<PAGE>
THIS PROSPECTUS IS BEING FILED PURSUANT TO RULE 424((b)(4)
AND RELATES TO REGISTRATION NUMBER 333-26715
PROSPECTUS
QUIETPOWER SYSTEMS, INC.
2,000,000 SHARES OF COMMON STOCK AND
2,000,000 REDEEMABLE COMMON STOCK PURCHASE WARRANTS
---------------------
This Prospectus relates to the offering (the "Offering") of 2,000,000 shares
(the "Shares") of common stock, $0.01 par value per share (the "Common Stock"),
and 2,000,000 Redeemable Common Stock Purchase Warrants (the "Warrants") of
QuietPower Systems, Inc., a Delaware corporation ("QuietPower" or the
"Company"). The Shares and Warrants are sometimes hereinafter collectively
referred to as the "Securities." Until the completion of this Offering, the
Shares and Warrants may only be purchased together on the basis of one Share and
one Warrant. Each Warrant entitles the registered holder thereof to purchase one
share of Common Stock at an initial exercise price of $8.25 per share at any
time during the period commencing one year after the date of this Prospectus
until five (5) years from the date of this Prospectus. The Warrant exercise
price is subject to adjustment under certain circumstances. Commencing eighteen
(18) months after the date of this Prospectus, with the consent of National
Securities Corporation (the "Representative") (which consent shall not be
unreasonably withheld), the Company may redeem all, but not less than all, of
the Warrants at a price equal to five cents ($0.05) per Warrant, provided that
the average closing sale price of the Common Stock as reported on the American
Stock Exchange ("AMEX") equals or exceeds $24.75 (subject to adjustment) for any
twenty (20) trading days within a period of thirty (30) consecutive trading days
ending on the fifth (5) trading day prior to the date of the notice of
redemption. See "Description of Securities--Warrants."
Prior to this Offering, there has been no public market for the Common Stock
or the Warrants, and there can be no assurance that such a market will develop
after the completion of this Offering or, if developed, that it will be
sustained. For information regarding the factors considered in determining the
initial public offering prices of the Shares and Warrants and the terms of the
Warrants, see "Risk Factors" and "Underwriting." The Shares and Warrants have
been approved for listing on AMEX under the symbols "KWT" and "KWT.WS,"
respectively and will trade separately immediately after the Offering.
Concurrently with this offering, 507,500 shares of Common Stock issuable
upon exercise of warrants (the "Private Placement Warrants") issued to investors
(the "Selling Stockholders") in two private placement financings consummated by
the Company in May 1996 and April 1997, respectively, are being registered at
the Company's expense for sale by the Selling Stockholders pursuant to a
separate prospectus. The shares offered by the Selling Stockholders are not part
of the underwritten offering and of such shares, 373,750 may not be offered or
sold prior to three months from the date of this Prospectus, and 133,750 may not
be offered prior to nine months from the date of this Prospectus, without the
prior written consent of the Representative. See "Concurrent Offering."
------------------------------
THE SECURITIES OFFERED HEREBY INVOLVE A HIGH DEGREE OF RISK AND IMMEDIATE
SUBSTANTIAL DILUTION. SEE "RISK FACTORS" COMMENCING ON PAGE 8 AND "DILUTION."
---------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATES SECURITIES COMMISSION PASSED UPON
THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE
CONTRARY IS A CRIMINAL OFFENSE.
<TABLE>
<CAPTION>
UNDERWRITING PROCEEDS TO
PRICE TO PUBLIC DISCOUNT(1) COMPANY(2)
<S> <C> <C> <C>
Per Share..................... $7.50 $0.60 $6.90
Per Warrant................... $0.10 $0.008 $0.092
Total(3)...................... $15,200,000 $1,216,000 $13,984,000
</TABLE>
(1) Does not include additional compensation payable to the Representative in
the form of a non-accountable expense allowance. In addition, see
"Underwriting" for information concerning indemnification and contribution
arrangements with the Underwriters and other compensation payable to the
Representative.
(2) Before deducting estimated expenses of $494,000 payable by the Company,
excluding the non-accountable expense allowance payable to the
Representative. Expenses of this Offering, other than fees and expenses of
counsel to the Selling Stockholders, will be paid by the Company.
(3) The Company has granted to the Underwriters an option (the "Over-allotment
Option") exercisable within 45 days after the date of this Prospectus to
purchase up to an aggregate of 300,000 additional shares of Common Stock
and/or 300,000 additional Warrants upon the same terms and conditions as set
forth above, solely to cover over-allotments, if any. If such Over-allotment
Option is exercised in full, the total Price to Public, Underwriting
Discount and Proceeds to Company will be $17,480,000, $1,398,400 and
$16,081,600, respectively. See "Underwriting."
------------------------------
The Securities are being offered by the Underwriters, subject to prior sale,
when, as and if delivered to and accepted by the Underwriters, and subject to
approval of certain legal matters by their counsel and subject to certain other
conditions. The Underwriters reserve the right to withdraw, cancel or modify
this Offering and to reject any order in whole or in part. It is expected that
delivery of the Securities offered hereby will be made against payment at the
offices of National Securities Corporation, Seattle, Washington on or about July
14, 1997.
NATIONAL SECURITIES CORPORATION
The date of this Prospectus is July 9, 1997
<PAGE>
[PHOTOGRAPHS AND CAPTIONS]
[PHOTOGRAPHS OF TRANSFORMER WITH ATQ-100 AND OF HEADSET]
------------------------
The Company intends to furnish its stockholders with annual reports
containing financial statements audited by its independent certified public
accountants and quarterly reports for the first three quarters of each fiscal
year containing unaudited interim financial information.
CERTAIN PERSONS PARTICIPATING IN THE OFFERING MAY ENGAGE IN TRANSACTIONS
THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE SECURITIES,
INCLUDING PURCHASES OF THE SECURITIES TO STABILIZE THEIR MARKET PRICES,
PURCHASES OF THE SECURITIES TO COVER SOME OR ALL OF A SHORT POSITION IN THE
SECURITIES MAINTAINED BY THE UNDERWRITERS AND THE IMPOSITION OF PENALTY BIDS.
FOR A DESCRIPTION OF THESE ACTIVITIES, SEE "UNDERWRITING."
2
<PAGE>
PROSPECTUS SUMMARY
THE FOLLOWING SUMMARY IS QUALIFIED IN ITS ENTIRETY BY THE MORE DETAILED
INFORMATION AND FINANCIAL STATEMENTS, INCLUDING NOTES THERETO, APPEARING
ELSEWHERE IN THIS PROSPECTUS. UNLESS OTHERWISE INDICATED HEREIN ALL INFORMATION
SET FORTH IN THIS PROSPECTUS (I) DOES NOT GIVE EFFECT TO THE ISSUANCE OF
2,000,000 SHARES OF COMMON STOCK UPON EXERCISE OF THE WARRANTS; (II) DOES NOT
GIVE EFFECT TO EXERCISE OF THE UNDERWRITERS' OVER-ALLOTMENT OPTION, OR EXERCISE
OF THE WARRANTS GRANTED TO THE REPRESENTATIVE TO PURCHASE 200,000 SHARES OF
COMMON STOCK AND/OR 200,000 WARRANTS (THE "REPRESENTATIVE'S WARRANTS"), OR
EXERCISE OF ANY OTHER STOCK OPTIONS OR WARRANTS ISSUED BY THE COMPANY; AND (III)
ASSUMES THE CONVERSION OF ALL OUTSTANDING SHARES OF PREFERRED STOCK OF THE
COMPANY INTO COMMON STOCK ON A 1 FOR 200 BASIS. THE ACCOMPANYING FINANCIAL
STATEMENTS DO NOT ASSUME THE CONVERSION OF ALL OUTSTANDING SHARES OF PREFERRED
STOCK OF THE COMPANY INTO COMMON STOCK. SEE "RISK FACTORS" FOR INFORMATION THAT
SHOULD BE CONSIDERED BY PROSPECTIVE INVESTORS. THIS PROSPECTUS CONTAINS FORWARD-
LOOKING STATEMENTS WHICH INVOLVE CERTAIN RISKS AND UNCERTAINTIES. THE COMPANY'S
ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED IN THESE
FORWARD-LOOKING STATEMENTS AS A RESULT OF CERTAIN FACTORS, INCLUDING THOSE SET
FORTH UNDER RISK FACTORS AND ELSEWHERE IN THIS PROSPECTUS.
THE COMPANY
QuietPower Systems, Inc. ("QuietPower" or the "Company") is engaged in the
development, commercialization and marketing of products utilizing two
acoustically based technologies: (i) active noise and vibration control and (ii)
failure diagnostic and condition monitoring. The Company's active noise and
vibration control technology uses equal but opposite noise signals to reduce or
cancel noise emissions. QuietPower has used the active noise and vibration
control technology to develop its initial commercial products, including the
ATQ-100, a transformer quieting system which reduces the sound emanating from
electric power distribution transformers. The Company has also commenced
marketing its communication headset systems ("Headsets"), which reduce noise and
enhance communications in high noise industrial environments. QuietPower is
currently engaged in a joint venture with ABB Secheron S.A., an indirect
wholly-owned subsidiary of ABB Asea Brown Boveri Limited ("ABB"), for the
purpose of developing and marketing the ATQ-100 in the European market. The
Company's failure diagnostic and condition monitoring technology is to be
utilized to detect sound emissions that signal imminent equipment failure.
QuietPower is engaged in a joint venture with Prolec-GE, de S. de R.L. de C.V.
("Prolec-GE"), a joint venture between the General Electric Company ("GE") and
Prolec S.A. de C.V., for the purpose of developing a failure diagnostic and
condition monitoring line of products for use with transformers and other
substation equipment. The primary market for the Company's current and proposed
products is the worldwide electric utility (power generation, transmission and
distribution) and supply industries (collectively, the "Power Industry").
The Company has entered into a world-wide exclusive manufacturing, marketing
and distribution agreement with Noise Cancellation Technologies, Inc. ("NCT").
This agreement covers NCT proprietary active noise and vibration control
technology and products relating to the Power Industry and grants the Company
world-wide exclusive rights within the Power Industry. The ATQ-100 and the
Headsets utilize the active noise and vibration control technology to
electronically reduce noise and vibration. Software-based algorithms, used in
conjunction with certain controlling, sensing and actuating hardware components,
act together as a digital signal processor to analyze noise emissions and
produce equal and opposite noise signals. When the two signals meet, the noise
is reduced or canceled. The Company's proposed failure diagnostic and condition
monitoring systems will also utilize digital signal-based technology.
The Company's joint venture with ABB Secheron S.A. was formed for the
purpose of developing and marketing active noise and vibration control systems
for use on transformers in Europe. Each party is obligated to contribute to the
joint venture such personnel and resources as shall be approved in connection
with each product improvement program. Proposed goals of these programs include
reducing the cost of the ATQ-100, modifying the ATQ-100 to meet European
operating specifications, and marketing and selling the ATQ-100 to European
utility customers.
3
<PAGE>
QuietPower's joint venture with Prolec-GE was formed for the purpose of
developing failure diagnostic systems for power distribution transformers and
other substation equipment. The proposed failure diagnostic and condition
monitoring systems are intended to utilize digital signal processing based
technology to locate and analyze certain acoustic signals that indicate
equipment failure is imminent. QuietPower is obligated to grant the
Prolec-GE/QuietPower joint venture a world-wide license to use the failure
diagnostic and condition monitoring technology and to contribute to the joint
venture such personnel and resources as are required in connection with each
approved project.
The Company's principal operating strategy is to develop and position
products that take advantage of opportunities arising from the significant and
ongoing changes in the Power Industry. The Power Industry is a multibillion
dollar capital-intensive industry. The Company anticipates that the current move
toward deregulation in the North American and European electric utility
industries will increase market demand for companies which offer products that
reduce utilities' operating costs, enhance equipment efficiency and flexibility
and extend the expected useful lives of fixed assets. In addition to the Power
Industry, QuietPower plans to market its products to other capital-intensive
markets. To date, the Company has commenced marketing its Headsets to the
railroad and communication industries. The Company also intends to employ a
growth strategy pursuant to which it will identify and develop additional
products related to its core technologies and products. In this respect, it has
recently commenced development efforts on its active magnetic field control and
cancellation technology, which functions similarly to the active noise and
vibration control technology. The Company also intends to acquire outside
synergistic or alternative technologies and products. The Company has not yet
entered into discussions nor does it have any understandings with respect to any
companies or technologies which it may wish to acquire. The Company currently
intends to seek acquisition opportunities shortly after the completion of this
Offering and intends to use a portion of the net proceeds of this Offering in
furtherance of this acquisition strategy.
QuietPower anticipates utilizing a portion of the net proceeds from this
Offering to finance its participation in the joint ventures and for the
marketing, product development and acquisition activities described above. See
"Use of Proceeds."
The Company was incorporated in Delaware in May 1992 under the name Active
Acoustical Solutions, Inc., and in March 1994 changed its name to QuietPower
Systems, Inc. The Company's principal offices are located at 460 W. 34th Street,
New York, New York 10001. Its telephone number is (212) 967-8480.
4
<PAGE>
THE OFFERING
<TABLE>
<S> <C>
Securities Offered:.......... 2,000,000 Shares of Common Stock and 2,000,000 Warrants. The
Shares and the Warrants will be separately transferable
immediately after the completion of this Offering. See
"Description of Securities."
Terms of Warrants:........... Each Warrant entitles the registered holder thereof to
purchase, at any time commencing one year after the date of
this Prospectus until five years after the date of this
Prospectus, one share of Common Stock at a price of $8.25
per share. The Warrant exercise price is subject to
adjustment under certain circumstances. Commencing 18 months
after the date of this Prospectus, with the consent of the
Representative, the Warrants are subject to redemption by
the Company, in whole but not in part, at $0.05 per Warrant,
on 30 days' prior written notice, provided that the average
closing sale price of the Common Stock equals or exceeds
$24.75 per share, subject to adjustment, for any 20 trading
days within a period of 30 consecutive trading days ending
on the fifth trading day prior to the date of the notice of
redemption. See "Description of Securities."
Common Stock Outstanding
Prior to the
Offering(1):............... 1,084,013 shares
Common Stock Outstanding
After the Offering(1):..... 3,084,013 shares
Use of Proceeds:............. The Company intends to use the net proceeds of the Offering
as follows: (i) development of products, (ii) marketing and
sales, (iii) repayment of outstanding indebtedness and
payables, (iv) acquisitions and (v) working capital and
general corporate purposes.
Risk Factors:................ Investment in the Securities offered hereby is highly
speculative and involves a high degree of risk and immediate
and substantial dilution to the purchasers in this Offering.
See "Risk Factors" and "Dilution."
Proposed American Stock
Exchange Symbols:
Common Stock............. KWT
Warrants................. KWT.WS
</TABLE>
- ------------------------
(1) Does not include (i) 1,411,915 shares of Common Stock issuable upon exercise
of outstanding warrants (which number includes warrants to purchase 265,000
shares of Common Stock that will be issued upon completion of this Offering
and warrants to purchase 133,750 shares of Common Stock that are issuable
upon exercise of nominally priced warrants), with a weighted average
exercise price of $3.45 per share, (ii) 250,000 shares of Common Stock
subject to options available under the Company's 1993 Stock Option Plan (the
"1993 Plan"), of which options to purchase an aggregate of 239,490 shares of
Common Stock with a weighted average exercise price of $4.22 per share have
been granted, and options to purchase 10,510 shares of Common Stock remain
available for future grants, and (iii) 83,333 shares of Common Stock
issuable upon conversion of convertible promissory notes in the aggregate
principal amount of $625,000. See "Management's Discussion and Analysis of
Financial Condition and Results of its Operations," "Use of Proceeds" and
"Management-- Stock Option Plan."
5
<PAGE>
SUMMARY FINANCIAL DATA
The balance sheet data as of December 31, 1996 and the income statement data
presented below for each of the years in the two years ended December 31, 1996
are derived from the Financial Statements of the Company, which have been
audited by Richard A. Eisner and Company, LLP, and are included elsewhere in
this Prospectus. The selected financial data for the year ended December 31,
1994, the three month periods ended March 31, 1996 and 1997 and the balance
sheet data as of March 31, 1997, were derived from unaudited financial
statements of the Company. These financial statements include all adjustments,
consisting of normal recurring accruals, which the Company considers necessary
for a fair presentation of the financial position and the results of operations
for this period. The information presented below should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the Financial Statements and related notes thereto included
elsewhere in this Prospectus.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
------------------------------------------ ----------------------------
<S> <C> <C> <C> <C> <C>
1994 1995 1996 1996 1997
------------- ------------ ------------- ------------- -------------
STATEMENTS OF OPERATIONS:
Net revenues
Product sales........................ $ 0 $ 35,000 $ 216,000 $ 80,000 $ 51,000
Development funding(1)............... 541,000 315,000 0 0 0
------------- ------------ ------------- ------------- -------------
Total revenues................... 541,000 350,000 216,000 80,000 51,000
------------- ------------ ------------- ------------- -------------
Costs and expenses
Cost of sales........................ 0 29,000 260,000 66,000 76,000
Development costs.................... 587,000 335,000 187,000 30,000 92,000
Selling, general and
administrative..................... 893,000 843,000 1,714,000 276,000 418,000
------------- ------------ ------------- ------------- -------------
Total costs and expenses......... 1,480,000 1,207,000 2,161,000 372,000 586,000
------------- ------------ ------------- ------------- -------------
Interest expense....................... 0 17,000 333,000 35,000 89,000
------------- ------------ ------------- ------------- -------------
Net (loss)............................. (939,000) (874,000) (2,278,000) (327,000) (624,000)
Dividend on preferred stock............ (238,000)
------------- ------------ ------------- ------------- -------------
Net (loss) after preferred dividend.... $ (939,000) $ (874,000) $ (2,516,000) $ (327,000) $ (624,000)
------------- ------------ ------------- ------------- -------------
------------- ------------ ------------- ------------- -------------
Net (loss) per share(2)................ $ (.69) $ (.62) $ (1.53) $ (.23) $ (.39)
------------- ------------ ------------- ------------- -------------
------------- ------------ ------------- ------------- -------------
Pro forma weighted average number of
common shares outstanding(2)......... 1,353,000 1,403,000 1,484,000 1,431,000 1,591,000
------------- ------------ ------------- ------------- -------------
------------- ------------ ------------- ------------- -------------
</TABLE>
<TABLE>
<CAPTION>
MARCH 31, 1997
----------------------------------------------
PRO FORMA
DECEMBER 31, AS
1996 ACTUAL PRO FORMA(3) ADJUSTED(3)(4)
------------- ------------- ------------- ----------------
<S> <C> <C> <C> <C>
BALANCE SHEET DATA:
Working capital (deficiency)...................... $ (654,000) $ (1,916,000) $ (107,000) $ 10,916,000
Total assets(5)................................... 463,000 645,000 2,648,000 12,423,000
Notes payable..................................... 511,000 883,000 2,034,000 588,000
Total liabilities................................. 1,543,000 2,227,000 3,202,000 1,366,000
Accumulated deficit............................... (4,917,000) (5,541,000) (6,324,000) (7,747,000)
Stockholders' equity (deficiency)................. (1,080,000) (1,582,000) (554,000) 11,057,000
</TABLE>
- ------------------------
(1) Development funding consists of the direct investment by utilities in the
Company's research and development projects.
6
<PAGE>
(2) See Note B of the Notes to the Financial Statements.
(3) Adjusted to give pro forma effect to (i) a bridge financing, the gross
proceeds of which were $2,000,000 and pursuant to which the Company issued
$2,000,000 of promissory notes and warrants to purchase an aggregate 240,000
shares of Common Stock, which resulted in an original issue discount to the
notes of $856,000, (ii) a private financing pursuant to which the Company
issued $290,000 of one-year promissory notes, which notes are convertible
into Common Stock at a price per share equal to the initial public offering
price per Share, and warrants to purchase an aggregate of 7,733 shares of
Common Stock, which resulted in an original issue discount to the notes of
$18,000, (iii) the conversion of $200,000 of promissory notes existing at
March 31, 1997 plus accrued interest into 39,466 shares of Common Stock,
(iv) the payment of $136,000 to NCT for amounts owing, (v) the payment of
$151,000 with respect to promissory notes outstanding on March 31, 1997,
(vi) the recognition of the expense of $170,000 resulting from the increase
in 26,750 shares of Common Stock and warrants to purchase 26,750 shares of
Common Stock underlying warrants granted in a private financing, and (vii)
the issuance of 80,000 shares of Common Stock to Baltimore Gas and Electric
Company pursuant to a Conversion and Subscription Agreement dated June 13,
1997 and the recognition of a $540,000 expense in connection therewith, all
of which events occurred subsequent to March 31, 1997. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
(4) As adjusted to give effect to (i) the sale of the Securities offered hereby,
the initial application of the estimated net proceeds therefrom, and (ii)
the expense of $1,361,000 relating to the write-off of debt discount and
debt issuance cost. Does not give effect to the potential repayment of
$625,000 in convertible promissory notes that become payable on demand upon
completion of the Offering. See "Use of Proceeds."
(5) Includes technology rights. As of March 31, 1997 the balance of such rights
was $313,000.
7
<PAGE>
RISK FACTORS
AN INVESTMENT IN THE SECURITIES OFFERED HEREBY INVOLVES A HIGH DEGREE OF
RISK AND SHOULD BE MADE ONLY BY INVESTORS WHO CAN AFFORD THE LOSS OF THEIR
ENTIRE INVESTMENT. PROSPECTIVE INVESTORS SHOULD CAREFULLY REVIEW AND CONSIDER
THE FOLLOWING RISKS AS WELL AS THE OTHER INFORMATION SET FORTH IN THIS
PROSPECTUS.
