SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 1997
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 0-24752
Wave Systems Corp.
(Exact name of registrant as specified in its charter)
Delaware 13-3477246
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
480 Pleasant Street
Lee, Massachusetts 01238
(Address of principal executive offices)
(Zip code)
(413) 243-1600
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [ X ] No [ ]
The number of shares outstanding of each of the issuer's classes of
common stock as of March 31, 1997: 12,187,616 shares of Class A Common Stock and
5,832,026 shares of Class B Common Stock.
<PAGE>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
WAVE SYSTEMS CORP. AND SUBSIDIARIES
(a development stage corporation)
Consolidated Balance Sheets
<TABLE>
<CAPTION>
March 31, December 31,
1997 1996
------------------ ------------------
(Unaudited)
ASSETS
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 1,699,730 $ 4,064,324
Prepaid expenses and other receivables, including notes from affiliates 68,552 70,358
------------------ ------------------
Total current assets 1,768,282 4,134,682
Property, equipment, and leasehold improvements less accumulated depreciation
and amortization of $705,910 in 1997 and $622,356 in 1996 1,017,185 934,798
Goodwill, net of accumulated amortization of $87,308 in 1997 and $39,686 in 1996 865,130 912,752
Other assets 231,314 254,987
================== ==================
3,881,911 6,237,219
================== ==================
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilites:
Accounts payable and accrued expenses $ 886,469 $ 937,163
------------------ ------------------
Total current liabilities 886,469 937,163
------------------ ------------------
Note Payable 476,531 465,500
------------------ ------------------
Preferred Stock
Series A Cumulative Redeemable Preferred Stock, $.01 par value; 360 shares
issued and outstanding in 1997 and 1996; involuntary liquidation value
$455,400 443,034 432,334
Series B Cumulative Convertible Preferred Stock, $.01 par value; 20 shares
issued and outstanding in 1996 - 195,520
Series C Cumulative Redeemable Preferred Stock, $.01 par value.; 149,250 shares
issued and outstanding in 1997 and 150,000 in 1996; involuntary liquidation
value, $3,032,000 3,031,747 2,647,742
------------------ ------------------
Total preferred stock 3,474,781 3,275,596
------------------ ------------------
Stockholders' equity (deficit):
Preferred stock, $.01 par value, Authorized 2,000,000 shares:
360 shares issued and outstanding as Series A Cumulative Redeemable
Preferred Stock - -
149,250 shares issued and outstanding as Series C Cumulative Convertible
Preferred Stock - -
Common stock, $.01 par value, Authorized 25,000,000 shares as Class A;
12,187,616 issued and outstanding in 1997 and 11,582,086 in 1996 121,876 115,821
Common stock, $.01 par value. Authorized 13,000,000 shares as Class B;
5,832,026 issued and outstanding in 1997 and 6,208,141 in 1996 58,320 62,081
Capital in excess of par value 33,117,897 33,052,432
Deficit accumulated during the development stage (34,004,929) (31,426,669)
Less: Note receivable from stockholder, including accrued interest of $75,859
in 1997 and $71,530 in 1996 (249,034) (244,705)
------------------ ------------------
Total stockholders' equity (deficit) (955,870) 1,558,960
------------------ ------------------
$ 3,881,911 $ 6,237,219
================== ==================
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
<PAGE>
WAVE SYSTEMS CORP. AND SUBSIDIARIES
(a development stage corporation)
Consolidated Statements of Operations
(Unaudited)
<TABLE>
<CAPTION>
Period from
Three months February 12,
Ended 1998 (Inception)
March 31 through
---------------------------------- March 31,
1997 1996 1997
---------------- ---------------- --------------------
<S> <C> <C> <C>
Revenues $ 415 $ 1,148 $ 1,873
---------------- ---------------- --------------------
Operating expenses:
Selling, general, and administrative 1,686,743 985,450 21,140,098
Research and development 906,783 910,297 13,506,469
---------------- ---------------- --------------------
2,593,526 1,895,747 34,646,567
---------------- ---------------- --------------------
Interest income 25,882 65,783 1,028,932
Interest expense (11,031) - (401,887)
