<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
Form 10-QSB
(Mark One)
[X] Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the Quarterly period ended June 30, 1998
or
[ ] Transition Report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the transition period from _______ to _______
Commission File number 000-21907
Racom Systems, Inc.
(Exact name of small business issuer as specified in its charter)
DELAWARE 84-1182875
-------------------------------- ---------------------
State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification Number)
6080 GREENWOOD VILLAGE, CO
GREENWOOD VILLAGE, CO 80111
----------------------------------------
(Address of principal executive offices)
(303) 771-2077
---------------------------
(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days. Yes X No
There are 13,442,532 shares of the registrant's common stock, $.01 par value
outstanding as of July 31, 1998.
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RACOM SYSTEMS, INC.
FORM 10-QSB
INDEX
Part I Financial Information Page
Item 1. Condensed Balance Sheets as of
December 31, 1997 and June 30, 1998 1
Condensed Statements of Operations
for the three and six months ended
June 30, 1997 and 1998 2
Condensed Statements of Cash Flows
for the six months ended June 30,
1997 and 1998 3
Notes to Condensed Financial Statements 4
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 6
Part II Other Information and Signatures 13
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RACOM SYSTEMS, INC.
BALANCE SHEETS
<TABLE>
<CAPTION>
ASSETS December 31, June 30,
1997 1998
------------- -------------
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 1,198,567 $ 1,363,773
Accounts receivable-trade 43,042 28,299
Accounts receivable-related parties 26,720 7,584
Inventory 122,875 144,786
Prepaid expenses & other 62,833 63,160
------------ ------------
TOTAL CURRENT ASSETS 1,454,037 1,607,602
PROPERTY AND EQUIPMENT
Machinery and equipment 449,432 501,603
Furniture and fixtures 59,404 59,404
Leasehold improvements 3,328 3,328
------------ ------------
512,164 564,335
Less-accumulated depreciation (351,982) (390,862)
------------ ------------
160,182 173,473
OTHER ASSETS:
Technology license from related party,
net of accumulated amortization of
$842,541 and $921,364, respectively 1,557,459 1,478,636
------------ ------------
TOTAL ASSETS $ 3,171,678 $ 3,259,711
------------ ------------
------------ ------------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued liabilities $ 359,069 $ 302,173
Accounts payable-related parties 20,780 -
Capital lease obligation 16,594 14,802
------------ ------------
TOTAL LIABILITIES 396,443 316,975
------------ ------------
STOCKHOLDERS' EQUITY:
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, 13,222,532 and 13,442,532 shares
issued and outstanding, respectively 132,225 134,425
Additional paid-in capital 16,499,243 16,717,043
Accumulated deficit (13,856,233) (13,908,732)
------------ ------------
TOTAL STOCKHOLDERS' EQUITY 2,775,235 2,942,736
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 3,171,678 $ 3,259,711
------------ ------------
------------ ------------
</TABLE>
The accompanying notes are an integral part of these
condensed financial statements.
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RACOM SYSTEMS, INC.
CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
<TABLE>
<CAPTION>
Three months ended June 30, Six months ended June 30,
1997 1998 1997 1998
---------- --------- ---------- ----------
<S> <C> <C> <C> <C>
REVENUES
Product sales $ 74,883 $ 65,969 $ 105,936 $ 93,147
Product sales-related parties 47,039 6,814 64,455 44,141
License revenues - 500,000 - 1,500,000
License revenues-related party 214,893 - 438,258 -
---------- ---------- ---------- ----------
336,815 572,783 608,649 1,637,288
COST OF REVENUES 128,604 39,846 243,850 76,044
---------- ---------- ---------- ----------
GROSS MARGIN 208,211 532,937 364,799 1,561,244
OPERATING EXPENSES
Research and development 300,852 217,319 557,261 484,067
General and administrative 296,557 302,896 473,736 618,502
Sales and marketing 278,149 220,611 489,353 466,584
Equity in loss of Racom Japan 103,343 - 198,374 -
Amortization expense 39,411 39,411 78,547 78,822
---------- ---------- ---------- ----------
1,018,312 780,237 1,797,271 1,647,975
LOSS FROM OPERATIONS (810,101) (247,300) (1,432,472) (86,731)
OTHER INCOME (EXPENSE)
Interest expense (750) (482) (138,265) (1,195)
Interest expense-related parties - - (17,405) -
Interest income 47,177 16,807 49,802 34,529
Other 705 (82) (54,790) 898
---------- ---------- ---------- ----------
NET LOSS $(762,969) $ (231,057) $(1,593,130) $ (52,499)
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
NET LOSS PER SHARE - BASIC
AND DILUTED $ (0.06) $ (0.02) $ (0.13) $ 0.00
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
WEIGHTED AVERAGE SHARES OUTSTANDING 12,407,532 13,242,949 12,407,532 13,242,949
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
The accompanying notes are an integral part of these
condensed financial statements.
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RACOM SYSTEMS, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
<CAPTION>
Six months ended June 30,
1997 1998
--------------- ------------
<S> <C> <C>
CASH FLOWS USED IN OPERATING ACTIVITIES:
Net loss $(1,593,130) $ (52,499)
Adjustments to reconcile net loss to cash used in
operating activities:
Depreciation and amortization 129,607 117,703
Equity in loss of Racom Japan 198,374 -
Amortization of debt offering costs 97,799 -
Decrease (increase) in:
Prepaid expenses and other (76,047) (327)
Accounts receivable-trade (3,708) 14,743
Accounts receivable-related parties 3,321 19,136
License revenue receivable 646,162 -
Inventory 50,721 (21,911)
Increase (decrease) in:
Accounts payable and accrued liabilities (240,428) (56,896)
Accounts payable-related parties (548,908) (20,780)
Deferred license revenue (238,242) -
------------------------------
NET CASH USED IN OPERATING ACTIVITIES (1,574,479) (831)
CASH FLOWS USED IN INVESTING ACTIVITIES:
Purchase of fixed assets (16,828) (52,171)
------------------------------
NET CASH FLOWS USED IN INVESTING ACTIVITIES (16,828) (52,171)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock 7,125,000 220,000
Payment of deferred offering costs (1,020,484) -
Payment on bridge loans (1,040,000) -
Payments on notes payable-related parties (1,029,596) -
Payments on capital lease obligation (551) (1,792)
------------------------------
NET CASH FLOWS PROVIDED BY FINANCING ACTIVITIES 4,034,369 218,208
NET INCREASE IN CASH AND CASH EQUIVALENTS 2,443,062 165,206
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 314,202 1,198,567
------------------------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 2,757,264 $1,363,773
------------------------------
------------------------------
Supplemental Disclosure of Cash Flow Information:
Cash paid during the period for:
Interest $ 39,102 $ 1,195
Interest-related parties 287,001 -
</TABLE>
The accompanying notes are an integral part of these
condensed financial statements.
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RACOM SYSTEMS, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
JUNE 30, 1998
Note 1 - Basis of Presentation
The accompanying unaudited condensed financial statements have been prepared
without audit pursuant to the rules and regulations of the Securities and
Exchange Commission. The condensed financial statements reflect all adjustments
(consisting of only normal recurring accruals) which, in the opinion of
management, are necessary to present fairly the financial position, results of
operations and cash flows of Racom Systems, Inc. as of June 30, 1998 and 1997
and for the periods then ended. Operating results for the three and six month
periods ended June 30, 1998 are not necessarily indicative of the results that
may be expected for the year ended December 31, 1998.
The unaudited condensed financial statements should be read with the complete
financial statements and footnotes thereto included in the Company's Form 10-KSB
for the year ended December 31, 1997 previously filed with the Securities and
Exchange Commission.