LIMITED OPERATING HISTORY; OPERATING LOSSES; STOCKHOLDERS' AND WORKING CAPITAL
DEFICITS
Since its inception in 1992, the Company has been principally engaged in the
development of its technologies. To date, the majority of the Company's
operations have been financed by the net proceeds of several private placements
of both debt and equity securities of the Company, aggregating approximately
$5,675,000, and funding by utility companies for the research and development of
its technologies, aggregating $541,000 in 1994 and $315,000 in 1995. The Company
has not yet generated any significant product sales revenues and there can be no
assurance that significant revenues will develop. The Company has a limited
operating history on which an evaluation of its performance and prospects can be
made and its operations are subject to all of the risks inherent in the
establishment of a new business enterprise. The likelihood of the success of the
Company must be considered in light of the problems, expenses, difficulties,
complications and delays frequently encountered in connection with a new
business, the identification, development and commercialization of new products,
the dependence on and attempts to apply new and rapidly changing technology, and
the competitive environment in which the Company operates.
The Company sustained net losses of $939,000, $874,000 and $2,278,000 for
the years ended December 31, 1994, 1995 and 1996, respectively. In addition, for
the three months ended March 31, 1997, the Company sustained a net loss of
$624,000. As of March 31, 1997, the Company had a stockholders' (deficit) of
$(1,582,000), a working capital (deficit) of $(1,916,000) and an accumulated
(deficit) of $(5,541,000). In addition, at March 31, 1997, notes payable were
discounted by $187,000, which amount will be expensed as interest in the
remainder of 1997. Furthermore, the Company will expense through the 1997 fiscal
quarter in which the Offering is completed, a non-cash charge of approximately
$1,309,000 of original issue discount and debt issuance costs arising from
private financings completed after March 31, 1997. The Company will also
recognize an expense of $540,000 in the quarter ended June 30, 1997, to give
effect to the Company's issuance of 80,000 shares of Common Stock to Baltimore
Gas and Electric Company ("BG&E"). BG&E has agreed with the Company to convert
all of BG&E's right to receive royalties from the sale of the Company's
transformer quieting systems and purchase discounts on the transformer quieting
system into such shares. The Company expects to continue to incur a loss for at
least the remainder of 1997, and there can be no assurance that the Company will
achieve profitable operations. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and Note A of the Notes to the
Financial Statements.
DEPENDENCE ON OFFERING; POSSIBLE NEED FOR ADDITIONAL FINANCING
The Company is dependent upon the net proceeds of this Offering to finance
its operating activities. Although the Company believes that the estimated net
proceeds from this Offering together with cash from operations will enable it to
fund its operations, including product development, marketing and other
operating activities, for at least 12 months, no assurance can be given in that
regard. The Company's future capital requirements could vary significantly and
will depend on certain factors, many of which are not within the Company's
control. Factors that may require the Company to seek additional funding include
the need for cash to fund acquisitions in an aggregate amount in excess of that
allocated from this Offering, greater than anticipated expenses, less than
anticipated revenues, and longer product development times than now
contemplated. See "Business--Business Strategy--Acquisitions." The Company may
seek such additional funding through public or private financings or borrowings.
There can be no assurance that additional funds will be available on acceptable
terms, if at all. If additional funds are raised by issuing equity securities,
substantial dilution to existing stockholders, including purchasers of the
8
<PAGE>
Securities offered hereby, may result. If additional funds are raised through
the incurrence of debt with financial institutions, the Company would likely
become subject to restrictive covenants relating to its operations and finances.
If adequate funds are not available, the Company may be required to
significantly curtail or cease its expansion strategy. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
DEPENDENCE ON NCT
The Company anticipates that it will derive a significant portion of its
revenues for the foreseeable future from the marketing and distribution of
active noise and vibration control products using the proprietary technology of
NCT. The Company does not exercise any control over NCT.
The Company has entered into a Master Agreement, dated March 27, 1995 and
amended on March 28, 1995, April 21, 1995, May 21, 1996 and April 9, 1997 (the
"NCT Master Agreement"), with NCT, which grants the Company an exclusive
worldwide license, under basic active noise and vibration control patents upon
which the Company relies, to manufacture, market, sell and distribute, for use
within the Power Industry, as well as the gas power industry, active transformer
quieting products, and the right to obtain such a license for future products
relating to the Power Industry for which the Company provides development and
commercialization funding. The NCT Master Agreement also grants the Company an
exclusive world-wide license in connection with active steam and gas turbine
quieting products, which products the Company has no current plans to develop in
the near term. There can be no assurance that the Company will be able to raise
adequate funds to complete development of all such projects. In addition, the
Company has entered into a Distributor Agreement with NCT, dated October 7, 1994
(the "Distributor Agreement"), relating to the industrial communication
Headsets.
NCT has incurred substantial net losses from operations since its inception.
Based upon NCT's Annual Report on Form 10-K for the year ended December 31,
1996, at December 31, 1996, NCT had a working capital deficit of $1,312,000, an
accumulated deficit of $83,700,000 and stockholders' equity of $2,610,000. In
addition, based upon such disclosure document, NCT had a net loss of $10,825,000
for 1996. Based upon NCT's Quarterly Report on Form 10-Q for the quarter ended
March 31, 1997, NCT reported net income of $600,000 (includes $3,000,000 in
non-refundable license fees) for the three months ended March 31, 1997, although
there can be no assurance that NCT will continue to generate profits from its
operations. Due to the Company's important contractual ties with NCT, the
Company may be significantly and adversely affected should NCT be unable to
continue operations or otherwise perform its obligations with the Company. In
the event that NCT commences, or is subject to, a bankruptcy or reorganization
case, or ceases to operate its business, then, notwithstanding certain statutory
and contractual protective provisions regarding the continued effectiveness of
the Company's licenses from NCT, NCT may be able to reject, breach or be excused
from performing, or may fail to perform, its obligations under the NCT Master
Agreement, the Distributor Agreement and any other agreement between NCT and the
Company. See "Business--Contractual Agreements with NCT."
LIMITED SALES HISTORY; NEED FOR COST REDUCTION OF ATQ-100 AND MODIFICATION OF
HEADSETS; SUBSTANTIAL TIME LAPSE UNTIL ADDITIONAL COMMERCIAL PRODUCT
INTRODUCTION
Pursuant to the NCT Master Agreement, the Company has developed and
commenced marketing the first of its active noise and vibration control
products, a transformer quieting system called the ATQ-100. In 1996, sales for
the ATQ-100 totalled $178,000. Based upon market feedback, the Company has
recently determined to accelerate its efforts to lower the sales price of the
ATQ-100 by continuing a significant development effort to reduce the cost of the
system components and installation of the ATQ-100. As a result, the Company
believes that the gross profit relating to sales of this product in the first
half of 1997 will be nominal. There can be, however, no assurance that the
Company will achieve commercially significant sales or that the Company will
reduce costs sufficiently to generate acceptable gross profit margins.
9
<PAGE>
The Company has also commenced marketing its industrial communication
headsets ("Headsets"), for which sales in 1996 totalled $38,000. In view of
market response to initial marketing efforts regarding the communication
Headsets, the Company determined that in order to achieve significant Headset
sales, engineering modifications were necessary to tailor the Headsets to the
needs of each specific industry (e.g. the Power Industry, railroads, oil and
gas, mining and pulp and paper). Although design modifications have recently
been completed for railroad industry Headsets and are substantially completed
for Power Industry Headsets, there can be no assurance that these and any future
design modifications will result in significantly increased Headset sales.
The Company does not anticipate that the commercial development of its next
products will be completed until at least the third quarter of 1997. There can
be no assurance as to the time required to complete such development efforts, or
that they can be successfully completed at all.
COMPETITION; TECHNOLOGICAL OBSOLESCENCE
The Company does not believe that any other company is now developing and/or
commercializing products for the Power Industry utilizing the active noise and
vibration control or failure diagnostic and condition monitoring technologies.
However, the Company faces competition from companies developing their own noise
reduction and failure diagnostic systems and from companies which develop
traditional methods of quieting, such as barrier walls or reinforced "low noise"
transformers. With respect to the ATQ-100 and the Headsets, the Company believes
that it will compete primarily on the basis of cost and effectiveness. In
addition, competition may arise from products currently in development, or
developed in the future, by other companies. The development by others of new
and improved products, processes, and technologies may make the products
marketed by the Company less competitive or obsolete. Many of the Company's
current and potential competitors are likely to have substantially greater
financial, managerial and technical resources than the Company. There can be no
assurance that the Company will be able to compete successfully in its markets.
See "Business--Competition."
UNCERTAIN MARKET ACCEPTANCE
Since its inception, the Company has primarily focused its efforts on active
noise and vibration control and failure diagnostic and condition monitoring
products for the Power Industry, and Headsets for multiple industries. As with
any new technology, there is the risk that the market may not recognize the
benefits or the potential applications of the active noise and vibration control
and failure diagnostic condition monitoring technologies, or any future products
or technologies developed by the Company. Market acceptance of the Company's
products will depend, in large part, upon the ability of the Company to
demonstrate to prospective customers the potential advantages of the Company's
products over other types of products performing similar functions. There can be
no assurance that the Company will be successful in marketing its products to
the Power Industry or other markets or that the Company's products will be
accepted by the Power Industry or other markets. See "Business--Business
Strategy" and "Business--Additional Potential Active Noise Control Products."
RISK OF INTERNATIONAL OPERATIONS
The Company intends to market its products in industrialized international
markets. International operations entail various risks, including economic
instability and recessions, exposure to currency fluctuations, difficulties of
administering foreign operations generally, and obligations to comply with a
wide variety of foreign import and United States export laws, tariffs and other
regulatory requirements. The Company's competitiveness in overseas markets may
be negatively impacted if there is a significant increase in the value of the
dollar against the currencies of the other countries in which the Company does
business. In addition, the laws of certain foreign countries may not protect the
Company's proprietary rights to the same extent as the laws of the United
States.
10
<PAGE>
DEPENDENCE ON PATENTS; UNCERTAIN PROPRIETARY PROTECTION
The Company's success with respect to its active noise and vibration
control, failure diagnostic and condition monitoring and active magnetic field
cancellation systems is dependent in large measure upon its ability to obtain
patent protection for these products. The Company has obtained all of its rights
to the active noise and vibration control technology from NCT under the NCT
Master Agreement. To date, the Company has filed patent applications in
connection with its failure diagnostic and condition monitoring system in the
United States and under the Patent Cooperation Treaty, to which Canada and other
countries are signatories, and it intends to pursue intellectual property
protection with regard to its active magnetic field cancellation system. There
can be no assurance that patents will issue from any of the Company's patent
applications, or that the Company will develop additional products that are
patentable. No assurance can be given as to the range or degree of protection
any patents issued to the Company or licensed from NCT will afford or that such
patents or licenses will provide protection that has commercial significance or
will provide competitive advantages for the Company's products. No assurance can
be given that either the Company's owned or licensed patents will afford
protection against competitors with similar technologies or that others will not
obtain patents claiming aspects similar to those covered by the Company's owned
or licensed patents or patent applications. No assurance exists that the
Company's owned or licensed patents will not be challenged by third parties,
invalidated, rendered unenforceable or designed around. Furthermore, there can
be no assurance that any pending patent application of QuietPower or
applications filed in the future by the Company will result in the issuance of a
patent. The invalidation or expiration of patents owned or licensed by the
Company and believed by the Company to be commercially significant could permit
increased competition, with potential adverse effects on the Company and its
business prospects. Although NCT has indicated to the Company that it intends to
file for extensions to certain patents, the Company can make no assurances that,
if filed, the United States or foreign government patent authorities will grant
such extensions to NCT. In addition, there can be no assurance that any patents
which are issued to or licensed by the Company will be held valid by a court of
law reviewing any such patent.
With respect to the patents owned by, or licensed to NCT, NCT has indicated
to the Company that it has conducted only limited patent searches and no
assurances can be given by the Company that patents do not exist or will not be
issued in the future that would have an adverse effect on the Company's ability
to market its products or maintain its competitive position with respect to its
products. In the event NCT chooses not to defend its patent rights, substantial
resources may be required to obtain and defend patent and other rights to
protect present and future technology and other property of the Company.
Although the Company intends to pursue its interests in preventing infringement
of any patents licensed to it which are not pursued by NCT, the Company makes no
assurances that it will be successful in any action for infringement of the
technology licensed to it. See "Business--Patent Protection."
DEPENDENCE ON JOINT VENTURE PARTNERS
The Company's strategy for the testing, development, manufacturing and
commercialization of the majority of its products requires arrangements with
partners in, or manufacturers for, the Power Industry, and is dependent upon the
subsequent success of these outside parties in performing their
responsibilities. In this regard, the Company has entered into joint venture
agreements with ABB Secheron S.A. with respect to the marketing of the ATQ-100
system in Europe and with Prolec-GE with respect to the marketing and
development of failure diagnostic and condition monitoring systems worldwide. In
addition, there can be no assurance that such partners will not pursue
alternative technologies. In the event an appropriate joint venture arrangement
is not available relating to the manufacturing of any one or more products, the
Company will be required to enter into contract manufacturing arrangements.
There can be no assurance that the Company will be able to negotiate acceptable
joint venture or contract manufacture arrangements, or that any such
arrangements will be successful. See "Business--Joint Venture Agreements."
11
<PAGE>
NO MANUFACTURING FACILITIES OR PERSONNEL
The Company does not have any capability to manufacture any products it
develops and its management has no experience in large-scale manufacturing.
Accordingly, if in the future the Company is unable to have third parties
manufacture its products, either pursuant to joint venture or contract
manufacturing agreements, or if the Company decides to manufacture its developed
products, the Company will be required to establish the necessary manufacturing
facilities and employ and train qualified manufacturing personnel, all of which
may result in a delay in the production of the Company's products. The Company
will also require substantial additional financing to establish a large scale
manufacturing facility. There can be no assurance that the Company will be
successful in attracting and retaining experienced personnel or establishing the
necessary manufacturing facilities or arrangements that will enable the Company
to operate or produce high quality products for sale at competitive prices. The
failure to achieve these objectives could have a material adverse affect on the
Company's business, financial condition and results of operations. See
"Business--Manufacturing."
LIMITED MARKETING AND SALES CAPABILITIES
The Company has limited marketing and sales capabilities. In order to market
and sell the Company's products directly or through strategic joint venture
arrangements, the Company will need to develop a larger sales force and
marketing group with technical expertise, or make appropriate arrangements with
joint venture partners. There can be no assurance that such efforts will be
successful. In addition, there can be no assurance that the Company will be able
to effectively market or sell its products through sales representatives,
through arrangements with some other outside sales force, or through strategic
partners. See "Business--Business Strategy--Marketing."
NO ASSURANCE OF SUCCESS OF ACQUISITION PROGRAM
The Company intends, subject to having appropriate financing, to make
acquisitions of or from entities that offer other leading edge technologies to
utilities. There can be no assurance that any such acquisitions will be made or
that, if made, such acquisitions will prove profitable to the Company. See "Use
of Proceeds" and "Business--Business Strategy--Acquisitions."
DEPENDENCE ON KEY PERSONNEL
The Company is heavily dependent upon the active participation of its
President, Jonathan M. Charry, Ph.D. In this respect, Dr. Charry has
longstanding relationships with representatives within the Power Industry which
comprises the major market for the Company's products. Dr. Charry has entered
into an employment agreement with the Company for a term expiring in March 1998,
and the Company has obtained a key person life insurance policy in the amount of
$1 million on the life of Dr. Charry. The loss of the services of Dr. Charry
could have a material adverse effect on the Company. In addition, the Company is
dependent on the services of its sales and marketing and research and
development personnel, consisting of a limited number of persons with highly
specialized technical knowledge. The loss of any of such persons could mean a
delay in the development and/or marketing of one or more of its proposed or
actual products.
The Company's present management has limited experience in managing a large
business. In order to meet its business objectives, it will be necessary for the
Company to hire appropriate management personnel, as well as additional
scientific and engineering personnel. The Company competes for such persons with
other companies, academic institutions, government entities and other
organizations, some of which may have substantially greater capital resources
and facilities than the Company. There can be no assurance that the Company will
be successful in recruiting and retaining such personnel. See "Business--
Employees" and "Management."
12
<PAGE>
CONTROL BY EXISTING STOCKHOLDERS
Existing stockholders of the Company presently own 1,084,013 shares of
Common Stock and options and warrants to purchase an aggregate of 1,651,405
(including warrants issuable upon completion of this Offering) shares of Common
Stock. Upon consummation of this Offering, assuming all warrants and options of
existing stockholders are exercised (but not the Warrants or the
Representative's Warrants), such stockholders will beneficially own 57.8% of the
Common Stock. Immediately after the Offering, the existing stockholders will
have the ability to elect a majority of the Company's directors and otherwise
control the Company. See "Principal Stockholders."
GUARANTEED RATE OF RETURN TO PREFERRED STOCKHOLDERS
The holders of the Series A Convertible Preferred Stock, purchased in
December 1996, were guaranteed a 35% annual rate of return on their investment,
through the completion of the Company's initial public offering. In this
connection, to the extent such holders do not realize a 35% rate of return on
their investment upon completion of this Offering, they shall receive additional
shares of Common Stock. Based upon the currently proposed price of the Common
Stock offered hereby, no additional shares will be required to be issued to the
holders of the Series A Convertible Preferred Stock. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources."
SPECULATIVE NATURE OF THE WARRANTS
The Warrants do not confer any rights of Common Stock ownership on their
holders, such as voting rights or the right to receive dividends, but rather
merely represent the right to acquire shares of Common Stock at a fixed price
for a limited period of time. Specifically, commencing one year after the date
of this Prospectus, holders of the Warrants may exercise their right to acquire
Common Stock and pay an exercise price of $8.25 per share, subject to adjustment
upon the occurrence of certain dilutive events, until five years after the date
of this Prospectus, after which date any unexercised Warrants will expire and
have no further value. Moreover, following the completion of the Offering, the
market value of the Warrants is uncertain and there can be no assurance that the
market value of the Warrants will equal or exceed their initial public offering
price. There can be no assurance that the market price of the Common Stock will
ever equal or exceed the exercise price of the Warrants, and consequently,
whether it will ever be profitable for holders of the Warrants to exercise their
Warrants. See "Description of Securities--Warrants."
IMMEDIATE SUBSTANTIAL DILUTION
Purchasers of Securities in this Offering will experience immediate and
substantial dilution in the net tangible book value of the shares of Common
Stock purchased by them in this Offering. The immediate dilution to purchasers
of the Securities offered hereby will be $4.04, or 53.9%, per share of Common
Stock. Additional dilution to future net tangible book value per share may occur
upon the exercise of the Warrants, Representative's Warrants, and other options
and warrants that are outstanding or will be issued by the Company. The current
stockholders of the Company, including the Company's officers and directors,
acquired their shares of Common Stock, in most cases, for nominal consideration
or for consideration substantially less than the public offering price of the
shares of Common Stock included in this Offering. See "Capitalization,"
"Dilution" and "Certain Transactions."
POTENTIAL ADVERSE EFFECT OF REDEMPTION OF WARRANTS
The Warrant Agreement provides that, commencing eighteen months after the
date of this Prospectus, with the consent of the Representative, if the average
closing sale price of the Common Stock equals or exceeds $24.75 per share for
any twenty trading days within a period of thirty consecutive trading days
ending on the fifth trading day prior to the Company's notice of its intent to
redeem the Warrants, the
13
<PAGE>
Company may redeem all, but not less than all, of the Warrants for $0.05 per
Warrant. If the Warrants are redeemed, holders of the Warrants will lose their
rights to exercise the Warrants after the expiration of the 30-day notice of
redemption period. Upon receipt of a notice of redemption, holders would be
required to: (i) exercise the Warrants and pay the exercise price at a time when
it may be disadvantageous for them to do so, (ii) sell the Warrants at the
current market price, if any, when they might prefer to hold the Warrants, or
(iii) accept the redemption price which is likely to be substantially less than
the market value of the Warrants at the time of redemption. See "Description of
Securities--Warrants."
POTENTIAL ADVERSE EFFECT OF REPRESENTATIVE'S WARRANTS
In connection with this Offering, the Company has authorized the issuance of
the Representative's Warrants and has reserved 400,000 shares of Common Stock
for issuance upon exercise of such warrants (including the Warrants issuable
upon exercise of the Representative's Warrants). The Representative's Warrants
will entitle the holders thereof to acquire shares of Common Stock and Warrants
at an exercise price of 165% of the initial public offering price per share and
Warrant, respectively ($12.375 per share). The Representative's Warrants will be
exercisable at any time from the first anniversary of the date of this
Prospectus until the fifth anniversary of the date of this Prospectus. For the
term of the Representative's Warrants, the holders thereof will have, at nominal
cost, the opportunity to profit from a rise in the market price of the
Securities without assuming the risk of ownership, with a resulting dilution in
the interest of the other security holders. As long as the Representative's
Warrants remain unexercised, the Company's ability to obtain additional capital
might be adversely affected. Moreover, the holders of the Representative's
Warrants may be expected to exercise such warrants at a time when the Company
would, in all likelihood, be able to obtain any needed capital by a new offering
of its securities on terms more favorable than those provided by such warrants.
See "Underwriting."
NO DIVIDENDS
The Company has never declared or paid dividends, and does not intend to pay
any dividends in the foreseeable future on shares of Common Stock. Earnings of
the Company, if any, are expected to be retained for use in expanding the
Company's business. The payment of dividends is within the discretion of the
Board of Directors of the Company and will depend upon the Company's earnings,
if any, capital requirements, financial condition and such other factors as are
considered to be relevant by the Board of Directors from time to time. See
"Dividend Policy."
NO PUBLIC MARKET FOR THE SECURITIES
Prior to this Offering there has been no public market for the Common Stock
or the Warrants, and there can be no assurance that an active public market for
the Securities will develop or be sustained after this Offering. See
"Underwriting."
