<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
(Mark One)
[X] Annual report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 [Fee Required]
For the fiscal year ended December 31, 1996
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 [No Fee Required]
For the transition period from _______________ to ________________
Commission File No. 0-27646
RACOM SYSTEMS, INC.
-------------------------------------------
(Name of Registrant in its Charter)
DELAWARE 84-1182875
- --------------------------------- ---------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
6080 Greenwood Plaza Blvd.
Greenwood Village, CO 80111
- ---------------------------------------- ---------------------
(Address of principal executive offices) (Zip Code)
Issuer's telephone number: (303) 771-2077
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
$.01 Par Value Common Stock
Common Stock Purchase Warrants
(Title of Class)
Check whether the Registrant (1) 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 No
X
----- -----
As of March 31, 1997, 13,032,532 shares of the Registrant's $.01 par
value Common Stock and 2,483,218 common stock purchase warrants were
outstanding. As of March 31, 1997, the market value of the Registrant's no
par value Common Stock, excluding shares held by affiliates, was
approximately $8,538,750 based upon a closing bid price of $2.875 per share
of Common Stock on the NASDAQ SmallCap Market.
Check if there is no disclosure contained herein of delinquent filers in
response to Item 405 of Regulation S-B, and will not be contained, to the best
of the Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. [X]
The Registrant's revenues for its year ended December 31, 1996 were
$2,427,285.
The following documents are incorporated by reference into Part III,
Items 9 through 12 hereof: None.
----
<PAGE>
PART I
ITEM 1. DESCRIPTION OF BUSINESS
- ------- -----------------------
The Company is a leading developer and marketer of contactless smart card
systems ("Smart Card(s)" or "Smart Card System(s)") used primarily in
electronic commerce. Generally the size of a credit card, Smart Cards are
used in a number of consumer applications including (i) access to restricted
areas (replacing keys and identification cards), (ii) public transportation
fare collection (replacing bus tokens, taxi cab charge cards, airline or
railway tickets), (iii) point of sale purchases (replacing cash or
supplementing credit cards at cafeterias, newsstands and related point of
sale locations where speed of purchase is important), and (iv) miscellaneous
small monetary transactions (replacing coins and cash at parking lots, in
vending machines and public telephones and the like). Smart Card technology
is also used in industrial applications such as attaching a "tag" containing
the Smart Card technology to a manufactured product in order to track the
product from the assembly line through quality control, warehousing,
inventory control, distribution and warranty.
The Company completed an initial offering of its securtities (the "IPO")
on March 12, 1997. The securities consisted of 1,500,000 units offered to
the public at $4.75 per unit for net proceeds of approximately $6.0 million.
Each unit consisted of one share of common stock and one common stock
purchase warrant to purchase an additional share at $5.94 per share at any
time until March 12, 1999.
The Company's Smart Cards are "contactless" and therefore do not require
the use of a magnetic stripe or insertion in a terminal as is required by
contacted cards ("Contacted Card(s)"). Instead, the Company's Smart Card
System involves direct wireless radio frequency communication between a
ferroelectric random access memory ("FRAM") chip in the Smart Card and a
terminal. The Company's FRAM chip does not require battery power and allows
for processing the Smart Card transaction in a fraction of a second by waving
the Smart Card near the terminal. Moreover, the Smart Card does not require
insertion in the terminal or the use of a keypad and therefore may be used by
all members of the population regardless of age or physical health and in
both indoor and outdoor locations.
For consumers and goods and services providers, the Company's Smart Cards
offer the convenience and accuracy of high speed transaction processing
without the requirement of carrying cash, checks or credit cards, thereby
reducing the threat of theft, inventory shrinkage, and payment fraud
resulting from the handling of cash or the counterfeiting of cash or credit
cards. Goods and services providers do not have to risk loss resulting from
(i) accepting cash or checks which may be subsequently stolen from them after
payment by consumers or (ii) accepting credit cards which may have been
stolen prior to such payment. Consumer loss is limited because the Smart Card
is programmed to be used to purchase only specific goods or services which is
not as attractive to a thief when compared to the broader illegal uses for
stolen cash, checks or credit cards. The Smart Card is designed to complement
credit cards rather than replace them in that Smart Card applications involve
the storage and handling of substantially more data than credit cards and can
therefore be used for other applications (rather than just purchase and sale
transactions) such as electronic purses, identification of the user and other
portable data functions.
The Company sells its Smart Card Systems through its own direct sales
force, through a combination of joint ventures and strategic alliances and
through selective licensing and distributorship arrangements and agreements
with independent sales representatives in foreign countries. Since 1993, the
Company has designed Smart Card Systems for over 100 customers in cities
throughout the
<PAGE>
world including Singapore, Macau, Hong Kong, Tokyo, Manchester, Paris, Milan,
Los Angeles, Chicago and Denver. Examples of the Company's Smart Card
projects (the first three of which are discussed below as representative of
the Company's projects) include the following:
<TABLE>
USER (LOCATION) DESCRIPTION OF INSTALLATION
- ------------------------------------------------------- -------------------------------------------------
<S> <C>
Chep Lap Kok International Airport--(Hong Kong) access control, point of sale and payroll
City of Lompoc and Ventura County, California--
(United States) automatic fare collection
Lubbock International Airport--(United States) parking facility fee collection
Chicago Transit Authority--(United States) automatic fare collection
Yamatake Honeywell Limited--(Japan) factory automation
City of Winston-Salem Transit Authority--
(United States) automatic fare collection
LWD, Inc.--(United States) hazardous waste tracking
Microlise Engineering Limited--(United Kingdom) access control
Boreal Ridge Corp.--(United States) maintenance tracking
Nittetsu Shoji Co., Ltd.--(Japan) point of sale/cafeteria and access control
ST Electronic & Engineering Limited-- (Singapore) access control
UVM s.r.l. Ufficio Vendita Macchine--(Italy) point of sale
Transmac Transportes Urbanos DeMacau, S.A.R.L.--(Macau) automatic fare collection
</TABLE>
The Company implemented a Smart Card System at the Chep Lap Kok
International Airport under construction in Hong Kong which accepts Smart
Cards as a form of access by employees onto the airport site and is the only
form of payment accepted at airport cafeterias, in vending machines, and at
other
<PAGE>
employee facilities. The Smart Cards may be used to charge expenses to the
employee's employer and offer an additional purse for the employee's own
purchases.
A Smart Card System installed by the Company in the City of Lompoc and in
Ventura County, California collects bus fares using a Smart Card. Passengers
purchase Smart Cards loaded with bus fares and wave the Smart Card near a
terminal as they board the bus. The Company has been advised that bus dwell
time has been reduced and passenger boarding has become more efficient.
A parking facility payment system developed by the Company at Lubbock
International Airport uses Smart Cards for access into parking areas and for
fee collection. The Smart Card System allows parkers to enter the facility by
presenting the Smart Card at the gate. When leaving, the customer again
presents the Smart Card, which is debited for the parking fees. The Company
has been advised that the Smart Card System has lowered overhead costs and
decreased waiting times at the parking gates.
In April 1996, the Company began customer testing a new Smart Card,
designed to be used for both contacted and contactless applications. The
Company believes the new Smart Card will be of interest to Smart Card System
providers who wish to install contactless systems without substantially
modifying their Contacted Card applications software or eliminating expensive
Contacted Card terminals and related hardware.
SMART CARD INDUSTRY OVERVIEW
Smart card products, including the Company's Smart Card (collectively
referred to as "generic smart cards"), are credit card size pieces of plastic
containing an integrated circuit chip ("chip") which can process and store
information. Today's generic smart cards typically have the processing power
of an early 1980's vintage personal computer, minus a keyboard, display and
power supply. Because generic smart cards are really portable computers, they
can be programmed to perform virtually any function which can be implemented
by software. Generic smart cards benefit directly from ongoing advances in
semiconductor technology making available continuously increasing performance
and features at declining cost.
There are two basic types of generic smart cards, memory cards and
microprocessor cards, each of which can interface between the generic smart
card and a terminal on a contacted or contactless basis. Memory cards are
typically used to store and retrieve information only and do not have the
capability of performing complex processing of information. Microprocessor
cards are true
<PAGE>
"smart" cards in that they contain a central processing unit within a chip
which can perform a number of functions, including complex arithmetic
operations required for security. In excess of 90% of all generic smart cards
sold in 1995 were memory cards with contacted interfaces requiring alignment
and insertion of the generic smart card into a terminal to complete an
electrical circuit with the metal contacts on the surface of the card. While
contacted generic smart cards have found broad use in high volume, cost
sensitive applications such as pay phones, systems using contacted generic
smart cards are expensive to maintain, less reliable and are too slow for
applications such as transportation. To address the perceived shortcomings of
the contacted generic smart card, a contactless generic smart card was first
developed and introduced in the early 1990's.
According to the U.S. Federal Reserve, 68% of the approximately 360
billion financial transactions completed in 1995 were for transactions of
less than $2.00 each. Electronic commerce using electronic funds transfer,
magnetic stripe cards and generic smart cards accounted for less than ten
percent of all such transactions with an annual growth rate of seventeen
percent versus one percent growth for transactions using cash, coin and
checks. The Company believes that the evolution of personal computers, the
Internet and generic smart cards represent technologies which will contribute
to the growth of electronic commerce in the future.
By the year 2000, over four billion generic smart cards are expected to
be in circulation worldwide, up from approximately 500 million in 1996. In
the United States an estimated 25 percent of households are expected to be
using generic smart cards to access information from computers or television
sets, to communicate by cell phones, to access healthcare and to make
electronic payments. Generic smart card based phone cards are now used in
over 60 countries accounting for the issuance of over 200 million such cards
per year.
According to the SMART CARD GROWTH FORECAST, by the year 2000, generic
smart cards used in transportation are expected to increase from 2 million to
150 million and identity/access generic smart cards are expected to increase
from 3 million to 300 million.
STRATEGY
The Company's business strategy is to:
CONTINUE TO DEVELOP NEW SMART CARD SYSTEMS. The Company believes it was
the first to introduce contactless Smart Cards using FRAM technology and
batteryless powered radio frequency communication. The Company intends to
continue to design and develop Smart Card Systems in order to maintain what
it believes to be its leadership in Smart Card technology. The Company's
research and development
<PAGE>
efforts will focus on developing new Smart Card products for automating
financial transactions and further enhancing Smart Card performance,
reliability and cost effectiveness.
EXPAND THE COMPANY'S SMART CARD SYSTEMS APPLICATIONS. The Company will
seek to expand the applications for its existing Smart Card products and to
develop new Smart Card products. Emphasis will be placed on developing Smart
Card products outside the fare collection and access control industries,
including new point of sale Smart Card products as well as expanded
industrial applications.
GROW REVENUES THROUGH STRATEGIC ALLIANCES, JOINT VENTURES AND SELECTIVE
LICENSING. The Company will continue to pursue strategic alliances, joint
ventures and licensing agreements with firms such as Nippon Steel Information
and Communication Systems, Inc., Perot Systems Corporation, General Signal,
Inc. and Rohm Co., Ltd. in order to gain access to new markets. The Company
will also continue to license its technology in order to generate revenue
from operations, develop royalty income and gain access to the manufacturing
facilities and complimentary technologies of its licensees.
EMPHASIZE MARKETING OF THE COMPANY'S SMART CARD PRODUCTS IN NORTH
AMERICA. Although the Smart Card market, as well as the Company's own
marketing efforts, has generally been focused on Europe and Asia, the Company
will seek to participate in new Smart Card projects being developed in such
North American cities as Los Angeles, San Francisco and Seattle. In order to
enhance the Company's efforts in the North American market, the Company
recently reorganized its North American sales activities along industry
market segments including (i) transportation, (ii) automation and control in
industrial applications, and (iii) point of sale for entertainment and
leisure.
CONTINUE TO OUTSOURCE MANUFACTURING TO CONTROL FIXED COSTS. Since
inception, the Company has subcontracted substantially all of its
manufacturing operations. The Company will continue to contract with third
parties to manufacture the Company's Smart Card products in order to avoid
capital intensive investments and to focus the Company's limited resources on
new product applications and software development.
MARKETING
The Company sells its Smart Card Systems through its direct sales force
based at its corporate headquarters in Greenwood Village, Colorado, through a
combination of joint ventures and strategic alliances and through selective
licensing and distributorship arrangements and agreements with independent
sales representatives in foreign countries.
In North America, the Company's direct sales force is organized by market
<PAGE>
segment with primary emphasis on the transportation industry and to a lesser
extent industrial applications, health care and entertainment and leisure. At
December 31, 1996, the Company's direct sales force included nine full-time
employees.
Examples of the Company's joint ventures and strategic alliances include (i)
the Company's arrangement with Perot Systems Corporation and the GFI-GENFARE
unit of General Signal, Inc. to develop automatic fare collection systems and
services for public transportation projects in North America which combine the
subsystems of each company, and (ii) a joint product development agreement with
Rohm Co., Ltd. ("Rohm") to design custom FRAM based Smart Card products solely
in Japan.
In Japan, the Company has formed Racom Japan, Inc. ("RJ"), a joint venture
based in Tokyo, with Nittetsu Shoji Co., Ltd. ("NS"), a subsidiary of Nippon
Steel Information and Communication Systems, Inc., to market and sell the
Company's Smart Card Systems in Japan. RJ is 40% owned by the Company and acts
as the exclusive distributor in Japan of certain of the Company's Smart Card
products.
In France, the Company has entered into a non-exclusive distribution
agreement with Bull CP8, a division of Group Bull. Bull CP8 distributes the
Company's Smart Card products worldwide, with emphasis on the European market.
In Canada, Mexico, Germany, Italy, the Netherlands, the United Kingdom and
South America, the Company uses commissioned independent sales representatives.
The Company also markets its Smart Card Systems through participation in
trade shows, publication of trade articles, participation in industry forums
and technological standard-setting organizations, and through distribution of
sales literature. The Company encourages customer referrals and has used
certain customer Smart Card installations as demonstration sites for its Smart
Card products. The Company has also established an Internet web site and
e-mail capabilities.
Two customers (Racom Japan and Transmac) accounted for 10% or more of the
Company's net product sales for year ended December 31, 1996; three customers
(Bull CP8, Impulse Enterprises, Inc. and Echelon Industries, Inc.) accounted for
10% or more of such product sales for the year ended December 31, 1995; and
three customers (Intag International, Inc., Deutsche Aerospace AG and Nittetsu
Shoji Co., Ltd.) accounted for 10% or more of such product sales for the year
ended December 31, 1994.
The selling process for the Company's Smart Card Systems often involves a
team comprised of individuals from the Company's sales, marketing, engineering
<PAGE>
and operations departments as well as senior management. Teams frequently engage
in combined sales efforts directed toward a variety of customers such as systems
integrators, financial services providers and end users. The selling period
often exceeds a year because some customers require Smart Card Systems to be
tested against various performance standards and competitive products. The
Company is also frequently required to complete field trials of its Smart Card
Systems as a pre-condition to purchase.
MANUFACTURING AND ASSEMBLY
The Company's manufacturing and assembly operations consist primarily of
final assembly, test, burn-in and quality control of Smart Card terminals as
well as programming, testing and quality control of the Smart Cards themselves
(and tags in the case of industrial applications). The Company subcontracts
assembly of Smart Cards, terminals and card lamination to multiple United
States, Japanese, and Asian based companies who specialize in this kind of
contract work. Should production volumes increase, the Company intends to
consolidate its outside contract manufacturing in order to gain greater
economies of scale and to better control product quality. The Company's current
capacity through its contract manufacturers is approximately 25,000 Smart
Cards/tags and 200 terminals per month. The Company also operates its own
prototype Smart Card manufacturing facility to support new product introductions
and lower volume customer requirements.
The Company purchases a wide variety of electrical and mechanical components
as well as sub-assemblies for integration into the Company's Smart Card Systems.