Note 2 - New Accounting Standards
In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings Per
Share." Under SFAS 128, primary earnings per share previously required under
Accounting Principles Board No. 15 is replaced with basic earnings per share.
Basic earnings per share is computed by dividing reported earnings available to
common stockholders by weighted average shares outstanding. No dilution for any
potentially dilutive securities is included. Diluted earnings per share reflects
the potential dilution assuming the issuance of common shares for all dilutive
potential common shares outstanding during the period. The adoption of SFAS No.
128 had no effect on the previously reported loss per share.
In June 1997, the FASB issued SFAS 130, "Reporting Comprehensive Income," which
establishes standards for reporting and displaying comprehensive income and its
components (revenues, expenses, gains and losses) in a full set of general
purpose financial statements. SFAS 130 requires that all items that are required
to be recognized under accounting standards as components of comprehensive
income be reported in a financial statement that is displayed with the same
prominence as other financial statements. SFAS 130 does not require a specific
format for that financial statement but requires that the enterprise display an
amount representing total comprehensive income for the period in that financial
statement. SFAS 130 is effective for financial statements for periods beginning
after December 15, 1997. No differences exist between comprehensive income and
net income for the Company for the period ending June 30, 1998 or 1997.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" effective for fiscal years beginning after
June 15, 1999. SFAS No. 133 establishes accounting and reporting standards
requiring that every derivative instrument (including certain derivative
instruments embedded in other contracts) be recorded in the balance sheet as
either an asset or liability measured at its fair value. It also requires that
changes in the derivative's fair value be recognized currently in earnings
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unless specific hedge accounting criteria are met. Special accounting for
qualifying hedges allows a derivative's gains and losses to offset related
results on the hedged item in the income statement, and requires that a company
must formally document, designate, and assess the effectiveness of transactions
that receive hedge accounting. SFAS No. 133 may not be applied retroactively,
and must be applied to (a) derivative instruments and (b) certain derivative
instruments embedded in hybrid contracts that were issued, acquired, or
substantively modified after December 31, 1997 (and, at the company's election,
before January 1, 1998). Management believes that the impact of SFAS No. 133
will not significantly affect its financial reporting.
In April 1998, the AICPA issued SOP 98-5, "Reporting on the Costs of Start-Up
Activities". This statement is effective for financial statements for fiscal
years beginning after December 15, 1998. In general, SOP 98-5 requires costs of
start-up activities and organization costs to be expensed as incurred. Initial
application of SOP 98-5 should be reported as the cumulative effect of a change
in accounting principle. Management believes that SOP 98-5 will not have a
material impact on the financial statements.
Note 3 - License of Technology to Hitachi, Ltd.
On January 15, 1998, the Company executed an agreement, in conjunction with
Ramtron International Corporation ("Ramtron"), granting Hitachi Ltd. ("Hitachi")
a worldwide, non-exclusive license to design, manufacture and sell smart card
products based on the Company's contactless, ferroelectric smart card
technology, and Ramtron's proprietary ferroelectric random access memory
("FRAM") technology. In addition to these license rights, the Company granted
Hitachi option rights, for a predetermined option fee, to its Radio Frequency
Identification ("RFID") Technology, as defined in the agreement, for a period up
to December 31, 1999. As consideration for the rights granted under the
agreement, Hitachi will pay certain license fees and royalties to the Company as
defined in the agreement. The Company received the first payment on the license
on January 29, 1998, and the second payment on May 9, 1998. As additional
consideration for the rights granted under the agreement, Hitachi will provide
engineering services for development of the Company's RFID Products, as defined
in the contract, and the Company and Ramtron have a certain defined percentage
call (subject to a maximum quantity) on Hitachi's production capacity of RFID
Products. The agreement remains effective until expiration of the last of the
Company's and Ramtron's patents.