LEGAL RESTRICTIONS ON SALES OF SHARES UNDERLYING THE WARRANTS
The Warrants are not exercisable unless, at the time of the exercise, the
Company has a current prospectus covering the shares of Common Stock issuable
upon exercise of the Warrants, and such shares have been registered, qualified
or deemed to be exempt under the securities laws of the state of residence of
the exercising holder of the Warrants. The Warrants may be deprived of value if
a current prospectus covering the shares of Common Stock issuable upon the
exercise of the Warrants is not kept effective. The Common Stock and the
Warrants are separately transferable immediately upon issuance. Purchasers may
buy Warrants in the aftermarket or may move to jurisdictions in which the shares
underlying the Warrants are not so registered or qualified during the period
that the Warrants are exercisable. In this event, the Company would be unable to
issue shares to those persons desiring to exercise their Warrants, and holders
of Warrants would have no choice but to attempt to sell the Warrants in a
jurisdiction where such sale is permissible or allow them to expire unexercised.
See "Description of Securities--Warrants."
14
<PAGE>
CERTAIN ANTI-TAKEOVER PROVISIONS AND POTENTIAL ADVERSE EFFECT ON MARKET PRICE OF
SECURITIES FROM ISSUANCE OF PREFERRED STOCK
The Company's Certificate of Incorporation and By-laws contain certain
provisions that could have the effect of delaying or preventing a change of
control of the Company, which could limit the ability of security holders to
dispose of their Common Stock and/or Warrants in such transactions. The
Certificate of Incorporation authorizes the Board of Directors to issue one or
more series of preferred stock without stockholder approval. Such preferred
stock could have voting and conversion rights that adversely affect the voting
power of the holders of Common Stock, or could result in one or more classes of
outstanding securities that would have dividend, liquidation or other rights
superior to those of the Common Stock. Issuance of such preferred stock may have
an adverse effect on the then prevailing market price of the Common Stock and
Warrants. Additionally, the Company is subject to the anti-takeover provisions
of Section 203 of the Delaware General Corporation Law, which prohibits the
Company from engaging in a "business combination" with an "interested
stockholder" for a period of three years after the date of the transaction in
which the person became an interested stockholder, unless the business
combination is approved in a prescribed manner. Section 203 could have the
effect of delaying or preventing a change of control of the Company. See
"Description of Securities--Preferred Stock" and "Description of
Securities--Anti-Takeover Provisions."
BROAD DISCRETION OVER APPLICATION OF PROCEEDS
A substantial portion of the net proceeds of this Offering, aggregating
approximately $4,451,000 or 34%, has been allocated for working capital and
general corporate purposes, including the funding of acquisitions. Accordingly,
management of the Company will have broad discretion in determining the manner
in which the net proceeds of the Offering are applied. See "Use of Proceeds."
ARBITRARY DETERMINATION OF OFFERING PRICE
The initial public offering prices of the Securities, as well as the
exercise prices of the Warrants and the Representative's Warrants, were
determined by negotiations between the Company and the Representative, and
should not be regarded as indicative of any future market price of the
Securities. The factors considered in such negotiations, in addition to
prevailing market conditions, included the history of and prospects for the
industry in which the Company competes, an assessment of the Company's
management, the prospects of the Company, its capital structure, the market for
initial public offerings and certain other factors as were deemed relevant.
However, the public offering price of the Securities and the exercise prices of
the Warrants and the Representative's Warrants do not necessarily bear any
relationship to the Company's assets, book value, earnings or any other
established criteria of value. See "Underwriting."
POSSIBLE VOLATILITY OF STOCK PRICE
The stock market has, from time to time, experienced significant price and
volume fluctuations that may be unrelated to the operating performance of
particular companies. In addition, the market price of the Securities, like the
stock prices of many publicly-traded companies, may prove to be highly volatile.
Announcements of innovations or new commercial products by the Company or its
competitors, developments or disputes concerning proprietary rights, as well as
period-to-period fluctuations in financial results, among other factors, may
have a significant impact on the market price of the Securities.
SHARES ELIGIBLE FOR FUTURE SALE
Upon the consummation of this Offering, the Company will have 3,084,013
shares of Common Stock outstanding (assuming no exercise of warrants or
options). All of the 2,000,000 shares of Common Stock being offered hereby will
be immediately tradeable without restriction or further registration under the
Securities Act of 1933, as amended (the "Securities Act"). Subject to certain
contractual restrictions as
15
<PAGE>
described below and the continued effectiveness of the Selling Stockholders'
prospectus within this registration statement relating to these shares, an
additional 507,500 shares of Common Stock issuable upon exercise of the Private
Placement Warrants will be freely tradeable. See "Concurrent Offering." The
Selling Stockholders have agreed not to sell any of such securities for a period
of three months from the date of this Prospectus and not to sell 137,500 of such
securities for a period of nine months from the date of this Prospectus without
the prior written consent of the Representative. The 1,084,013 shares of Common
Stock issued and outstanding prior to this Offering are deemed to be "restricted
securities," as that term is defined under Rule 144 promulgated under the
Securities Act, and may be sold without registration pursuant to such rule at
varying times, commencing 90 days from the date hereof. In addition, the Company
currently has outstanding options and warrants (not including the Warrants and
Private Placement Warrants) to purchase an additional 1,651,405 shares of Common
Stock (including certain warrants issuable upon completion of this Offering).
All of the officers and directors of the Company and all holders of 1% or more
of the issued and outstanding Common Stock and all holders of options, warrants
or other securities convertible, exercisable, or exchangeable for 1% or more of
the issued and outstanding Common Stock (including the shares underlying the
options and warrants for this purpose) (except as described above) have agreed
not to, directly or indirectly, issue, offer, agree or offer to sell, sell,
transfer, assign, encumber, grant an option for the purchase or sale of, pledge,
hypothecate or otherwise dispose of any beneficial interest in such securities
for a period of 13 months following the effective date of the Registration
Statement without the prior written consent of the Company and the
Representative. An appropriate legend shall be marked on the face of the
certificates representing all such securities. The Company has granted certain
demand and piggyback registration rights to the Representative with respect to
the securities issuable upon exercise of the Representative's Warrants. In
addition, the Company has also granted certain piggyback registration rights to
BWM Investments, an affiliate of Breslow & Walker, LLP, counsel to the Company,
and Kalkines, Arky, Zall & Bernstein of which William S. Bernstein, a director
of the Company, is a partner, in each case as to 25,000 shares of Common Stock
underlying warrants, and to Baltimore Gas and Electric Company as to 80,000
shares of Common Stock. See "Certain Transactions" and "Legal Matters."
In general, under Rule 144 as currently in effect, a person (or persons
whose shares are aggregated) who has beneficially owned restricted shares for at
least one year (including the holding period of any prior owner except an
affiliate) would be entitled to sell within any three-month period a number of
shares that does not exceed the greater of (i) one percent of the number of
shares of Common Stock then outstanding (approximately 30,840 shares immediately
after this Offering), or (ii) the average weekly trading volume of the Common
Stock during the four calendar weeks preceding the filing of a Form 144 with
respect to such sale. No prediction can be made as to the effect, if any, that
sales of shares of Common Stock or even the availability of such shares for sale
will have on the market prices prevailing from time to time. The possibility
that substantial amounts of Common Stock may be sold in the public market may
adversely affect prevailing market prices for the Common Stock or the Warrants
and could impair the Company's ability to raise capital through the sale of its
equity securities. See "Principal Stockholders," "Description of Securities,"
"Shares Eligible for Future Sale" and "Underwriting."
POTENTIAL ADVERSE EFFECT OF SUBSTANTIAL SHARES OF COMMON STOCK RESERVED FOR
ISSUANCE
The Company has reserved a total of 4,145,248 shares of Common Stock for
issuance as follows: (i) 2,000,000 shares for issuance upon exercise of the
2,000,000 Warrants; (ii) 200,000 shares for issuance upon exercise of the
Representative's Warrants; (iii) 200,000 shares for issuance upon exercise of
the Warrants issuable upon exercise of the Representative's Warrants; (iv)
1,411,915 shares at a weighted average exercise price of $3.45 per share subject
to outstanding warrants as of the date of this Prospectus; (v) 83,333 shares
issuable upon conversion of outstanding promissory notes totalling $625,000
(assuming an initial public offering price of $7.50 per Share); and (vi) 250,000
shares for issuance pursuant to the 1993 Plan, 239,490 shares of which are
issuable at a weighted average exercise price of $4.22 per share upon exercise
of stock options outstanding as of the date hereof. The existence of the
Warrants, the
16
<PAGE>
Representative's Warrants and other options or warrants may adversely affect the
Company's ability to consummate future equity financings. Further, the holders
of such warrants and options may exercise them at a time when the Company would
otherwise be able to obtain additional equity capital on terms more favorable to
the Company. The exercise and sale of the Common Stock underlying the warrants
and options would have a dilutive effect on the Company's stockholders, as well
as have a material adverse effect on the market price of the Common Stock. See
"Shares Eligible for Future Sale."
REPRESENTATIVE'S INFLUENCE ON THE MARKET
A significant amount of the Securities offered hereby may be sold to
customers of the Representative. Such customers subsequently may engage in
transactions for the sale or purchase of such securities through or with the
Representative. If it participates in the market, the Representative may exert a
dominating influence on the market, if one develops, for the Securities
described in this Prospectus. Such marketmaking activity may be discontinued at
any time. The price and liquidity of the Common Stock and the Warrants may be
significantly affected by the degree, if any, of the Representative's
participation in such market. See "Description of Securities" and
"Underwriting."
LIMITATION OF LIABILITY AND INDEMNIFICATION
The Company's Certificate of Incorporation limits, to the maximum extent
permitted by the Delaware General Corporation Law ("Delaware Law"), the personal
liability of directors for monetary damages for breach of their fiduciary duties
as a director. The Company's By-laws provide that the Company shall indemnify
its officers and directors and may indemnify its employees and other agents to
the fullest extent permitted by law. Section 145 of the Delaware Law provides
that a corporation may indemnify a director, officer, employee or agent made or
threatened to be made a party to an action by reason of the fact that he was a
director, officer, employee or agent of the corporation or was serving at the
request of the corporation, against expenses actually and reasonably incurred in
connection with such action if he acted in good faith and in a manner he
reasonably believed to be in or not opposed to the best interests of the
corporation, and, with respect to any criminal action or proceeding, if he had
no reasonable cause to believe his conduct was unlawful. Delaware Law does not
permit a corporation to eliminate a director's duty of care, and the provisions
of the Company's Certificate of Incorporation have no effect on the availability
of equitable remedies, such as injunction or rescission, for a director's breach
of the duty of care. See "Management--Indemnification of Directors."
RISKS ASSOCIATED WITH FORWARD-LOOKING STATEMENTS INCLUDED IN THIS PROSPECTUS
This Prospectus contains certain forward-looking statements regarding, among
other items, the Company's expansion strategy. The forward-looking statements
included herein are based on current expectations that involve numerous risks
and uncertainties. Assumptions relating to the foregoing involve judgments with
respect to, among other things, future economic, competitive and market
conditions and future business decisions, all of which are difficult or
impossible to predict accurately and many of which are beyond the control of the
Company. Although the Company believes that its assumptions underlying the
forward-looking statements are reasonable, any of the assumptions could prove
inaccurate and, therefore, there can be no assurance that the forward-looking
statements included in this Prospectus will prove to be accurate. In light of
the significant uncertainties inherent in the forward-looking statements
included herein, the inclusion of such information should not be regarded as a
representation by the Company or any other person that the objectives and plans
of the Company will be achieved.
17
<PAGE>
CONCURRENT OFFERING
The registration statement of which this Prospectus forms a part also
includes a prospectus with respect to an offering of 507,500 shares of Common
Stock issuable upon exercise of the Private Placement Warrants held by DayStar
Partners, L.P., Douglas Lee, The Smith 1987 Family Trust, J. Thomas Bentley,
Westminster Associates, Ltd., QPS Bridge, LLC, Anderson, Weinroth & Co., L.P.
and Regent Capital Partners, L.P. (collectively, the "Selling Stockholders"),
all of which may be sold in the open market, in privately negotiated
transactions or otherwise, directly by the Selling Stockholders. The Selling
Stockholders have agreed with the Representative not to sell any of such
securities for three months from the date of this Prospectus and not to sell
137,500 of such securities prior to nine months from the date of this Prospectus
without the consent of the Representative. The Company will not receive any
proceeds from the sale of such securities by the Selling Stockholders, although
it will receive proceeds from the exercise of the Private Placement Warrants, if
any. Expenses of the concurrent offering, other than fees and expenses of
counsel to the Selling Stockholders and selling commissions, will be paid by the
Company. Sales of such securities by the holders thereof or the potential for
such sales may have an adverse effect on the market price of the Securities
offered hereby.
18
<PAGE>
USE OF PROCEEDS
The net proceeds to the Company from the sale of the Securities offered
hereby, after deduction of underwriting discounts and other estimated offering
expenses, are estimated to be approximately $13,034,000 ($15,063,000 if the
Underwriters' Over-allotment Option is exercised in full). The Company intends
to utilize such net proceeds as follows:
<TABLE>
<CAPTION>
APPROXIMATE APPROXIMATE
AMOUNT OF NET PERCENTAGE OF NET
PROCEEDS(1) PROCEEDS
------------- -------------------
<S> <C> <C>
Development Costs (2)....................................... $ 4,400,000 34%
Marketing and Sales (3)..................................... $ 1,400,000 11%
Repayment of Indebtedness and Payables (4).................. $ 2,783,000 21%
Working Capital and General Corporate Purposes (5).......... $ 4,451,000 34%
------------- ---
Total................................................... $13,034,000 100%
------------- ---
------------- ---
</TABLE>
- ------------------------
(1) The amount set forth with respect to each purpose represents the Company's
current estimate of the approximate amount of the net proceeds that will be
used for such purpose. However, the Company reserves the right to change the
amount of such net proceeds that will be used for any purpose to the extent
that management determines that such change is advisable. Consequently,
management of the Company will have broad discretion in determining the
manner in which the net proceeds of the Offering are applied. See "Risk
Factors--Broad Discretion over Application of Proceeds."
(2) Represents anticipated development costs associated with (i) the Company's
efforts to reduce the cost of the system components and installation of the
ATQ-100 system, (ii) the Company's development of an air core reactor
quieting system, (iii) the Company's development efforts relating to the
active magnetic field control and cancellation program, (iv) the Company's
obligated expenditures under the joint venture agreement with Prolec-GE, (v)
the Company's obligated expenditures under the joint venture agreement with
ABB Secheron S.A., and (vi) the Company's efforts to modify the design of
the Headset systems for specific industries. See "Business."
(3) Represents anticipated costs associated with the expansion of the Company's
marketing and sales activities, including market research, advertising and
development of promotional materials related to the Company's current and
proposed products. See "Business--Business Strategy--Marketing."
(4) Represents the payment of (i) certain payables of the Company owed to NCT
under the NCT Master Agreement, aggregating approximately $200,000, (ii) the
Company's notes held by DayStar Partners, L.P. and certain other purchasers,
aggregating approximately $458,000 (including accrued interest through June
30, 1997), which notes bear interest at a rate of 15%, and were issued in a
private placement by the Company, the proceeds of which were used for
working capital purposes, (iii) the Company's notes held by QPS Bridge, LLC
and Regent Capital Partners, L.P., aggregating approximately $2,045,000
(including accrued interest through June 30, 1997), which notes bear
interest at a rate of 11% and were issued in a private placement by the
Company, the proceeds of which were used for general operating purposes
including development and marketing efforts and the repayment of certain
debt obligations, and (iv) an advance received in 1994 from its stockholder,
Environmental Research, Inc. (of which the Chief Executive Officer of the
Company is Chairman, President and a 10% stockholder), aggregating $80,000,
which amount was used for working capital. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and "Certain
Transactions."
(5) Represents funds that may be utilized (i) for working capital and general
corporate purposes, (ii) to pay the cash portion of one or more acquisitions
that may be effected by the Company, and (iii) to pay the Company's notes
that were issued pursuant to a debt financing completed in April 1997, the
19
<PAGE>
proceeds of which aggregated $625,000 and were used for working capital
purposes, which notes become payable on demand in cash or in shares of
Common Stock upon completion of the Offering. The amount to be used for
acquisitions may vary considerably based on the number of acquisitions made
by the Company as well as the type of transactions used for such
acquisitions, and whether the purchase price is paid in cash or securities.
The Company has not yet entered into discussions with any potential
acquisition candidates, nor are there any understandings with respect to any
entities which it may desire to acquire, and there can be no assurance that
the Company will consummate any such acquisitions. The Company currently
intends to seek acquisition opportunities shortly after the completion of
this Offering. See "Business--Business Strategy--Acquisitions."
The Company anticipates, based on current plans and assumptions relating to
its operations, that the net proceeds of this Offering, together with net cash
from operations, should be sufficient to satisfy the Company's cash requirements
for at least 12 months after the date of this Prospectus. Proceeds not
immediately required for the purposes described above will be invested in
short-term, investment grade, interest bearing government obligations. However,
there can be no assurance that the net proceeds of the Offering will satisfy the
Company's requirements for any particular period of time. In the event the
Company identifies additional acquisition candidates, or if the Company
identifies new applications for its technology which require additional internal
development efforts, the Company may require additional financing after the use
of the net proceeds of the Offering to pursue such opportunities. No assurance
can be given that such additional financing will be available when needed on
terms acceptable to the Company, if at all. See "Risk Factors--Dependence on
Offering; Possible Need for Additional Financing."
DIVIDEND POLICY
The Company has never declared or paid dividends, and does not intend to pay
any dividends in the foreseeable future on shares of Common Stock. Earnings of
the Company, if any, are expected to be retained for use in expanding the
Company's business. The payment of dividends is within the discretion of the
Board of Directors of the Company and will depend upon the Company's earnings,
if any, capital requirements, financial condition and such other factors as are
considered to be relevant by the Board of Directors from time to time. During
1996, the Company recorded a non-cash dividend of $238,000, reflecting the value
attributable to warrants issuable upon the conversion of the preferred stock and
the treatment thereof as a dividend.
20
<PAGE>
CAPITALIZATION
The following table sets forth the capitalization of the Company as of March
31, 1997 (i) on an actual basis, (ii) on a pro forma basis to give effect to
certain financial events occurring subsequent to March 31, 1997, and (iii) on a
pro forma basis as adjusted to give effect to the sale by the Company of the
Securities offered hereby and the initial application of the estimated net
proceeds therefrom.
<TABLE>
<CAPTION>
MARCH 31, 1997
----------------------------------------------
<S> <C> <C> <C>
PRO FORMA
AS
ACTUAL PRO FORMA(1) ADJUSTED(1)(2)
------------- ------------- ----------------
Notes payable (net of unamortized discount of $187,000 actual;
$992,000 pro forma; $37,000 as adjusted)....................... $ 883,000 $ 2,034,000 $ 588,000
------------- ------------- ----------------
Stockholders' equity:
Preferred stock, par value $.01 per share; 10,000 shares
authorized, issued 1,325 (actual and pro forma), none issued
and outstanding (as adjusted)................................ 1,059,000 1,059,000 --
Common stock, par value $.01 per share; 10,000,000 shares
authorized; issued 699,547 (actual), 819,013 (pro forma),
3,084,013 (pro forma as adjusted)............................ 7,000 8,000 31,000
Additional paid-in capital..................................... 3,169,000 4,979,000 19,049,000
Unearned options/warrants(3)................................... (276,000) (276,000) (276,000)
Accumulated deficit............................................ (5,541,000) (6,324,000) (7,747,000)
------------- ------------- ----------------
Total stockholders' equity (deficit)............................. $ (1,582,000) $ (554,000) $ 11,057,000
------------- ------------- ----------------
------------- ------------- ----------------
Total capitalization............................................. $ (699,000) $ 1,480,000 $ 11,645,000
------------- ------------- ----------------
------------- ------------- ----------------
</TABLE>
- ------------------------
(1) Adjusted to give pro forma effect to (i) a debt financing, the gross
proceeds of which were $2,000,000 and pursuant to which the Company issued
$2,000,000 of promissory notes and warrants to purchase an aggregate 240,000
shares of Common Stock, (ii) a private financing pursuant to which the
Company issued $290,000 of one-year promissory notes, which notes are
convertible into Common Stock at a price per share equal to the initial
public offering price per Share, and warrants to purchase an aggregate of
7,733 shares of Common Stock, (iii) the conversion of $200,000 of promissory
notes existing at March 31, 1997 into 39,466 shares of Common Stock, (iv)
the payment of $151,000 with respect to promissory notes outstanding on
March 31, 1997, (v) the recognition of the expense of $170,000 resulting
from the increase in 26,750 shares of Common Stock and warrants to purchase
26,750 shares of Common Stock underlying warrants granted in a private
financing, and (vi) the issuance of 80,000 shares of Common Stock to
Baltimore Gas and Electric Company pursuant to a Conversion and Subscription
Agreement dated June 13, 1997 and the recognition of a $540,000 expense in
connection therewith, all of which events occurred subsequent to March 31,
1997. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
(2) As adjusted to give effect to (i) the sale of the Securities offered hereby,
and initial application of the estimated net proceeds therefrom and (ii) the
expense of $1,361,000 relating to the write-off of debt discount and debt
issuance cost. Does not give effect to the potential repayment of $625,000
in convertible promissory notes that become payable on demand upon
completion of the Offering.
(3) Represents the difference between the exercise price of compensatory stock
options and warrants issued, but unvested, to employees of the Company and
the fair market value of the Common Stock. See Note B[7] of the Notes to the
Financial Statements.
