders will be diluted proportionately.
Outstanding Voting Preferred Stock. The Company has
outstanding 1,380,000 shares of Preferred Stock. Each share of Preferred Stock
has voting rights equivalent to each share of Common Stock and is convertible
to Common Stock if (i) the Company's earnings (i.e. pre tax operating income,
before interest expense) for any two consecutive calendar years ending on
December 31, 2000 exceed $20,000,000 or (ii) the closing bid price of the
Common Stock has been at least $31.11 on 30 consecutive trading days at any
time ending on December 31, 2000. Further, the Preferred Stock has a $13,800
liquidation preference and earns an annual non-cumulative dividend of $0.001
per share. The voting rights, conversion rights, dividend rights and
liquidation preference of the Preferred Stock may adversely affect the trading
value or the market price of the Common Stock.
Additional Authorized Preferred Stock. The Company's Amended
Certificate of Incorporation (the "Certificate of Incorporation") authorizes
the Board of Directors to issue, without shareholder approval, up to
10,000,000 shares of preferred stock with voting, conversion and other rights
and preferences that could adversely affect the voting power or other rights
of the holders of Common Stock. The issuance of preferred stock or of rights
to purchase preferred stock could be used to discourage an unsolicited
acquisition proposal. In addition, the possible issuance of preferred stock
could discourage a proxy contest, make more difficult the acquisition of a
substantial block of the Company's Common Stock or limit the price that
investors might be willing to pay in the future for shares of the Company's
Common Stock.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
No disclosure is required under this Item 3.
29
<PAGE>
PART II -- OTHER INFORMATION
Item 1. Legal Proceedings
The Company and certain of its officers and directors were sued in
three separate class actions ("Actions") brought in United States District
Court, Southern District of New York. Two of the actions were brought in June
1998 and are entitled (i) L.F. Monk v. Chromatics Color Sciences
International, Inc., Darby S. Macfarlane, Arthur Guiry, David K. Macfarlane
and Leslie Foglesong and (ii) Daniel R. Marquis, on behalf of himself and all
others similarly situated v. Chromatics Color Sciences International, Inc.,
Darby S. Macfarlane, Arthur Guiry and Leslie Foglesong. The third action was
brought in August 1998, and is entitled Grunberg v. Chromatics Color Sciences
International, Inc., Darby S. Macfarlane, Arthur Guiry, David Kenneth
Macfarlane and Leslie Foglesong. Based on the Asensio Report discussed under
"Recent Events" below, the plaintiffs in the Actions, on behalf of a class of
the Company's stockholders, claim unspecified damages arising from alleged
violations of the anti-fraud provisions of the federal securities laws,
relating to (i) the alleged misleading nature of prior public disclosures and
announcements made by the Company and (ii) sales of company stock by the
individual defendants allegedly while in possession of material adverse
non-public information regarding the Company's financial condition, prospects
and the capabilities and potential market for the Company's Colormate (R) TLc
o BiliTest (TM) Bilirubin Device. A motion has been made to consolidate the
two actions brought in June and to approve a group of shareholders as lead
plaintiffs and to approve the selection by the group of lead counsel.
Additional actions may be brought against the Company and its officers
and directors arising from the matters described above. The Company has
directors and officers insurance which may cover a portion of the liability
asserted in the Actions. The Company believes the Actions are without merit
and intends to defend the Actions vigorously. No assurance can be given that
the resolution of the Actions and/or future actions will not have a material
adverse effect on the Company's results of operations and liquidity. The
Company is exploring all of its legal remedies in respect of what it believes
to be false allegations against the Company made by short sellers of its
stock; the Company expects to incur significant expenses in this regard. See
"Recent Events."
Item 2. Changes in Securities and Use of Proceeds.
None.
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Submission of Matters to a Vote of Security Holders.
None.
Item 5. Other Information.
Notice for any proposal for an eligible shareholder outside the
process of Rule 14a-8 promulgated under the Securities and Exchange Act of
1934, in order to be considered timely, must be received by the Company by May
31, 1999. The Company anticipates holding its next Annual Meeting of
Shareholders in the last six months of 1999.
30
<PAGE>
Item 6. Exhibits and Reports on Form 8-K.
(a) 27 - Financial Data Schedule.
(b) Reports on Form 8-K.
None.
31
<PAGE>
EXHIBIT INDEX A
Exhibit No. Document Page
- ----------- -------- ----
27 Financial Data Schedule 34
32
<PAGE>
SIGNATURES
In accordance with the requirements of the Exchange Act, the
registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
CHROMATICS COLOR SCIENCES INTERNATIONAL, INC.
/s/ Darby S. Macfarlane
Date: November 16, 1998 --------------------------------------
Darby S. Macfarlane
Chief Executive Officer
/s/ Leslie Foglesong
Date: November 16 , 1998 --------------------------------------
Leslie Foglesong
Treasurer and Chief Financial
and Principal Accounting Officer
33
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
consolidated financial statements and is qualified in its entirety by
reference to such financial statements.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> SEP-30-1998
<CASH> 6,267,700
<SECURITIES> 0
<RECEIVABLES> 92,400
<ALLOWANCES> 0
<INVENTORY> 148,300
<CURRENT-ASSETS> 6,573,900
<PP&E> 2,180,000
<DEPRECIATION> (319,100)
<TOTAL-ASSETS> 9,188,800
<CURRENT-LIABILITIES> 1,023,900
<BONDS> 0
13,800
0
<COMMON> 15,400
<OTHER-SE> 8,135,700
<TOTAL-LIABILITY-AND-EQUITY> 9,188,800
<SALES> 45,000
<TOTAL-REVENUES> 359,200
<CGS> 0
<TOTAL-COSTS> 5,715,800
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 20,500
<INCOME-PRETAX> (5,377,100)
<INCOME-TAX> 0
<INCOME-CONTINUING> (5,377,100)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (5,377,100)
<EPS-PRIMARY> (0.36)
<EPS-DILUTED> (0.36)
</TABLE>