Other income - - 12,720
---------------- ---------------- --------------------
14,851 65,783 639,765
---------------- ---------------- --------------------
Net loss (2,578,260) (1,828,816) (34,004,929)
Accrued dividends on preferred stock (including
accretion of assured incremental yield on
Series B and C preferred stock of $721,476 in
1997) 1,134,877 10,448 2,130,390
---------------- ---------------- --------------------
Net loss to common stockholders $ (3,713,137) $ (1,839,264) $ (36,135,319)
================ ================ ====================
Weighted average number of common shares
outstanding during the period 17,893,011 14,213,673 8,778,625
Loss per common share $ (0.21) $ (0.13) $ (4.12)
================ ================ ====================
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
<PAGE>
WAVE SYSTEMS CORP. AND SUBSIDIARIES
(a development stage corporation)
Consolidated Statements of Cash Flows
(Unaudited)
<TABLE>
<CAPTION>
Period from
February 12,
Three months 1988 (Inception)
ended March 31, through
------------------------------------- March 31,
1997 1996 1997
----------------- ----------------- -------------------
Cash flows from operating activities:
<S> <C> <C> <C>
Net loss $ (2,578,260) $ (1,828,816) $ (34,004,929)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 132,418 64,276 833,092
Reserve for short-term loans to affiliate - - 1,672,934
Accrued interest on marketable securities - (50,400) (106,962)
Noncash expenses:
Common stock issued in connection with License and Cross-License
Agreement - - 1,124,960
Common stock issued for services rendered and additional interest on
borrowings 168,750 63,072 2,540,312
Accrued interest on note payable 11,031 20,531
Preferred stock issued for services rendered - - 265,600
Compensation associated with issuance of stock options - - 399,740
Amortization of deferred compensation - - 398,660
Amortization of discount on notes payable - - 166,253
Common stock issued by principal stockholder for services rendered - - 565,250
Changes in assets and liabilities:
Increase in accrued interest on note receivable (4,329) (4,329) (75,859)
Decrease (increase) in prepaid expenses and other receivables 1,806 57,364 (68,552)
Decrease (increase) in other assets 22,430 (204,666) (247,473)
(Decrease) Increase in accounts payable and accrued expenses (50,694) (349,772) 1,023,981
----------------- ----------------- -------------------
Net cash used in operating activities (2,296,848) (2,253,271) (25,492,462)
----------------- ----------------- -------------------
Cash flows for investing activities:
Acquisition of property and equipment & leasehold improvement (165,941) (62,552) (1,716,753)
Short-term loans to affiliate - - (1,672,934)
Organizational costs - - (14,966)
Purchase of marketable securities-held to maturity - - (27,546,769)
Maturity of marketable securities-held to maturity - - 27,653,731
----------------- ----------------- -------------------
Net cash used in investing activities (165,941) (62,552) (3,297,691)
----------------- ----------------- -------------------
Cash flows from financing activities:
Net proceeds from issuance of common stock 98,195 210,815 22,669,777
Net proceeds from issuance of Series B Preferred Stock - - 5,950,027
Sale of warrants - - 4
Note receivable from stockholder - - (173,175)
Proceeds from notes payable and warrants to stockholders - - 2,083,972
Repayments of notes payable to stockholders - - (1,069,972)
Proceeds from notes payable and warrants - - 1,284,250
Repayment of note payable - - (255,000)
Advances from stockholder - - 227,598
Repayments of advances from stockholders - - (227,598)
----------------- ----------------- -------------------
Net cash provided by financing activities 98,195 210,815 30,489,883
----------------- ----------------- -------------------
Net (decrease) increase in cash and cash equivalents (2,364,594) (2,105,008) 1,699,730
Cash and cash equivalents at beginning of period 4,064,324 2,511,928 -
----------------- ----------------- -------------------
Cash and cash equivalents at end of period $ 1,699,730 $ 406,920 $ 1,699,730
================= ================= ===================
</TABLE>
No cash was paid for interest during the three months ended March 31, 1997 or
1996.
See accompanying notes to unaudited consolidated financial statements.