21
<PAGE>
DILUTION
At March 31, 1997, the Company had a negative net tangible book value of
$(2,075,000) or $(2.15) per share of Common Stock. Net tangible book value per
share is determined by dividing the net tangible book value of the Company
(total tangible assets less total liabilities) by the number of outstanding
shares of Common Stock. The difference between the offering price per share of
Common Stock and the net tangible book value per share after this Offering
constitutes the dilution to investors in this Offering. After giving effect to
(i) a bridge financing, the gross proceeds of which were $2,000,000 and pursuant
to which the Company issued promissory notes and warrants to purchase an
aggregate of 240,000 shares of Common Stock, (ii) a private financing pursuant
to which the Company issued $290,000 of one-year promissory notes, which are
convertible into Common Stock at a price per share equal to the initial public
offering price per Share, and warrants to purchase 7,733 shares of Common Stock,
(iii) the conversion of $200,000 of promissory notes existing at March 31, 1997
into 39,466 shares of Common Stock, (iv) the payment of $151,000 with respect to
promissory notes outstanding on March 31, 1997, (v) the expense of $1,361,000
relating to the write-off of debt discount and debt issuance cost, (vi) the
issuance of 80,000 shares of Common Stock to Baltimore Gas and Electric Company
pursuant to a Conversion and Subscription Agreement dated June 13, 1997 and the
recognition of a $540,000 expense in connection therewith, and (vii) the sale of
the shares of Common Stock and Warrants offered hereby at an initial public
offering price of $7.50 per share and $.10 per Warrant, and after deducting
underwriting discounts and commissions and estimated offering expenses payable
by the Company, the pro forma net tangible book value of the Company at March
31, 1997 would have been $10,685,000 or $3.46 per share. This represents an
immediate increase in pro forma net tangible book value of $5.61 per share to
the existing stockholders of the Company and an immediate dilution of $4.04
(53.9%) per share to new investors. The following table illustrates the
foregoing information with respect to dilution to new investors on a per share
basis:
<TABLE>
<S> <C> <C>
Initial public offering price per share...................... $ 7.50
Negative net tangible book value per share prior to the
Offering................................................... (2.15)
Increase per share attributable to the Offering.............. 5.61
Pro forma net tangible book value per share after this
Offering................................................... 3.46
---------
Dilution to new investors.................................... $ 4.04
---------
---------
</TABLE>
In the event the Representative's Over-allotment Option is exercised in
full, the pro forma net tangible book value as of March 31, 1997 would have been
$12,714,000, or $3.76 per share of Common Stock, which would result in immediate
dilution in net tangible book value to new investors of approximately $3.74 per
share.
The following table sets forth as of the date of this Prospectus, with
respect to the Company's existing stockholders and new investors, a comparison
of the number of shares of Common Stock acquired from the Company (attributing
no value to warrants issued in conjunction with the sale of shares), the
percentage ownership of such shares, the total consideration paid, the
percentage of total consideration paid and the average price per share.
<TABLE>
<CAPTION>
SHARES PURCHASED TOTAL CONSIDERATION AVERAGE
----------------------- -------------------------- PRICE PER
NUMBER PERCENT AMOUNT PERCENT SHARE
---------- ----------- ------------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Existing Stockholders(1)(2)............................. 1,084,013 35% $ 3,754,000 20% $ 3.46
New Investors........................................... 2,000,000 65% 15,200,000 80% $ 7.60
---------- --- ------------- ---
Total................................................... 3,084,013 100% $ 18,954,000 100%
---------- --- ------------- ---
---------- --- ------------- ---
</TABLE>
The above table assumes no exercise of the Representative's Over-allotment
Option. If the Representative's Over-allotment Option is exercised in full, new
investors will have paid $17,480,000 for 2,300,000
22
<PAGE>
shares of Common Stock, representing 82% of the total consideration for 68% of
the total number of shares of Common Stock outstanding. The foregoing also
assumes no exercise of outstanding warrants or options. See "Management--Stock
Option Plan," "Shares Eligible for Future Sale" and "Underwriting."
To the extent outstanding options or warrants or subsequently granted
options or warrants are exercised, there could be further dilution to new
investors. See "Shares Eligible for Future Sale" and "Management--Stock Option
Plan."
- ------------------------
(1) Does not include (i) 1,411,915 shares of Common Stock issuable upon exercise
of outstanding warrants (which number includes warrants to purchase 265,000
shares of Common Stock that will be issued upon completion of this Offering
and warrants to purchase 133,750 shares of Common Stock that are issuable
upon exercise of nominally priced warrants), with a weighted average
exercise price of $3.45 per share, (ii) 250,000 shares of Common Stock
subject to options available under the 1993 Plan, of which options to
purchase an aggregate of 239,490 shares of Common Stock with a weighted
average exercise price of $4.22 per share have been granted, and options to
purchase 10,510 shares of Common Stock remain available for future grants,
and (iii) 83,333 shares of Common Stock issuable upon conversion of
currently callable convertible promissory notes in the aggregate amount of
$625,000. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and "Management--Stock Option Plan."
(2) Includes $540,000 representing the value attributed by the Company to 80,000
shares of Common Stock issued to Baltimore Gas and Electric Company. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
23
<PAGE>
SELECTED FINANCIAL DATA
The balance sheet data as of December 31, 1996 and the income statement data
for each of the years in the two years ended December 31, 1996 presented below
are derived from the Financial Statements of the Company, which have been
audited by Richard A. Eisner and Company, LLP, and are included elsewhere in
this Prospectus. The selected financial data for the year ended December 31,
1994, the three month periods ended March 31, 1996 and 1997, and the balance
sheet data as of December 31, 1994, December 31, 1995 and March 31, 1997, were
derived from unaudited financial statements of the Company. These financial
statements include all adjustments, consisting of normal recurring accruals,
which the Company considers necessary for a fair presentation of the financial
position and the results of operations for this period. The information
presented below should be read in conjunction with "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and the Financial
Statements and related notes thereto included elsewhere in this Prospectus.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
------------------------------------- ------------------------
<S> <C> <C> <C> <C> <C>
1994 1995 1996 1996 1997
----------- ----------- ----------- ----------- -----------
STATEMENTS OF OPERATIONS DATA:
Net revenues
Product sales............................ $ 0 $ 35,000 $ 216,000 $ 80,000 $ 51,000
Development funding(1)................... 541,000 315,000 0 0 0
----------- ----------- ----------- ----------- -----------
Total revenues........................... 541,000 350,000 216,000 80,000 51,000
----------- ----------- ----------- ----------- -----------
Costs and expenses
Cost of sales............................ 0 29,000 260,000 66,000 76,000
Development costs........................ 587,000 335,000 187,000 30,000 92,000
Selling, general and administrative...... 893,000 843,000 1,714,000 276,000 418,000
----------- ----------- ----------- ----------- -----------
Total costs and expenses..................... 1,480,000 1,207,000 2,161,000 372,000 586,000
----------- ----------- ----------- ----------- -----------
Interest expense............................. 0 17,000 333,000 35,000 89,000
----------- ----------- ----------- ----------- -----------
Net (loss)................................... (939,000) (874,000) (2,278,000) (327,000) (624,000)
Dividend on perferred stock.................. (238,000)
----------- ----------- ----------- ----------- -----------
Net (loss) after preferred dividend.......... $ (939,000) $ (874,000) $(2,516,000) $ (327,000) $ (624,000)
----------- ----------- ----------- ----------- -----------
----------- ----------- ----------- ----------- -----------
Net (loss) per share(2)...................... $ (.69) $ (.62) $ (1.53) $ (.23) $ (.39)
----------- ----------- ----------- ----------- -----------
----------- ----------- ----------- ----------- -----------
Pro forma weighted average number of common
shares outstanding(2)...................... 1,353,000 1,403,000 1,484,000 1,431,000 1,591,000
----------- ----------- ----------- ----------- -----------
----------- ----------- ----------- ----------- -----------
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31, 1997
----------------------------------- ---------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
PRO FORMA
AS ADJUSTED
1994 1995 1996 ACTUAL PRO FORMA(3) (3)(4)
---------- ----------- ---------- ----------- ------------- -----------------
BALANCE SHEET DATA:
Working capital
(deficiency)............ $ (422,000) $(1,243,000) $ (654,000) $(1,916,000) $ (107,000) $ 10,916,000
Total assets (5).......... 510,000 436,000 463,000 645,000 2,648,000 $ 12,423,000
Notes payable............. 0 93,000 511,000 883,000 2,034,000 588,000
Total liabilities......... 705,000 1,273,000 1,543,000 2,227,000 3,202,000 1,366,000
Accumulated deficit....... (1,527,000) (2,401,000) (4,917,000) (5,541,000) (6,324,000) (7,747,000)
Stockholders' equity
(deficiency)............ (195,000) (837,000) (1,080,000) (1,582,000) (554,000) 11,057,000
</TABLE>
- ------------------------
(1) Development funding primarily consists of the direct investment by utilities
in the Company's research and development projects.
(2) See Note B of the Notes to the Financial Statements.
24
<PAGE>
(3) Adjusted to give pro forma effect to (i) a debt financing, the gross
proceeds of which were $2,000,000 and pursuant to which the Company issued
$2,000,000 of promissory notes and warrants to purchase an aggregate 240,000
shares of Common Stock, which resulted in an original issue discount to the
notes of $856,000, (ii) a private financing pursuant to which the Company
issued $290,000 of one-year promissory notes, which notes are convertible
into Common Stock at a price per share equal to the initial public offering
price per Share, and warrants to purchase an aggregate of 7,733 shares of
Common Stock, which resulted in an original issue discount to the notes of
$18,000, (iii) the conversion of $200,000 of promissory notes existing at
March 31, 1997 into 39,466 shares of Common Stock, (iv) the payment of
$136,000 to NCT for amounts owing, (v) the payment of $151,000 with respect
to promissory notes outstanding on March 31, 1997, (vi) the recognition of
the expense of $170,000 resulting from the increase in 26,750 shares of
Common Stock and warrants to purchase 26,750 shares of Common Stock
underlying warrants granted in a private financing, (vii) the issuance
80,000 shares of Common Stock to Baltimore Gas and Electric Company pursuant
to a Conversion and Subscription Agreement dated June 13, 1997 and the
recognition of a $540,000 expense in connection therewith, all of which
events occurred subsequent to March 31, 1997. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations."
(4) As adjusted to give effect to (i) the sale of the Securities offered hereby,
and initial application of the estimated net proceeds therefrom, and (ii)
the expense of $1,361,000 relating to the write-off of debt discount and
debt issuance costs. Does not give effect to the potential repayment of
$625,000 in convertible promissory notes that become payable on demand upon
completion of the Offering. See "Use of Proceeds."
(5) Includes technology rights. As of March 31, 1997, the balance of such rights
was $313,000.
25
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
QuietPower was incorporated in May 1992 and, to date, has devoted
substantially all of its resources to product and market development. In 1992,
the Company's activities consisted primarily of providing engineering design
services to industrial companies regarding the potential use of active noise and
vibration control. In May 1993, the Company entered into a series of marketing
agreements with NCT setting forth QuietPower's rights to market NCT's active
noise and vibration control products. In addition, during 1993, the Company, in
conjunction with NCT, focused on electric utility-funded projects, with respect
to active transformer quieting systems, Headsets and active diesel generating
quieting systems. In general, with respect to these projects, QuietPower
provided technical expertise and services, NCT provided technical expertise and
services and technology rights and the utilities provided funding and design
specifications for each product. Funding provided by the utilities was
recognized as development revenues by the Company.
In October 1994, the Company entered into the Distributor Agreement with NCT
with respect to the proposed Headset products. Throughout the year,
utility-funded projects continued and expanded, and the Company determined to
focus its primary development efforts on transformer quieting systems and
Headsets. In March 1995, QuietPower entered into the NCT Master Agreement, which
superseded the marketing agreements executed in May 1993, and provide, together
with the Distributor Agreement, the basis for the Company's current rights to
NCT's technology. During 1995, the Company completed its transformer quieting
system development projects. In the fourth quarter of 1995, QuietPower commenced
installation of its first ATQ-100 transformer quieting system at Public Service
Company of Colorado and commenced initial marketing of generic Headsets for
evaluation purposes. In addition, during 1995, feasibility studies regarding
failure diagnostic and condition monitoring commenced in conjunction with GE and
Baltimore Gas & Electric Company.
In 1996, the Company completed installation of its ATQ-100 system at Public
Service Company of Colorado and upgraded its prototype system at Commonwealth
Edison into a commercial ATQ-100 system. Marketing efforts, which were
constrained by lack of capital resources, focused on developing market
familiarity with the ATQ-100 by means of exhibitions at industry conferences and
seminars and development of brochures and videos. During the year, based upon
feedback from potential utility customers, the Company commenced its current
effort to further reduce the cost of the system components and installation of
the ATQ-100. Since 1994, total cost reductions for the ATQ-100 have ranged from
36% to 53%, depending upon the size and noise complexity of the transformers
involved. In 1996, the Company also continued to market Headsets for evaluation
purposes. Based upon customer response, the Company determined that engineering
modifications would be necessary to tailor Headsets to the needs of each
specific industry (e.g. the Power Industry or the railroad, oil and gas, mining
and pulp and paper industries). In addition, the Company entered into its Joint
Venture Agreements with ABB Secheron S.A. with regard to developing and
marketing the ATQ-100 system in Europe and with Prolec-GE with regard to
developing and marketing failure diagnostic condition monitoring products
world-wide.
Currently, the Company is marketing the ATQ-100 to a number of utilities,
which have proposed purchases under consideration. In view of the cost
reductions already effected and anticipated to be effected, the sales price of
the ATQ-100 has been lowered by the Company. As a result, the Company expects
that the gross profit relating to sales of the ATQ-100 system in the early part
of 1997 shall be nominal, but will increase over the course of the year as
further anticipated cost reduction measures are effected. With respect to
Headsets, QuietPower has recently completed development of a system specifically
designed for the railroad industry, which Headset unit is currently under
consideration for purchase by several large railroad companies. In addition,
modification efforts toward a Power Industry specific Headset are substantially
complete. The Company is currently in discussions with representatives of other
target industries for which it plans to modify the Headsets, as to the specific
needs of each industry. QuietPower is also continuing development work on its
failure diagnostic condition monitoring system in conjunction with Prolec-GE, an
air core reactor quieting system and an active magnetic field cancellation
26
<PAGE>
system. Finally, the Company anticipates that it will expand its product
offering by means of acquiring specific complementary technologies, products or
companies.
RESULTS OF OPERATIONS
THREE MONTHS ENDED MARCH 31, 1997 COMPARED TO THREE MONTHS ENDED MARCH 31,
1996
NET REVENUES--PRODUCT SALES. Product sales decreased $29,000 during the
three months ended March 31, 1997 from $80,000 for the three months ended March
31, 1996 compared to $51,000 for the three months ended March 31, 1997. Product
sales totaling $80,000 for the quarter ended March 31, 1996 were from the
installation of the ATQ-100 system at Public Service Company of Colorado and a
number of small orders of generic communications Headsets for evaluation
purposes. Product sales totaling $51,000 for the first quarter of 1997 were from
post-installation services relating to the ATQ-100 system installed at
Commonwealth Edison, the design and fabrication of an ATQ-100 system sold to
Sydkraft AB, a Swedish utility, for which installation is anticipated later in
1997, and continued evaluation sales of Headsets. The Company recognizes product
sale revenues with respect to the ATQ-100 system under the percentage of
completion method. In the first quarter of 1997, the Company granted an early
adoption discount in product sales price to Sydkraft AB for being the first
purchaser of the ATQ-100 system in Europe.
COST OF SALES. Cost of sales increased $10,000 for the three months ended
March 31, 1997 from $66,000 for the three months ended March 31, 1996 compared
to $76,000 in the three months ended March 31, 1997. These costs relate to the
product sales of ATQ-100 and the Headsets.
DEVELOPMENT COSTS. Development costs increased $62,000 for the three months
ended March 31, 1997 from $30,000 for the three months ended March 31, 1996
compared to $92,000 for the three months ended March 31, 1997. Development costs
for the first quarter of 1996 resulted from the Company's efforts toward product
optimization and cost reduction of the transformer quieting system. Development
costs in the first quarter of 1997 resulted from the Company's ongoing efforts
for product optimization and cost reduction of the transformer quieting system
and for costs associated with the Company's development efforts for its failure
diagnostic and condition monitoring products.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased $142,000 for the three months ended March 31,
1997 from $276,000 for the three months ended March 31, 1996 compared to
$418,000 for the three months ended March 31, 1997. This increase is primarily
attributable to expansion of the Company's selling and marketing efforts,
including increases in the production of marketing materials, the supply of
evaluation Headset units to potential customers and general overhead related to
marketing efforts.
INTEREST EXPENSE. Interest expense increased $54,000 from $35,000 for the
three months ended March 31, 1996 compared to $89,000 for the three months ended
March 31, 1997. This increase reflects the substantial increase in indebtedness
of the Company, and reflects the cost assigned to warrants issued with debt as
additional interest expense. For the three months ended March 31, 1996, there
was no interest expense related to the amortization of debt discount as compared
to $59,000 of interest expense related to the amortization of debt discount for
the first quarter of 1997.
With respect to debt financings, in May 1996 the Company raised $535,000, in
the first quarter of 1997, the Company raised $335,000 of debt and in April
1997, the Company raised $2,290,000 of debt. To account for the imputed interest
related to the warrants attached to the $535,000 debt, the principal amount of
the notes was discounted by $168,000 as of March 31, 1997. With respect to the
warrants attached to the $335,000 of debt, the principal amount of the notes was
discounted by $19,000 as of March 31, 1997. Finally, with respect to the
$2,290,000 of debt, the principal amount of the notes was discounted by $874,000
as of the date of issuance. The Company will realize these discounted amounts,
plus $435,000 in debt issuance costs, as interest expense over the period April
1, 1997 through the earlier of the effective date of the Offering or April 17,
1998.
The Company has entered into a Conversion and Subscription Agreement, dated
as of June 13, 1997, with Baltimore Gas and Electric Company ("BG&E") (the
"Conversion Agreement"). Pursuant to the Conversion Agreement, BG&E has agreed
to convert all of BG&E's rights to receive royalties from the
27
<PAGE>
sale of the Company's transformer quieting systems and purchase discounts on the
Company's transformer quieting systems into 80,000 shares of Common Stock.
BG&E's rights arise out of a series of agreements with the Company and NCT,
pursuant to which BG&E provided funding for the initial development of the
Company's transformer quieting system. See "Business--Utility Funded Development
Projects." The Company will recognize an expense of $540,000 in the quarter
ended June 30, 1997, to give effect to this transaction.
YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995
NET REVENUES--DEVELOPMENT FUNDING. Development funding decreased $315,000 in
the year ended December 31, 1996 from $315,000 in the year ended December 31,
1995 compared to $0 in 1996. Development funding was recognized in 1995 from the
completion of two funded projects and one funded study. Final utility
transformer projects funded by Jersey Central Power & Light and Commonwealth
Edison were completed in April and August 1995, respectively, and the
feasibility study for failure diagnostics and condition monitoring funded by
Baltimore Gas & Electric Company was completed in December 1995. In 1996, the
Company determined not to seek such utility funding in view of its transition in
focus to commercial introduction of product and, therefore, recognized no
development revenues.
NET REVENUES--PRODUCT SALES. Product sales increased $181,000 in the year
ended December 31, 1996 from $35,000 in the year ended December 31, 1995
compared to $216,000 in 1996. Product sales totaling $35,000 in 1995 were from
the initiation of the ATQ-100 installation at Public Service Company of Colorado
and a number of small orders of generic communications Headsets for evaluation
purposes. Product sales totaling $216,000 in 1996 include revenues from the
installation of the ATQ-100 at Public Service Company of Colorado, the upgrade
of a prototype system to the ATQ-100 system at Commonwealth Edison and continued
evaluation sales of the Headsets.
DEVELOPMENT COSTS. Development costs decreased $148,000 in the year ended
December 31, 1996 from $335,000 in the year ended December 31, 1995 compared to
$187,000 in 1996. Development costs in 1995 included the Company's contributions
to utility funded development projects, which varied in amount depending upon
the scope of the project and the amount of utility contributions. Development
costs in 1996 resulted from the Company's efforts for product optimization and
cost reduction of the transformer quieting system, and initial development
efforts for the European market.
COST OF SALES. Cost of sales increased $231,000 in the year ended December
31, 1996 from $29,000 in the year ended December 31, 1995 compared to $260,000
in 1996. These costs relate to the product sales of the ATQ-100 and the
Headsets. This increase is principally due to the increase in product sales.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased $871,000 in the year ended December 31, 1996
from $843,000 in the year ended December 31, 1995 compared to $1,714,000 in
1996. This increase is primarily the result of an increase of $374,000
reflecting the cost assigned to stock options and warrants issued in exchange
for services. Other increases related to the Company's activities to bring more
of its technical capabilities in-house and to bring its commercial products to
market. Specifically, salaries and staff related costs increased by $181,000
which was the result of hiring additional staff, pay increases, and the
allocation of costs related to the assignment of staff to sales activities.
Market development expenditures increased by $112,000 and reflected the creation
of marketing materials, participation at trade conferences and exhibitions,
increased travel expenditures, and the supply of evaluation Headset units to
potential customers.
INTEREST EXPENSE. Interest expense increased $316,000 in the year ended
December 31, 1996 from $17,000 in the year ended December 31, 1995 compared to
$333,000 in 1996. This increase reflects the substantial increase in
indebtedness of the Company, and reflects the cost assigned to warrants issued
with debt as additional interest expense. For 1995, $16,000 was interest expense
related to the amortization of debt discount as compared to $269,000 of interest
expense related to the amortization of debt discount for 1996. See "Liquidity
and Capital Resources."