With two notable exceptions, most materials are available from several supply
sources. The FRAM chips used in the Company's Smart Cards and tags are currently
supplied by two sources, Ramtron located in Colorado Springs, Colorado, and Rohm
located in Kyoto, Japan. Ramtron and Rohm own 36.8% and 3.8%, respectively, of
the Company's Common Stock. By 1998, the Company expects that two additional
semiconductor manufacturers will be available to supply the Company's FRAM
chips. The Company is dependent on maintaining at least one reliable source of
supply for its FRAM chips and its business would be materially adversely
affected if no such source were available. Currently, all of the Company's
terminals include a component manufactured by only one United States company. If
necessary, the Company could redesign its terminals to use a similar component
available from other semiconductor manufacturers, although such a redesign would
be time-consuming and expensive and would adversely affect the Company's
operations.
COMPETITION
The market for Smart Card products is new, intensely competitive, quickly
<PAGE>
evolving and subject to rapid technological change. Competitors may develop
superior products or products of similar quality for sale at lower prices.
Moreover, there can be no assurance that the Company's Smart Card will not be
rendered obsolete by changing technology or new industry standards. The Company
expects competition to persist and increase in the future. The Company's current
and potential competitors are primarily subsidiaries of multinational companies
with established Contacted Card and contactless Smart Card businesses who have
longer operating histories, greater name recognition, larger customer bases and
significantly greater financial, technical and marketing resources than the
Company. This intense level of competition could materially adversely affect the
Company's future business, operating results and financial condition.
Competitive factors in the industry include transaction speed, the extent
and flexibility of Smart Card memory, reliability, transaction accuracy and
cost, all of which are discussed below. There can be no assurance that the
Company will be able to compete successfully against current or future
competitors or that competitive pressures faced by the Company will not
materially adversely affect its business, operating results and financial
condition. Many of the Company's competitors have the financial resources
necessary to enable them to withstand substantial price and product competition,
which are expected to increase, and to implement extensive advertising and
promotional programs, both generally and in response to efforts by other
competitors to enter into existing markets or introduce new products. The
industry is also characterized by frequent introductions of new products. The
Company's ability to compete successfully will be largely dependent on its
ability to anticipate and respond to various competitive factors affecting the
Smart Card industry, including new products which may be introduced, changes in
customer preferences, demographic trends, pricing strategies by competitors and
consolidation in the industry where smaller companies with leading edge
technologies may be acquired by larger multinational companies.
Contacted Cards represent the Company's primary competition in electronic
commerce applications. Contacted Card competitors include such multinational
firms as Gemplus, Schlumberger and Group Bull. The Company believes that it
is able to compete favorably against Contacted Cards because the Company's
contactless Smart Cards (i) operate at higher speeds, (ii) do not require the
time and effort involved in inserting the Smart Card in a terminal or removing
the Smart Card from a wallet or purse, (iii) use reliable solid state
electronics with no moving parts, exposed contact points or magnetic stripes
which can be erased by a magnetic field, and (iv) are lower in cost over the
product life.
The Company also competes against contactless Smart Cards designed by
Philips GmbH, Sony Corporation, Gemplus and Micron Communications, Inc., which
use contactless technologies other than the Company's FRAM technology. The
Company believes that its Smart Cards compete favorably against these other
<PAGE>
contactless technologies because the Company's contactless Smart Cards operate
at higher speeds and do not require batteries for power.
The Company's Smart Cards are priced at parity with competitors' contactless
Smart Card products but sell at a premium to Contacted Cards. The Company
expects, but cannot assure, that its Smart Card manufacturing costs will
diminish as anticipated volumes increase and as other semiconductor
manufacturers begin to offer FRAM chips for use in the Company's Smart Cards.
Recently, Matsushita Electronics Corporation ("Matsushita"), a multinational
semiconductor manufacturer, announced it intends to market a ferroelectric
chip-based Smart Card which will also communicate by radio frequency. The
Company believes that Matsushita's initial Smart Cards will offer smaller
memories than those of the Company, but there can be no assurance that the
introduction of these competitive Smart Cards (anticipated in Spring 1997) will
not materially adversely affect the Company's operations.
REGULATION
The Company's Smart Card products use radio frequency communications and
other technologies which make them subject to regulation by the Federal
Communications Commission ("FCC") in the United States and to export licensing
by the United States Government when sold internationally. Smart Card products
are subject to similar regulation by some foreign governments for use within
their countries. All of the Company's products currently comply with FCC
regulations, similar regulations of the foreign countries in which the Company
sells its products and United States export license requirements. Future
compliance with FCC regulations, similar regulations in foreign countries and
United States export license requirements may be costly and time-consuming.
Moreover, a failure to comply with such regulations and requirements could
result in the Company being denied the right to sell its Smart Card products in
the jurisdiction of non-compliance.
Market needs and competitive pressures will require that the Company's
products contain certain regulated cryptographic algorithms in order to protect
information and cash substitutes stored in the Smart Cards. Export, import and
usage of such cryptographic algorithms is covered by a large and rapidly
changing body of regulations in the United States.
Contactless Smart Cards and terminal devices produced by the Company emit
radio frequency energy in order to function. Such emissions are governed by
federal and other regulations in most countries including the United States. The
Company's products currently comply with United States regulations. While
similar regulations exist in most countries where sales of the Company's
<PAGE>
products are anticipated, regulations can vary significantly from country to
country and can change frequently. Approvals can only be obtained after product
development is complete and therefore variations with United States regulations
or significant changes in each country's regulations could hinder product sales
to that country and thereby adversely affect the Company's business and
operating results.
Federal, state and local regulations impose various environmental controls
on the discharge of chemicals and gases which may be used in the Company's
present or future assembly processes. Moreover, changes in such environmental
rules and regulations may require the Company to invest in capital equipment and
implement compliance programs in the future. Any failure by the Company to
comply with environmental rules and regulations, including the discharge of
hazardous substances, could subject it to serious liabilities and could
materially adversely affect its operations.
PATENTS AND TRADE SECRETS
The Company relies on its own patents, trade secrets and copyrights as
well as the patents, trade secrets and copyrights of its licensors to protect
its Smart Card technology. Due to rapid changes in the generic smart card
industry, the Company believes that development of trade secrets and
unpatented proprietary knowledge in connection with new products and
technologies are generally as important as patent and copyright protection in
establishing and maintaining a competitive advantage. Nevertheless, the
Company has obtained patents and copyrights on certain of its Smart Card
technologies and will continue to aggressively pursue patents and copyrights
when available. To date, the Company has been awarded six United States
patents and is pursuing additional patents, both in the U.S. and in certain
foreign countries.
There can be no assurance that any of the Company's future patent
applications will be granted, that any current or future patent or patent
application will provide significant protection for the Company's products or
technology, be of commercial benefit to the Company, or that the validity of
such patents or patent applications will not be challenged. Moreover, there can
be no assurance that foreign patent, trade secret or copyright laws will protect
the Company's technologies or that the Company will not be vulnerable to
competitors who attempt to copy or use the Company's Smart Card products or
processes.
The Company has a license with certain exclusive rights, including the
right to grant a limited number of sublicenses, to use Ramtron's FRAM chip
technology, patents and improvements specifically for the development,
manufacture and sale
<PAGE>
of radio frequency identification devices, including the Company's contactless
Smart Cards. The exclusive provisions of the Company's license with Ramtron
become non-exclusive on January 1, 2006. The Company may in the future agree
with Ramtron to further amend the Technology License, although there are no
such agreements currently.
EMPLOYEES
The Company employs an aggregate of 26 employees, including its five
salaried executive officers, and believes its relations with its employees are
satisfactory.
LITIGATION
None.
ITEM 2. DESCRIPTION OF PROPERTY
- ------- -----------------------
The Company's headquarters are located in an 8,900 square foot leased
facility in Greenwood Village, Colorado, a suburb of Denver, Colorado. The
current lease (with a nonaffiliated landlord) requires a base monthly rental of
$8,419 and expires in November 1998. The Company has the right to renew the
lease for an additional three years at then-current rental market rates on 180
days prior written notice to the landlord. The Company has no rights of first
refusal or purchase options under the lease. The base rental may be increased
during the term of the lease to reflect the Company's share of any increases in
specified operating expenses for the facility, such as real estate taxes,
insurance, utilities and the like. The Company believes its existing facility is
adequate for its current needs and that suitable additional or substitute space
will be available as needed on commercially reasonable terms.
ITEM 3. LEGAL PROCEEDINGS
- ------- -----------------
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- ------- ---------------------------------------------------
Not applicable.
<PAGE>
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
- -------- --------------------------------------------------------
The Company's Common Stock has traded on the Small Cap Market under the
symbol "RCOM" since March 13, 1997.
The following table sets forth for the quarters indicated the range of
high and low bid prices of the Company's Common Stock as reported by the
Small Cap Market but does not include retail markup, markdown or commissions.
Price
-----------------
By Quarter Ended: High Low
- ----------------- ------ ------
March 31, 1997 $4.125 $2.500
As of March 31, 1997, the Company had approximately 1,070 record and
beneficial stockholders.
Dividend Policy
The Company has not paid cash dividends on its Common Stock in the
past and intends to retain earnings, if any, for use in the operation and
expansion of its business. The amount of future dividends, if any, will be
determined by the Board of Directors based upon the Company's earnings,
financial condition, capital requirements and other conditions.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
- -------- --------------------------------------------------
GENERAL
The Company is a leading developer and marketer of contactless smart card
systems ("Smart Card(s)" or "Smart Card System(s)") used primarily in electronic
commerce. Generally the size of a credit card, Smart Cards are used in a number
<PAGE>
of consumer applications including (i) access to restricted areas (replacing
keys and identification cards), (ii) public transportation fare collection
(replacing bus tokens, taxi cab charge cards, airline or railway tickets and the
like), (iii) point of sale purchases (replacing cash or credit cards at
cafeterias, newsstands and related point of sale locations where speed of
purchase is important), and (iv) miscellaneous small monetary transactions
(replacing coins and cash at parking lots, in vending machines and public
telephones, etc.). Smart Card technology is also used in industrial applications
by attaching a "tag" containing the Smart Card technology to the manufactured
product in order to track the product from the assembly line through quality
control, warehousing, inventory control, distribution and warranty.
The Company principally generates revenues from licensing, fee based custom
product development projects and sale of its Smart Card products. In the future,
the Company anticipates that a substantial portion of its revenues will be
generated from custom product development projects and the sale of its Smart
Card products. For instance, revenues from one licensing transaction (which
involved the sale of a FRAM technology license to Racom Japan, a joint venture
with Nittetsu Shoji Co., Ltd. of Japan and the subsequent sublicensing of the
technology to an unrelated Japanese company) and one product development
contract (which involved the development for Bull CP8, a division of Group Bull,
of a Smart Card which can be used as a contacted or contactless card),
represented 59.0% and 24.7%, respectively, of the Company's revenues for the
year ended December 31, 1996. See "--Year Ended December 31, 1996 Compared to
Year Ended December 31, 1995--Revenues" and "Business--Current Operations" for a
discussion of both the licensing transaction and the product development
project. If the Company is unable to continually replace larger custom product
development projects as these projects are completed, its operations will be
adversely affected. Custom product development projects are billed in stages
based on certain agreed upon performance milestones. Accordingly, financial
results for any calendar quarter may fluctuate widely depending on the stage of
a custom product development project or the amount of licensing payments in a
particular quarter.
As reflected in the Company's Financial Statements, the Company has
generated substantial operating losses since inception and has yet to generate
sufficient revenues to fund its operations. To date, the Company has completed a
series of smaller scale projects; however, the Company has not yet completed a
significant number of larger projects, and as a result, it is uncertain whether
the Company will be able to successfully market and sell its Smart Card products
in sufficient quantities and at sufficient prices and volumes to fund its
operations. During 1995 and 1996, the Company experienced significant cash flow
deficits and liquidity shortages and funded its operations primarily through the
<PAGE>
sale of nonexclusive sublicenses to its technology, through proceeds from the
sale of its Common Stock, through bridge loan borrowings and through borrowings
from affiliates.
During 1997, the Company anticipates that increased operating revenues will
be achieved through a combination of product sales, custom product development
projects and the sale of non-exclusive licenses. In addition, the Company
anticipates incurring increased operating and research and development
expenditures in order to further develop and market its Smart Card products.
All of the Company's custom product development revenues for the years
ended December 31, 1995 and 1994 were the result of a development contract
with Nippon Steel Information and Communications Systems, Inc. All custom
product development revenues for the year ended December 31, 1996 were the
result of a development contract with Bull CP8, a division of Group Bull. For
the years ended December 31, 1996, 1995 and 1994, two customers, three
customers and three customers, respectively, accounted for 10% or more of the
Company's revenues. See "Item 1--Marketing."
Prospective investors should carefully consider the following information
as well as other information contained in this Report before making an
investment in the Common Stock. Information contained in this Report contains
"forward-looking statements" which can be identified by the use of
forward-looking terminology such as "believes," "expects," "may," "should" or
"anticipates" or the negative thereof or other variations thereon or comparable
terminology, or by discussions of strategy. See, e.g., "Item 1--Strategy." No
assurance can be given that the future results covered by the forward-looking
statements will be achieved. The following matters constitute cautionary
statements identifying important factors with respect to such forward-looking
statements, including certain risks and uncertainties, that could cause
actual results to vary materially from the future results covered in such
forward-looking statements. Other factors could also cause actual results to
vary materially from the future results covered in such forward-looking
statements.
<PAGE>
RESULTS OF OPERATIONS
The following table sets forth statement of operations data expressed as a
percentage of revenues for the periods indicated:
<TABLE>
YEARS ENDED DECEMBER 31,
--------------------------------------------------
1996 1995 1994 1993
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Revenue................................. 100.0% 100.0% 100.0% 100.0%
Cost of revenues........................ 43.3% 56.3% 50.0% 22.9%
Gross margin............................ 56.7% 43.7% 50.0% 77.1%
Research and development expenses....... 20.8% 91.4% 244.6% 477.4%
General and administrative expenses..... 34.4% 109.2% 350.8% 449.7%
Sales and marketing expenses............ 35.8% 61.7% 138.8% 214.6%
Equity in loss of joint venture......... 8.6% 13.9% 37.8% --%
Amortization expense.................... 7.5% 14.7% 34.6% 106.4%
Loss from operations.................... (50.4)% (247.2)% (756.6)% (1,171.0)%
Other income (expense).................. (3.3)% (3.5)% (224.9)% 8.9%
Net loss................................ (53.7)% (250.7)% (981.5)% (1,162.1)%
</TABLE>
YEAR ENDED DECEMBER 31, 1996, COMPARED TO YEAR ENDED DECEMBER 31, 1995
REVENUES. Revenues increased 111.5% to $2,427,285 for the year ended
December 31, 1996 from $1,147,915 for the year ended December 31, 1995. This
increase reflects the initial payment and completion of one milestone under a
custom product development contract totaling $600,000 and recognition of
revenues on a license from Racom Japan ("RJ"), the Company's joint venture with
Nittetsu Shoji Co., Ltd. ("NS"), for the manufacture and sale of FRAM based
radio frequency products in Japan of $537,031. The amount received for the
license was $933,968. At the time of sale, the Company owned a 50% interest in
RJ and, accordingly, 50% of this amount (representing the Company's intercompany
profit due to its 50% equity ownership in RJ on the date of the sublicense) was
deferred and is being recognized over the life of the related technology license
asset owned by RJ, which is five years, commencing on the date of sale, of which
$70,047 had been recognized as of December 31, 1996. During the year ended
December 31, 1996, the Company consented to RJ entering into a custom product
development project with a Japanese company, pursuant to the technology license
discussed above, under which the Company is entitled to 50% of all sublicense
revenue earned by RJ. This sublicense resulted in the Company recognizing
$893,909 in additional licensing revenues. See "Item 12".
COST OF REVENUES AND GROSS MARGIN. As a percentage of revenues, gross
margin increased to 56.7% in 1996 from 43.7% in 1995. The gross margin is
primarily a result of license revenues which have no associated cost of
revenues. The Company has not generated high profit margins on product sales in
<PAGE>
part because of competition the Company encounters with Contacted Cards which
typically are sold at a lower price than the Company's Smart Cards. The Company
expects to be able to lower its prices to compete more directly in price with
Contacted Card products as it builds manufacturing volumes for its Smart Cards
and ferroelectric technology becomes available from additional licensed
semiconductor manufacturers. Cost of revenues for 1996 also includes $521,540 of
costs associated with a custom product development project.