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The results of operations for the quarter and six month period ended June 30,
1998 are not necessarily indicative of the Company's expected performance for
any future period. Information contained herein is supplemental to the
Company's annual report on Form 10-KSB for the year ended December 31, 1997 and
the Company's Prospectus filed effective March 12, 1997.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
GENERAL
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. 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.
The Company is a leading developer and marketer of contactless smart card
systems ("Smart Card(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 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's Smart Cards are both "contactless" and "batteryless" and therefore
do not require the use of a magnetic stripe or insertion into a terminal as is
required by contacted cards ("Contacted Card(s)"), such as credit cards and ATM
cards. Contacted Cards in use today are typically limited to storing information
as opposed to "intelligent" Smart Cards, which have processing capabilities
similar to that of a personal computer. The Company's Smart Card System
involves direct wireless radio frequency communications and magnetic induction
between a chip in the Smart Card and a terminal. Moreover, the Company's
contactless Smart Card Systems do not require insertion in a terminal or the use
of a keypad and therefore may be used by all members of the population
regardless of age or physical ability and in both indoor and outdoor locations.
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The Company believes it was the first to successfully develop and introduce
contactless Smart Cards using FRAM technology and batteryless, radio frequency
("RF") communications. The Company has primarily relied on its licensed FRAM
technology for the memory component of the Smart Cards. Although the FRAM
memory demonstrates quantifiable benefits by improving processing speeds and
reliability over competing memory technologies, it is not currently being
produced in sufficient volumes by a significant number of manufacturers to
achieve competitive costs. Complementary to its FRAM technology, the Company
also utilizes Electronically Erasable Programmable Read-Only Memory ("EEPROM")
technology in its Smart Card Systems, allowing the Company to offer higher
volume Smart Cards at a more competitive price.
The Company principally generates revenues from licensing, fee based custom
product development projects and sale of its Smart Card systems. In the future,
the Company anticipates that a substantial portion of its revenues will be
generated from custom product development projects, the sale of its Smart Card
systems and services. 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 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 substantial
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 1997, the Company experienced significant cash flow deficits
and liquidity shortages and funded its operations primarily through licensing
transactions and proceeds from the sale of its Common Stock. During the six
months ended June 30, 1998, the Company's operating revenues have been generated
primarily from a licensing transaction. The Company anticipates that increased
operating revenues for the balance of 1998 will be achieved through a
combination of product sales, custom product development projects and the sale
of non-exclusive licenses.
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED JUNE 30, 1998 COMPARED TO THE
THREE MONTHS ENDED JUNE 30, 1997
Revenues. Revenues increased 70.0% to $572,783 for the three months ended June
30, 1998 ("Second Quarter 1998"), from $336,815 for the three months ended June
30, 1997 ("Second Quarter 1997").
Product Sales. Product sales decreased 40.3% to $72,783 for Second Quarter
1998, from $121,922 for Second Quarter 1997. To date, the Company has
completed a series of projects, many of which are small scale "pilot"
projects, but may have the potential for implementation on a larger scale.
In some cases, these demonstration projects are "rolled out" for full scale
implementation, however the demonstration phase often takes six to twelve
months or longer. Product
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sales in the current quarter included approximately $7,000 of sales of
product to Racom Japan ("RJ"), of which the Company owns 19.9%, as compared
to approximately $47,000 for the Second Quarter in 1997.
License Revenues. License revenues increased 132.7% to $500,000 for Second
Quarter 1998, from $214,893 for Second Quarter 1997. In Second Quarter
1997, license revenues included the recognition of deferred revenues on a
license from RJ for the manufacture and sale of FRAM based radio frequency
products in Japan of $199,010, pursuant to the reduction in ownership of RJ
to 22.8%. The increase in license revenues reflects the execution of the
licensing contract with Hitachi, Ltd. which closed in January 1998, and
under which the Company received and recognized the final initial license
fee payment in May 1998.