28
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
As of March 31, 1997, the Company had a working capital (deficit) of
$(1,916,000) and a stockholders' (deficit) of $(1,582,000), as compared to a
working capital (deficit) of $(654,000) and a stockholders' (deficit) of
$(1,080,000) at December 31, 1996. The Company has to date financed its
operations through development projects funded by electric utilities, direct
equity and debt financings, and a limited amount of commercial sales.
Net cash used in operating activities was $261,000 for the three months
ended March 31, 1997 as compared to $214,000 for the three months ended March
31, 1996. The increase in cash used in operations is primarily the result of the
increase in the net loss of the Company of $297,000 reduced by $49,000 to
reflect the increase in non-cash expenditures and $175,000 to reflect changes in
accounts payable and accrued expenses. Net cash used in investing activities was
$32,000 for the three months ended March 31, 1997 as compared to $6,000 for the
three months ended March 31, 1996. The increase was primarily attributable to
the payment to NCT of a portion of the amounts owed by the Company under the NCT
Master Agreement. Net cash provided by financing activities was $293,000 for the
three months ended March 31, 1997 as compared to $200,000 for the three month
period ended March 31, 1996. The increase was primarily attributable to one
private financing during the first quarter of 1997, the proceeds of which were
used to fund its operating activities. At March 31, 1997, the Company had cash
of $6,000.
Net cash used in operating activities was $1,604,000 for the year ended
December 31, 1996 as compared to $385,000 for the year ended December 31, 1995.
The increase in cash used in operations is primarily the result of the increase
in the net loss of the Company of $1,404,000, (i) reduced by $628,000 to reflect
the increase in non-cash expenditures, (ii) increased to reflect net changes in
accounts receivable of $223,000, and (iii) increased to reflect changes in
accounts payable and accrued expenses of $202,000. Net cash used in investing
activities was $190,000 for the year ended December 31, 1996, as compared to
$7,000 for the year ended December 31, 1995. The increase in cash used in
investing activities was primarily attributable to the payment to NCT of a
portion of the amounts owed by the Company under the NCT Master Agreement. Net
cash provided by financing activities was $1,780,000 for the year ended December
31, 1996 as compared to $290,000 for the year ended December 31, 1995. The
increase in cash provided by financing activities is primarily attributable to
two private financings of the Company, the proceeds of which were used to fund
its operating activities. At December 31, 1996, the Company had cash of $6,000.
Since 1992, seven electric utilities have funded an aggregate of $1,189,000
for the purpose of developing the Company's active noise and vibration control
technology. Project fees were received as follows:
<TABLE>
<CAPTION>
YEAR PROJECT FEES
- -------------------------------------------------------------------------------- ------------
<S> <C>
1992............................................................................ $ 9,000
1993............................................................................ 515,000
1994............................................................................ 532,000
1995............................................................................ 133,000
1996............................................................................ 0
------------
$ 1,189,000
------------
------------
</TABLE>
The Company also recognized project funding from utilities of $10,000 and
$174,000 in 1994 and 1995, respectively, for developing its failure diagnostic
and condition monitoring technology. Typically, the agreements with utilities
provide for a return on the above funded amounts through royalties to be paid on
future product sales, which royalties could total up to $2.2 million. The
Company did not seek project funding in 1996.
In 1992, through a private placement of its Common Stock, the Company issued
an aggregate of 130,000 shares at a price of $2.50 per share, for which it
received gross proceeds of $325,000. In 1993, through a private placement of its
Common Stock, the Company issued an aggregate of 30,000 shares also at a price
of $2.50 per share, for which it received gross proceeds of $75,000.
29
<PAGE>
In January 1994, through a private placement of its Common Stock, the
Company issued an aggregate of 20,000 shares at a price of $2.50 per share, for
which it received gross proceeds of $50,000. In November 1994, the Company
completed a private placement of 97,366 shares of Common Stock at a price of
$8.77 per share, for which it received gross proceeds of $853,900.
In July and August 1995, the Company raised gross proceeds of $75,000 in
exchange for 18,750 units, each of which consisted of one share of Common Stock
and one warrant to purchase a share of Common Stock at an exercise price of
$6.00 per share, at a price of $4.00 per unit. Also, in July of 1995, the
Company raised gross proceeds of $25,000 through an offering of debt with
warrants attached. The debt was evidenced by a promissory note bearing an
interest rate of 6% per annum with a due date of January 27, 1996. The principal
and interest were converted into 7,523 shares of Common Stock in April 1997 at a
conversion price of $4.00 per share. The warrants are for the purchase of 6,250
shares of Common Stock at an exercise price of $6.00 per share.
In October 1995, the Company raised gross proceeds of $100,000 in exchange
for 14,706 units, each of which consisted of one share of Common Stock and one
warrant to purchase a share of Common Stock at an exercise price of $6.80 per
share, at a price of $6.80 per unit.
In November 1995 and January 1996, in exchange for a promissory note with
interest in the form of warrants, the Company raised gross proceeds of $88,000.
The transaction also provided for additional warrants to be issued if the term
of the loan was extended beyond March 31, 1996. Final payment of the note
occurred in October 1996 at which time warrants were issued for the purchase of
45,000 shares of Common Stock at an exercise price of $2.50 per share.
In February 1996, the Company raised gross proceeds of $68,000 in exchange
for 10,000 units, each of which consisted of one share of Common Stock and one
warrant to purchase a share of Common Stock at an exercise price of $6.80 per
share, at a price of $6.80 per unit.
In April 1996, the Company raised gross proceeds of $25,000 through an
offering of debt with warrants attached. The debt was evidenced by a promissory
note bearing an interest rate of 12% per annum. The warrants are for the
purchase of 3,676 shares of Common Stock at an exercise price of $3.625 per
share. Principal and interest of the note were repaid in September 1996.
In March and April 1996, the Company raised gross proceeds of $175,000
through four debt with warrant issuances. All issuances were evidenced by
convertible promissory notes bearing interest rates at 12% with terms ranging
from September through October 1996. The principal and interest were converted
into 31,943 shares of Common Stock in April 1997. Of the promissory notes,
$125,000 were converted at $6.80 per share and $50,000 were converted at $5.00
per share. The warrants are for the purchase of 21,176 and 2,500 shares of
Common Stock at exercise prices of $3.625 and $6.80 per share, respectively.
In May 1996, the Company raised $535,000 through a debt financing with
DayStar Partners, L.P., a venture capital firm, and certain other venture
capital investors (the "May 1996 Financing"). This debt is evidenced by notes
which provide for the repayment of the principal and interest at the earlier of
an initial public offering or in four quarterly installments commencing in
February 1997. Accordingly, this debt is repayable upon consummation of this
Offering and the Company intends to use a portion of the proceeds of this
Offering for that purpose. Substantially all of the Company's assets secure
repayment of this loan. Through November 24, 1996 the notes bore interest at the
annual rate of 12%, and 15% thereafter. By a letter agreement dated April 9,
1997, it was agreed that a quarterly installment of $133,750 would be paid in
April 1997, with the remaining principal due on the earlier of the consummation
of this Offering or January 15, 1998, and that the notes would continue to bear
interest at the rate of 15% (effective interest rates, giving effect to the
value of the warrants, ranging from 194% to 246%). The terms of the transaction
also provided that warrants exercisable at $.01 per share to purchase 133,750
shares of Common Stock and warrants to purchase 133,750 shares of Common Stock,
at a per share exercise price equal to that of any warrants offered in an
initial public offering of the Company's securities, be issued.
In December 1996, the Company completed a private placement of 1,325 shares
of Series A Convertible Preferred Stock, at a price of $1,000 per share, for
which it received gross proceeds of $1,325,000. Each share of Series A
Convertible Preferred Stock shall automatically convert upon the
30
<PAGE>
completion of this Offering at a price of $5.00 per share, into 200 shares of
Common Stock and warrants to purchase 200 shares of Common Stock at a per share
price of $2.50. The holders of the Series A Convertible Preferred Stock were
guaranteed a 35% annual rate of return on their investment, through the
completion of the Company's initial public offering. In this connection, to the
extent such holders do not realize a 35% rate of return on their investment upon
completion of this Offering, they shall receive additional shares of Common
Stock. In addition, subject to the Representative's consent, such holders shall
have the right to purchase a portion of the Securities (but in no event more
than 10% of the Securities), such that each holder shall maintain its percentage
interest in the Company.
In April 1997, the Company raised $2,000,000 through a debt financing with
QPS Bridge, LLC and Regent Capital Management, L.P. This debt is evidenced by
notes which bear interest at the annual rate of 11% (effective interest rate,
giving effect to the value of the warrants, of 85.7%) and provide for repayment
of the principal and interest at the earlier to occur of one or a series of
public and/or private offerings of securities of the Company or any sale of
assets, merger, recapitalization or other capital transactions with aggregate
gross proceeds to the Company of not less than $4,000,000 or April 17, 1998.
Accordingly, this debt is repayable upon consummation of this Offering and the
Company intends to use a portion of the proceeds of this Offering for that
purpose. Substantially all of the Company's assets secure repayment of this
loan, subordinate to the repayment of the May 1996 Financing. The terms of the
transaction also provided that warrants to purchase 240,000 shares of Common
Stock, at an exercise price equal to the lesser of $3.75 or one-half of the
price per share of Common Stock offered to the public in an initial public
offering of the Company's securities, be issued.
In February, March and April 1997, the Company also raised gross proceeds
aggregating $625,000 through an offering of debt with warrants attached. The
debt was evidenced by promissory notes bearing an interest rate of 10% per annum
(effective interest rate, giving effect to the value of the warrants, of 16.9%).
The warrants are for the purchase of a total of 16,667 shares of Common Stock,
at an exercise price per share equal to the lower of $6.00 or one-half of the
price per share of Common Stock offered to the public in an initial public
offering of the Company's securities.
The Company believes that the net proceeds from the Offering, together with
net cash from operations, should be sufficient to satisfy the Company's cash
requirements for at least 12 months from the date of this Prospectus.
RECENT PRONOUNCEMENTS OF THE FINANCIAL ACCOUNTING STANDARDS BOARD
The Financial Accounting Standards Board has issued Statement No. 123
"Accounting and Disclosure of Stock-Based Compensation" ("SFAS 123") in October
1995, which is effective for 1996. SFAS 123 requires companies to estimate the
fair value of common stock, stock options or other equity instruments ("Equity
Instruments") issued to employees, using pricing models which take into account
various factors, such as the current price of the common stock, volatility and
the expected life of the Equity Instrument. SFAS 123 permits companies to elect
either to provide pro forma note disclosure or adjust operating results for the
amortization of the estimated value of the Equity Instrument as compensation
expense over the vesting period of the Equity Instrument. The Company has
elected to provide pro forma note disclosure, which appears in its financial
statements for the year ended December 31, 1996, and therefore, the adoption of
SFAS 123 has no effect on the Company's financial position or results of
operations. See Note H of the Notes to the Financial Statements.
NET OPERATING LOSS CARRYFORWARDS
The Company has net operating loss carryforwards of approximately $4,340,000
which commence expiring in the year 2007. The amount of net operating loss
carryforward that can be used in any one year will be limited by the applicable
tax laws which are in effect at the time such carryforward can be utilized. As a
result of ownership changes resulting from recent sales of equity securities,
the Company's ability to use the loss carryforwards may be subject to
limitations as defined in Section 382 of the Internal Revenue Code of 1986, as
amended. Pursuant to Section 382, the change in ownership resulting from the
Offering and any other future sale of stock may limit utilization of future
losses in any one year. The annual limitation and the timing of attaining
profitability may result in the expiration of net operating loss carryforwards
before utilization.
31
<PAGE>
BUSINESS
GENERAL
QuietPower Systems, Inc. ("QuietPower" or the "Company") is engaged in the
development, commercialization and marketing of products utilizing two
acoustically based technologies: (i) active noise and vibration control and (ii)
failure diagnostic and condition monitoring. The Company's active noise and
vibration control technology uses equal but opposite noise signals to reduce or
cancel noise emissions. QuietPower has used the active noise and vibration
control technology to develop its initial commercial products, including the
ATQ-100, a transformer quieting system which reduces the sound emanating from
electric power distribution transformers. The Company has also commenced
marketing its communication headset systems ("Headsets"), which reduce noise and
enhance communications in high noise industrial environments. QuietPower is
currently engaged in a joint venture with ABB Secheron S.A., an indirect
wholly-owned subsidiary of ABB Asea Brown Boveri Limited ("ABB"), for the
purpose of developing and marketing the ATQ-100 in the European market. The
Company's failure diagnostic and condition monitoring technology is to be
utilized to detect sound emissions that signal imminent equipment failure.
QuietPower is engaged in a joint venture with Prolec-GE, de S. de R.L. de C.V.
("Prolec-GE"), a joint venture between the General Electric Company ("GE") and
Prolec S.A. de C.V., for the purpose of developing a failure diagnostic and
condition monitoring line of products for use with transformers and other
substation equipment. The primary market for the Company's current and proposed
products is the worldwide electric utility (power generation, transmission and
distribution) and supply industries (the "Power Industry").
The Company has entered into a world-wide exclusive manufacturing, marketing
and distribution agreement with Noise Cancellation Technologies, Inc. ("NCT").
This agreement covers NCT proprietary active noise and vibration control
technology and products relating to the Power Industry and grants the Company
world-wide exclusive rights within the Power Industry. The ATQ-100 and the
Headsets utilize the active noise and vibration control technology to
electronically reduce noise and vibration. Software-based algorithms, used in
conjunction with certain controlling, sensing and actuating hardware components,
act together as a digital signal processor to analyze noise emissions and
produce equal and opposite noise signals. When the two signals meet, the noise
is reduced or canceled. The Company's proposed failure diagnostic and condition
monitoring systems will also utilize digital signal-based technology.
The Company's principal operating strategy is to develop and position
products that take advantage of opportunities arising from the significant and
ongoing changes in the Power Industry. The Power Industry is a multibillion
dollar capital-intensive industry. The Company anticipates that the current move
toward deregulation in the North American and European electric utility
industries will increase market demand for companies which offer products that
reduce utilities' operating costs, enhance equipment efficiency and flexibility
and extend the expected useful lives of fixed assets. In addition to the Power
Industry, QuietPower plans to market its products to other capital-intensive
markets. To date, the Company has commenced marketing its Headsets to the
railroad and communication industries. The Company also intends to employ a
growth strategy pursuant to which it will identify and develop additional
products related to its core technologies and products. In this respect, it has
recently commenced development efforts on its active magnetic field control and
cancellation technology, which functions similarly to the active noise and
vibration control technology. The Company also intends to acquire outside
synergistic or alternative technologies and products. The Company has not yet
entered into discussions nor does it have any understandings with respect to any
companies or technologies which it may wish to acquire. The Company currently
intends to seek acquisition opportunities shortly after the completion of this
Offering and intends to use a portion of the net proceeds of this Offering in
furtherance of this acquisition strategy.
32
<PAGE>
THE POWER INDUSTRY MARKET
Within the Power Industry, electric utilities represent the largest
potential market for transformer quieting systems, failure diagnostic and
condition monitoring systems, air core reactor quieting systems and active
magnetic field control and cancellation systems. Among the roughly 3,100
electric companies in North America, 244 are investor-owned utilities ("IOU's").
These utilities have been specifically targeted by QuietPower because revenues
from these 244 utilities represent an estimated 79% of all electric power sales.
In addition, these IOU's have assets totalling an estimated $585 billion and
operating revenues of an estimated $177 billion, making it one of the largest
industry segments in North America. Electric utility operations are also very
capital-intensive; of these utilities' $585 billion in assets, approximately
$408 billion represent fixed assets. Between 1966 and 1991, an estimated 192,000
power transformers were shipped to purchasers.
The change in the North American electric utility sector of the Power
Industry has been substantial in the last decade. Historically, utilities have
operated in a highly regulated environment, with the impact of major capital
expenditures on billable rates being subject to regulatory oversight.
Competition was significantly lacking in this environment. Over the past several
years, a major nationwide trend toward deregulation of electric utilities was
initiated, and is currently progressing at various rates across the United
States. The effect of deregulation is to encourage the commencement of
competition. In response, utilities have been downsizing and focusing on
increased productivity and operating cost reductions. In addition, the Company
believes that competitive considerations will cause electric utilities to adopt
positive public relation and good neighbor policies, such as reducing the sound
levels of noisy transformers. The Company believes that the current changes
provide significant opportunities for companies like QuietPower which offer
products that reduce utilities' operating costs, enhance equipment efficiency
and flexibility, extend expected useful lives of valuable fixed assets and
provide positive public relations impressions.
In addition, as environmental consciousness is raised throughout the
country, the Company believes that local governments may seek to further curb
noise pollution and increase the stringency of existing noise regulations. This
would have the effect of increasing demand for noise quieting products, such as
those of the Company, although there can be no assurance with respect thereto.
See "Governmental Regulation."
Europe represents another significant potential market for the Company's
products. The overall European power generation and power consumption markets
for 1995 were 48% and 78%, respectively, of the United States market.
Deregulation, and the concomitant concern about competition, is also beginning
to take place in some European Union countries. A European Union directive
adopted in 1996 sets out a framework for the deregulation of the electricity
market in member countries beginning in 1998. It is up to each member of the
Union to determine how detailed implementation of the directive should be
handled. Generally, the framework provides for the independent operation of
utilities' transmission assets so as to open access to independent suppliers of
power. In addition the framework also proposes mechanisms for power sales to
retail customers. Member countries of the European Union include Great Britain,
France, Italy, Germany, Spain, Portugal, Belgium and Austria. The larger
integrated electric utilities in Switzerland (not a member of the European
Union) are in the process of unbundling their services and some distribution
companies have been sold to private entities.
The Company intends to market its products in industrialized international
markets. The Company's competitiveness in overseas markets may be negatively
impacted if there is a significant increase in the value of the dollar against
the currencies of the other countries in which the Company does business.
Further, the laws of certain foreign countries may not protect the Company's
proprietary rights to the same extent as the laws of the United States. See
"Risk Factors--Risk of International Operations."
33
<PAGE>
BUSINESS STRATEGY
The Company's principal operating strategy is to develop and position
products that take advantage of opportunities arising from the significant and
ongoing changes in the Power Industry. The Company believes that the current
move toward deregulation in the Power Industry will put a priority on finding
ways to succeed in a soon-to-be highly competitive environment. In addition to
the Power Industry, QuietPower anticipates, where appropriate, to market
products to other capital-intensive industries (e.g., the railroad and mining
industries), which is the Company's current marketing strategy with respect to
the Headsets.
The Company has identified two sources of potential growth in addition to
sales of its current and proposed products, which sources will be the focus of
its middle to long-term operating strategy. One source of growth involves the
identification and internal development of additional products related to the
Company's core technologies and markets. The second contemplates the acquisition
of outside technologies and products through the purchase of ongoing businesses
so as to add function to existing products or broaden product lines for
QuietPower's target markets. The Company believes that these strategies will (i)
help achieve long-term revenue growth, (ii) through the acquisition of
synergistic or alternative technologies, enable the Company to broaden its
technology base and therefore be less dependent on a small number of
technologies, and (iii) add other products and services to its current products
and allow the Company to be viewed by utilities as a full service provider of
technology solutions.
NEW APPLICATIONS. Internal development involves the identification of new
applications within the Company's targeted industry markets using active noise
and vibration control technology, failure diagnostic and condition monitoring
technology and active magnetic field control and cancellation technology. The
Company may seek to conduct such development with joint venture partners or
through utility funded projects. With respect to development efforts covered by
the NCT Master Agreement, the Company has been granted the right to receive
exclusive licenses for new products relating to the Power Industry for which the
Company provides development and commercialization funding.
ACQUISITIONS. The acquisition of outside technologies and products may be
effected by acquiring specific technology rights, acquiring products or product
lines, or acquiring an entity (through stock or asset purchases) that possesses
desired assets. The acquisition of technology rights may, in appropriate cases,
be effected through exclusive, or non-exclusive, licensing. QuietPower's current
expansion strategy involves identifying and obtaining the rights to technologies
and products which the Company believes would complement its products, expand
market reach, and/or provide some degree of added control over the delivery of
products into the marketplace. Complementary technologies would be those that
can be used by the Company's targeted markets to enhance performance and/or
reliability of their equipment base. QuietPower's expertise and extensive
knowledge of the Power Industry will be utilized to identify and make
appropriate acquisitions. The Company has not yet entered into discussions with
any companies, nor are there any understandings with respect to any companies or
technologies which it may wish to acquire. The Company currently intends to seek
acquisition opportunities shortly after the completion of this Offering and
intends to use a portion of the net proceeds of this Offering in furtherance of
this acquisition strategy. See "Use of Proceeds."
MARKETING. The Company believes that utilities look to its products for a
variety of reasons. Compliance with environmental noise ordinances is one of
several important components to the market acceptance of the Company's active
noise and vibration control-based products. Other factors include the Power
Industry's desire to improve relations with its customer base, to create
stronger customer loyalty, and to reduce potential litigation by becoming more
sensitive to environmental issues affecting the community, such as noise. Given
new concerns regarding competition, products that enhance productivity may be
viewed by utilities as an important step towards improving their competitive
stance. Therefore, QuietPower's promotional efforts attempt to show potential
customers that the Company's products offer operational efficiency, maintenance
solutions and facilitated safety communications.
34
<PAGE>
Historically, the Company has focused its attention almost exclusively on
the North American marketplace due to practical, logistical and cost concerns.
The Company believes that its recent execution of the joint venture agreement
with Prolec-GE (the "GE-JV Agreement") will assist it in gaining access to a
large section of the North American Power Industry market. More recently the
Company has sought to establish additional marketing alliances in Europe with
both manufacturers of substation equipment as well as end-user utilities. The
Company believes that the joint venture agreement with ABB Secheron S.A. (the
"ABB JV Agreement") will provide QuietPower with a means of penetrating the
European market. Currently, the Company is in discussions with several
additional European companies to establish development and marketing partners in
Europe in connection with both air core reactor quieting and active magnetic
field cancellation technology. See "Joint Venture Agreements."