RESEARCH AND DEVELOPMENT EXPENSES ("R&D"). R&D decreased 51.8% to
$505,266 in 1996 from $1,049,162 in 1995. R&D efforts relating to the
Company's Smart Card expanded significantly in 1995 and continued through
1996. During 1996, the Company began work on a joint development project with
Bull CP8. Engineering personnel resources and development costs totaling
$388,158 were directly related to the project and are included in cost of
revenues for 1996.
GENERAL AND ADMINISTRATIVE EXPENSES ("G&A"). G&A decreased 33.5% to
$833,879 for 1996 from $1,253,252 for 1995. For 1995, the Company incurred
salary, travel and consulting expenses of approximately $465,000 including
$105,848 of consolidated expenses of ISI which was sold in June 1995. In
addition, the Company's legal fees decreased approximately $76,000 between
the years. Finally, the Company eliminated monthly fee payments to directors
in early 1995, resulting in a decrease of expenses of $12,000.
SALES AND MARKETING EXPENSES. Sales and marketing expenses increased
22.7% to $869,401 in 1996 from $708,566 in 1995. This increase is due to the
hiring of the Vice President of Product Development in June 1996. The Company
also increased its travel spending in conjunction with sales activities by
approximately $30,000 between years. Additionally, the Company paid $5,000
per month beginning in July 1995 for consulting fees related to developing
its products for use in the airline industry.
EQUITY IN LOSS OF JOINT VENTURE. The Company currently owns 40% of RJ,
decreased from 50% as of March 29, 1996. RJ was formed in 1993 for the purpose
of marketing, distributing and supporting the Company's Smart Card products to
be sold in Japan. The Company accounts for its investment on the equity method
and has recorded its share of RJ's losses in its financial statements to the
extent of capital invested in RJ by the Company. The equity in the losses of RJ
increased 31.3% in 1996 to $209,248 from $159,403 in 1995. In early 1996, the
Company and NS invested an additional $466,984 each in RJ. Subsequently, third
parties also invested in RJ reducing the Company's ownership to 40%. During
1995, the Company's portion of the net losses in RJ exceeded the carrying value
<PAGE>
of the investment. During 1996, the Company recognized $141,953 of previously
unrecognized losses from the prior year in excess of its investment through
December 31, 1995. RJ's losses were primarily related to ongoing research and
development activities as well as longer sales cycles and trial tests demanded
by Japanese customers.
AMORTIZATION EXPENSE. The Company's primary asset is a technology
license ("Technology License") related to the design and manufacture of its
Smart Card products. The Company originally purchased the technology from
Ramtron pursuant to a technology license agreement (See "Item 12") for
$2,000,000 in cash and 2,000,000 shares of the Company's Common Stock. The
technology license was recorded at the original cash acquisition cost of
$2,000,000. In 1995, the Company acquired certain additional rights with
respect to the technology. The net cost of obtaining the additional rights
was $400,000 and was capitalized in 1995. The asset is amortized over its
estimated useful life on a straight line basis.
OTHER INCOME (EXPENSE). During 1996, the Company incurred $64,400 in
interest expense on various notes payable to Intag International Limited
("Intag") and Ramtron. The notes are due on demand and bear annual interest
of 10% and prime plus 2%, respectively. The Company also recorded $28,367 in
exchange rate losses due to exchange rate fluctuations at the end of the year
related to the license revenue receivable due from RJ. Other income and
expense in 1995 primarily included $143,645 in interest expense related to
the notes payable to Intag, a $170,647 gain on the sale of Intag Systems,
Inc., a wholly-owned subsidiary ("ISI") to Intag, and $70,000 in taxes
withheld by Australia and Japan related to the foreign licensing revenues
earned by the Company.
NET LOSS. The Company is a C Corporation under the Internal Revenue
Code and for income tax reporting purposes as of December 31, 1996, has
approximately $9,600,000 of net operating loss carryforwards that expire at
various dates through the year 2011. The Tax Reform Act of 1986 contains
provisions which may limit the net operating loss carryforwards available to
the Company in any given year if certain events occur, including significant
changes in ownership interests.
<PAGE>
YEAR ENDED DECEMBER 31, 1995 COMPARED TO YEAR ENDED DECEMBER 31, 1994
The results of operations for the year ended December 31, 1994 consolidate
ISI, which was formed in October, 1994, had limited operations and generated no
significant revenues from its inception until its sale to Intag in June, 1995.
REVENUES. Revenues increased 223.7% to $1,147,915 for the year ended
December 31, 1995 ("1995") from $354,586 for the year ended December 31, 1994
("1994"). This increase reflects the completion of a development contract of
$90,000, initial payments of $500,000 on the sale of a license to Rohm for the
manufacture and sale of FRAM based radio frequency products in Japan only and
increased sales of the Company's Smart Card products.
COST OF REVENUES AND GROSS MARGIN. As a percentage of revenues, gross
margin decreased to 43.7% in 1995 from 50.0% in 1994. During 1995, the gross
margin is primarily a result of the license revenues which have no associated
cost of revenues. The Company has not generated high profit margins on product
sales. Additionally, the Company incurred increased manufacturing overhead as it
hired the Director of Manufacturing and Quality during 1995.
RESEARCH AND DEVELOPMENT EXPENSES ("R&D"). R&D increased 21.0% to
$1,049,162 in 1995 from $867,237 in 1994. R&D efforts relating to the Company's
Smart Card products significantly expanded in 1995, and efforts relating to the
Company's newer Smart Card products began in 1995. Additionally, the Company
incurred $182,000 in development costs related to a joint development project
with a related party. (See Item 12)
GENERAL AND ADMINISTRATIVE EXPENSES ("G&A"). G&A was consistent between
1995 and 1994, with expenses of $1,253,252 and $1,244,016 in each year,
respectively. Salaries and wages increased as a result of the hiring of a Chief
Financial Officer in April 1994 and an Accounting Manager in July 1994.
Consulting and professional fees decreased between 1995 and 1994 upon the
resignation of the Company's former Chairman.
SALES AND MARKETING EXPENSES. Sales and marketing expenses increased 44.0%
to $708,566 in 1995 from $492,053 in 1994. The increase was attributable to the
hiring of a Vice President of Sales and Marketing and a Marketing/Communications
manager in late 1994. Marketing efforts were expanded through trade shows,
public relations efforts, the establishment of an Internet web site and e-mail
capability.
<PAGE>
EQUITY IN LOSS OF JOINT VENTURE. The Company's equity in the losses of RJ
were consistent between 1995 and 1994 with equity in losses of RJ of $159,403
and $133,862, respectively. As of December 31, 1995, the Company's unrecognized
share of RJ's losses in excess of its investment was $141,953. RJ's losses
increased 125.1% as a result of operations including expanded research and
development as well as sales and marketing activities. RJ began operations in
1994.
AMORTIZATION EXPENSE. As discussed above, the Company's cash acquisition
cost of the Technology License is amortized over its estimated useful life on a
straight line basis.
OTHER INCOME (EXPENSE). In 1995, other income and expense included $143,645
in interest expense related to the notes payable to Intag, $170,647 gain on the
sale of ISI to Intag and $70,000 in taxes withheld by Australia and Japan
related to the foreign licensing revenues earned by the Company. Other income
and expense in 1994 included $108,864 in interest expense on notes payable to
Intag. 1994 also included a bad debt write off of $753,317 from a note
receivable from a related party. In February 1995, Concord Services, Inc.
("CSI"), a corporation owned by a significant stockholder of Ramtron, filed for
protection under Chapter 11 of the United States Bankruptcy Code. Prior to the
bankruptcy filing, the Company had numerous transactions with CSI, including
advances to and repayments from CSI under the terms of various secured note
agreements. Under United States bankruptcy laws, certain repayments received by
the Company may have been deemed to be preferential transfers. If such
repayments had been deemed to be preferential transfers and subject to any
defenses or counterclaims of the Company, the Company could have been required
to repay certain material amounts. During 1996, the Company returned the
security granted under the notes in consideration for the bankruptcy court
releasing the Company from any potential claims for preferential transfer.
YEAR ENDED DECEMBER 31, 1994 COMPARED TO YEAR ENDED DECEMBER 31, 1993
The results of operations for the year ended December 31, 1994 consolidate
the wholly owned subsidiary, ISI. The subsidiary was formed on October 17, 1994.
The subsidiary had limited operations and generated no significant revenues from
its inception until its sale to Intag on June 30, 1995.
REVENUES. Revenues increased 207.2% to $354,586 for the year ended December
31, 1994 ("1994") from $115,412 for the year ended December 31, 1993 ("1993").
This increase reflects the initial payment on a development contract of $45,000
<PAGE>
and the introduction to the market of the Company's second generation Smart Card
products.
COST OF REVENUES AND GROSS MARGIN. As a percentage of revenues, gross
margin decreased to 50.0% in 1994 from 77.1% in 1993. The decrease is primarily
due to the increased production costs of newer Smart Card products.
Additionally, the Company expanded its manufacturing capabilities during 1994 by
adding two manufacturing technicians and increasing the lab facilities. License
revenues and custom product development projects were not material during 1994
and 1993.
RESEARCH AND DEVELOPMENT EXPENSES ("R&D"). R&D increased 57.4% to $867,237
in 1994 from $550,988 in 1993. R&D efforts relating to the Company's Smart Card
products began in 1994 and included the hiring of several engineers. The Company
also incurred $256,298 for consulting and professional fees.
GENERAL AND ADMINISTRATIVE EXPENSES ("G&A"). G&A increased 139.7% to
$1,244,016 in 1994 from $519,024 in 1993. During 1994, the Company incurred
approximately $640,000 in consulting, management and professional fees and
hired a Chief Financial Officer and an accounting manager.
SALES AND MARKETING EXPENSES. Sales and marketing expenses increased 98.7%
to $492,053 in 1994 from $247,654 in 1993. The increase was partially
attributable to the hiring of a Director of Sales in late 1993. The Company also
hired a marketing/communications manager and two sales managers and expanded its
sales and marketing efforts through trade shows, magazine articles, and the
product data sheets. Travel expenses increased as a result of increased product
inquiries.
EQUITY IN LOSS OF JOINT VENTURE. The Company made its initial investment
in RJ in 1993. The operations of RJ were not material until 1994, when the
Company recognized its equity in the losses of RJ of $133,862.
AMORTIZATION EXPENSE. As discussed above, the Company's cash acquisition
cost of the Technology License is amortized over its estimated useful life on a
straight line basis.
<PAGE>
OTHER INCOME (EXPENSE). Other income and expense in 1994 primarily
included the bad debt write off of $753,317 described above and $108,864 in
interest expense on notes payable to Intag. In 1993, the other income and
expense included $8,768 in interest expense related to the notes payable to
Intag, and $19,117 in interest income on notes receivable and other income.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary need for capital has been to finance expansion of
research and development of new Smart Card products, sales and marketing of its
products and operations. Annual product revenues growth has been limited due to
limited financial resources and an inability to expand receivables, build
inventory and effectively sell and market Smart Card products. The following
table sets forth for the periods presented certain items from the Statement of
Cash Flows of the Company.
<TABLE>
YEARS ENDED DECEMBER 31,
------------------------------------------------------
1996 1995 1994 1993
--------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Net Cash used in Operating Activities...... $(736,852) $(2,089,990) $(2,410,354) $(1,161,243)
Net Cash used in Investing Activities...... (491,959) (25,410) (1,779,133) (130,197)
Net Cash provided by Financing Activities.. 1,030,578 2,399,160 4,358,089 1,222,531
</TABLE>
YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995
OPERATING ACTIVITIES. Net cash used in operations decreased to $736,852 in
1996 from $2,089,990 in 1995. This is a result of the improved operating results
(see "Results of Operations") in addition to the funding of approximately
$279,561 of the Company's FRAM chip purchases by Ramtron.
INVESTING ACTIVITIES. Net cash used in investing activities increased to
$491,959 in 1996 from $25,410 in 1995. During 1996, the Company invested an
additional $466,984 in RJ and $25,572 in fixed assets. In 1995, the Company
<PAGE>
increased its investment in the Ramtron technology license by $400,000,
purchased $63,440 in fixed assets, and received $237,116 from a related party on
repayments of notes receivable. The Company also received $200,000 from Intag
for a technology sublicense.
FINANCING ACTIVITIES. Net cash provided by financing activities decreased
to $1,030,578 in 1996 from $2,399,160 in 1995. During 1996, the Company
borrowed $90,000 and $170,000 (net of repayments) from Ramtron and Intag,
respectively. Additionally, in December 1996, the Company completed the
borrowing of an aggregate of $1,040,000 from a group of lenders (the "Bridge
Loan(s)") evidenced by promissory notes bearing interest at 2% over the prime
interest rate and due the earlier of December 1997 or the closing date of the
IPO. As additional consideration for the Bridge Loans, the Company issued one
Bridge Warrant for each $4.00 loaned to the Company or a total of 260,000
Bridge Warrants. Each Bridge Warrant entitles the holder to purchase one share
of Common Stock at $5.94 per share for a period of two years from March 12,
1997. The Bridge Warrants and the Common Stock underlying the Bridge Warrants
were registered by the IPO. The Company incurred $106,587 and $161,948 in 1996
for debt issuance costs related to the Bridge Loan financing and costs related
to the IPO, respectively. During 1995, the Company sold 500,000 shares of its
Common Stock at $3.00 per share. Also, the Company borrowed $900,000 (net of
repayments) from Intag on short term convertible notes bearing interest at 10%
during 1995.
YEAR ENDED DECEMBER 31, 1995 COMPARED TO YEAR ENDED DECEMBER 31, 1994
OPERATING ACTIVITIES. Net cash used in operations decreased to $2,089,990
for the year ended December 31, 1995 ("1995") from $2,410,354 for the year
ended December 31, 1994 ("1994"). The decrease is consistent with the improved
operating results (see "Results of Operations"). Similar to 1996, Ramtron
funded the Company's FRAM chip purchases during 1995, increasing related party
payables by $193,253.
INVESTING ACTIVITIES. Net cash used in investing activities decreased to
$25,410 in 1995 from $1,779,133 in 1994. In 1995, the Company increased its
investment in the Ramtron technology license $400,000, purchased $63,440 in
fixed assets, received $200,000 from Intag on sublicense revenues and received
$237,116 on repayments of notes receivable. In 1994, the Company increased its
investment in RJ by $153,000, purchased fixed assets related to its facilities
expansion of $236,225, made a deposit of $400,000 with Intag on a technology
license and loaned $990,433 (net of repayments) to a related party.
FINANCING ACTIVITIES. Net cash provided by financing activities decreased
<PAGE>
to $2,399,160 in 1995 from $4,358,089 in 1994. During 1995, the Company sold
500,000 shares of its Common Stock at $3.00 per share. Also, the Company
borrowed $900,000 (net of repayments) from Intag on short term convertible notes
bearing interest at 10%. During 1994, the Company completed a private placement
of 970,000 shares of its Common Stock at $2.50 per share, for net proceeds of
$2,154,118, borrowed $1,203,971 (net of repayments) from Intag and received
$1,000,000 on a deposit for a technology license from Intag.
YEAR ENDED DECEMBER 31, 1994 COMPARED TO YEAR ENDED DECEMBER 31, 1993
OPERATING ACTIVITIES. Net cash used in operations increased to $2,410,354
for the year ended December 31, 1994 ("1994") from $1,161,243 for the year ended
December 31, 1993 ("1993") The increase is consistent with increased operations
in terms of labor costs, consulting and professional fees, production and
marketing of the Company's Smart Card products.
INVESTING ACTIVITIES. Net cash used in investing activities increased to
$1,779,133 in 1994 from $130,197 in 1993. In 1994, the Company increased its
investment in RJ in Japan by $153,000, purchased fixed assets related to its
facilities expansion of $236,225, made a deposit of $400,000 with Intag on a
technology license and loaned $990,433 (net of repayments) to a related party.
In 1993, the Company made its initial investment in RJ in Japan of $140,265,
purchased fixed assets totaling $43,959 and received $54,027 on loans made to a
related party.