COST OF REVENUES AND GROSS MARGIN. As a percentage of revenues, gross margin
increased to 93.0% in Second Quarter 1998, from 61.8% for Second Quarter 1997.
Product Costs. The Company has not generated significant margin on product
sales in part because of competition with Contacted Cards which typically
are sold at a lower price than the Company's Smart Cards. Currently,
production volumes of the Company's products may not be sufficient to cover
manufacturing costs which are included in Cost of Revenues. Due to an
increase in availability of FRAM memory chips resulting in lower component
costs, and the use of EEPROM memory chips which are already available at
lower component costs, the Company expects to be able to lower its prices
while improving gross margin. The Company anticipates that cost
efficiencies will allow the Company to compete more effectively with
Contacted Card products and to build sales volume for its Smart Cards.
License revenues. In both periods presented, gross margin is primarily a
result of license revenues which have no direct cost of revenues.
Research and Development Expenses ("R&D"). R&D decreased $83,533 from $300,852
in Second Quarter 1997 to $217,319 in Second Quarter 1998. The decrease is
primarily due to the Company focusing on its internal engineering resources and
not utilizing the services of contractors in new product development projects
during Second Quarter 1998. During November 1997, a group of engineers
responsible for a specific project left the Company upon completion of the
project. Additional engineers with skills necessary to complete new product
development were hired. In Second Quarter 1997, the Company incurred
approximately $40,000 on outside engineering contractors for software and
hardware development and approximately $35,000 on contract services to develop
card packaging for its Smart Card products.
General and Administrative Expenses ("G&A"). G&A increased $6,339 from $296,557
in Second Quarter 1997 to $302,896 in Second Quarter 1998. While G&A decreased
its overall personnel expenses due to the resignation of Richard L. Horton,
President and CEO, the Company incurred $25,000 on a total contract of $37,500,
of recruiting fees for a new President and CEO.
Sales and Marketing Expenses. Sales and marketing expenses decreased $57,538
from $278,149 in Second Quarter 1997 to $220,611 in Second Quarter 1998. Travel
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expenses decreased approximately $8,000 between the Second Quarter periods.
Personnel expenses also decreased between Second Quarter periods by
approximately $75,000 due to the termination of the V.P. of Transportation and
Banking and the V.P. of Business Development, but increased approximately
$48,000 due to the hiring of a new OEM sales manager, a director of marketing
and the internal transfer of an applications support engineer. Second Quarter
1997 also included approximately $21,000 for printing and trade show expenses.
Equity in Loss of Joint Venture. The Company currently owns 19.9% of RJ. 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 cost method. In Second Quarter 1997, the Company owned 22.8%
of RJ and accounted for its investment under the equity method, recognizing its
proportionate share of RJ's losses.
Amortization Expense. The Company's primary asset is a technology license
related to the design and manufacture of its Smart card products. The asset is
amortized over its estimated useful life on a straight line basis.
Other Income (Expense). During Second Quarter 1998 and 1997, the Company earned
$16,807 and $47,177, respectively, in interest income on its cash balances held
primarily in a government obligations fund with an average maturity of less than
90 days.
Net Loss. The Company is a C Corporation under the Internal Revenue Code and for
income tax reporting purposes as of December 31, 1997, has approximately
$13,700,000 of net operating loss carryforwards that expire at various dates
through 2012. 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.
RESULTS OF OPERATIONS FOR THE SIX MONTHS ENDED JUNE 30, 1998 COMPARED TO THE SIX
MONTHS ENDED JUNE 30, 1997
Revenues. Revenues increased 169.0% to $1,637,288 for the six months ended June
30, 1998 ("Interim 1998"), from $608,649 for the six months ended June 30, 1997
("Interim 1997").
Product Sales. Product sales decreased 19.4% to $137,288 for Interim 1998,
from $170,391 for Interim 1997. To date, the Company has completed a series
of projects, many of which are small scale "pilot" projects, but may have
the potential for implementation on a larger scale. In some cases, these
demonstration projects are "rolled out" for full scale implementation,
however the demonstration phase often takes six to twelve months or longer.