With respect to the Headset product, its initial commercialization meant the
introduction of QuietPower's first product that was ready for commercial sale.
The Company has also identified industries outside the Power Industry where the
need for worker communication in high noise environments is important. Marketing
efforts to date have relied heavily on the railroad industry, but have also
included the Power Industry, the armed forces, the paper and pulp industry, the
oil and gas industry and the mining industry. Based upon customer feedback, the
Company is modifying the Headsets to make them industry specific.
In order to develop product awareness, the Company has published articles
for industry trade and technical journals, and attempts to receive press
coverage in industry trade journals. QuietPower's technical staff have presented
papers at utility sponsored conferences, trade shows and meetings. In addition,
the Company has developed video tapes showing industry relevant technology
applications, and prepared case studies and specification sheets. QuietPower has
also involved electric utilities in all stages of development and
commercialization for various product market segments. Several large utility
companies have invested funding in QuietPower's work, and served as test sites
for the technology under development. See "Utility Funded Development Projects."
ACTIVE NOISE CONTROL TECHNOLOGY AND PRODUCTS
Active noise and vibration control technology reduces noise and vibration,
which manifest themselves as wave forms, through the process known as
"destructive interference." The source noise signal is measured, analyzed and
canceled, using digital signal processing based algorithms, in conjunction with
controlling, sensing (e.g., microphones) and actuating hardware components
(e.g., resonant acoustic devices, piezo ceramics or speakers). The noise wave
characteristics (or vibration characteristics when it travels through a solid
substance) are analyzed by the active noise and vibration control algorithms,
and an equal and opposite (180 degrees out of phase) noise signal is generated
through the actuating hardware to cancel the source signal. Active noise
reduction can be used for airborne acoustic signals, vibration in solid
structures and vibration in fluids.
The active noise and vibration control technology can be utilized for a wide
range of applications. The Company is currently marketing two of its products,
the transformer quieting systems and Headsets, to the Power Industry, and
believes that one of its potential products, the air core reactor quieting
systems, is marketable to this industry as well. In addition, the Company is
currently marketing the Headsets to other capital-intensive industries.
TRANSFORMER NOISE QUIETING. Utilities generate electricity at various
locations around the country. This electricity must be sent from a power
generating plant to the electrical utility customers. To accomplish this,
utilities transmit the electricity at extremely high voltages through power
lines to various distribution points called substations. At these substations,
utilities place "distribution transformers" to convert, or step down, the high
voltage transmissions, which can be in the hundreds of kilovolts, to a safe and
useable voltage. These distribution transformers, with ratings from .5
million-volt-amperes ("MVA") to over 100 MVA, operate in fundamentally the same
way. Inside each transformer is a magnetic core, surrounded by
35
<PAGE>
high and low voltage windings. The magnetic field created in the core causes the
core and windings to vibrate in relation to the AC line frequency. These
vibrations correspond to twice the line frequency and its multiple harmonics.
North American transformers use a line frequency of 60 Hertz ("Hz"), thus the
vibration produced is at multiples, or harmonics of, this line frequency (i.e.,
240 Hz, 360 Hz, etc...). This vibration is transmitted to the outside surface of
the unit and is radiated out into the substation and surrounding neighborhood in
the form of tonal noise. Due to their low frequency, these tones carry for
extended distances. Although there are similarities in the general noise
characteristics of transformers, sound levels from each transformer will vary
depending on a given transformer's structural geometry, as well as the load that
it is carrying at any given time. The ATQ-100 transformer quieting system
continuously measures and analyzes each of these readings and adjusts its
opposing noise signals to achieve optimal sound cancellation.
Utilities may seek to quiet transformers for a variety of reasons, including
the reduction of noise complaints from neighboring properties and to comply with
noise ordinances that may exist. See "Business Strategy--Marketing" and
"Governmental Regulation." Traditional passive quieting solutions for existing
transformers require the construction of barrier walls around the unit. However,
low frequency tones produced by transformers not only travel greater distances
than high frequency tones, but are more difficult to block with a barrier wall.
Since low frequency sound waves can travel through and refract around barrier
walls, these walls must be built according to rigorous specifications that can
result in significant installation costs. Barrier walls can also interfere with
overhead buswork, obstruct the maintenance of transformers and cause heat to
build up, forcing utilities to reduce transformer load, resulting in decreased
efficiency. For utilities installing new transformers, an alternate quieting
solution is to purchase a "low noise" unit using heavier, stiffened materials.
While these units are quieter than other standard transformers, the use of
special materials in their construction leads to a much higher acquisition cost
per unit.
QuietPower, in conjunction with NCT engineers, completed development of the
initial prototype of a transformer quieting system in 1993. From 1992 to 1995,
the Company engaged several utilities in all stages of the commercialization of
the transformer quieting systems. Prototype quieting systems were installed on
various transformers in order to, among other things, research product
reliability and optimization testing. During this period, utilities invested
approximately $816,000 in QuietPower in connection with these development
projects. See "Utility Funded Development Projects."
The Company's first commercial transformer noise quieting product, the
ATQ-100, was installed at Public Service Company of Colorado on two 20 MVA
transformers in Lafayette, Colorado. Installation commenced in October 1995 and
was completed in May 1996. In addition, between August 1996 and January 1997,
the Company converted a prototype transformer quieting system into a commercial
ATQ-100 system for Commonwealth Edison in Rockford, Illinois, on four
transformers, ranging in size from 20 to 50 MVA. Prototype transformer quieting
systems using a digital signal processing based controller, in conjunction with
multiple sensing (e.g., microphones) and actuating devices (e.g., resonant
acoustic devices and piezo ceramic transducers), were installed at Manitoba
Hydro in September 1993, Baltimore Gas & Electric in October 1993 and August
1994, Jersey Central Power & Light in October 1994 and Commonwealth Edison in
August 1995. The size of these transformers ranges from 7.5 MVA to 45 MVA. Use
of the transformer quieting systems has resulted in noise reductions of up to 30
decibels ("dB") for the lower frequency tones, which tones are the most
problematic for traditional quieting technologies. Similar noise reductions
would most likely be sufficient to bring virtually any transformer into
compliance with noise regulations and ordinances throughout North America. See
"Governmental Regulation."
Based upon market feedback, the Company has determined that the initial
sales price of the ATQ-100 has inhibited widespread market acceptance.
Accordingly, during 1996, QuietPower accelerated its efforts to reduce the cost
of the system components and installation of the ATQ-100. In this connection, in
view of the cost reductions already effected and anticipated to be effected, the
ATQ-100 sales price has been lowered by the Company. As a result, the Company
expects that the gross profit relating to sales of the
36
<PAGE>
ATQ-100 in the first half of 1997 will be nominal. The Company expects to use a
portion of the net proceeds of this Offering to continue such further
development. See "Risk Factors--Limited Sales History; Need for Cost Reduction
of ATQ-100 and Modification of Headsets; Substantial Time Lapse Until Additional
Commercial Product Introduction," "Use of Proceeds" and "Management's Discussion
and Analysis of Financial Condition and Results of Operations."
INDUSTRIAL COMMUNICATION HEADSETS. The Company's Headsets are designed to
improve worker safety and productivity through the enhancement of communications
by selectively canceling surrounding noise from loud machinery or engines using
the active noise and vibration control technology. Accordingly, these Headsets
facilitate communication between co-workers, enable them to hear warning
signals, and reduce noise related fatigue. The prototype generic Headsets
developed by NCT in cooperation with the Company and Manitoba Hydro have been
fully commercialized and are available as products. The Company commenced
selling the Headsets in the third quarter of 1995. The Headsets are designed to
be portable, as well as lightweight and comfortable. Independent tests performed
by an outside contractor on behalf of NCT have assigned the Headsets a Noise
Reduction Rating (or "NRR") of 21dB. NRR's are assigned based on a series of
standardized tests that are performed on hearing protection devices to determine
noise reductions at the ear. Tests on Headset effectiveness conducted by NCT
have shown noise reductions of 20 dB in the 30 to 500 Hz frequency ranges.
However, the Company believes that in order to make significant sales to any
industry, the Company will have to further modify the current generic Headset
system to meet the specific needs of each industry. Based on feedback from
potential railroad customers, the Company has recently modified the Headsets to
tailor them to the needs of the railroad industry. Modifications have included
developing new microphone and intercom electronics and protocols, redesigning
the external structure of the Headsets and modifying mounting devices. This
system allows the personnel present in the locomotive cab to communicate with
one another as well as with the railroad dispatcher and to more readily hear
warning signals. Revenues from the railroads to date are nominal and reflect the
sale of seven demonstration Headset systems. In addition, modification efforts
toward a Power Industry specific Headset are substantially complete. The Company
is currently in discussions with representatives of other target industries for
which it plans to modify its Headsets, including mining, paper and pulp
processing, the armed forces, and oil and gas, as to the specific needs of each.
A portion of the net proceeds of this Offering has been allocated toward these
development efforts. See "Risk Factors -- Limited Sales History; Need for Cost
Reduction of ATQ-100 and Modification of Headsets; Substantial Time Delay Until
Additional Commercial Product Introduction," "Use of Proceeds" and "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
AIR CORE REACTOR NOISE QUIETING SYSTEMS. Air core reactors are used by
utilities at substations during the distribution process. Air core reactors act
like surge protectors to regulate voltage levels and act as line voltage
stabilizers. Electrical excitation of the reactor's core leads to vibration and
noise escalation. The noise characteristics of reactors are similar to those of
transformers, in that low frequency noise at 120 Hz dominates the reactor's
overall noise signals. The Company has measured noise generated by air core
reactors as high as 90 dB. The Company believes that minor modifications of the
transformer quieting system's software and hardware could result in a reactor
quieting product. QuietPower is currently in discussions with an air core
reactor manufacturer to develop a prototype air core reactor noise quieting
system. There can be no assurance that the Company will be successful in its
attempt to develop or commercialize a reactor quieting system.
SUBSTATION FAILURE DIAGNOSTIC AND CONDITION MONITORING PRODUCTS
Proposed failure diagnostic and condition monitoring systems are being
designed to be used by utilities to detect imminent equipment breakage or
failure in transformers and other substation equipment; occurrences which are
expensive and sometimes dangerous to substation personnel and property. The
aging of electrical power systems has increased the importance of monitoring the
condition of the equipment that comprise these systems. Transformer failures are
known to be associated with degradation
37
<PAGE>
of the transformer's insulation. This degradation produces certain electrical
charges within the transformer known as partial discharge. The electric partial
discharge signals also generate high frequency acoustic waves, which can be
detected using acoustic sensors. Accurate and precise acoustic readings of
partial discharge, analyzed in a meaningful interpretative context, are expected
to provide valuable information to substation operators for preventive
maintenance.
A year long feasibility study by the Company in conjunction with GE's Power
Transformer division and Baltimore Gas & Electric Company was completed in
December 1995. On the basis of this study, the Company, pursuant to a joint
venture agreement with Prolec-GE, is currently developing a failure diagnostic
and condition monitoring system for power transformers. The joint venture may
also use QuietPower's technology to develop other acoustically-based failure
diagnostic systems for use with load-tap changers, high voltage instrument
transformers and circuit breakers. See "Joint Venture Agreements-- GE Joint
Venture." The proposed failure diagnostic and condition monitoring systems will
utilize sensors to collect acoustic data which will provide an on-line
assessment of the transformer's operating condition to the Power Industry
customer. The proposed system is being designed to be a digitally based
analytical system that reads, stores and analyzes large amounts of acoustic
data. The system is intended to provide real time condition monitoring for
transformers where data are communicated via a data-link to central operating
stations. Basic hardware components will include ultrasonic sensors, a
microprocessor and data-link equipment.
A line of products based on the failure diagnostic and condition monitoring
technology is currently being developed by the Company. The first proposed
product is a partial discharge (or failure) locator. This product is being
designed to be used in transformer testing, maintenance and repair shops to
pinpoint the source of a failure, which will significantly reduce the amount of
time required for testing and repair. A second proposed product is a continuous
on-line condition monitoring system, which will allow remote monitoring of a
transformer's operating condition and will be designed to alert the system
operator in the event of deterioration in performance. This proposed product
will be designed to communicate via a modem or other communications device, thus
minimizing the labor intensity of system monitoring. Additional proposed
products may be developed to enhance the on-line system (i.e., fault severity
assessment). A major design feature of one of the proposed failure diagnostic
and condition monitoring systems is to use multiple piezo ceramic detectors to
triangulate the location of the source of the problem. The system is also being
designed to operate either as a stand-alone system or in combination with a
transformer quieting system, which may enable the sharing of certain hardware
components. The Company believes that availability of such a combined system may
enhance the customer's perceived value of the Company's products, thereby
facilitating sales. The Company has filed patent applications in connection with
the failure diagnostic and condition monitoring technology in the United States
and under the Patent Cooperation Treaty, to which Canada and other countries are
signatories. See "Risk Factors--Dependence on Patents; Uncertain Proprietary
Protection" and "Patent Protection." There can be no assurance that the Company
will be successful in its attempt to develop or commercialize any of the
proposed failure diagnostic and condition monitoring systems.
ACTIVE MAGNETIC FIELD CONTROL AND CANCELLATION SYSTEMS
The Company is presently investigating two proposed applications for active
magnetic field control and cancellation technology using active control
algorithms. The cores of substation transformers produce strong magnetic fields
in the process of stepping voltage up or down. Other parts of the transformer,
particularly exposed metal surfaces that are attractive to magnetic fields,
cause part of the field to stray away from the core. Whenever stray magnetic
fields are lost, the transformer's efficiency is decreased. Current mitigation
procedures involve heavy passive shielding which due to its size, weight and
cost is impractical for use in larger transformers. The Company is currently
developing an active magnetic field control product that will contain magnetic
fields and prevent them from straying from the core, using
38
<PAGE>
algorithms that evaluate and send controlling signals to magnetic transducers.
This will enable Power Industry customers to use a smaller, lighter (and hence
less expensive) and more efficient transformer.
The Company also intends to pursue a separate active magnetic field
cancellation system that would confine and/or cancel magnetic fields coming from
substation yards and indoor transformer vaults. With computer monitors and other
electrical equipment becoming increasingly commonplace, high levels of magnetic
fields in residential and commercial spaces are a growing problem because of the
adverse effect of magnetic fields on these sensitive devices. Additionally,
there is a perceived risk of health problems from continuous exposure to high
magnetic field levels. Although scientific studies investigating a connection
between high magnetic field levels and adverse health effects are inconclusive,
it is nevertheless an issue of public concern. The active magnetic field
cancellation products under development by the Company would use active control
algorithms to drive a multi-channel magnetic field control or cancellation
system to cancel magnetic fields emanating from substations. The Company
believes that this multi-channel device will provide a greater level of control
over magnetic fields than can be achieved by other techniques such as passive
shielding or reconfiguration of the substation. In addition, the Company
believes that the active magnetic field cancellation will also be cost-effective
and cause less disruption to substation operations during installation than
these other techniques.
The Company is currently in discussions with companies to enter into joint
development and marketing arrangements in both the United States and Europe with
respect to these proposed products. The Company also intends to pursue all
available intellectual property protection for its proposed active magnetic
field control and cancellation systems. See "Risk Factors--Dependence on
Patents; Uncertain Proprietary Protection" and "Patent Protection." There can be
no assurance that the Company will be successful in its attempt to develop or
commercialize an active magnetic field control or cancellation product.
ADDITIONAL POTENTIAL ACTIVE NOISE CONTROL PRODUCTS
In 1995, the Company chose to narrow the focus of its development efforts to
those applications that the Company believed would have the largest market
potential in the shortest period of time. Accordingly, the Company halted plans
for the development of three additional projects which use the basic active
noise and vibration control technology. Although the Company does not intend to
devote additional development efforts in connection with these products in the
near-term, the Company believes that they may be further developed in the
future.
SILENCERS FOR INTERNAL COMBUSTION POWER GENERATORS ("GENSET
SILENCERS"). Internal combustion generators ("Gensets") are used to augment a
utility's base generation capacity. Typically, Gensets are employed at remote
and rural locations as a cost-effective means of increasing available
electricity. Gensets are driven by large diesel engines and have capacities
ranging from 100 kilowatts to over 10 megawatts. Using traditional passive means
of quieting, Gensets can still produce a significant amount of noise (in excess
of 100 dB). Prototype Genset Silencers were installed by the Company from July
through September 1993, on Gensets located at God's Lake Narrows for Manitoba
Hydro and on the Queen Charlotte Islands for British Columbia Hydro. The active
noise and vibration control technology is used to track changes in noise
amplitude and frequency which allows the Genset Silencers to respond almost
instantaneously. Installation of the Genset Silencer also increases fuel
efficiency by eliminating back pressure in the muffler system.
FORCED DRAFT/INDUCED DRAFT ("FD/ID") FAN QUIETING. Thermoelectric
generation sites use large draft fans as part of the ventilation system for
their boiler units. In August 1994, NCT acquired Active Noise and Vibration
Technologies, Inc. ("ANVT"), a co-licensee of the FD/ID fan quieting technology,
which addresses the noise produced by the fans. These are tonal noises related
to the blade rotation frequency of the fan, and atonal noises related to air
turbulence. The tonal cancellation system uses speakers to serve as actuators
mounted both inside and outside a tubular duct, or manifold, installed to
support the speakers
39
<PAGE>
and which functions to improve airflow at the intake. The improved air flow
created by this manifold (or flow improvement device) improves its energy
efficiency and performance.
Prototype FD/ID fan quieting systems were installed by a joint venture
partner of ANVT at two generating facilities of Southern California Edison, the
Coolwater Generating Station in Barstow, California in February 1992, and the
Redondo Beach Generating Station in Redondo Beach, California in February 1993.
Tonal reductions have approached 18dB and atonal reductions have approached 12dB
at Coolwater. In addition, actual measurements have shown that the flow
improvement device has improved energy efficiency by 5% to 6.5% at both
locations. QuietPower is in negotiations with the parties involved in these
projects to manage further development and marketing of the FD/ID fan quieting
system.
GAS AND STEAM TURBINE QUIETING. Gas and steam turbines produce both high
and low frequency tonal and broadband noise. Silencing is required for both
intake and exhaust ports. Based upon the Company's prior experience with Genset
Silencers and FD/ID fan quieting systems, the Company believes that it can
develop a digitally based multi-channel control system using a modified active
noise and vibration control algorithm that will quiet both broadband and tonal
noise.
CONTRACTUAL AGREEMENTS WITH NCT
The Company's contractual relationships with NCT cover proprietary active
noise and vibration control technology and products owned by NCT relating to the
Power Industry. See "Risk Factors-- Dependence on NCT."
On March 27, 1995, the Company signed a Master Agreement (which was
subsequently amended on March 28, 1995, April 21, 1995, May 21, 1996 and April
9, 1997) (the "NCT Master Agreement") with NCT. The NCT Master Agreement
provides the Company with world-wide exclusive rights to manufacture, market,
sell and distribute active transformer quieting products, and the right to
obtain licenses for future products or applications related to the Power
Industry, where the Company chooses to fund development costs. In addition, the
NCT Master Agreement grants the Company an exclusive world-wide license in
connection with active steam and gas turbine quieting products. See "Additional
Potential Active Noise Control Products--Gas and steam turbine quieting." The
NCT Master Agreement terminates upon the expiration of NCT's rights in the
intellectual property that is being licensed.
For these rights, the Company has agreed to pay a non-refundable $750,000
license fee, $250,000 of which has been credited from a payment made in June
1994 under a prior agreement between the Company and NCT, $250,000 of which was
deemed paid upon QuietPower's return to NCT in April 1995 of warrants to
purchase 750,000 shares of NCT's common stock and the remainder of which has
been split into 30 equal monthly installment payments of $8,333 which commenced
in July 1995. To obtain the exclusive world-wide rights to products and
applications both currently specified and to be identified in the future, the
Company has also agreed to fund commercialization costs for such products and
applications. After QuietPower has recouped 150% of its development costs, NCT
shall receive from pre-tax profits a royalty of 9% on the first $6,000,000 of
QuietPower's sales of exclusively licensed products (50% for technology
sublicenses), and 6% of all sales thereafter. In the April 9, 1997 amendment to
the NCT Master Agreement, the Company and NCT agreed that in order to allow the
Company to maintain its license, the Company would make two payments that were
owing to NCT and related to past engineering services for active quieting system
development and for headset purchases (and unrelated to the $750,000 license
fee). The first payment of $136,000 was made April 18, 1997. A final installment
of $200,000 is payable within thirty days following the closing of this
Offering. The Company intends to utilize a portion of the net proceeds of this
Offering to make such payment. See "Use of Proceeds."
The Company has the right in all instances to manufacture licensed products
or sublicense manufacturing to a third party. Under the NCT Master Agreement,
NCT has agreed to supply QuietPower with all available components at the most
favorable price available to other customers purchasing similar quantities.
40
<PAGE>
With respect to the marketing and distribution of the Headsets, the
Distributor Agreement provides the Company with non-exclusive distribution
rights on the same terms established from time to time by NCT with its stocking
distributors. Under this agreement, the Company purchases a product at a
discount and resells it into the marketplace. This Distributor Agreement
automatically renews each year unless one party notifies the other that it
desires to terminate the Distributor Agreement, at least 90 days prior to the
end of such year.