FINANCING ACTIVITIES. Net cash provided by financing activities increased
to $4,358,089 in 1994 from $1,222,531 in 1993. During 1994, the Company
successfully completed a private placement of 970,000 shares of its Common Stock
at $2.50 per share, for net proceeds of $2,154,118, borrowed $1,203,971 (net of
repayments) from Intag and received $1,000,000 on a deposit for a technology
license from Intag. In 1993, the Company borrowed $497,531 from Intag and
received $725,000 on the sales of its Common Stock.
The Company currently has minimal capital expenditure requirements.
Management plans to continue to outsource substantially all of its manufacturing
operations for the foreseeable future. Management believes that the Company's
cash reserves and the net proceeds of the IPO are sufficient to fund its
cash requirements for the next 12 months. If and only if such funds are
insufficient to satisfy the Company's needs will the Company seek to offer
additional equity or debt securities or obtain new credit facilities. The
Company has no current intention to seek any such financings. The sale of
additional equity securities will result in dilution to the Company's
stockholders and the sale of debt securities will involve ongoing interest
expense and the risk of loss of assets if such debt is not repaid.
The Company completed an initial offering of its securtities (the "IPO")
on March 12, 1997. The securities consisted of 1,500,000 units offered to the
public at $4.75 per unit for net proceeds of approximately $6.0 million. Each
unit consisted of one share of common stock and one common stock purchase
warrant to purchase an additional share at $5.94 per share at any time until
March 12, 1999.
<PAGE>
ITEM 7. FINANCIAL STATEMENTS
- ------- --------------------
RACOM SYSTEMS, INC.
INDEX TO FINANCIAL STATEMENTS
PAGE
----
Report of Independent Public Accountants................................. F-2
Balance Sheets as of December 31, 1995 and 1996.......................... F-4
Statements of Operations for the Years Ended December 31, 1995 and 1996.. F-6
Statements of Stockholders' Equity for the Years Ended December 31,
1994, 1995 and 1996..................................................... F-7
Statements of Cash Flows for the Years Ended December 31, 1995 and 1996.. F-8
Notes to Financial Statements............................................ F-10
F-1
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Racom Systems, Inc.:
We have audited the accompanying balance sheets of RACOM SYSTEMS, INC. (a
Delaware corporation) as of December 31, 1995 and 1996, and the related
statements of operations, stockholders' equity and cash flows for the years
then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Racom Systems, Inc. as of
December 31, 1995 and 1996, and the results of its operations and its cash
flows for the years then ended in conformity with generally accepted accounting
principles.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 2 to the
financial statements, the Company has generated significant operating losses and
operating cash flow deficits since inception which raise substantial doubt about
the ability of the Company to continue as a going concern. Management's plans in
regard to these matters are described in Note 2. The accompanying financial
statements do not include any adjustments relating to the recoverability and
classification of asset carrying amounts or the amounts and classification of
liabilities that might result should the Company be unable to continue as a
going concern.
ARTHUR ANDERSEN LLP
Denver, Colorado,
February 19, 1997.
F-2
<PAGE>
(This page intentionally left blank)
F-3
<PAGE>
RACOM SYSTEMS, INC.
BALANCE SHEETS
ASSETS
DECEMBER 31,
-----------------------
1995 1996
---------- ----------
CURRENT ASSETS:
Cash and cash equivalents......................... $ 512,435 $ 314,202
Accounts receivable--
Trade........................................... 158,191 79,201
Related parties (Note 8)........................ 28,090 33,558
Inventory (Note 3)................................ 221,694 428,401
License revenue receivable--related
party (Note 6)................................. -- 646,162
---------- -----------
Total current assets.......................... 920,410 1,501,524
---------- -----------
PROPERTY AND EQUIPMENT, at cost (Note 3):
Machinery and equipment........................... 327,337 351,120
Furniture and fixtures............................ 56,704 56,801
Leasehold improvements............................ 3,328 3,328
---------- -----------
387,369 411,249
Less--Accumulated depreciation.................... (157,475) (260,364)
---------- -----------
229,894 150,885
---------- -----------
INVESTMENT IN JOINT VENTURE (Note 4)................ -- 257,736
---------- -----------
OTHER ASSETS (Notes 2, 3 and 6):
Technology license from related party, net of
accumulated amortization of $517,646 and
$684,898, respectively........................... 1,882,354 1,715,102
Organization costs, net of
accumulated amortization of $19,727
and $24,873, respectively........................ 6,003 857
Deferred offering costs........................... -- 161,948
Debt issuance costs, net of accumulated
amortization of $0 and $8,788, respectively...... -- 97,799
---------- ----------
1,888,357 1,975,706
---------- ----------
$3,038,661 $3,885,851
---------- ----------
---------- ----------
The accompanying notes to financial statements
are an integral part of these balance sheets.
F-4
<PAGE>
RACOM SYSTEMS, INC.
BALANCE SHEETS
LIABILITIES AND STOCKHOLDERS' EQUITY
DECEMBER 31,
-----------------------
1995 1996
----------- ------------
CURRENT LIABILITIES:
Accounts payable and accrued liabilities......... $ 398,200 $ 631,425
Accounts payable--related parties (Note 8)....... 392,167 552,298
Current portion of deferred license
revenue--related party (Notes 3, 4 and 6)....... -- 93,397
Notes and interest payable--related parties
(Note 8)........................................ 707,975 1,029,596
Bridge notes payable (Note 9).................... -- 1,040,000
Capital lease obligation......................... 2,218 1,331
---------- ----------
Total current liabilities...................... 1,500,560 3,348,047
---------- ----------
DEFERRED LICENSE REVENUE--RELATED PARTY
(Notes 3, 4 and 6)............................... -- 303,540
COMMITMENTS AND CONTINGENCIES
(Notes 2, 8, 10, 12 and 13)......................
STOCKHOLDERS' EQUITY (Notes 5 and 6):
Preferred stock, no par value, 5,000,000 shares
authorized, no shares issued or outstanding..... -- --
Common stock, $.01 par value, 20,000,000
shares authorized, 11,532,532 shares issued
and outstanding................................. 115,325 115,325
Additional paid-in capital....................... 10,272,591 10,272,591
Accumulated deficit.............................. (8,849,815) (10,153,652)
----------- ------------
Total stockholders' equity..................... 1,538,101 234,264
----------- ------------
$ 3,038,661 $ 3,885,851
----------- ------------
----------- ------------
The accompanying notes to financial statements
are an integral part of these balance sheets.
F-5
<PAGE>
RACOM SYSTEMS, INC.
STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31,
------------------------
1995 1996
----------- -----------
REVENUES:
Product sales................................. $ 425,327 $ 282,070
Product sales--related parties................ 103,738 114,275
Import license revenues--related party........ 28,850 --
Custom product development projects........... 90,000 600,000
License revenues--related parties
(Notes 4 and 6).............................. 500,000 1,430,940
----------- -----------
1,147,915 2,427,285
COST OF REVENUES................................ 646,469 1,051,877
----------- -----------
GROSS MARGIN.................................... 501,446 1,375,408
----------- -----------
EXPENSES:
Research and development...................... 1,049,162 505,266
General and administrative.................... 1,253,252 833,879
Sales and marketing........................... 708,566 869,401
Equity in loss of joint venture
(Notes 3 and 4).............................. 159,403 209,248
Amortization expense.......................... 168,998 181,186
----------- -----------
3,339,381 2,598,980
----------- -----------
LOSS FROM OPERATIONS............................ (2,837,935) (1,223,572)
OTHER INCOME (EXPENSE):
Interest expense--related parties............. (143,645) (64,400)
Interest income............................... 2,899 13,426
Gain on sale of subsidiary (Note 6)........... 170,647 --
Other......................................... (70,000) (29,291)
----------- -----------
NET LOSS ....................................... $(2,878,034) $(1,303,837)
----------- -----------
----------- -----------
NET LOSS PER COMMON AND COMMON EQUIVALENT
SHARE.......................................... $ (.27) $ (.11)
----------- -----------
----------- -----------
WEIGHTED AVERAGE COMMON AND COMMON EQUIVALENT
SHARES OUTSTANDING (Note 3).................... 10,853,633 11,844,793
----------- -----------
----------- -----------
The accompanying notes to financial statements
are an integral part of these statements.
F-6
<PAGE>
RACOM SYSTEMS, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
COMMON STOCK
----------------------------------------------------------------
CLASS A CLASS B CLASS C
-------------------- -------------------- --------------------
SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT
---------- -------- ---------- -------- ---------- --------
<S> <C> <C> <C> <C> <C> <C>
BALANCES, December 31, 1993....................... 2,000,000 $ 20,000 2,000,000 $ 20,000 2,000,000 $ 20,000
Issuance of common stock for amended Technology
License and Supply Agreements (Note 2)......... -- -- -- -- -- --
Cancellation of Classes A, B and C common stock
and issuance of common stock (Note 5).......... (2,000,000) (20,000) (2,000,000) (20,000) (2,000,000) (20,000)
Issuance of common stock for cash of $2.50 per
share, net of issuance costs of $270,882
(Note 5)....................................... -- -- -- -- -- --
Net loss........................................ -- -- -- -- -- --
---------- -------- ---------- -------- ---------- --------
BALANCES, December 31, 1994....................... -- -- -- -- -- --
Issuance of common stock for amended Technology
License and Supply Agreements (Note 6)......... -- -- -- -- -- --
Shareholder contributions (Note 6).............. -- -- -- -- -- --
Conversion of shareholder debt of $933,798,
$700,000 and $400,000 to common stock at $1.50
per share, $2.50 per share and $2.50 per share,
respectively (Notes 5 and 6)................... -- -- -- -- -- --
Sale of common stock for cash of $3.00 per share
(Note 6)....................................... -- -- -- -- -- --
Net loss........................................ -- -- -- -- -- --
---------- -------- ---------- -------- ---------- --------
BALANCES, December 31, 1995....................... -- -- -- -- -- --
Net loss........................................ -- -- -- -- -- --
---------- -------- ---------- -------- ---------- --------
BALANCES, December 31, 1996....................... -- $ -- -- $ -- -- $ --
---------- -------- ---------- -------- ---------- --------
---------- -------- ---------- -------- ---------- --------
<CAPTION>
COMMON STOCK ADDITIONAL
-------------------- PAID-IN ACCUMULATED
SHARES AMOUNT CAPITAL DEFICIT TOTAL
---------- -------- ----------- ------------ -----------
<S> <C> <C> <C> <C> <C>
BALANCES, December 31, 1993....................... -- $ -- $ 3,940,000 $ (2,491,610) $ 1,508,390
Issuance of common stock for amended Technology
License and Supply Agreements (Note 2)......... 2,000,000 20,000 (20,000) -- --
Cancellation of Classes A, B and C common stock
and issuance of common stock (Note 5).......... 6,000,000 60,000 -- -- --
Issuance of common stock for cash of $2.50 per
share, net of issuance costs of $270,882
(Note 5)....................................... 970,000 9,700 2,144,418 -- 2,154,118
Net loss........................................ -- -- -- (3,480,171) (3,480,171)
---------- -------- ----------- ------------ -----------
BALANCES, December 31, 1994....................... 8,970,000 89,700 6,064,418 (5,971,781) 182,337
Issuance of common stock for amended Technology
License and Supply Agreements (Note 6)......... 1,000,000 10,000 (10,000) -- --
Shareholder contributions (Note 6).............. -- -- 700,000 -- 700,000
Conversion of shareholder debt of $933,798,
$700,000 and $400,000 to common stock at $1.50
per share, $2.50 per share and $2.50 per share,
respectively (Notes 5 and 6)................... 1,062,532 10,625 2,023,173 -- 2,033,798
Sale of common stock for cash of $3.00 per share
(Note 6)....................................... 500,000 5,000 1,495,000 -- 1,500,000
Net loss........................................ -- -- -- (2,878,034) (2,878,034)
---------- -------- ----------- ------------ -----------
BALANCES, December 31, 1995....................... 11,532,532 115,325 10,272,591 (8,849,815) 1,538,101
Net loss........................................ -- -- -- (1,303,837) (1,303,837)
---------- -------- ----------- ------------ -----------
BALANCES, December 31, 1996....................... 11,532,532 $115,325 $10,272,591 $(10,153,652) $ 234,264
---------- -------- ----------- ------------ -----------
---------- -------- ----------- ------------ -----------
</TABLE>
The accompanying notes to financial statements are an integral part of these
statements.
F-7
<PAGE>
RACOM SYSTEMS, INC.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEARS ENDED
DECEMBER 31,
----------------------------
1995 1996
------------- -------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss.......................................................................... $ (2,878,034) $ (1,303,837)
Adjustments to reconcile net loss to net cash used in operating activities--
Depreciation and amortization................................................... 266,234 284,244
Return of deposit to INTAG...................................................... (100,000) --
Equity in loss of joint venture................................................. 159,403 209,248
Loss (gain) on disposal of fixed assets......................................... (700) 926
Decrease (increase) in--
Accounts receivable--trade.................................................... (117,031) 78,990
Accounts receivable--related parties.......................................... 12,261 (5,468)
Inventory..................................................................... (144,731) (206,707)
License revenue receivable.................................................... -- (646,162)
Prepaid expenses and other.................................................... 4,375 --
Increase (decrease) in--
Accounts payable and accrued liabilities...................................... 215,176 233,225
Accounts payable--related parties............................................. 381,636 160,131
Deferred license revenue--related party....................................... -- 396,937
Deferred import license revenue............................................... (28,850) --
Interest payable--related parties............................................. 140,271 61,621
------------- -------------
Net cash used in operating activities....................................... (2,089,990) (736,852)
------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment................................................ (63,440) (25,572)
Proceeds on sale of fixed assets.................................................. 914 597
Acquisition of technology license from related party.............................. (400,000) --
Payments from INTAG offset against cost of technology license
(Note 6)........................................................................ 200,000 --
Investment in joint venture....................................................... -- (466,984)
Repayments of loan from related party............................................. 237,116 --
------------- -------------
Net cash used in investing activities....................................... (25,410) (491,959)
------------- -------------
</TABLE>
The accompanying notes to financial statements are an integral part of these
statements.
F-8
<PAGE>
RACOM SYSTEMS, INC.
STATEMENTS OF CASH FLOWS (CONTINUED)
<TABLE>
YEARS ENDED
DECEMBER 31,
------------------------
1995 1996
---------- ----------
<S> <C> <C>
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock.............. $1,500,000 $ --
Proceeds from bridge loan financing................. -- 1,040,000
Deferred offering costs............................. -- (161,948)
Payment of debt issuance costs...................... -- (106,587)
Proceeds from notes payable--related parties........ 1,113,000 515,000
Payments on notes payable--related parties.......... (213,000) (255,000)
Payments on capital lease obligation................ (840) (887)
---------- ----------
Net cash provided by financing activities......... 2,399,160 1,030,578
---------- ----------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS.. 283,760 (198,233)
CASH AND CASH EQUIVALENTS, beginning of period........ 228,675 512,435
---------- ----------
CASH AND CASH EQUIVALENTS, end of period.............. $ 512,435 $ 314,202
---------- ----------
---------- ----------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
No cash was paid for interest or income taxes during 1995 or 1996
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVITIES:
During 1995, the Company purchased equipment under a capital lease totaling
$3,058.
During 1995, notes payable to INTAG of $933,798 and $700,000 were converted to
common stock at $1.50 per share and $2.50 per share, respectively. In addition,
net liabilities of $400,000 were also exchanged for common stock at $2.50 per
share in satisfaction of a deposit from INTAG of $1,000,000, less Company
deposits held by INTAG of $500,000 and a receivable from INTAG of $100,000
relating to the sale of ISI. A $600,000 payment (together with an unrelated
$100,000 deposit) relating to the Technology License and Supply Agreements was
made by INTAG to Ramtron on the Company's behalf and was treated as a capital
transaction (Note 6).
</TABLE>
The accompanying notes to financial statements are
an integral part of these statements.