<PAGE>
WAVE SYSTEMS CORP. AND SUBSIDIARIES
(a development stage corporation)
Consolidated Statements of Stockholders' Equity (Deficit)
Three Months Ended March 31, 1997
(Unaudited)
<TABLE>
<CAPTION>
Class A Class B Capital Deficit Note
Common Stock Common Stock in Excess Accumulated Receivable
----------------------- ----------------------- of During the from
Shares Amount Shares Amount Par Value Development Stage Stockholder Total
----------- ----------- ----------- ----------- ------------- ------------------- ------------- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at
December 31,
1996 11,582,086 $ 115,821 6,208,141 $ 62,081 $33,052,432 $ (31,426,669) $ (244,705) $1,558,960
Exercise of options
to purchase
Class A stock 41,665 417 - - 97,778 - - 98,195
Shares issued for
services 60,000 600 - - 168,150 - - 168,750
Conversion of Series B
preferred stock 117,240 1,172 - - 198,044 199,216
Conversion of Series C
preferred stock 10,510 105 14,895 15,000
Accrual of interest on
note receivable - - - - - - (4,329) (4,329)
Accrued dividend on
preferred stock - - - - (413,402) - - (413,402)
Exchange of Class B
stock for Class A
stock 376,115 3,761 (376,115) (3,761) - - - -
Net (loss) for three
months ended
March 31,1997 - - - - - (2,578,260) - (2,578,260)
----------- ----------- ----------- ----------- ------------- ------------------- ------------- -----------
Balance at March 31,
1997 12,187,616 121,876 5,832,026 58,320 33,117,897 (34,004,929) (249,034) (955,870)
=============================================================================================================
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
<PAGE>
WAVE SYSTEMS CORP. AND SUBSIDIARIES
(a development stage corporation)
Notes To Consolidated Financial Statements
March 31, 1997 and 1996
In the opinion of management, the accompanying unaudited condensed consolidated
financial statements contain all adjustments (consisting only of normal
recurring adjustments) necessary to present fairly the financial position of the
Company as of March 31, 1997, and the results of its operations and cash flows
for the three months ended March 31, 1997. Such financial statements have been
condensed in accordance with the applicable regulations of the Securities and
Exchange Commission.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been omitted. It is suggested that these condensed consolidated financial
statements be read in conjunction with the Company's audited financial
statements and notes thereto for the year ended December 31, 1996, included in
its Form 10-K filed in March 1997. The results of operations for the three
months ended March 31, 1997 are not necessarily indicative of the operating
results for the full year.
Statement of Financial Accounting Standards No. 128 (SFAS 128), "Earnings Per
Share," which supersedes APB Opinion No. 15, "Earnings Per Share," was issued in
February 1997. SFAS 128 requires dual presentation of basic and diluted earnings
per share (EPS) for complex capital structures on the face of the statement of
operations. Basic EPS is computed by dividing income or loss by the weighted
average number of common shares outstanding for the period. Diluted EPS reflects
the potential dilution from the exercise or conversion of securities into common
stock, such as stock options. SFAS 128 is required to be adopted for year-end
1997; earlier application is not permitted. The Company does not expect the
basic or diluted EPS measured under SFAS 128 to be materially different than if
measured under APB No. 15.
Statement of Financial Accounting Standards No. 129 (SFAS 129), "Disclosure of
Information about Capital Structure," was issued in February 1997. The Company
does not expect SFAS 129 to result in any substantive change to its disclosures.
1. (Loss) per Share:
(Loss) per share is computed based on the weighted average number of common
shares outstanding. The inclusion of common stock equivalents (warrants, options
and convertible preferred stock) in this computation would be antidilutive.
2. Going Concern:
The Company has incurred significant losses in current and prior periods.
Management intends to continue to devote resources toward the research,
development and marketing of its products in order to generate future revenues
from licensing and product sales. In addition, the Company is actively pursuing
additional short and long term financing sources, including debt and equity
financing. Although management believes that it can successfully research,
develop and market its products and obtain additional financing, there can be no
assurance that it will be able to do so.
3. Stock Options and Grants:
During the quarter ended March 31, 1997, the Company granted various employees
options to purchase a total of 55,500 shares of Class A Common Stock at prices
ranging between $1.94 per share and $2.91 per share. These options were granted
at the market price on the date next preceding the date of grant.
4. Subsequent Event:
The Company has an agreement to raise additional funds by issuing shares of
Convertible Preferred Stock ("the Stock") for an aggregate price of $3,000,000.