JOINT VENTURE AGREEMENTS
GE JOINT VENTURE
On November 13, 1996 the Company entered into the ten-year GE JV Agreement
with Prolec-GE, a joint venture between GE and Prolec S.A. de C.V., a
wholly-owned subsidiary of Industrias AXA, S.A. de C.V. Prolec-GE is one of the
largest manufacturers of distribution transformers in the world and also
manufactures and sells other power distribution equipment. The GE JV Agreement
was executed as a result of a year-long feasibility study of the failure
diagnostic and condition monitoring technology by GE's Power Transformer
Division and Baltimore Gas & Electric Company. Upon the successful funding and
development of each proposed product, under the GE JV Agreement, the Company
will grant an exclusive license to the joint venture for both the sale of the
proposed failure diagnostic and condition monitoring systems for newly
manufactured transformers or other substation equipment, including circuit
breakers, load tap changers and high voltage instrument transformers, as well as
for retrofit installations on previously installed transformers or other
substation equipment. It is anticipated that the joint venture will develop,
commercialize, market and install the Company's proposed failure diagnostic and
condition monitoring products world-wide. The GE JV Agreement provides for sole
ownership of all of the failure diagnostic and condition monitoring technology
by QuietPower. Earnings from the joint venture will be shared equally between
QuietPower and Prolec-GE, and each party is obligated, upon approval of each new
project by the parties, to contribute such personnel and resources as shall have
been approved in connection with such project.
ABB JOINT VENTURE
On June 15, 1996 the Company entered into the five-year ABB JV Agreement
with ABB Secheron S.A., an indirect wholly owned subsidiary of ABB. ABB, a
multi-national conglomerate based in Zurich, Switzerland, is, among other
things, one of the world's largest manufacturers of power transformers. Pursuant
to the ABB JV Agreement, the Company is obligated to grant an exclusive license
to ABB Secheron S.A. to retrofit existing European transformers with transformer
quieting systems, and a right of first refusal to ABB Secheron S.A., for
integration of the transformer quieting systems into new transformers. All
revenues generated from the exclusive license are required to be distributed to
the joint venture. It is anticipated that the joint venture will adapt the
transformer quieting systems for use with standard European operation and
design, as well as market and install the transformer quieting systems. The ABB
JV Agreement provides for the sole ownership of the active noise and vibration
control technology by QuietPower. Earnings from the joint venture will be shared
equally between QuietPower and ABB Secheron S.A., and each party is obligated,
upon approval by the parties of a product improvement program, to contribute
such personnel and resources to a project as shall have been approved in
connection with such project.
UTILITY FUNDED DEVELOPMENT PROJECTS
QuietPower has developed applications for the active noise and vibration
control technology with the assistance of companies within the Power Industry at
all stages of commercialization, in some cases through the direct funding of
research and development or product reliability and optimization testing. In
general, with respect to these projects, QuietPower provided engineering
expertise and services, NCT
41
<PAGE>
provided engineering expertise and services and relevant technology rights and
the utilities provided funding and specifications as to utility requirements.
Return on investment for some of the participating utilities for this funding
will include purchase incentives (purchase discounts) and royalties on future
commercialized product sales. The Company believes that participating utilities
have a vested interest in the success of introducing noise reduction products
and may therefore provide the Company with marketing support of these products.
The following table lists utility investments to fund research and
development projects through December 31, 1995. QuietPower initiated these
projects as the first step leading to product commercialization. These projects
provided significant financial resources for product development, provided
utility input for market validation and product definition and laid the
foundation for selling commercial/ industrial products and systems. These
development projects received cumulative funds of approximately $1.37 million.
Subsequent to December 31, 1995, the Company did not engage in any utility
funded development projects in view of its transition in focus to commercial
introduction of product. QuietPower may in the future determine to engage in
additional such projects. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
TABLE 1
UTILITY INVESTMENTS IN QUIETPOWER TECHNOLOGY DEVELOPMENT
<TABLE>
<CAPTION>
UTILITY APPLICATION FUNDING
- ------------------------------------------------- ------------------------------------------------- ------------
<S> <C> <C>
Baltimore Gas & Electric Company Transformer quieting $ 319,000
Baltimore Gas & Electric Company and General
Electric Company Failure diagnostic condition monitoring 184,000
British Columbia Hydro and Power Authority Generator silencers 24,000
British Columbia Hydro and Power Authority Transformer quieting 28,000
Brooklyn Union Gas Company Gas combustion quieting 103,000
Canadian Electrical Association/Asea Brown
Boveri/Manitoba Hydro Transformer quieting 61,000
Commonwealth Edison Transformer quieting 180,000
Jersey Central Power & Light Transformer quieting 156,000
Manitoba Hydro Transformer quieting 161,000
Manitoba Hydro Power plant headsets 120,000
Manitoba Hydro Generator silencers 37,000
------------
TOTAL PROJECTS...................................................................................... $ 1,373,000
------------
------------
</TABLE>
The Baltimore Gas and Electric Company and Manitoba Hydro, together with the
other utilities listed below, were engaged in the development of a prototype
transformer quieting system. QuietPower and NCT were responsible for project
management and engineering. As an inducement to join, most group participants
are to receive a return on funds invested based on a 3% royalty of future
products sold, and 5% purchase discounts, which, when combined, may provide a
return of up to 200% of the amount invested by the utility. Pursuant to an
agreement dated June 13, 1997, Baltimore Gas and Electric Company has converted
its rights to receive royalties and purchase discounts into 80,000 shares of
Common Stock. Results of the Company's and NCT's prototype development projects
indicated that transformer quieting systems produced significant cancellation of
noise. The Company is continuing development efforts, independent of funded
projects, to lower the cost of the system components and installation of its
initial commercial transformer quieting product, the ATQ-100. See "Risk Factors
- -Limited Sales History; Need for Cost Reduction of ATQ-100 and Modification of
Headsets; Substantial
42
<PAGE>
Time Lapse Until Additional Commercial Product Introduction" and "Active Noise
Control Technology and Products--Transformer Noise Quieting."
The following is a summary of the prototype transformer quieting systems
installed by the Company:
TABLE 2
PROTOTYPE TRANSFORMER QUIETING SYSTEMS
<TABLE>
<CAPTION>
FUNDING
UTILITY LOCATION INSTALLED AMOUNTS(1)
- ---------------------------------------------------- ----------------------- ------------------ -------------
<S> <C> <C> <C>
Manitoba Hydro Winnipeg, Manitoba, September 1993 $ 161,000
Canada
Baltimore Gas and Electric Company Annapolis, MD October 1993 163,000
Baltimore Gas and Electric Company Linthicum, MD August 1994 156,000
Jersey Central Power and Light Matawan, NJ October 1994 156,000
Commonwealth Edison Rockford, IL August 1995 180,000
-------------
TOTAL FUNDING.................................................................................... $ 816,000
-------------
-------------
</TABLE>
- ------------------------
(1) Funding amounts provided by utilities are also included in Table 1.
PATENT PROTECTION
The Company's rights to the active noise and vibration control technology
derive from NCT's patent position. According to NCT's Annual Report on Form 10-K
for the year ended December 31, 1996, as of December 31, 1996, NCT held or had
rights to 231 inventions, including 86 United States patents and over 165
corresponding foreign patents and, as of December 31, 1996, NCT had 204 patent
applications pending in the United States and foreign countries. See
"Contractual Agreements with NCT."
With respect to its failure diagnostic and condition monitoring technology,
the Company has filed patent applications in the United States and under the
Patent Cooperation Treaty to which Canada and other countries are signatories.
The failure diagnostic and condition monitoring patents, if issued, are expected
to be owned by QuietPower and licensed to the joint venture between the Company
and Prolec-GE. Such license shall be exclusive, provided that the joint venture
first successfully funds and develops the technology. The Company is currently
preparing a patent application with respect to the active magnetic field
cancellation technology.
There can be no assurance that patents will issue from any of the Company's
patent applications, or that the Company will develop additional products that
are patentable. No assurance can be given as to the range or degree of
protection any patents issued to the Company or licensed from NCT will afford or
that such patents or licenses will provide protection that have commercial
significance or will provide competitive advantages for the Company's products.
With respect to the patents owned by, or licensed to NCT, NCT has indicated to
the Company that it has conducted only limited patent searches and no assurances
can be given by the Company that patents do not exist or will not be issued in
the future that would have an adverse effect on the Company's ability to market
its products or maintain its competitive position with respect to its products.
In the event NCT chooses not to defend its patent rights, substantial resources
may be required to obtain and defend patent and other rights to protect present
and future technology and other property of the Company. See "Risk
Factors--Dependence on Patents; Uncertain Proprietary Protection."
MANUFACTURING
Currently, the Company uses several manufacturing sources for the components
of its ATQ-100 transformer quieting systems. Some of these sources may have
difficulty delivering large quantities in a
43
<PAGE>
timely manner. Therefore, alternative sources may need to be found in the event
sales volume for the transformer quieting systems significantly increases (of
which there can be no assurance). Headsets are currently manufactured by NCT and
the Company purchases them on a distribution basis. See "Contractual Agreements
with NCT." The Company does not currently intend to undertake the manufacture of
any products which may derive from the active noise and vibration control
technology. To the extent that the Company does not utilize joint venture
partners to manufacture proposed products, the Company may be required to enter
into arrangements with third parties to undertake these operations. To the
extent that other parties are manufacturing products for the Company, the
Company will have less control over the quality of products and timeliness of
delivery than if manufactured by the Company. See "Risk Factors-- Dependence on
Joint Venture Partners" and "Risk Factors--No Manufacturing Facilities or
Personnel."
GOVERNMENTAL REGULATION
Potential customers of the Company are governed by regulations specifying
permissible noise limits. The regulations governing permitted noise levels are
customarily instituted on a state, county or local level and therefore vary
significantly across the United States and Canada. In general, these regulations
regulate noise levels regardless of source, and do not specifically address
noise produced by utilities. In addition, each regulation may vary in the method
it uses to record noise level; some statutes will only regulate certain
frequencies; some will regulate the overall noise that can be registered in a
given period of time; some will vary permitted noise levels at different times
of day; and some will vary permitted noise levels depending on the use of
neighboring properties (e.g., schools). The Company does not anticipate that
increased stringency in these local ordinances will impose any additional
hurdles for the Company. Rather, the Company believes that these regulations and
any modifications thereto may provide the Power Industry with further incentives
to consider using QuietPower's quieting products. However, there can be no
assurance that such regulations, if any, will be enforced or that they will not
be eliminated.
COMPETITION
NOISE CONTROL
QuietPower is not aware of any company, other than QuietPower and NCT, that
is now developing and/or commercializing active noise control products for the
Power Industry. Potential and existing competition with respect to these
products and systems comes from companies developing their own active noise
reduction systems (direct competition) and companies that use traditional
passive means, such as barrier walls, for noise quieting (indirect). The Company
believes that it has several advantages over both types of competitors.
QuietPower's technology partner, NCT, has developed a wide range of active noise
reduction technologies with applications in a number of noise problem
environments. The Company believes that the effectiveness of these technologies
will give its products performance, functionality and flexibility advantages
over those of its indirect competitors. Although the Company believes that the
initial sales price of the ATQ-100 transformer quieting system has impeded
acceptance of the product, the Company believes that the recent price reduction
of the system in conjunction with its continuing cost reduction efforts will
accelerate market acceptance. See "Use of Proceeds" and "Management's Discussion
and Analysis of Financial Condition and Results of Operations." The Company
believes that active noise and vibration control technology has several
advantages over indirect competition, most notably in quieting low frequency
tonal noise, which the Company believes cannot be done as effectively with
traditional passive means.
There are a limited number of active noise reduction companies which
currently compete outside of the Power Industry. These companies include
Digisonix, a division of Nelson Industries, Inc., Group Lotus PLC, Toshiba
Corporation and Hitachi, Ltd. The Company knows of four companies that sell
active headset products primarily for the aviation market; Bose Corporation,
David Clark Company Inc., Telex Communications, Inc. and Sennheiser Electronic
Corp. To date these companies have not competed with
44
<PAGE>
the Company in any of its identified markets, with the exception of David Clark
Company Inc., which has been marketing, primarily its passive headsets, to the
railroad industry. Many of these companies, as well as the Company's potential
competitors, could enter the active noise and vibration attenuation field as the
industry develops.
FAILURE DIAGNOSTICS
While there are several companies that offer transformer diagnostic
products, the Company believes that its failure diagnostic and condition
monitoring system has advantages over other systems that detect partial
discharge (a degradation of the transformer's insulation). To the best of the
Company's knowledge, there are no other products that combine a continuously
monitoring, non-invasive (where the transformer does not have to be taken
off-line) means of detecting partial discharge with the ability to locate the
source of the partial discharge.
MAGNETIC FIELD CANCELLATION
The Company is not aware of any commercial products available for the
control of magnetic fields inside a transformer. Typical mitigation procedures
for stray magnetic field losses inside the transformer involve heavy metal
shielding installed by the transformer manufacturer. Although there are a few
magnetic field mitigation products on the market for use in the substation, they
employ passive shielding, or a simple, single channel control loop, and
typically must be implemented by a professional as part of a larger mitigation
procedure to achieve desired reductions. To the Company's knowledge, no one else
has employed the multi-channel, adaptive controller to magnetic field
cancellation in either the transformer or substation.
The Company intends to compete in each of these areas on the basis of its
own inventions and intellectual property and its license to NCT's patented
technology, the expertise of its personnel and their knowledge of and access to
the Power Industry, and its comparatively early entry into the market. Current
and potential competitors in the noise control, failure diagnostics and magnetic
field cancellation areas may have substantially greater management, technical,
financial, marketing and product development resources than the Company.
EMPLOYEES
The Company employs eleven persons on a full-time basis, including three who
are executive officers, four who are engineers, two who are engaged in marketing
and two who are engaged solely in administration. Additionally, two executive
officers perform a variety of technical and marketing oriented functions. The
Company has no collective bargaining agreements and no employee is represented
by a labor union. The Company has never had a work stoppage and considers its
relationship with its employees to be satisfactory.
The Company's success depends to a significant extent upon a number of key
management and technical employees. The loss of services of one or several of
these key employees could have a material adverse effect on the Company. While
the Company has employment agreements with each of its three executive officers,
none of the Company's other technical and managerial employees is bound by an
employment agreement other than with respect to confidentiality and patent
assignment agreements. Management believes that the future success of the
Company will also depend in large part upon the Company's ability to attract and
retain highly-skilled technical, managerial and marketing personnel. The Company
competes for such personnel with other companies, academic institutions,
governmental entities and other organizations, some of which may have
substantially greater capital resources than the Company. There can be no
assurance that management will be successful in attracting and retaining the
personnel it requires to grow and operate profitably. See "Risk
Factors--Dependence on Key Personnel."
45
<PAGE>
FACILITIES
The Company's principal administrative, sales and marketing, product
development and support facilities are currently located in New York, New York,
and comprise approximately 15,000 square feet. The Company occupies these
premises pursuant to a ten-year lease, expiring May 30, 2007. The fixed rental
for this space is approximately $13,125 per month for the first two years and
$13,750 for the remainder of the term, plus operating expenses. In support of
its joint venture with ABB Secheron S.A., the Company is subleasing
approximately 700 square feet for 18 months from Genevest Consulting Group, in
Geneva, Switzerland, for approximately $1,500 per month, plus operating
expenses. See "Joint Venture Agreements--ABB Joint Venture."
LEGAL PROCEEDINGS
There are no pending legal proceedings to which the Company or its
properties is subject.
46
<PAGE>
MANAGEMENT
The following table sets forth the names, ages and positions of the
executive officers and directors of the Company:
<TABLE>
<CAPTION>
NAME AGE POSITION WITH COMPANY
- ------------------------------------ ----------- -------------------------------------------------------------------
<S> <C> <C>
Jonathan M. Charry, Ph.D............ 48 Chairman of the Board, President and Chief Executive Officer
Mark J. Dietrich.................... 38 Vice President--Strategic Marketing
Eric W. Jacobson.................... 42 Vice President, Chief Financial Officer, Secretary and Director
William S. Bernstein, Esq.(1)(2).... 40 Director
S. Carl Horn af Rantzien(1)(2)...... 50 Director
Alfred B. Thacher, Jr.(1)(2)........ 51 Director
</TABLE>
- ------------------------
(1) Member of the Compensation Committee.
(2) Member of the Audit Committee.
JONATHAN M. CHARRY, PH.D. has been Chairman of the Board, President and
Chief Executive Officer of the Company since inception. Since 1985, Dr. Charry
has been President and Chief Executive Officer of Environmental Research
Information, Inc. ("ERI"), an environmental engineering consulting firm which
has been operationally inactive since 1992. ERI specialized in consulting to the
utility industry and in environmental impact assessment and risk analysis for
electric power generation, transmission and distribution systems. From 1979 to
1984, he held appointments as Senior Research Scientist in the Laboratory of
Neuropharmacology and Environmental Toxicology at the New York State Institute
for Basic Research and as Assistant Professor at The Rockefeller University.
From 1977 to 1979, Dr. Charry was a Rockefeller Foundation Fellow in
Environmental Affairs at The Rockefeller University, at which time he was a
principal investigator on research grants and contracts from the National
Institutes of Health and the Electric Power Research Institute. For the past ten
years, he has been actively engaged in evaluating environmental issues for the
energy industry. Dr. Charry is past President and Director of the American
Institute of Medical Climatology, and past Chairman of the Section on Air and
Other Environmental Ion Technology of the American Society of Testing and
Materials. He received a Ph.D. from New York University and an A.B. from Tufts
University.
MARK J. DIETRICH has been the Vice President--Strategic Marketing of the
Company since April 1994. From 1988 to 1994, Mr. Dietrich was Vice President and
National Sales Manager for COS Computer Systems Inc., which specializes in the
leasing and trading of large computer and high-technology equipment. From 1988
to 1990, he was Vice President of Equipment Finance for COS Computer Systems
Inc. Mr. Dietrich graduated from Vanderbilt University School of Engineering,
with a B.E.E. in electrical engineering, mathematics and computer science.
ERIC W. JACOBSON has been Vice President, Chief Financial Officer, Secretary
and a director of the Company since inception. Mr. Jacobson has also been Vice
President and Chief Financial Officer of ERI since 1992. From 1987 to 1989, Mr.
Jacobson was Vice President--Finance and Chief Financial Officer for SmartCard
International, Inc., a publicly traded technology company involved with the
technological and market development of smart card (computer in a card) systems.
Mr. Jacobson is a certified public accountant licensed in New York State. Mr.
Jacobson received his bachelors degree from the University of Montana.
WILLIAM S. BERNSTEIN, ESQ. has been a director of the Company since
incorporation. Mr. Bernstein serves as Co-Chairman of the Board and Co-Chief
Executive Officer of Telesis Medical Management, a New York based physician
management company. Mr. Bernstein is a principal of Sterling Health Capital
Management, a consulting firm that manages project financing for hospitals and
other health care facilities
47
<PAGE>
and a founding partner of Kalkines, Arky, Zall & Bernstein, a New York based law
firm. He has also served as Special Assistant to the Executive Secretary of the
Department of Health Education & Welfare, as law clerk to the Honorable Raymond
J. Pettine, United States District Judge for the District of Rhode Island, and
as health care Counsel to the New York City Council President. Mr. Bernstein
received his Bachelors and Masters degrees from Brown University and received
his law degree from New York University School of Law.
S. CARL HORN AF RANTZIEN has been a director of the Company since December
1996. Since 1996, Mr. Horn has been a principal of Horn Konsult/Eapecs, a
Stockholm based private equity management and consulting syndicate. Since 1984,
Mr. Horn has also been a limited partner of Ventana Growth Funds, a venture
capital company, and the principal of Horn Konsult AB, a Stockholm based
investment banking and fund management company. Mr. Horn received his bachelors
degree from Morby College in Sweden.
ALFRED B. THACHER, JR. has been a director of the Company since December
1996. Since December 1993, Mr. Thacher has been a principal of Thacher Vendig &
Company, Inc., a New York based investment banking and corporate development
firm. Between 1991 and 1993, he was a principal of Mitchell & Associates, a
banking house specializing in mergers and acquisitions and advising work in the
industrial market. From 1987 to 1991, Mr. Thacher was a Managing Director at
Bear Stearns in the corporate finance and mortgage finance departments. Mr.
Thacher received his Bachelors degree from Yale University and his Masters of
Business Administration from the Wharton School.
No family relationship exists between any director or executive officer and
any other director or executive officer.
COMMITTEES OF THE BOARD OF DIRECTORS
The Board of Directors has established a Compensation Committee and an Audit
Committee.
COMPENSATION COMMITTEE. The Compensation Committee has the responsibility
for reviewing the performance of the officers of the Company and recommending to
the Board of Directors of the Company salary and bonus amounts for all officers
of the Company, subject to the terms of existing employment agreements. The
Compensation Committee also has the responsibility for oversight and
administration of the Company's 1993 Stock Option Plan. The Compensation
Committee consists of Messrs. Bernstein, Horn and Thacher.
AUDIT COMMITTEE. The Audit Committee has the responsibility for reviewing
and supervising the financial controls of the Company. The Audit Committee makes
recommendations to the Board of Directors of the Company with respect to the
Company's financial statements and the appointment of independent auditors,
reviews significant audit and accounting policies and practices, meets with the
Company's independent public accountants concerning, among other things, the
scope of audits and reports, and reviews the performance of overall accounting
and financial controls of the Company. The Audit Committee consists of Messrs.
Bernstein, Horn and Thacher.
48
<PAGE>
SUMMARY COMPENSATION TABLE
The following table sets forth information with respect to the compensation
of each of the named executive officers for services provided in all capacities
to the Company in the years ended December 31, 1996, 1995 and 1994. No other
executive officer of the Company received compensation in excess of $100,000
during the year ended December 31, 1996. For the purposes of this table,
warrants are deemed to be equivalent to stock options.