F-9
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
(1) ORGANIZATION AND BUSINESS
Racom Systems, Inc. (the "Company") is a developer and marketer of
contactless smart cards and radio frequency identification ("RFID") contactless
smart card systems. The Company was initially formed as a joint venture between
INTAG International Limited ("INTAG"), AWA Limited ("AWA") and Ramtron
International Corporation ("Ramtron"). In June 1993, INTAG acquired AWA's
2,000,000 shares of common stock. The Company was incorporated in the State of
Delaware on June 3, 1991 and commenced operations in February 1992. Sales of the
Company's initial two products utilizing ferroelectric random access memory
("FRAM") commenced in 1993. The Company's latest product, currently under
development, is scheduled for market introduction in 1997. Prior to 1995, the
Company was in the development stage.
(2) GOING CONCERN AND ASSET REALIZATION
As reflected in the accompanying financial statements, the Company has
generated substantial operating losses since inception and has yet to generate
sufficient revenues to fund its operations. To date, the Company has completed a
series of smaller-scale projects; however, the Company has not yet completed a
significant number of substantial sales transactions covering the application of
its products and, as a result, an uncertainty exists as to whether the Company
will be able to successfully market and sell its products to third parties at
sufficient prices and volumes to fund its operations. During 1995 and 1996, the
Company experienced significant cash flow deficits and liquidity shortages and
funded its operations primarily through the sale of non-exclusive sublicenses to
its technology, proceeds from the sale of its common stock, bridge loan
borrowings and related party borrowings. As of December 31, 1996 the Company had
a working capital deficit of $1,846,523.
During 1997, the Company anticipates that increased operating revenues will
be achieved through a combination of product sales, development contracts and
the sale of non-exclusive licenses. In addition, the Company also anticipates
increased operating expenses and research and development expenditures which are
required for the Company to further develop and market its third generation
products and achieve successful operations. However, there is no assurance the
Company will be successful in developing and marketing its products.
To date, the Company has funded its operations primarily through the
issuance of shares of its common stock and related party borrowings. The related
party borrowings are due on demand and the Bridge Notes (Note 9) become due and
payable during 1997. The Company does not currently have the financial resources
to repay any of its debt, if demanded or as scheduled. Management of the Company
intends to fund its 1997 operations through a combination of product sales and
technology sublicensing and offerings of its common stock. There is no assurance
that sales of common stock will occur or that additional proceeds will be
received from such offerings. Further, there is no assurance that the Company's
two principal stockholders will continue to fund the cash needs of the Company.
These factors, among others, raise substantial doubt about the ability of
the Company to continue as a going concern. The financial statements do not
include any adjustments relating to the recoverability of assets and
classification of liabilities that might be necessary should the Company be
unable to continue as a going concern.
F-10
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(2) GOING CONCERN AND ASSET REALIZATION (CONTINUED)
ASSET REALIZATION
One of the Company's primary assets is a technology license related to the
design and manufacture of its products. The Company originally purchased the
technology from Ramtron pursuant to a technology license agreement (the
"Technology License"), for $2,000,000 in cash and 2,000,000 shares of the
Company's class B common stock (Note 5). The Company also entered into a supply
agreement in conjunction with the Technology License (collectively, the
"Technology License and Supply Agreements"), which requires the Company to
purchase from Ramtron minimal annual quantities of ferroelectric RFID
semiconductor chips (Note 10). See Note 6 for amendments to Technology License
and Supply Agreements. The Technology License is protected by patents owned by
Ramtron and is further protected by the Company's own patents. As part of the
Technology License, the Company acquired the rights to any and all improvements
in the underlying technology through 2005.
The Technology License was recorded at the original cash acquisition cost of
$2,000,000. In connection with a Memorandum of Understanding ("MOU") signed in
May 1995, the Company acquired certain additional rights with respect to the
technology. The net $400,000 cost of obtaining the additional rights was
capitalized in 1995 (Note 6). The net book value of the Technology License was
$1,882,354 and $1,715,102, as of December 31, 1995 and 1996, respectively.
Although the Company is currently marketing products utilizing the technology
covered by this Technology License and believes the underlying technology, which
is protected by a series of patents, has certain long-term proprietary value,
given the Company's current financial position, the ultimate recovery of the
carrying amount is uncertain. No provision for any loss that may result should
the carrying amount of the license not be recovered has been made in the
accompanying financial statements.
(3) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
The December 31, 1994 financial statements were consolidated and included
the accounts of the Company and its wholly-owned subsidiary, Intag Systems, Inc.
("ISI"). All significant intercompany accounts and transactions were eliminated
in consolidation. During 1995, the Company sold its investment in the subsidiary
(Note 6).
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include investments in highly liquid investments
with original maturities of three months or less.
F-11
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(3) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
INVENTORY
Inventory is stated at the lower of cost or market using the first-in,
first-out ("FIFO") method of accounting. Inventories at December 31, 1995 and
1996 consisted of the following:
DECEMBER 31,
----------------------
1995 1996
---------- ----------
Raw materials........................................ $ 147,222 $ 206,992
Work in process...................................... 49,232 75,359
Finished goods....................................... 25,240 146,050
---------- ----------
$ 221,694 $ 428,401
---------- ----------
---------- ----------
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost and depreciation is provided using
the straight-line method over the estimated useful lives of three to five years
for the respective assets. Maintenance and repairs are expensed as incurred and
improvements are capitalized.
INVESTMENT IN FOREIGN JOINT VENTURE
The functional currency for the Company's joint venture (Note 4) is the
Japanese yen, the applicable local currency of the joint venture. The joint
venture's financial statements are translated to U.S. dollars at the exchange
rate in effect at year end and its revenues and expenses are translated at the
average exchange rate during the year. Unrealized gains or losses resulting from
the translation process are included in the joint venture's equity as cumulative
translation adjustments. Exchange rate differences for the years ended December
31, 1995 and 1996 were not material. If significant, the Company reflects in
equity its proportionate interest of the joint venture's cumulative translation
adjustments.
INTANGIBLE ASSETS
Intangible assets are recorded at cost and are amortized using the
straight-line method over the following estimated useful lives:
ESTIMATED
USEFUL LIVES
(IN YEARS)
-------------
Technology license........................................ 10-17
Organization costs........................................ 5
The amortization lives assigned to the Technology License are based on the
remaining lives of the patents protecting the licensed technology. The Company
reviews its amortization lives on a periodic basis.
DEFERRED IMPORT LICENSE REVENUE
In June 1993, the Company entered into an import agreement with Nittetsu
Shoji Co. Ltd. ("NS"). The terms of the import agreement stated that for a
period of two years, in exchange for cash consideration of approximately
$138,000, NS had exclusive import rights to the Company's products in Japan.
F-12
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(3) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Revenue relating to the import agreement was recognized on a straight-line basis
during the two-year exclusivity right under the import agreement. The agreement
was not renewed in June 1995.
DEFERRED LICENSE REVENUE
Deferred license revenue represents the amount of profit deferred on the
March 1996 sublicensing of the Company's Technology License to an equity
investee (Notes 4 and 6). The deferred license revenue will be recognized on a
straight-line basis over a term of five years, corresponding with the
amortization period assigned to the sublicense by the equity investee.
REVENUE RECOGNITION
Revenue from product sales to direct customers is recognized upon shipment.
Royalty revenue is recognized upon the Company's fulfillment of its
contractual obligations and determination of a fixed royalty amount, or, in the
case of ongoing unit royalties, upon sales by the licensee of royalty-bearing
products, as estimated by the Company.
Revenue from the sale of licenses of technology which are nonrefundable and
for which no significant future obligations exist, is recognized when the
license is signed. Revenue from the sale of licenses which are refundable or for
which future obligations exist, is recognized when the Company has completed its
obligations under the license. Certain research and development activities are
conducted for third parties and such revenue is recognized as the services are
performed.
Revenue from development contracts where costs are insignificant or cannot
be reasonably estimated are recognized as the contractual events are achieved.
RESEARCH AND DEVELOPMENT
Research and development costs are charged to operations when incurred and
are included in operating expenses. Research and development costs amounted to
approximately $1,049,162 and $505,266 for the years ended December 31, 1995 and
1996, respectively.
DEFERRED OFFERING COSTS
Costs incurred with the Company's anticipated initial public offering are
being deferred and will be charged against the net proceeds of the offering, if
successful, or to expense if unsuccessful.
DEBT ISSUANCE COSTS
Costs incurred with the issuance of the Bridge Notes (Note 9) are being
deferred and amortized over the life of the related debt.
NET LOSS PER COMMON AND COMMON EQUIVALENT SHARE
Net loss per common and common equivalent share has been computed based upon
the weighted average number of common shares and common share equivalents
outstanding. Pursuant to Securities and Exchange Commission Staff Accounting
Bulletin No. 83, common stock and common stock equivalent shares issued by the
Company at prices below the initial public offering price during the twelve
month
F-13
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(3) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
period prior to the offering (using the treasury stock method for common stock
equivalents and an assumed offering price of $4.75 per share) have been included
in the calculation as if they were outstanding for all the periods presented
regardless of whether they were antidilutive.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company's financial instruments consist of cash and cash equivalents,
short-term trade receivables and payables, notes receivable and notes payable to
related parties. The carrying values of cash and cash equivalents, short-term
trade receivables and payables, and notes receivable approximate fair value. The
fair value of notes payable to related parties is estimated based on current
rates available for similar debt with similar maturities and collateral, and at
December 31, 1995 and 1996, approximates the carrying value.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions. These estimates may affect the reported amounts of assets and
liabilities, disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates.
LONG-LIVED ASSETS
Long-lived assets and certain identifiable intangibles to be held and used
by the Company are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. Any long-lived assets and certain identifiable intangibles to be
disposed of are reported at the lower of carrying amount or fair value less cost
to sell.
CONCENTRATION OF CREDIT RISK/TRANSACTIONS DENOMINATED IN FOREIGN CURRENCIES
The Company has no significant off balance sheet concentrations of credit
risk such as foreign exchange contracts, options contracts or other foreign
hedging arrangements. The Company maintains the majority of its cash with
financial institutions, in the form of demand deposits.
The Company enters into contracts denominated in foreign currency. At
December 31, 1996, the Company has recorded a license revenue receivable of
$646,162 related to a license contract denominated in Japanese yen. Transaction
gains and losses are included in income (loss) in the period in which the
exchange rate changes. As of December 31, 1996, the Company has recorded a
transaction loss of $28,367 which is included in other income (expense) in the
statement of operations.
The Company performs ongoing evaluations of its customers' financial
condition and generally does not require collateral. Its trade accounts
receivable balances are primarily domestic and are concentrated among
institutions within the high-technology industry.
INCOME TAXES
The Company recognizes deferred income tax assets and liabilities for the
expected future income tax consequences, based on enacted tax laws, of temporary
differences between the financial reporting and tax
F-14
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(3) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
bases of assets, liabilities and carryforwards. Deferred tax assets are reduced,
if deemed necessary, by a valuation allowance for the amount of any tax benefits
which, more likely than not, based on current circumstances, are not expected to
be realized (Note 12).
(4) INVESTMENT IN JOINT VENTURE
In July 1993, the Company entered into a joint venture agreement with NS
pursuant to which NS and the Company each received a 50% ownership interest in
Racom Japan, Inc. ("RJ"), a Japanese Corporation. RJ was formed for the purpose
of marketing, distributing and supporting the Company's RFID products to be sold
in Japan. Upon formation, NS and the Company each purchased 300 shares of common
stock at a purchase price of 50,000 Japanese yen ($466.67) per share, or
$140,265. In August 1994, NS and the Company each purchased an additional 300
shares of common stock at a purchase price of 50,000 Japanese yen ($510) per
share, or $153,000. RJ has the exclusive right to distribute the Company's
products in Japan for two years commencing August 1995, with the Company
providing marketing and sales support to RJ. In March 1996, the Company
purchased an additional 1,000 shares of common stock in RJ at a purchase price
of 50,000 Japanese yen ($466.98) per share, or $466,984. Additionally, in March
1996, NS and third parties purchased additional shares of common stock,
decreasing the Company's ownership of RJ to 40%.
The investment in RJ is accounted for using the equity method and the
Company has recorded its share of RJ's losses in 1995 and 1996 of $159,403 and
$209,248, respectively, as equity in loss of joint venture in the accompanying
financial statements to the extent of capital invested in RJ by the Company. The
losses recorded for the year ended December 31, 1996, include previously
unrecognized losses which had not been recorded as the Company's investment had
been reduced to zero and it had no obligation to fund such losses. However, upon
the 1996 investment of $466,984, previously unrecognized losses of $141,953 were
recorded.
(5) STOCKHOLDERS' EQUITY
During 1994, the Company amended and restated its Certificate of
Incorporation and Bylaws to combine all classes of outstanding common stock into
a single voting class of common stock. All existing stockholder certificates
were canceled and reissued on a one-for-one basis.
In June 1994, 970,000 shares of the Company's common stock were issued
pursuant to a Private Placement Memorandum ("PPM") at $2.50 per share. The
proceeds received by the Company were $2,154,118, net of issuance costs of
$270,882. The Company reimbursed Ramtron and INTAG $50,000 each for issuance
costs incurred relating to the PPM. Of the total shares issued, 20,000 were
purchased by directors of the Company.
On November 14, 1994, Ramtron sold 200,000 of its shares of Company common
stock to INTAG at $3.00 per share.
In connection with the MOU (Notes 2 and 6), INTAG converted debt due from
the Company of $933,798, $700,000 and $400,000 into common stock at $1.50 per
share, $2.50 per share and $2.50 per share, respectively, resulting in 1,062,532
shares of common stock being issued to INTAG (Note 6).
During 1996, the Company authorized 5,000,000 shares of preferred stock with
no par value. No preferred stock has been issued as of December 31, 1996.
F-15
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(6) AMENDMENTS TO THE TECHNOLOGY LICENSE AND SUPPLY AGREEMENTS
In 1994, Ramtron was issued an additional 2,000,000 shares of common stock
in connection with an amendment to the Technology License and Supply Agreements.
In February 1995, the Company and Ramtron entered into a second amendment to the
Technology License and Supply Agreements. In May 1995, the Company signed and
executed the MOU (Note 2) with INTAG and Ramtron relating to further amendments
to the Technology License and Supply Agreements and the conversion to equity of
certain of INTAG's loans to the Company (Notes 5 and 8). As a result of these
amendments, the Company received certain additional rights and agreed to make
certain payments as discussed below.
The Company has the worldwide, non-exclusive, non-transferable right to
design, manufacture, sell, lease and distribute smart card products which
monolithically incorporate FRAM and contactless technologies regardless of
memory size ("Contactless Products"). In addition, the Company has the rights to
any and all improvements in the FRAM technology. The Company, through 2005, has
certain exclusive rights to design, manufacture, sell, lease and distribute
certain Contactless Products which functionally incorporate a microprocessor.
The Company may sublicense its manufacturing right up to five times with
Ramtron's consent. The Company consented to Ramtron granting to INTAG an
exclusive right to use (but not manufacture) the technology for use in conveyor
fed or tunnel reader equipped airline, postal and courier applications. The
Company may in the future agree with Ramtron to further amend the Technology
License, although there are no such agreements currently.
Further to the Technology License and Supply Agreements, Ramtron is
obligated to pay to the Company royalties, as defined in the agreement, on any
Contactless Products which Ramtron sells, leases or distributes to third
parties. Ramtron will also be obligated to pay to the Company 50% of any license
fees on Contactless Products. As of December 31, 1996, the Company had not
received any royalties or licensing fees as there were no sales of Contactless
Products by Ramtron through December 31, 1996. The amendments extend the
requirements that the Company purchase from Ramtron minimal quantities of
ferroelectric RFID semiconductor chips (Note 10). For the years ended December
31, 1995 and 1996, the Company made purchases from Ramtron of approximately
$281,000 and $279,561, respectively, which satisfied the minimum purchase
requirements.