Product sales in Interim 1998 included approximately $44,000 of sales of
product to RJ, of which the Company owns 19.9%, as compared to
approximately $64,000 for the Second Quarter in 1997.
License Revenues. License revenues increased 242.3% to $1,500,000 for
Interim 1998, from $438,258 for Interim 1997.
Interim 1997 included the recognition of deferred revenues on a license
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from RJ for the manufacture and sale of FRAM based radio frequency products
in Japan of $238,242 pursuant to the Company's ownership being reduced to
22.8%.
In 1996, pursuant to the technology license discussed above, RJ entered
into a custom product development project with Fujitsu, Ltd. under which
the Company is entitled to 50% of all sublicense revenue earned by RJ. This
sublicense resulted in the Company recording and receiving sublicense
revenue of $200,016 during Interim 1997.
The increase in license revenues reflects the execution of the licensing
contract with Hitachi, Ltd. which closed in January 1998, and under which
the Company received the first installment of the initial license fee
payment in January 1998 and the final initial license fee payment in May
1998.
COST OF REVENUES AND GROSS MARGIN. As a percentage of revenues, gross margin
increased to 95.4% in Interim 1998, from 59.9% for the same period in 1997.
Product Costs. The Company has not generated significant margin on product
sales in part because of competition with Contacted Cards which typically
are sold at a lower price than the Company's Smart Cards. Currently,
production volumes of the Company's products may not be sufficient to cover
manufacturing costs which are included in Cost of Revenues. Due to an
increase in availability of FRAM memory chips resulting in lower component
costs, and the use of EEPROM memory chips which are already available at
lower component costs, the Company expects to be able to lower its prices
while improving gross margin. The Company anticipates that cost
efficiencies will allow the Company to compete more effectively with
Contacted Card products and to build sales volume for its Smart Cards.
License revenues. In both periods presented, gross margin is primarily a
result of license revenues which have no direct cost of revenues.
Research and Development Expenses ("R&D"). R&D decreased $73,194 from $557,261
in Interim 1997 to $484,067 in Interim 1998. The decrease is primarily due to
changes in the personnel responsible for the product development. In November
1997, a group of engineers responsible for a specific project left the Company
upon completion of the project. Additional engineers with skills necessary to
complete new product development were hired. Overall, these changes resulted in
an increase in personnel expenses for R&D of approximately $36,000.
Additionally, the changes resulted in the Company focusing on its internal
engineering resources and not utilizing the services of contractors in new
product development projects. During Interim 1997, the Company incurred
approximately $70,000 on outside contractors. Further, in Interim 1997 the
Company incurred approximately $35,000 on contract services to develop card
packaging for its Smart Card products.
General and Administrative Expenses ("G&A"). G&A increased $144,766 from
$473,736 in Interim 1997 to $618,502 in Interim 1998. Interim 1998 includes
increasing expenditures approximating $30,000 relating to investor relations
consulting, securities legal and Nasdaq filing expenses incurred after the
Company's initial public offering ("IPO") which was completed on March 12, 1997.
The Company also recognized approximately $17,000 of additional expense relating
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to the Directors and Officers Liability Insurance policy which was not effective
until March, 1997, and was renewed in March 1998. Interim 1998 also includes an
increase in consulting and office expenses of approximately $67,000 due to
increased audit fees, mergers & acquisitions research consulting and legal
consulting expenses. Interim 1998 also includes approximately $25,000 of
recruiting expenses incurred in the search for a President and CEO.
Sales and Marketing Expenses. Sales and marketing expenses decreased $22,769
from $489,353 in Interim 1997 to $466,584 in Interim 1998. 1997 Sales &
Marketing expenses for the Second Quarter included a $20,000 recruiting fee for
the hiring of a new Product Manager. Although Sales and Marketing expenses are
comparable between Interim periods, there were various changes in personnel
resulting in an overall increase in expenses, offset by fewer expenses incurred
in general marketing expenses (trade shows, new product literature, etc.).