The Stock will be sold to accredited investors, subject to the usual closing
representation, terms and conditions, including satisfactory due diligence,
pursuant to Regulation D promulgated under the Securities Act of 1933, as
amended. In addition to the Stock, the Company will also issue warrants to
purchase a total of 350,000 shares of Class A Common Stock as part of the
aforementioned transaction. The Company anticipates that this funding will
satisfy its capital requirements through September 30, 1997. However, it is not
assured that such funding will be consummated, and if it will be consummated, it
is not assured that such funding will be favorable to the Company.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
OVERVIEW
Wave Systems Corp. ("Wave" or the "Company") is in transition from a company
focused principally on research and development of new technology to a company
focused on the commercialization of its technology through licensing and product
sales. Since its inception in February of 1988, the Company has devoted
substantially all of its efforts and resources to research, feasibility studies,
design, development, and market testing of a system that meters the usage of
electronic content (the "Wave System"). Electronic content refers to any data,
graphic software, video or audio sequence that can be digitally transmitted.
Concurrent with its research and development activities, the Company has devoted
increased resources to market research, market development and other related
activities.
The Company believes that the Wave System can fundamentally change how
electronic content is consumed by providing more efficient and flexible pricing,
greater protection against unauthorized usage and secure, low-cost, and accurate
data on the usage of the electronic content. The currently operational Wave
System enables the merchandising of electronic content at the point of purchase,
increasing the probability that consumers will sample and consume the electronic
content that they want. The Wave System accurately and securely records
information pertaining to the usage of the electronic content. This facilitates
the payment of royalties to content owners and the customized distribution of
content to customers.
The Wave System consists of many uniquely distributed processors (the
"WaveMeter"). These devices decrypt content on demand from end users. The
WaveMeter is a proprietary application-specific integrated circuit, mounted on a
printed circuit board, or used as an add-in device in a stand-alone PC. The
WaveMeter allows transactions to occur without the expense of a real-time
network connection for every transaction. The WaveMeter securely stores
electronic funds and information about the usage of electronic content to be
securely transmitted to a central transaction processing center ("WaveNet").
WaveNet manages encryption and decryption keys, processes credit and usage
charges, automatically obtains credit authorization, calculates royalty
distributions, and can provide user and usage data to electronic content owners.
The Wave System is compatible with existing content delivery systems such as
CD-ROM and the Internet.
The Company has made the Wave System compatible with the distribution of
electronic content on the Internet. In 1996 the Company developed a production
software version of the WaveMeter that offers a subset of the feature of the
hardware version of the WaveMeter and has been implemented as part of the
Company's Internet commerce server (the "WaveMeter server"). The WaveMeter
server supports a publishing service called WINPublish and a purchasing function
called WINPurchase. Through WINPublish, an electronic content owner can sell
encrypted content from its site on the Web to purchasers using the WINPurchase
function.
The Company's strategy is to achieve broad market acceptance of the Wave System
as a standard platform for commerce in electronic content. To achieve this goal
the Company pursues strategic relationships with hardware manufacturers and
companies involved in electronic content commerce, and promotes the use of the
Wave System by electronic content owners, particularly among developers and
distributors of entertainment and educational software. The compatibility with
the Web provides the foundation for the broad acceptance of the Wave System. The
Company views the acceptance by developers, distributors and consumers of
entertainment and educational software as an important factor in the development
of a broad installed base of WaveMeters. The Company further believes that once
there is a broad installed base of WaveMeters, electronic content owners from
other market segments are likely to be attracted to the Wave System.
RESULTS OF OPERATIONS
Three Months Ended March 31, 1997 and 1996
Research and development expenses for the three months ended March 31, 1997 were
$906,783, as compared to $910,297 for the comparable period of 1996. The slight
decrease in research and development expenses was primarily attributable to the
stabilization of costs associated with the design and development of the
Company's proprietary integrated circuit technology, including non-recurring
engineering costs and prototype purchases, and the costs associated with the
design and development of WaveNet.
Selling, general and administrative expense for the three months ended March 31,
1997 were $1,686,743, as compared to $985,450 for the comparable period of 1996.
The increase in selling, general and administrative expenses was primarily
attributable to an increase in personnel and other related costs associated with
the development and marketing of new applications of the Company's technology.