As further consideration for the additional rights obtained through the
amendments to the Technology License and Supply Agreements, the Company issued
to Ramtron 1,000,000 shares of Company common stock and caused Ramtron to be
paid cash of $1,000,000. The common shares issued to Ramtron were assigned no
value because the amendments were viewed as a modification of the original
transfer (Note 2) by a principal stockholder of intangible rights for which
Ramtron had no capitalized historical cost basis. INTAG paid $600,000 of the
cash consideration directly to Ramtron, which together with an unrelated deposit
of $100,000 received from INTAG has been reflected as an addition to the
Company's paid-in capital. The remaining $400,000 balance paid to Ramtron was
loaned to the Company by INTAG, carried a 10% interest rate and was to be repaid
only from future sublicense fees earned by INTAG, totaling $400,000, which would
be due the Company from INTAG should INTAG be successful in further sublicensing
the technology. INTAG and the Company have agreed that the loan is no longer
subject to accrued interest and may be converted, at INTAG's option, into shares
of the Company's common stock at a rate of $2.50 per share, no later than June
1997. INTAG simultaneously paid the Company $200,000 for a sublicense. The
Company believes the loan amount effectively represents an additional
nonrefundable payment for the sublicense. Consequently, the Company has netted
both the loan amount of $400,000 and the $200,000 sublicense payment against the
$1,000,000 cash paid to Ramtron, resulting in a net increase to
F-16
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(6) AMENDMENTS TO THE TECHNOLOGY LICENSE AND SUPPLY AGREEMENTS (CONTINUED)
the Technology License of $400,000 as of December 31, 1995. Should INTAG convert
the loan to common stock of the Company, the transaction will be assigned no
value.
INTAG agreed to convert to equity the principal balances of the $933,798
related party notes payable and $700,000 working capital notes at $1.50 and
$2.50 per share, respectively (Note 8). INTAG purchased ISI from the Company for
$100,000 and assumed ISI's net liabilities of $70,467. The net balance of all
related party deposits between the Company and INTAG (Note 8) combined with the
ISI purchase price, totaled $400,000 and was converted to equity at $2.50 per
share.
The MOU is subject to formal consummation through execution of certain
definitive agreements. Management of the Company believes that the terms of the
definitive agreements will be substantially the same as those described in the
MOU.
In June 1995, the Company entered into a Cooperative Agreement for Licensed
Manufacturing of Ferroelectric RFID Products with Rohm Co., Ltd. ("ROHM") of
Japan. The license gives ROHM a non-exclusive, non-sublicenseable,
non-transferable right and license to use the RFID technology in connection with
the design, development, manufacture and sale of Custom Ferroelectric RFID
Products for use within a defined territory (Japan). In consideration of this
license, ROHM purchased 300,000 shares of the Company's common stock, at $3.00
per share. ROHM also purchased 200,000 additional shares of the Company's common
stock, for a purchase price of $3.00 per share upon reaching certain sales
milestones. ROHM is also to pay a $1,000,000 license fee to the Company in four
equal installments upon reaching certain sales milestones. As of December 31,
1995, the Company has received $500,000 in license fees as it had achieved
certain milestones. As of December 31, 1996, no new milestones had been reached.
On March 22, 1996, the Company entered into a technology license and supply
agreement with its affiliate, RJ, for the common purpose of more fully
developing the Japanese market for ferroelectric RFID products. RJ paid $933,968
in cash to the Company for the non-exclusive right and license to use its
patented ferroelectric RFID technology and all improvements, for the limited
right to design, develop and manufacture ferroelectric RFID products for sale
and use in Japan only. This license specifically excludes the right to use the
ferroelectric RFID technology in conveyor fed, airline, postal and courier
applications (as the rights to this technology were already previously licensed
to INTAG). Under the agreement, RJ is obligated to pay 50%, to the Company, of
all sublicense revenues and royalties, as defined in the agreement, on net sales
of ferroelectric RFID products which are sold to third parties.
In connection with the sale of the sublicense, $466,984 (representing the
Company's intercompany profit due to its 50% equity ownership in RJ on the date
of the sublicense) of the profit was deferred. The deferred license revenue is
being recognized over the life of the related technology license asset purchased
by RJ, which is five years. As of December 31, 1996, $70,047 of the original
deferred license revenue (Note 3) of $466,984 has been recognized.
In October 1996, the Company consented to allow RJ to enter into a custom
product development project with a Japanese company, pursuant to the technology
license and supply agreement granted to RJ on March 22, 1996, under which the
Company is entitled to 50% of all sublicense revenue earned by RJ. The
sublicense is for a specified amount, as defined in the contract, a portion of
which is to be paid upon execution of the agreement and the remainder to be paid
upon RJ meeting certain performance criteria. Under the agreement with the
Japanese company, RJ will be entitled to royalties, as defined in the contract,
over the next five years. As of December 31, 1996, $893,909 has been recorded by
the Company
F-17
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(6) AMENDMENTS TO THE TECHNOLOGY LICENSE AND SUPPLY AGREEMENTS (CONTINUED)
related to its respective portion of sublicense revenue, of which $646,162
remains outstanding at December 31, 1996, and is recorded as license revenue
receivable in the accompanying financial statements. Revenue due to the Company
of approximately $215,000 remaining under the agreement between RJ and the
Japanese Company has not been recognized, as management believes the revenue
recognition criteria have not been met as of December 31, 1996.
(7) DEVELOPMENT AND SUPPLY AGREEMENT
On January 29, 1996, the Company signed an agreement with an unaffiliated
third party to develop a multi-application "smart card" based on the Company's
contactless smart card technology and the third party's bank and electronic
purse operating system. In combination, the two technologies form the basis for
a new product family which will combine contact and contactless operation on a
single, microprocessor smart card. Under the terms of the agreement, the Company
received an initial cash payment of $500,000 and will receive approximately an
additional $1,300,000 based upon the achievement of certain production
milestones and delivery of specified products. As of December 31, 1996, the
Company has recognized $600,000 of revenue as a result of the initial cash
payment of $500,000 and reaching the first milestone.
(8) OTHER RELATED PARTY TRANSACTIONS
During 1995 and 1996, INTAG advanced approximately $1,113,000 and $340,000,
respectively, to the Company under various notes payable agreements, which bear
interest at 10% per annum and are due on demand. Amounts due under the notes
prior to 1996 were convertible into common stock of the Company at the fair
value of the Company's common stock at the date the advances were made. In 1995,
$933,798 of advances were converted to equity in connection with the MOU (Note
6) at a rate of $1.50 per share. Unpaid accrued interest of $93,380 on the
advances, prior to conversion, was not converted to equity in connection with
the MOU (Note 6), and at the discretion of INTAG, is convertible into common
stock at $1.50 per share or is to be repaid to INTAG within 30 days of
notification by INTAG that repayment is required. As of December 31, 1995 and
1996, the related party notes payable to INTAG had total principal and interest
outstanding of $652,523 and $879,576 respectively. In 1996, Ramtron advanced
$175,000 to the Company under a note payable agreement which bears interest at
prime plus 2% (10.25% at December 31, 1996) and is due on demand. As of December
31, 1996, the related party note payable to Ramtron had total principal and
interest outstanding of $94,568.
During 1994, INTAG loaned the Company $1,000,000 under a $1,000,000 working
capital facility agreement. Of the $1,000,000 drawn during 1994, $300,000 had
been repaid as of December 31, 1994. Amounts due under the working capital
facility agreement were convertible into common stock of the Company at the fair
value of the Company's common stock at the date the advances were made. The
facility carried interest at 10% per annum and in May 1995, the $700,000 balance
outstanding was converted to common stock in connection with the MOU (Note 6) at
a rate of $2.50 per share. Unpaid accrued interest of $55,452 on the advances,
<PAGE>
prior to conversion, was not converted to equity in connection with the MOU
(Note 6) and, at the discretion of INTAG, is convertible into common stock at
$2.50 per share or is to be repaid to INTAG within 30 days of notification by
INTAG that repayment is required. As of December 31, 1995 and 1996, the related
party line of credit had total interest outstanding of $55,452. As consideration
for INTAG advancing the working capital facility in June 1994, the Company
granted INTAG 200,000 warrants for the Company's common stock at an exercise
price of $2.50 per share, which
F-18
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(8) OTHER RELATED PARTY TRANSACTIONS (CONTINUED)
vested immediately and are exercisable over a five-year term. The Company
determined that these warrants had a nominal value at the date of issuance.
On March 23, 1995, the Company and INTAG entered into an assignment and
security agreement whereby all current and future debt owed by the Company to
INTAG is secured by all of the Company's assets and agreements.
In October 1996, the Company issued 121,766 and 251,452 warrants to purchase
the Company's common stock at an exercise price of $2.50 per share to INTAG and
Ramtron, respectively. The warrants were approved in consideration of
approximately $933,000 of short-term loans from Ramtron and INTAG and deferred
payment terms on product purchases from Ramtron made to the Company. The
warrants, which vested immediately, are exercisable for a period of five years
after the date of issuance. The Company determined that these warrants had a
nominal value at the date of issuance.
For the years ended December 31, 1995 and 1996 the statements of operations
include amounts attributable to related party transactions as follows:
YEARS ENDED
DECEMBER 31,
--------------------
1995 1996
-------- ----------
PRODUCT SALES
Sales to INTAG.................................. $ 33,747 $ --
-------- ----------
-------- ----------
Sales to NS..................................... $ 21,593 $ --
-------- ----------
-------- ----------
Sales to RJ..................................... $ 48,398 $ 113,575
-------- ----------
-------- ----------
Sales to Ramtron................................ $ -- $ 700
-------- ----------
-------- ----------
IMPORT LICENSE REVENUES
NS.............................................. $ 28,850 $ --
-------- ----------
-------- ----------
LICENSE REVENUES
Rohm............................................ $500,000 $ --
RJ.............................................. -- 1,430,940
-------- ----------
$500,000 $1,430,940
-------- ----------
-------- ----------
GENERAL AND ADMINISTRATIVE EXPENSES
Management fees paid to related parties......... $ 15,575 $ --
-------- ----------
-------- ----------
Director travel expenses........................ $ 46,730 $ 29,111
-------- ----------
-------- ----------
Directors fees $ 12,000 $ --
-------- ----------
-------- ----------
OTHER INCOME AND EXPENSE
Interest expense on notes payable to INTAG...... $143,645 $ 59,833
-------- ----------
-------- ----------
Interest expense on notes payable to Ramtron.... $ -- $ 4,567
-------- ----------
-------- ----------
F-19
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(8) OTHER RELATED PARTY TRANSACTIONS (CONTINUED)
DEPOSIT FROM RELATED PARTY
In April 1994, the Company and INTAG signed a letter of intent to enter into
a license agreement. As of December 31, 1994, $1,000,000 had been received as a
deposit on the license fee. Under the MOU (Note 6), the $1,000,000 deposit, net
of deposits with INTAG of $500,000 and an INTAG receivable of $100,000 related
to the ISI purchase, were converted into common stock of the Company at a rate
of $2.50 per share and negotiations in connection with the license agreement
ceased.
DEPOSIT WITH RELATED PARTY
In 1993 and 1994, the Company paid deposits of $100,000 and $400,000,
respectively, to INTAG to purchase BagTag and Intertrak technology licenses. In
connection with the execution of the MOU (Note 6), these deposits were offset
against amounts due INTAG as described above.
(9) BRIDGE FINANCING
In December 1996, the Company completed a private offering of $1,040,000 of
promissory notes (the "Bridge Notes"). The Bridge Notes bear interest at prime
plus 2% per annum, computed as of the date of issuance (the "Bridge Date"), and
thereafter on a quarterly basis commencing December 31, 1996.
The Bridge Notes mature the earlier of one year from the Bridge Date or upon
the closing date of any initial public offering ("IPO") of the Company's
securities. On the Bridge Date, the Company also granted warrants (the "Bridge
Warrants") entitling the holder to purchase shares of the Company's common stock
at 125% of the IPO price per unit, beginning on the effective date of the IPO
and continuing for two years thereafter. The holders of the Bridge Notes
received one warrant for every $4 of Bridge Note principal purchased,
resulting in 260,000 Bridge Warrants being issued in connection with the
offering of the Bridge Notes. The Company determined that these warrants had a
nominal value at the date of issuance.
(10) COMMITMENTS AND CONTINGENCIES
The Company leases its facilities and certain equipment under noncancelable
operating lease agreements. Minimum future annual lease payments under these
leases as of December 31, 1996, are as follows:
1997.............................................. $102,479
1998.............................................. 79,095
---------
$181,574
---------
---------
Total rent expense for noncancelable, cancelable and month-to-month
operating leases for the years ended December 31, 1995 and 1996 was
approximately $115,561 and $124,929, respectively.
The Company leases equipment under a 36-month capital lease. The lease
commenced in February 1995 and bears interest at a rate of 15%.
The amended Technology License and Supply Agreements require the Company to
purchase from Ramtron minimal annual quantities of ferroelectric RFID
semiconductor chips. The minimum purchases increase in future years, in
accordance with the Technology License and Supply Agreements. The
F-20
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(10) COMMITMENTS AND CONTINGENCIES (CONTINUED)
requirement continues through 1998. In the event the Company does not purchase
the minimum annual quantities, Ramtron will be released from all sales
restrictions under the Supply Agreement.
(11) MAJOR CUSTOMERS
The Company's product sales from non-related party customers in excess of
10% of non-related party product sales for the years ended December 31, 1995 and
1996 are as follows:
YEARS ENDED
DECEMBER 31,
--------------------
1995 1996
--------- ---------
Customer A............................................... 4% 21%
Customer B............................................... 15% 5%
Customer C............................................... 26% 13%
Customer D............................................... 14% 12%
The Company's custom product development project revenue for the years ended
December 31, 1995 and 1996 were from two different customers.
The Company's accounts receivable balances from non-related party customers
in excess of 10% of the accounts receivable balance from non-related parties for
the years ended December 31, 1995 and 1996 are as follows:
YEARS ENDED
DECEMBER 31,
--------------------
1995 1996
--------- ---------
Customer C............................................... 42% 37%
Customer D............................................... 19% 0%
Customer E............................................... 14% 0%
Customer F............................................... 0% 42%
(12) INCOME TAXES
For income tax return reporting purposes, the Company has approximately
$9,600,000 of net operating loss carryforwards that expire at various dates
through the year 2011. The net operating loss for tax purposes differs from that
for financial reporting purposes due to differences in reporting certain
transactions for income tax and financial reporting purposes. These differences
primarily relate to the Technology License.
The Tax Reform Act of 1986 contains provisions which may limit the net
operating loss carryforwards available to be used in any given year if certain
events occur, including significant changes in ownership interests.
The Company has determined that approximately $4,742,000 and $6,182,000 of
deferred tax assets as of December 31, 1995 and 1996, respectively, did not
satisfy the realization criteria set forth in SFAS No. 109. Accordingly, a
valuation allowance was recorded against the entire net deferred tax asset.
F-21
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(12) INCOME TAXES (CONTINUED)
The components of the net deferred income tax asset at December 31, 1995 and
1996 were as follows:
<TABLE>
<CAPTION>
1995 CHANGE 1996
----------- ----------- -----------
<S> <C> <C> <C>
Technology license...................................... $ 1,351,000 $ 654,000 $ 2,005,000
Net operating loss carryforwards........................ 3,192,000 438,000 3,630,000
Research and development tax credits.................... 158,000 (22,000) 136,000
Loss in equity investee................................. -- 191,000 191,000
Deferred license revenue................................ -- 151,000 151,000
Other................................................... 41,000 28,000 69,000
Less--Valuation allowance............................... (4,742,000) (1,440,000) (6,182,000)
----------- ----------- -----------
$ -- $ -- $ --
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
The difference between the statutory rate and the effective rate is
primarily a result of the increase in the valuation allowance.
(13) EMPLOYEE BENEFIT PLANS
STOCK OPTION PLAN
In May 1993, the Company adopted the 1993 Employee Stock Plan which
authorized the granting of incentive and nonqualified stock options and
restricted stock (collectively, the "stock options") to acquire up to 1,700,000
shares of the Company's common stock, of which 141,000 are available to be
granted as of December 31, 1996. The exercise terms for the stock options
granted are determined by the Board of Directors at the time the stock options
are granted. Stock options may be granted at an exercise price not less than the
fair market value on the date of grant with a maximum term of 10 years. The 1993
Employee Stock Plan also permits the granting of limited stock appreciation
rights ("SAR's") which, upon a change in control, as defined, entitle the
holders to exercise SAR's in an amount equal to the number of stock options held
and at terms similar to the terms of the related stock options. As of December
31, 1995 and December 31, 1996, the Company has issued 900,000 and 1,100,000
SAR's respectively, none of which are exercised. The Company accounts for the
1993 Employee Stock Plan under Accounting Principles Board ("APB") Opinion No.
25, under which no compensation cost has been recognized.