Equity in Loss of Joint Venture. The Company currently owns 19.9% of RJ. 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 cost method. In Interim 1997, the Company owned 22.8%
of RJ and accounted for its investment under the equity method, recognizing its
proportionate share of RJ's losses.
Amortization Expense. The Company's primary asset is a technology license
related to the design and manufacture of its Smart card products. The asset is
amortized over its estimated useful life on a straight line basis.
Other Income (Expense). During Interim 1997, the Company incurred $17,405 and
$40,466 in interest expense on various notes payable to Intag International
Limited ("Intag") and Ramtron and a group of lenders, respectively. The notes
carried interest at 10% and prime plus 2%, respectively. The notes and accrued
interest were paid during Interim 1997 upon completion of the IPO. Interest
expense for Interim 1997 also includes $97,799 related to the amortization of
debt issuance costs associated with a bridge financing completed prior to the
IPO. Interim 1997 also included approximately $20,000 in currency exchange
losses on the sub-licensing transaction completed with RJ. During Interim 1997
and 1998 the Company earned $49,802 and $34,529, respectively, in interest
income on its cash balances held primarily in a government obligations fund with
an average maturity of less than 90 days.
Net Loss. The Company is a C Corporation under the Internal Revenue Code and for
income tax reporting purposes as of December 31, 1997, has approximately
$13,700,000 of net operating loss carryforwards that expire at various dates
through 2012. 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.
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.
Page 11
<PAGE>
CASH FLOW
The Company had cash and cash equivalents of $1,198,567 and $1,363,773 as of
December 31, 1997 and June 30, 1998, respectively. During Interim 1998, the
Company's primary source of cash was from the initial license fee payments
received under the Hitachi license agreement, and the sale of 220,000 shares of
common stock to a former employee upon the exercise of employee stock options at
$1.00 per share.
CAPITALIZATION
The Company's capitalization of $2,775,235 as of December 31, 1997 was comprised
entirely of stockholders' equity, as compared to $2,942,736 of stockholders'
equity as of June 30, 1998. The increase is attributable to the sale of 220,000
shares of common stock to a former employee upon the exercise of employee stock
options at $1.00 per share.
Management of the Company intends to fund its remaining 1998 operations through
a combination of product sales, technology sublicensing and possible 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. The
Company currently does not have an available source for short-term borrowings.
The Company must also maintain certain requirements in order to be listed on
Nasdaq. These requirements include maintaining a specified level of net
tangible assets, as defined, market capitalization or net income. Additionally,
the Company must maintain a specified level of publicly traded shares, market
value of the publicly traded shares, minimum bid price, number of market makers
and shareholders. As of June 30, 1998 the Company was in compliance with the
Nasdaq listing requirements. However, subsequent to June 30, 1998, the minimum
bid price of the stock was listed below $1.00 for three consecutive days. As of
the date of this report, the Company had not received a delisting notification
from Nasdaq and does not anticipate that it will receive notification as the
Company is currently in compliance with the minimum bid price requirement.
There is no assurance that the Company will continue to meet the Nasdaq listing
requirements.
YEAR 2000
The Company utilizes software and related technologies throughout its business
and relies on many suppliers of services and materials that will be affected by
the date change in the year 2000. The Year 2000 issue exists because many
computer systems and applications currently use two-digit fields to designate a
year. As the century date change occurs, date-sensitive systems will recognize
the year 2000 as 1900, or not at all. This inability to recognize or properly
treat the Year 2000 may cause systems to process critical financial and
operational information incorrectly.