Interest income for the three months ended March 31, 1997 was $25,882, as
compared to $65,783 for the comparable period of 1996. The decrease in interest
income is primarily attributable to a decrease in interest-bearing assets. The
increase in interest expense is related to the Company's $465,000 note payable
to Southeast Interactive Technology Fund I, LLC.
Due to the reasons set forth above, the Company's net loss for the three months
ended March 31, 1997 was $2,578,260 as compared to $1,828,816 for the comparable
period of 1996.
LIQUIDITY AND CAPITAL RESOURCES
The Company has experienced net losses and negative cash flow from operations
since its inception, and, as of March 31, 1997, had a deficit accumulated during
the development stage of $34,004,929 and a stockholders' deficit of $955,870.
The Company has financed its operations through March 31, 1997 principally
through the private placement of Class B Common Stock for an aggregate amount of
$6,201,931 (before deduction of expenses incurred in connection therewith), the
issuance of $2,873,250 in aggregate principal amount of its 10% Convertible
Notes and 15% Notes (of which $2,098,250 was converted into Class B Common
Stock), the sale of 3,728,200 shares of its Class A Common Stock in an initial
public offering raising approximately $15,711,000 after all expenses, and the
private placement of 350 shares of Series B Preferred Stock and 150,000 shares
of Series C Convertible Preferred Stock for an aggregate amount of $6,500,000
(before deduction of expenses incurred in connection therewith). In addition,
the Company has attempted to contain costs and reduce cash flow requirements by
using consultants and compensating key employees, consultants, suppliers and
other vendors with Common Stock and options to purchase Common Stock.
At March 31, 1997, the Company had approximately $1,700,000 in cash and cash
equivalents. The Company held no marketable securities at March 31, 1997. At
December 31, 1996, the Company had approximately $4,064,000 in cash and cash
equivalents and held no marketable securities. The decrease in cash and cash
equivalents is attributable to the net cash used in operations. At March 31,
1997, the Company had working capital of approximately $882,000. The Company
expects to incur substantial additional expenses resulting in significant losses
at least through the period ending December 31, 1997 due to minimal revenues
associated with initial market entry, continued research and development costs
as well as increased sales and marketing expenses associated with market testing
and roll-out. On October 19, 1997 the Company's Series A Cumulative Redeemable
Preferred Stock must be redeemed for a total amount of $450,000 plus accumulated
interest. The Company has a commitment for funding which will satisfy its
capital requirements through September 30, 1997.
Significant uncertainty currently exists with respect to the adequacy of current
funds to support the Company's activities. This uncertainty will continue until
a positive cash flow from operations can be achieved. Additionally, the Company
is uncertain as to the availability of financing from other sources to fund any
cash deficiencies. These uncertainties raise doubt about the Company's ability
to continue as a going concern.
In order to reduce these uncertainties, the Company is currently evaluating
additional financing options and may therefore elect to raise capital, from time
to time, through equity or debt financings in order to capitalize on business
opportunities and market conditions and insure the continued development of the
Company's technology, products and services.
The Company presently has no material commitments for capital expenditures.
However, in order to bring the Wave System to market, the Company anticipates
spending additional amounts on inventory items such as computer chips and
boards, additional hardware, and related materials. Such spending will vary
based on the Company's performance.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Dated: May 13, 1997
WAVE SYSTEMS CORP.
(Registrant)
By: /s/ Peter J. Sprague
-------------------------------------------
Name: Peter J. Sprague
Title: Chairman, Chief Executive Officer
(Principal Financial Officer and Duly
Authorized Officer of the Registrant)
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> MAR-31-1997
<CASH> 1,699,730
<SECURITIES> 0
<RECEIVABLES> 68,552
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 1,768,282
<PP&E> 1,723,095
<DEPRECIATION> 705,910
<TOTAL-ASSETS> 3,881,911
<CURRENT-LIABILITIES> 886,469
<BONDS> 476,531
3,474,781
0
<COMMON> 180,196
<OTHER-SE> 0
<TOTAL-LIABILITY-AND-EQUITY> 3,881,911
<SALES> 0
<TOTAL-REVENUES> 415
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 2,593,526
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (2,578,260)
<INCOME-TAX> 0
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,578,260)
<EPS-PRIMARY> (0.21)
<EPS-DILUTED> 0
</TABLE>