In October 1995, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 123 ("SFAS 123"), "Accounting for
Stock-Based Compensation". SFAS 123 defines a fair value-based method of
accounting for employee stock options and similar equity instruments. However,
it also allows an entity to continue to measure compensation cost for those
plans using the intrinsic value-based method of accounting prescribed by APB
Opinion No. 25, "Accounting for Stock Issued to Employees." Entities electing to
remain with the accounting in APB Opinion No. 25 must make pro forma disclosures
of net income and earnings per share, as if the fair value-based method of
accounting defined in SFAS 123 had been applied. The Company has elected to make
the pro forma disclosures in accordance with SFAS 123 as set forth below.
F-22
<PAGE>
RACOM SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(13) EMPLOYEE BENEFIT PLANS (CONTINUED)
Had compensation cost for the 1993 Employee Stock Plan been determined
consistent with SFAS 123, the Company's net loss and loss per share would have
been increased to the following pro forma amounts:
1995 1996
----------- -----------
Net Loss:
As Reported........................................ $(2,878,034) $(1,303,837)
----------- -----------
----------- -----------
Pro Forma.......................................... $(3,002,758) $(1,580,465)
----------- -----------
----------- -----------
Net Loss Per Common and Common Equivalent Share:
As Reported........................................ $ (.27) $ (.11)
----------- -----------
----------- -----------
Pro Forma.......................................... $ (.28) $ (.13)
----------- -----------
----------- -----------
Because the SFAS 123 method of accounting has not been applied to options
granted prior to January 1, 1995, the resulting pro forma compensation cost may
not be representative of that to be expected in future years.
A summary of the status of the Company's 1993 Employee Stock Plan at
December 31, 1995 and 1996 and changes during the years then ended is presented
in the table and narrative below:
<TABLE>
<CAPTION>
1995 1996
------------------------ ------------------------
WTD. AVG EX WTD. AVG EX
SHARES PRICE SHARES PRICE
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Outstanding at beginning of year........................ 1,665,000 $ 1.25 1,512,000 $ 1.60
Granted............................................... 550,000 $ 2.50 289,000 $ 2.50
Forfeited............................................. (703,000) $ 1.48 (242,000) $ 2.17
----------- -----------
Outstanding at end of year.............................. 1,512,000 $ 1.60 1,559,000 $ 1.67
----------- -----------
----------- -----------
Exercisable at end of year.............................. 981,250 $ 1.35 1,065,250 $ 1.34
----------- -----------
----------- -----------
Weighted average fair value of options granted during
year.................................................. $ 1.08 $ 1.30
</TABLE>
The 1,559,000 options outstanding at December 31, 1996 have exercise prices
between $1.00 and $2.50, with a weighted average remaining contractual life of
2.13 years.
The fair value of each option grant is estimated on the date of grant using
the Black Scholes option pricing model with the following weighted-average
assumptions used for grants in 1995 and 1996, respectively: risk-free interest
rates of 6.16% and 6.40%; no expected dividend yields; expected lives of 3.05
years and 3.54 years; expected volatility of 66.9% and 68.1%.
DEFINED CONTRIBUTION PLAN
The Company has a defined contribution plan (the "Plan") intended to qualify
under Section 401(k) of the Internal Revenue Code of 1986, as amended (the
"Code"), in which substantially all full-time employees are participants.
Participants in the Plan may make pre-tax contributions subject to limitations
imposed by the Code. The Company may make, at the Board of Directors'
discretion, an annual contribution on behalf of each participant. No amounts
have been contributed by the Company under the Plan.
F-23
<PAGE>
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
- -------- -------------------------------------------------
There have been no changes in or disagreements with accountants on
accounting or financial disclosure.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL
PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT
- -------- ----------------------------------------------------------
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The name, age and position of each of the Company's executive officers and
directors are set forth below.
<TABLE>
OFFICER/DIRECTOR
NAME AGE POSITION SINCE
- ---------------------- --- ----------------------------------------------------------- ----------------
<S> <C> <C> <C>
Charles A. Fear(1) 43 Chairman of the Board of Directors 1995
Richard L. Horton 51 Chief Executive Officer, President, Chief Financial Officer 1992
and Director
Mark R. Davison 51 Director 1995
L. David Sikes 56 Director 1995
George J. Stathakis(1) 65 Director 1995
Charles R. Broshous 56 Vice President of Transportation 1996
Michael M. Malmer 56 Vice President of Engineering 1992
William H. Jacobs 40 Vice President of Business Development 1996
Douglas J. Sheldon 37 Vice President of Operations 1996
</TABLE>
- ------------------------
(1) Members of the Compensation Committee
Directors are elected at the Company's annual meeting of shareholders and
serve a term of one year or until their successors are elected and qualified.
Officers are appointed by the Board of Directors and serve at the discretion of
the Board of Directors, subject to the bylaws of the Company.
The Company's Compensation Committee administers the Company's 1993 Employee
Stock Option Plan and makes recommendations to the full Board of Directors
concerning compensation, including incentive arrangements, of the Company's
officers and key employees. The Compensation Committee is comprised of at least
two independent directors.
<PAGE>
The principal occupation of each director and executive officer of the
Company, for at least the past five years, is as follows:
CHARLES A. FEAR was appointed Chairman of Intag International Limited
("Intag"), a publicly-held Australian developer and marketer of data capture
technologies, in April 1995. Intag was a promoter and founder of the Company, is
currently one of its principal stockholders and also holds an exclusive license
from the Company to use the Company's FRAM technology in connection with certain
airline, postal and courier applications. In March 1997, Mr. Fear resigned as
the Chairman of Intag. Since 1992, Mr. Fear has been an Executive Director of
Poynton Corporate Limited, the corporate advisory arm of Hartley Poynton
Limited, a regional Australian stockbroker, of which he is also a shareholder.
He is a director of Intag Systems Pty Limited and Intag Microelectronics Pty
Limited. Mr. Fear is a Fellow of the Institute of Chartered Accountants and a
Fellow of the Australian Institute of Company Directors. From 1985 to 1992 he
was a partner of KPMG Peat Marwick ("KPMG"), where he provided corporate
advisory services for KPMG clients involving business valuations, mergers,
acquisitions, corporate reconstructions and capital raisings.
RICHARD L. HORTON joined the Company as President in June 1992 and has acted
as its Chief Executive Officer since May 1995 and its Chief Financial Officer
since January 1996. From 1988 to June 1992, he was President of Ramtron
International Corporation ("Ramtron"), a publicly-held specialty semiconductor
manufacturer. Ramtron was a promoter and founder of the Company and is currently
a principal stockholder and licensor to the Company of the FRAM technology upon
which the Company's Smart Card products are based. From 1981 to 1987, Mr. Horton
founded two start-up ventures in the computer systems and semiconductor
industries, which were subsequently acquired by other firms. From 1985 to 1987,
Mr. Horton also acted as the Director of the digital products division for
Honeywell, Inc. Mr. Horton served in the United States Navy from 1962 to 1966
and earned B.S.E.E. and M.B.A. degrees from Southern Methodist University and
Pepperdine University, respectively.
MARK R. DAVISON was a partner with the law firm of Freehill Hollingdale &
Page from 1978 to 1984, a Director of Rothschild Australia Limited from 1984 to
1985 and a founding Director of Gresham Partners Limited from 1985 to 1991. He
has been a director of Intag since July 1992. In December 1991 Mr. Davison
founded the AusAsean Group, which provides investment banking, development and
venture capital funds management. Mr. Davison is also a director of BRL Hardy
Limited, Tasmanian Univalve Pty Limited and other Australian public and private
<PAGE>
companies. Mr. Davison is an investment banker and has been a solicitor of the
Supreme Court of New South Wales. He holds a degree in Arts (1971) and Law
(1973) from the Australian National University, a Masters of Laws from the
University of London (1976) and has completed the Advanced Management Programme
at Harvard School of Business Administration (1983).
L. DAVID SIKES became Chairman of the Board and Chief Executive Officer of
Ramtron in April 1995 and has been a director of Ramtron since September 1992.
Prior to becoming Chairman of the Board and Chief Executive Officer of Ramtron,
he was its President and Chief Operating Officer from July 1992 until January
1995, at which time he left Ramtron and joined Micro Component Technology Inc.,
a semiconductor equipment manufacturer, as Chairman, President and Chief
Executive Officer from January 1995 until April 1995. Mr. Sikes was President
and Chief Executive Officer of ASM America, Inc. ("ASM America"), a
semiconductor equipment company, from January 1991 until June 1992, and
Executive Vice President and General Manager of ASM Epitaxy, a semiconductor
equipment manufacturer, from February 1989 until December 1990. Prior to his
tenure with ASM, Mr. Sikes spent 18 years with Motorola, Inc. ("Motorola") in
various management and executive positions including Vice President and Director
of the Semiconductor Research and Development Lab. His experience also includes
several management and engineering roles with Eastman Kodak and National
Semiconductor Corporation. Mr. Sikes received his Bachelor of Science degree in
Electrical Engineering from the Massachusetts Institute of Technology.
GEORGE J. STATHAKIS has been a director of Ramtron since March 1990. Mr.
Stathakis also served as Chairman of the Board and Chief Executive Officer of
Ramtron from March 1990 until June 1994 and, in an interim capacity, from
February 1995 until April 1995. Since 1991, he has acted as a consultant to
Calpine Corporation, a publicly-held independent power company. From 1986 until
1989, Mr. Stathakis served as Chairman of the Board and Chief Executive Officer
of International Capital Corporation, a subsidiary of American Express. Mr.
Stathakis retired from General Electric Corporation ("GE") after 32 years in
management and executive positions. In 1971, he was appointed Vice President of
GE and General Manager of the Nuclear Energy Division. His responsibilities
included technology research and development, engineering design, manufacturing,
construction and marketing, as well as strategic business planning and
investments for an organization of approximately 10,000 people. In 1977, he was
appointed General Manager of GE's International Trading Operations, an
organization of approximately 35,000 people. Mr. Stathakis founded the General
Electric Trading Company in 1982 and was appointed its first President and Chief
Executive Officer. The General Electric Trading Company was instrumental in
developing export opportunities for countertrade and barter. Mr. Stathakis
<PAGE>
graduated from the University of California at Berkeley with Bachelor of Science
and Master of Science degrees in engineering. In 1985, Mr. Stathakis was
appointed by President Reagan as a member of the President's Export Council, and
he served on such Council until 1987.
CHARLES R. BROSHOUS, the Company's Vice President for Transportation, is
responsible for managing the Company's transportation-related Smart Card
business, including its automated fare collection (AFC) systems for public
transit. From August 1993 until he joined the Company in January 1996, Mr.
Broshous served as the first President of the MTA Card Company, a fare
collection subsidiary of the New York Metropolitan Transportation Authority
("Authority"). From 1982 to August 1993, Mr. Broshous served the Authority in a
variety of capacities, completing service as its Senior Vice President for
Operations Support. In this capacity, Mr. Broshous managed the logistics
portfolio of the Authority, overseeing among other functions a $2 billion per
year fare collection operation which covered approximately 60% of the
Authority's operating expenses. During his tenure, he converted the Authority
from its historic reliance on tokens to a new, all-electronic AFC system. Mr.
Broshous is a West Point graduate and U.S. Army veteran who holds Masters
degrees in civil engineering and in economics from Princeton University.
MICHAEL L. MALMER is the Company's Vice President of Engineering and is
responsible for the engineering development of the Company's Smart Card
products. Prior to joining the Company in February 1992, he was Engineering Vice
President of Destron/IDI, an early participant in radio frequency identification
technologies, from July 1986 to October 1991. In 1980, he was a founder of
Prolink Corporation and acted as its Vice President from 1980 to 1984. Mr.
Malmer held engineering positions at Unisys and Boeing from 1961 to 1973. He
holds a B.S.E.E. degree from Case Institute of Technology and engaged in
computer engineering masters degree work at the University of Michigan (Ann
Arbor) and other universities.
WILLIAM H. JACOBS is the Company's Vice President of Business Development
and is responsible for the development and marketing of new Smart Card products.
From March 1990 until he joined the Company in June 1996, he was Director of
Product Marketing for Netwise, Inc. Mr. Jacobs marketed the Netwise, Inc. line
of network software integration tools to support personal computers, UNIX
systems and IBM mainframes systems until the line was sold to Microsoft in
November of 1995. Prior to his employment with Netwise, Inc., Mr. Jacobs managed
computer operating system product lines for 11 years as an employee of Apple
<PAGE>
Computer, Inc. and Hewlett Packard Co. He holds a B.S.E.E. degree from the
University of Missouri.
DOUGLAS J. SHELDON is the Company's Vice President of Operations. Prior to
joining the Company in August 1995, he had over 14 years experience in the
semiconductor manufacturing industry. From 1994 to 1995, he led the
manufacturing engineering activities of a family of advanced nonvolatile memory
products for Atmel Corporation and from 1988 to 1994 he was the Manager of
Reliability and Quality Assurance for Ramtron. Mr. Sheldon has a Bachelors and
Masters degree in Physics from University of Colorado and University of Oregon,
respectively, and is completing a Doctorate degree in Systems Management.
ITEM 10. EXECUTIVE COMPENSATION
- -------- ----------------------
The following table discloses certain compensation paid to the Company's
executive officers for the years ended December 31, 1996, 1995 and 1994.
SUMMARY COMPENSATION TABLE
<TABLE>
ANNUAL COMPENSATION(1)
-----------------------------------------------------------------
(E) (F)
(A) (B) (C) (D) STOCK OTHER ANNUAL
NAME AND PRINCIPAL POSITION YEAR SALARY($) BONUS($) OPTIONS COMPENSATION($)
- ------------------------------------------------------- --------- --------- ----------- --------- -------------------
<S> <C> <C> <C> <C> <C>
Richard L. Horton, President........................... 1996 179,122 0 0 0
1995 158,244 0 0 0
1994 158,244 0 0 0
Michael M. Malmer, Vice President of Engineering....... 1996 107,850 0 0 0
1995 104,200 0 0 0
1994 102,200 0 0 0
John Shoemaker, Vice President of Sales and
Marketing............................................ 1996 139,977 25,000 0 0
1995 104,958 0 150,000 0
1994 0 0 0 0
</TABLE>
- ------------------------
(1) The Company has not paid or granted any long-term compensation awards or
payouts.
<PAGE>
The Company's independent directors do not receive compensation for
attending Board meetings but are reimbursed for out-of-pocket expenses incurred
in connection therewith.
1993 EMPLOYEE STOCK OPTION PLAN
In May 1993, the Company's stockholders adopted the Company's 1993 Employee
Stock Option Plan (the "Plan"), which provides for the grant of stock options
intended to qualify as "incentive stock options" and "nonqualified stock
options" (collectively "stock options") within the meaning of Section 422 of the
United States Internal Revenue Code of 1986 (the "Code"). Stock options are
issuable to any officer, director, key employee or consultant of the Company.
The Plan also allows for the granting of limited stock appreciation rights upon
a change of control as defined in the Plan.
The Company has reserved 1,700,000 shares of Common Stock for issuance under
the Plan. The Plan is administered by the Compensation Committee of the Board of
Directors, which, subject to approval by the Board of Directors, determines
which individuals shall receive stock options, the time period during which the
stock options may be exercised, the number of shares of Common Stock that may be
purchased under each stock option and the stock option price.
The per share exercise price of incentive stock options may not be less than
the fair market value of the Common Stock on the date the option is granted. The
aggregate fair market value (determined as of the date the stock option is
granted) of the Common Stock that any person may purchase under an incentive
stock option in any calendar year pursuant to the exercise of incentive stock
options may not exceed $100,000. No person who owns, directly or indirectly, at
the time of the granting of an incentive stock option, more than 10% of the
total combined voting power of all classes of stock of the Company is eligible
to receive incentive stock options under the Plan unless the stock option price
is at least 110% of the fair market value of the Common Stock subject to the
stock option on the date of grant.