The Company has completed an internal study to determine the full scope and
related costs to insure that the Company's systems continue to meet its internal
needs and those of its customers. The results of the internal study indicate
that its products are not affected by the Year 2000 issue. In addition, the
results of the internal study indicate that certain software utilized by the
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Company's internal systems will be affected by the Year 2000 issue, and steps to
upgrade the software have begun. Management believes these amounts are not
significant and such expenditures will continue through the year 1999 as
upgrades become available.
The Company believes that there is a greater risk that its vendors, clients and
strategic partners will be affected by the Year 2000 problem. The Company is
currently unable to assess, and may be unable to accurately determine, the
magnitude of any Year 2000 problems that may reside in the computer and
information systems of its clients, vendors and strategic partners, or the
impact that any such problems could have on the products and services provided
by the Company to such clients. In addition to the internal study, the Company
has begun assessing the existence of any Year 2000 problems that may reside in
the computer systems and products of its vendors, clients and strategic
partners. The Company expects to complete the assessment phase by December 31,
1998. The Company believes, based upon the progress to date, that its suppliers
and strategic partners are either Year 2000 compliant, or are themselves in an
assessment phase. However, there can be no assurance that all such problems will
be resolved. The Company plans to develop a contingency plan as a result of its
findings during this assessment phase. The occurrence of Year 2000 related
failures in the computer and information systems of any of the Company's
significant clients, vendors or strategic partners could have a materially
adverse effect on the business, results of operations and financial condition of
the Company.
Part II. Other Information
Item 1. Legal Proceedings
-----------------
None
Item 2. Changes in Securities and Use of Proceeds
-----------------------------------------
None
Item 3. Defaults Upon Senior Securities
-------------------------------
None
Item 4. Submission of Matters to a Vote of Security Holders
---------------------------------------------------
None
Item 5. Other Information
------------------
The Company hired Arthur B. Rancis as the President, CEO, CFO, and
Director effective August 3, 1998. Mr. Rancis is a former Vice President of
Samsung Electronics of America, responsible for its Product Innovation
Laboratory. He was a senior vice president at Pluto Technologies, International,
responsible for world wide sales of their video, computer, LAN and server
products. While at Sony Electronics Inc., Mr. Rancis held a variety of
management positions. As vice president of business development he was
responsible for implementing the company's integrated information strategy into
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<PAGE>
its product divisions. Mr. Rancis also held various positions in corporate
marketing, international sales, product management and engineering sales with
Masstor Systems Corporation, Storage Technology Corporation and Tektronix
Corporation respectively. Mr. Rancis holds a BA degree in Communications from
the University of Colorado at Boulder.
Item 6. Exhibits and Reports on Form 8-K
----------------------------------
(a.) Exhibits:
Exhibit No. Title
----------- ------
27.01 Financial Data Schedule
(b) Reports on Form 8-K
(i) The Company filed a Report on Form 8-K, dated January 16, 1998, in
connection with the appointment of John A. Hinds to the Company's Board of
Directors.
(ii) The Company filed a Report on Form 8-K, dated February 2, 1998, in
connection with announcement and filing of the "Amendment No. 3 RF/ID Products
to High-Density FRAM Cooperation Agreement between Racom Systems, Inc., Ramtron
International Corporation and Hitachi, Ltd."
(iii) The Company filed a report on Form 8-K, dated May 11, 1998 in
connection with the announcement of the appointment of John A. Hinds as Chairman
of its Board of Directors.
(iv) The Company filed a report on Form 8-K, dated June 30, 1998 in
connection with the announcement that its President and CEO, Richard L. Horton,
had resigned.
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<PAGE>
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
Racom Systems, Inc.
/S/Arthur B. Rancis Date: August 14, 1998
- -------------------------------------- ---------------------------
Arthur B. Rancis
President, Chief Executive Officer and
Chief Financial Officer
/S/ Lillian V. Burkey Date: August 14, 1998
- -------------------------------------- ---------------------------
Lillian V. Burkey
Controller
Page 15
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<PERIOD-END> JUN-30-1998
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