No incentive stock options may be transferred by an optionee other than by
will or the laws of descent and distribution, and during the lifetime of an
optionee, the stock option may only be exercisable by the optionee. Stock
options may be exercised only if the stock option holder remains continuously
associated with the Company from the date of grant to the date of exercise. The
exercise date of a stock option granted under the Plan cannot be later than ten
years from the date of grant. Any stock options that expire unexercised or that
terminate upon an optionee's ceasing to be employed by the Company become
available once again for issuance. Shares issued upon exercise of a stock option
will rank equally with other shares then outstanding.
As of December 31, 1996, 1,559,000 stock options have been granted
under the Plan, including an aggregate of 1,090,000 stock options granted to
officers and directors of the Company at exercise prices ranging from $1.00 to
$2.50 per share.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
- - -------- --------------------------------------------------------------
PRINCIPAL STOCKHOLDERS
The following table sets forth certain information with respect to the
ownership of the Company's Common Stock as of the date of the Report, by (i)
each person who is known by the Company to own of record or beneficially more
than 5% of the Company's Common Stock, (ii) each of the Company's directors and
(iii) all directors and officers of the Company as a group. The stockholders
listed in the table have sole voting and investment powers with respect to the
shares of Common Stock.
<PAGE>
<TABLE>
NUMBER OF
SHARES
BENEFICIALLY PERCENTAGE
NAME AND ADDRESS OWNED OF CLASS
- ---------------- ------------ ----------
<S> <C> <C>
Charles A. Fear(1)............................................. 25,000 .2%
Level 22 Allendale Square
77 St. Georges Terrace
Perth, Western Australia 6000
Richard L. Horton(2)........................................... 500,000 3.7%
6080 Greenwood Plaza Blvd.
Greenwood Village, CO 80111
Mark R. Davison(3)............................................. 25,000 .2%
9th Floor, Kyle House
27-31 Macquarie Place
Sydney NSW 2000
Australia
L. David Sikes(4).............................................. 25,000 .2%
1850 Ramtron Drive
Colorado Springs, CO 80921
George J. Stathakis(4)......................................... 25,000 .2%
One Bush Street, 15th Floor
San Francisco, CA 94104
Intag International Limited(5)................................. 5,744,298 42.5%
9th Floor, Kyle House
27-31 Macquarie Place
Sydney NSW 2000
Australia
Ramtron International Corporation(6)........................... 5,051,452 38.0%
1850 Ramtron Drive
Colorado Springs, CO 80921
All directors and officers as a group (9 persons)(1)(2)(3)(4).. 860,000 6.2%
</TABLE>
- - ------------------------
(1) Includes options to purchase 25,000 shares of Common Stock at $2.50 per
share until October 26, 2000, or 90 days after termination, whichever is
earlier, issued under the Company's 1993 Employee Stock Option Plan. Does
not include 5,262,532 shares or 321,766 common stock purchase warrants held
by Intag, a publicly-held Australian company for which Mr. Fear serves as
Chairman.
(2) Comprised of options to purchase 500,000 shares of Common Stock at $1.00 per
share until May 25, 1998 issued under the Company's 1993 Employee Stock
Option Plan.
<PAGE>
(3) Includes options to purchase 25,000 shares of Common Stock at $2.50 per
share until May 15, 2001, or 90 days after termination, whichever is
earlier, issued under the Company's 1993 Employee Stock Option Plan. Does
not include 5,262,532 shares or 321,766 common stock purchase warrants held
by Intag, a publicly-held Australian company for which Mr. Davison serves as
a director. See "Item 10."
(4) Includes options to purchase 25,000 shares of Common Stock at $2.50 per
share until October 26, 2000, or 90 days after termination, whichever is
earlier, issued under the Company's 1993 Employee Stock Option Plan. Does
not include 4,800,000 shares or 251,452 common stock purchase warrants held
by Ramtron, a publicly-held company for which Mr. Sikes serves as Chairman
and Chief Executive Officer and for which Mr. Stathakis serves as a
director. See "Item 10."
(5) Includes 200,000 common stock purchase warrants exercisable at $2.50 per
share at any time until June 13, 1999 and 121,766 common stock purchase
warrants exercisable at $2.50 per share at any time until October 4, 2001.
Also includes 160,000 shares issuable upon the conversion of $400,000 of
debt at $2.50 per share.
(6) Includes 251,452 common stock purchase warrants exercisable at $2.50 per
share at any time until October 4, 2001.
(7) The following individuals are officers and directors of Intag
International, LTD. ("Intag"); Dr. Peter Solomon (Chairman), Andreas D.
Alexandrou (Secretary), Mark R. Davison (Director), Andrew J. Kroger
(Director) and Nathan Spatt (Director). There are no individual or
corporate principal stockholders, although two Australian custodial firms,
Westpac Custodian Nominees Limited and National Nominees Limited each hold
of record more than 10% of Intag's outstanding common stock.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
- - -------- ----------------------------------------------
In January 1992, the Company initially issued 2,000,000 shares of its Common
Stock to each of Ramtron International Corporation ("Ramtron"), Intag
International Limited ("Intag") and AWA Limited ("AWA") in connection with the
Company's organization. In June 1993, AWA sold its 2,000,000 shares to Intag for
$1.50 per share. Ramtron and Intag, which are publicly-held companies, are
founders, promoters and principal stockholders of the Company. Subsequently, in
November 1994, Ramtron sold 200,000 shares of the Company's Common Stock to
Intag for $3.00 per share. See "Item 11."
In October 1991, the Company entered into a technology license agreement
with Ramtron (the "Technology License") which was amended in March 1994,
February 1995, and May 1995. Under the Technology License and amendments
thereto, Ramtron granted the Company the worldwide, nonexclusive,
nontransferable right to design, manufacture, sell, lease and distribute
products which incorporate FRAM and contactless technologies regardless of
memory size (the "Contactless Products"). As a part of the Technology
License, the Company also acquired the rights to any and all improvements in
the FRAM technology developed by Ramtron and the right, through December 31,
2005, on an exclusive basis, to design, manufacture, sell, lease and
distribute certain contactless products which functionally incorporate a
microprocessor. The Company may in the future agree with Ramtron to further
amend the Technology License, although there are no such agreements
currently.
In February 1995, the Company agreed to pay $1,000,000 and agreed to issue
1,000,000 shares of its Common Stock to Ramtron in connection with a February
1995 amendment to the Technology License which provided the Company with certain
additional rights thereunder. The Company paid $400,000 in cash and was relieved
of the $600,000 balance owed on the transaction upon Intag paying $600,000 to
Ramtron under the MOU discussed below.
In May 1995, the Company signed and executed a Memorandum of Understanding
("MOU") with Intag and Ramtron relating to certain amendments to the Technology
License, the granting of certain rights to Intag and the conversion to equity of
certain of Intag's loans to the Company. Under the MOU, the Company consented to
Ramtron granting to Intag, a principal stockholder of the Company, an exclusive
right to use (but not manufacture) the FRAM and contactless technology solely
for use in conveyor fed or tunnel reader equipped airline, postal and courier
applications which do not incorporate a microprocessor. In turn, Ramtron agreed
to pay the Company royalties, as defined in the Agreement, on any contactless
products which Ramtron sells, leases or distributes to third parties. Ramtron
is also obligated to pay the Company 50% of any license fees it receives on
contactless products. The Company may sublicense its rights up to five times
with Ramtron's consent and to date has sublicensed its rights two times. The
Company is required to purchase certain minimum quantities of FRAM chips from
Ramtron. As consideration for the rights granted to Intag under the MOU, Intag
agreed to pay a total of $1,200,000. Intag paid Ramtron $600,000, paid the
Company $200,000 and agreed to pay $400,000 to the Company upon further
sub-licensing of the technology to third parties. As additional consideration
for the Company approving the granting of rights to Intag under the MOU, Intag
converted an aggregate of $2,033,798 of debt due from the Company in exchange
for the issuance of 1,062,532 shares of the Company's Common Stock at the
respective fair market values of the Company's Common Stock at the date the debt
<PAGE>
was converted (an average price of $1.91 per share). The $600,000 paid to
Ramtron by Intag on behalf of the Company, together with an unrealized deposit
from Intag of $100,000, resulted in a $700,000 increase in the Company's paid-in
capital.
In July 1993, the Company entered into a joint venture agreement with
Nittetsu Shoji Co. Ltd. ("NS") pursuant to which the Company and NS each
purchased a 50% ownership interest in Racom Japan ("RJ"), a Japanese
corporation. RJ was formed for the purpose of marketing, distributing and
supporting the Company's FRAM technology in Japan. Under the terms of the
joint venture agreement, the Company and NS each invested $140,265 in RJ.
Subsequently, in August 1994, both parties invested an additional $153,000. In
March 1996 the Company entered into a technology licensing supply agreement
(the "Supply Agreement") with RJ pursuant to which RJ paid the Company
$933,968 for the nonexclusive right and license to use the Company's FRAM
technology and for the limited right to design, develop and manufacture FRAM
Smart Card products for sale and use in Japan only. The license specifically
excludes the right to use FRAM technology in connection with the airline,
postal and courier applications granted to Intag. Under the Supply Agreement,
RJ is obligated to pay a portion of its sublicense revenues and a royalty on
net sales of FRAM Smart Card products to the Company. Also in March 1996, the
Company and NS each made a further equity investment in RJ of $466,984 each,
and third parties invested $373,587 in RJ, reducing the Company's ownership of
RJ to 40%.
Between April and December 1994, Intag loaned the Company $300,000 which was
repaid by the Company in December 1994.
In February 1995, the Company sold a license to Intag covering marketing
rights to sell FRAM technology for Smart Cards in certain Middle Eastern
countries.
In August and December 1995, the Company sold an aggregate of 500,000 shares
of its Common Stock to Rohm as a part of a license agreement pursuant to which
the Company granted to Rohm a nonexclusive, nonsublicensable, nontransferable
right and license to use the FRAM technology in connection with the design,
development, manufacture and sale of custom FRAM Smart Card products, solely in
Japan. In addition to the Common Stock purchased, Rohm agreed to pay a
$1,000,000 license fee to the Company in four equal installments upon reaching
certain sales milestones. As of December 31, 1996, the Company had received
$500,000 in license fees from Rohm.
Between August and October 1996, Intag loaned the Company $255,000 and
deferred payments of miscellaneous payables due to Intag totaling $49,414 in
exchange for which Intag received warrants to purchase 121,766 shares of the
Company's Common Stock at $2.50 per share any time until October 4, 2001. During
<PAGE>
the same time period, Ramtron loaned the Company an aggregate of $175,000 and
deferred payments for product purchases which, to date, have totaled $453,630
in exchange for which Ramtron received warrants to purchase 251,452 shares of
the Company's Common Stock at $2.50 per share at any time until October 4, 2001.
At December 31, 1996, the Company was indebted to Intag and Ramtron in the
aggregate amount of $935,028 and $94,568, respectively. The Company repaid
Intag and Ramtron from proceeds of the IPO approximately $950,000 and $97,000,
respectively.
The Company owes Intag $400,000 for funds it borrowed in order to pay
Ramtron a fee in connection with an amendment to the Technology License. The
loan is to be repaid upon the Company receiving $400,000 in sublicense revenues
from Intag as discussed above. However, as the Company believed it will not
receive the sublicense revenues from Intag and thus will not repay the loan, the
Company recorded the $400,000 as a reduction in the Technology License as of
December 31, 1995. The loan is convertible into the Company's Common Stock at
$2.50 per share at any time, but in no event later than, June 30, 1997.
The Company believes the terms of the above transactions were fair,
reasonable and consistent with terms that could be obtained from nonaffiliated
third parties. Any future transactions with affiliates of the Company will be
approved by the disinterested members of the Company's Board of Directors.
Moreover, the Company's securities (other than stock options under the Company's
1993 Employee Stock Option Plan) may not be issued to management, promoters or
their respective associates or affiliates without obtaining (i) a fairness
opinion from a qualified brokerage firm or appraiser confirming the fairness of
the consideration to be received by the Company for the issuance of any such
securities and (ii) the written approval of the transaction by a majority of the
Company's disinterested directors.
<PAGE>
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
- -------- --------------------------------
a. Exhibits:
EXHIBIT NO. TITLE
----------- -----
1.01 Form of Underwriting Agreement (1)
1.02 Form of Selling Agreement (1)
1.03 Form of Representative's Warrant (1)
1.04 Form of Warrant Agreement (1)
1.05 Form of Lock-Up Agreement (1)
3.01 Restated Certificate of Incorporation of the Registrant (1)
3.02 Restated Bylaws of the Registrant (1)
5.01 Opinion of Gary A. Agron, regarding legality of the Common
Stock (includes Consent) (1)
10.01 1993 Employee Stock Option Plan (1)
10.02 Lease Agreement - Greenwood Village Office Facility (1)
10.03 Joint Venture Agreement (Racom Japan) (1)
10.04 Exclusive Distributor Agreement (Racom Japan) (1)
10.05 Technology License Agreement (Racom Japan) (1)
10.06 Exclusive Distributor Agreement (Racom Japan) (1)
10.07 Development and Supply Agreement (Bull CP-8) (1)
10.08 Agreement regarding ferroelectric RFID products (Rohm) (1)
10.09 Stock Purchase Agreement (Rohm) (1)
10.10 Settlement Agreement (Intag) (1)
10.11 Assignment and Security Agreement (Intag) (1)
10.12 Technology License Agreement (Ramtron) (1)
10.13 Amendment to Technology License Agreement (Ramtron) (1)
10.14 Second Amendment to Technology License Agreement (Ramtron) (1)
10.15 Lock-up Letter (1)
23.01 Consent of Arthur Andersen LLP (1)
23.02 Consent of Gary A. Agron (See 5.01 above) (1)
23.03 Consent of Arthur Andersen LLP (1)
23.04 Consent of Arthur Andersen LLP (1)
23.05 Consent of Arthur Andersen LLP (1)
- ------------
(1) Incorporated by reference into the Registrant's Registration Statement on
Form SB-2 (file #333-18351) declared effective on March 12, 1997.
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant
has duly caused this Report to be signed on its behalf by the undersigned,
thereunto duly authorized, in Greenwood Village, Colorado on April 25, 1997.
RACOM SYSTEMS, INC.
By: /s/ RICHARD L. HORTON
-------------------------------
Richard L. Horton
Chief Executive Officer
Pursuant to the requirements of the Securities Act of 1933, as amended,
this Report has been signed below by the following persons on the dates
indicated.
SIGNATURE TITLE DATE
- ------------------------- ---------------------------- -------------------
- ------------------------- Chairman of the Board of
Charles A. Fear Directors
President, Chief Executive
/s/ RICHARD L. HORTON Officer, Chief Financial
- ------------------------- Officer (Principal April 25, 1997
Richard L. Horton Accounting Officer) and
Director
- ------------------------- Director
Mark R. Davison
/s/ L. DAVID SIKES
- ------------------------- Director April 25, 1997
L. David Sikes
/s/ GEORGE J. STATHAKIS
- ------------------------- Director April 25, 1997
George J. Stathakis
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> DEC-31-1996
<CASH> 314,202
<SECURITIES> 0
<RECEIVABLES> 112,759
<ALLOWANCES> 0
<INVENTORY> 428,401
<CURRENT-ASSETS> 1,501,524
<PP&E> 411,249
<DEPRECIATION> (260,364)
<TOTAL-ASSETS> 3,885,851
<CURRENT-LIABILITIES> 3,348,047
<BONDS> 0
0
0
<COMMON> 115,325
<OTHER-SE> 118,939
<TOTAL-LIABILITY-AND-EQUITY> 3,885,851
<SALES> 396,345
<TOTAL-REVENUES> 2,427,285
<CGS> 1,051,877
<TOTAL-COSTS> 1,051,877
<OTHER-EXPENSES> 2,598,980
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 64,400
<INCOME-PRETAX> (1,303,837)
<INCOME-TAX> 0
<INCOME-CONTINUING> (1,223,572)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,303,837)
<EPS-PRIMARY> (.11)
<EPS-DILUTED> 0
</TABLE>