<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
-------------
SECURITIES
ANNUAL COMPENSATION UNDERLYING
---------------------- OPTIONS
NAME AND PRINCIPAL POSITION YEAR SALARY($) BONUS($) (#)
- ------------------------------------------------------------------ --------- ---------- ---------- -------------
<S> <C> <C> <C> <C>
Jonathan M. Charry,............................................... 1996 $ 146,000(1) -- 135,000
Chief Executive Officer and President 1995 $ 145,000(1) -- 100,000
1994 $ 145,000 $ 100,000(2) 10,260
Eric W. Jacobson,................................................. 1996 $ 110,000(1) -- 60,000
Vice President and Chief Financial Officer 1995 $ 90,000 -- 15,000
1994 $ 90,000 -- 5,130
</TABLE>
- ------------------------
(1) Both Dr. Charry and Mr. Jacobson agreed to accept reduced salary payments
for these years.
(2) Granted pursuant to previous employment agreement.
OPTION GRANTS IN 1996
The following table sets forth certain information for each of the named
executive officers with respect to grants of options to purchase Common Stock of
the Company made during the year ended December 31, 1996. For the purposes of
this table, warrants are deemed to be equivalent to stock options.
<TABLE>
<CAPTION>
NO. OF % OF TOTAL
SECURITIES OPTIONS
UNDERLYING GRANTED TO EXERCISE
OPTIONS EMPLOYEES PRICE EXPIRATION
NAME GRANTED(#) IN YEAR ($/SH) DATE
- ------------------------------------------------------------------------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Jonathan M. Charry....................................................... 100,000 33.6% 2.50 4/1/06
35,000 11.7% 2.50 12/2/06
Eric W. Jacobson......................................................... 25,000 8.4% 2.50 4/1/06
35,000 11.7% 2.50 12/2/06
</TABLE>
49
<PAGE>
AGGREGATED OPTION EXERCISES DURING 1996 AND YEAR END OPTION VALUES
The following table sets forth certain information for each of the named
executive officers with respect to the exercise of options to purchase Common
Stock during 1996 and the number and value of securities underlying unexercised
options held by the named executive officers as of December 31, 1996. The
Company does not have any outstanding stock appreciation rights. For the
purposes of this table, warrants are deemed to be equivalent to stock options.
<TABLE>
<CAPTION>
VALUE OF
UNEXERCISED
IN-THE-MONEY
NUMBER OF UNEXERCISED OPTIONS
SHARES VALUE OPTIONS AT YEAR END(#) AT YEAR END($)(1)
ACQUIRED ON REALIZED -------------------------- -----------------
NAME EXERCISE(#) ($) EXERCISABLE UNEXERCISABLE EXERCISABLE
- ------------------------------------------- ----------------- --------------- ----------- ------------- -----------------
<S> <C> <C> <C> <C> <C>
Jonathan M. Charry......................... 0 0 30,130 215,130 0
Eric W. Jacobson........................... 0 0 6,315 73,815 0
<CAPTION>
NAME UNEXERCISABLE
- ------------------------------------------- -------------
<S> <C>
Jonathan M. Charry......................... 167,400
Eric W. Jacobson........................... 74,400
</TABLE>
- ------------------------
(1) Calculated by determining the difference between the estimated fair market
value of the Company's Common Stock as of December 31, 1996 ($3.74 per
share) and the exercise price for the securities underlying the options.
EMPLOYMENT AGREEMENTS
The Company has employment agreements with the named executive officers
shown on the compensation table above. The employment agreement with Dr.
Jonathan M. Charry, the Chairman of the Board, President and Chief Executive
Officer of the Company, is dated as of March 9, 1995, terminates on March 8,
1998 and obligates the Company to pay Dr. Charry a yearly base salary of
$195,000 per year, subject to a yearly increase based on the Consumer Price
Index. Dr. Charry agreed to accept reduced salary payments for 1995 and 1996.
The employment agreement with Mr. Eric W. Jacobson, the Vice President, Chief
Financial Officer and Secretary of the Company is dated as of January 1, 1996,
terminates on December 31, 1998 and obligates the Company to pay Mr. Jacobson a
yearly base salary of $150,000 per year, subject to a yearly increase based on
the Consumer Price Index. Mr. Jacobson agreed to accept reduced salary payments
for 1996. Included in both agreements are i) provisions that the officers are
not to compete with the Company for 12 months after termination of their
respective agreements, ii) confidentiality provisions, and iii) entitlement for
additional increases to base salary, or bonuses, at the discretion of the
Compensation Committee of the Board of Directors.
STOCK OPTION PLAN
The Company's 1993 Stock Option Plan (the "1993 Plan") was adopted to
attract and retain the best available personnel for positions of substantial
responsibility, to provide additional incentive to employees and consultants of
the Company, and to promote the success of the Company's business. Options
granted under the 1993 Plan may be either incentive stock options, as defined in
Section 422A of the Internal Revenue Code of 1986, as amended, or non-qualified
stock options. The Company has reserved 250,000 shares of Common Stock for
issuance under the 1993 Plan. As of December 31, 1996, options to purchase an
aggregate of 239,490 shares were outstanding under the 1993 Plan at a weighted
average exercise price of $4.22, of which options to purchase an aggregate of
110,235 shares were then exercisable at a weighted average exercise price of
$4.07.
The 1993 Plan may be administered by the Board of Directors or a committee
of the Board. The 1993 Plan is currently administered by the Compensation
Committee of the Board. The entity administering the 1993 Plan has the power to
determine the terms of any options granted thereunder, including the exercise
price, the number of shares subject to the option, and the exercisability
thereof. Options granted under the 1993 Plan are generally not transferable, and
each option is exercisable during the lifetime of the optionee only by such
optionee. The exercise price of all incentive stock options granted under the
1993 Plan must
50
<PAGE>
be at least equal to the fair market value of the shares of Common Stock on the
date of grant. With respect to any participant who owns stock possessing more
than 10% of the voting power of all classes of stock of the Company, the
exercise price of any stock option granted must be equal at least 110% of the
fair market value on the grant date and the maximum term of the option must not
exceed five years. The term of all other options under the 1993 Plan may not
exceed ten years. The specific terms of each option grant are approved by the
Board of Directors and are reflected in a written stock option agreement.
401(K) PLAN
The Company has a retirement savings plan for eligible full-time employees
pursuant to Section 401(k) of the Internal Revenue Code of 1986, as amended. At
its discretion, the Company may make contributions up to 15% of plan
participants' compensation. The Company made no contributions to the plan for
the years ended December 31, 1995 and December 31, 1996.
COMPENSATION OF DIRECTORS
The directors of the Company do not receive cash compensation, however, the
1993 Plan allows the Company to grant options to all directors of the Company.
On December 2, 1996, the Compensation Committee granted to each of Alfred B.
Thacher, Jr. and S. Carl Horn af Rantzien, ten year warrants to purchase 10,000
shares of Common Stock at an exercise price of $.10 per share, and to each of
Jonathan M. Charry, Eric W. Jacobson and William S. Bernstein, ten year warrants
to purchase 10,000 shares of Common Stock at an exercise price of $2.50 per
share.
KEY PERSON LIFE INSURANCE
The Company is the sole beneficiary of a $1 million term life insurance
policy covering Dr. Charry.
INDEMNIFICATION OF DIRECTORS
The Company's Certificate of Incorporation: (i) eliminates the liability of
the directors of the Company for monetary damages to the fullest extent
permitted by Delaware law and (ii) authorizes the Company to indemnify its
officers and directors to the fullest extent permitted by Delaware law. The By-
Laws of the Company provide broad indemnification for officers and directors
against expenses (including legal fees and judgments) incurred in connection
with any civil or criminal action which arises from the performance of duties
for the Company. The By-Laws of the Company also provide that the Company will
indemnify such persons to the fullest extent permitted by law. The
indemnification provided by the By-Laws applies to any action taken by the
indemnitee while serving as an officer or director of the Company, any of its
subsidiaries (none presently) or at the Company's request as a director,
officer, employee or agent of any of the above. The By-Laws of the Company do
not provide indemnification for any acts or omissions from which a director may
not be relieved of liability under the Delaware Law.
51
<PAGE>
PRINCIPAL STOCKHOLDERS
The following table sets forth, certain information as of June 30, 1997,
regarding beneficial ownership of the Company's Common Stock by (i) each
stockholder known by the Company to be the beneficial owner of 5% or more of the
outstanding shares of Common Stock; (ii) each director of the Company; (iii)
each person named in the Summary Compensation Table above; and (iv) all of the
Company's current officers and directors as a group. Except as otherwise
indicated, the Company believes that the beneficial owners of the securities
listed below have sole investment and voting power with respect to such
securities, subject to community property laws where applicable.
<TABLE>
<CAPTION>
PERCENTAGE OF CLASS
BENEFICIALLY OWNED
----------------------------------
<S> <C> <C> <C>
NUMBER OF SHARES OF
COMMON STOCK
NAME AND ADDRESS OF BENEFICIALLY
BENEFICIAL HOLDER OWNED(1) BEFORE OFFERING AFTER OFFERING
- ------------------------------------------------------------ -------------------- ----------------- ---------------
Jonathan M. Charry
460 West 34th Street
New York, New York 10001.................................... 305,077(2) 26.1% 9.6%
Eric W. Jacobson
460 West 34th Street
New York, New York 10001.................................... 39,598(3) 3.6% 1.3%
William S. Bernstein
460 West 34th Street
New York, New York 10001.................................... 38,678(4) 3.5% 1.2%
S. Carl Horn af Rantzien
460 West 34th Street
New York, New York 10001.................................... 20,000(5) 1.8% *
Alfred B. Thacher, Jr.
460 West 34th Street
New York, New York 10001.................................... 40,000(6) 3.6% 1.3%
Nordiska Fondkomission
Stureplan 19
Box 7362 S-103
90 Stockholm Sweden......................................... 166,427(7) 14.2% 5.2%
B. Michael Pisani
44 Lake Road
Short Hills, New Jersey 07078............................... 95,000(8) 8.3% 3.0%
DayStar Partners, L.P.
10600 N. DeAnza Boulevard, Suite 215
Cupertino, California 95014................................. 137,500(9) 11.3% 4.3%
QPS Bridge, LLC
1330 Avenue of the Americas 36th floor
New York, New York 10019.................................... 90,000(10) 7.7% 2.8%
Regent Capital Partners, L.P.
505 Park Avenue 17th floor
New York, New York 10022.................................... 120,000(11) 10.0% 3.7%
Baltimore Gas and Electric Company
39 West Lexington Street
Baltimore, Maryland 21203................................... 80,000 7.4% 2.6%
Environmental Research Information, Inc.
460 West 34th Street
New York, New York 10001(12)................................ 168,500 15.5% 5.5%
All officers and directors as a group (6 persons)........... 462,103(13) 36.3% 14.1%
</TABLE>
52
<PAGE>
- ------------------------
* Less than 1%.
(1) A person is deemed to be the beneficial owner of securities that can be
acquired by such person upon the exercise of options or warrants within 60
days. Each beneficial owner's percentage ownership is determined by assuming
that options or warrants exercisable within 60 days that are held by such
person (but not those held by any other person) have been exercised.
(2) Includes 57,695 shares of Common Stock underlying options exercisable within
60 days and 25,000 shares of Common Stock underlying warrants exercisable
within 60 days and 168,500 shares owned of record by Environmental Research,
Inc., of which company Dr. Charry is a 10% stockholder, President and Chief
Executive Officer.
(3) Includes 11,348 shares of Common Stock underlying options exercisable within
60 days and 6,250 shares underlying warrants exercisable within 60 days but
does not include shares owned of record by Environmental Research, Inc. of
which company Mr. Jacobson is a 10% stockholder, Vice President and Chief
Financial Officer. Mr. Jacobson disclaims beneficial ownership of these
shares.
(4) Includes 2,000 shares of Common Stock underlying options exercisable within
60 days and 8,333 shares of Common Stock underlying warrants exercisable
within 60 days.
(5) Includes 20,000 shares of Common Stock underlying warrants exercisable
within 60 days owned by Horn Konsult.
(6) Includes 40,000 shares of Common Stock underlying warrants exercisable
within 60 days owned by Thacher Vendig.
(7) Includes 86,427 shares of Common Stock underlying warrants exercisable
within 60 days.
(8) Includes 55,000 shares of Common Stock underlying warrants exercisable
within 60 days.
(9) Includes 137,500 shares of Common Stock underlying warrants (and warrants
underlying the warrants) exercisable within 60 days.
(10) Includes 90,000 shares of Common Stock underlying warrants exercisable
within 60 days.
(11) Includes 120,000 shares of Common Stock underlying warrants exercisable
within 60 days.
(12) The executive officers of Environmental Research, Inc. are Dr. Charry --
President and Chief Executive Officer and Mr. Jacobson -- Vice President,
Treasurer and Secretary. Dr. Charry and Mr. Jacobson are also executive
officers of the Company. The Board of Directors of Environmental Research,
Inc. consists of Dr. Charry, Mr. Jacobson, Mr. Bernstein, a director of the
Company, and Tor Lingjaerde. See "Management."
(13) Includes 89,793 shares of Common Stock underlying options exercisable
within 60 days and 99,583 shares of Common Stock underlying warrants
exercisable within 60 days and 168,500 shares owned of record by
Environmental Research, Inc., of which company Dr. Charry is President and
Chief Executive Officer.
53
<PAGE>
CERTAIN TRANSACTIONS
William S. Bernstein, a director of the Company, is also a partner of
Kalkines, Arky, Zall & Bernstein, a New York based law firm ("KAZB"). Until May
15, 1997, the Company subleased approximately 3,450 square feet from KAZB as its
principal place of business. During 1995 and 1996, rental charges due to KAZB
were $61,000 and $73,000 respectively. As of December 31, 1996, the Company owed
KAZB $146,000 for past due rental payments and other office services. As of
December 31, 1995, the Company owed KAZB $172,000 for past due rental payments
and other office services. In consideration for allowing the Company to defer
rental payments as well as payments for other office services, on August 1, 1995
the Company granted to KAZB five year warrants to purchase 20,000 shares of
Common Stock at an exercise price of $4.00 per share. In consideration of KAZB
allowing QuietPower to further defer rental payments, on May 10, 1996, the
Company canceled the warrants granted in August 1995 and issued five year
warrants to purchase 25,000 shares at an exercise price of $.01 per share. In an
agreement dated January 2, 1997, the Company satisfied $73,000 of its past due
balance with KAZB for rental payments and other office services by issuing to
the assignee of KAZB's claim against QuietPower, an aggregate 14,692 shares of
Common Stock and warrants to purchase 14,692 shares of Common Stock at $2.50 per
share.
Jonathan M. Charry, Chairman of the Board, President and Chief Executive
Officer of the Company, has personally guaranteed the repayment of certain
amounts invested in the Company totalling $175,000, which were made in
connection with private placements by the Company in 1995 and are currently
payable on demand. These obligations are evidenced by four guaranty agreements,
signed by Dr. Charry as a condition to the investments.
Alfred B. Thacher, a director of the Company, is also a principal in
Thacher, Vendig & Co. ("Thacher Vendig"), a New York based investment banking
and corporate development firm. The Company entered into a letter agreement with
Thacher Vendig dated April 1, 1997, pursuant to which Thacher Vendig shall
receive commissions, based on certain percentages of proceeds obtained by the
Company in connection with certain purchase, financing and venture transactions
(excluding the Offering) for financial and investment banking services. As of
the date hereof, the Company has paid fees to Thacher Vendig totalling $58,000
in 1995, $163,000 in 1996 and $262,500 in 1997, together with warrants to
purchase 60,000 shares of Common Stock at an exercise price of $2.50 per share,
for services including payment of finder's fees with respect to private
placement fund raising activities of the Company totalling $3.9 million,
acquisition searches and targeting (although the Company does not currently have
any understanding with respect to any companies or technologies which it may
wish to acquire), providing valuation analysis of the Company and potential
acquisition targets and evaluation of potential business transactions, such as
strategic alliances for the Company's magnetic field cancellation technology
development.
S. Carl Horn af Rantzien, a director of the Company, is also a principal in
Horn Konsult/Eapecs, a Stockholm based private equity management and consulting
syndicate ("Horn Konsult"). Pursuant to an agreement between Horn Konsult and
Thacher Vendig, Horn Konsult will assist Thacher Vendig in its work for the
Company and share all fees received by Thacher Vendig from the Company. Thacher
Vendig has transferred warrants to purchase 20,000 shares of Common Stock at an
exercise price of $2.50 per share to Horn Konsult.
The Company has received advances totalling $80,000 from Environmental
Research, Inc. (of which the Chief Executive Officer of the Company is Chairman,
President and a 10% stockholder), the holder of 13.5% of the Company's issued
and outstanding shares of Common Stock, which amount is repayable upon
completion of this Offering. See "Use of Proceeds."
In connection with the Offering, the Company's Board of Directors has
adopted a policy whereby any future transactions between the Company and any of
its subsidiaries, affiliates, officers, directors, principal stockholders or any
affiliates of the foregoing will be on terms no less favorable to the Company
than could reasonably be obtained in "arm's length" transactions with
independent third parties, and any such transactions will also be approved by a
majority of the Company's disinterested outside directors.
54
<PAGE>
DESCRIPTION OF SECURITIES
The authorized capital stock of the Company consists of 10,000,000 shares of
Common Stock, par value $.01 per share, and 10,000 shares of Preferred Stock,
par value $.01 per share, issuable in series and with such relative rights and
preferences as may be designated by the Company's Board of Directors.
COMMON STOCK
Each holder of Common Stock is entitled to one vote for each share held on
all matters properly submitted to the stockholders for their vote. Holders of
shares of outstanding Common Stock are entitled to those dividends declared by
the Board of Directors out of legally available funds; and, in the event of
liquidation, dissolution or winding up of the affairs of the Company, holders
are entitled to receive, ratably, the net assets of the Company available to
holders of shares of Common Stock after distribution is made to preferred
stockholders. Holders of shares of outstanding Common Stock have no preemptive,
conversion, or redemptive rights. All of the issued and outstanding shares of
Common Stock are, and all unissued shares when issued pursuant to the exercise
of options or warrants will be, duly authorized, validly issued, fully paid and
nonassessable.
PREFERRED STOCK
Upon the completion of this Offering, the Company shall be authorized to
issue up to 10,000 shares of Preferred Stock, par value $.01 per share, of which
none will then be outstanding. The Board of Directors has the power, without
further action by the stockholders, to divide any and all shares of Preferred
Stock into one or more series and to fix and determine the relative rights and
preferences of the Preferred Stock, such as the designation of series and the
number of shares constituting such series, dividend rights, redemption and
sinking fund provisions, liquidating and dissolution preferences, conversion or
exchange rights and voting rights, if any. Issuances of Preferred Stock by the
Board of Directors may result in such shares having senior dividend and/or
liquidation preferences to the holders of shares of Common Stock and may dilute
the voting rights of such holders.
WARRANTS
As part of the Securities to be sold in this Offering, the Company is
issuing Warrants to purchase 2,000,000 shares of Common Stock. The following is
a brief summary of certain provisions of the Warrants, but such summary does not
purport to be complete and is qualified in all respects by reference to the
actual text of the Warrant Agreement between the Company, the Representative and
Continental Stock Transfer & Trust Company (the "Warrant Agent"). A copy of the
Warrant Agreement has been filed as an exhibit to the Registration Statement of
which this Prospectus is a part. See "Additional Information."
EXERCISE PRICE AND TERMS. Each Warrant entitles the registered holder
thereof to purchase, at any time during the four-year period commencing one year
after the date of this Prospectus, one share of Common Stock at a price of $8.25
per share, subject to adjustment in accordance with the anti-dilution and other
provisions referred to below. The holder of any Warrant may exercise such
Warrant by surrendering the certificate representing the Warrant to the Warrant
Agent, with the subscription form thereon properly completed and executed,
together with payment of the exercise price. Subject to compliance with
applicable state securities laws, the Warrants may be exercised at any time in
whole or in part at the applicable exercise price until expiration of the
Warrants. No fractional shares will be issued upon exercise of the Warrants.
The exercise price of the Warrants bears no relationship to any objective
criteria of value and should in no event be regarded as an indication of any
future market price of the securities offered hereby.
ADJUSTMENTS. The exercise price and the number of shares of Common Stock
purchasable upon the exercise of the Warrants are subject to adjustment upon the
occurrence of certain events, including stock
55
<PAGE>
dividends, stock splits, combinations or reclassifications of the Common Stock,
or sale by the Company of shares of its Common Stock or other securities
convertible into Common Stock at a price below the then-applicable exercise
price of the Warrants. Additionally, an adjustment would be made in the case of
a reclassification or exchange of Common Stock, consolidation or merger of the
Company with or into another corporation or sale of all or substantially all of
the assets of the Company in order to enable Warrant holders to acquire the kind
and number of shares of stock or other securities or property receivable in such
event by a holder of the number of shares of Common Stock that might otherwise
have been purchased upon the exercise of the Warrant.
REDEMPTION PROVISIONS. Commencing January 9, 1999 (18 months after the date
of this Prospectus), with the consent of the Representative, the Warrants are
subject to redemption, in whole but not in part, at $0.05 per Warrant on 30
days' prior written notice to the warrantholders, provided that the average
closing sale price of the Common Stock as reported on the American Stock
Exchange equals or exceeds $24.75 per share (subject to adjustment for stock
dividends, stock splits, combinations or reclassifications of the Common Stock),
for any 20 trading days within a period of 30 consecutive trading days ending on
the fifth trading day prior to the date of the notice of redemption. In the
event the Company exercises the right to redeem the Warrants, such Warrants will
be exercisable until the close of business on the business day immediately
preceding the date for redemption fixed in such notice. If any Warrant called
for redemption is not exercised by such time, it will cease to be exercisable
and the holder will be entitled only to the redemption price.
TRANSFER, EXCHANGE AND EXERCISE. The Warrants are in registered form and
may be presented to the Warrant Agent for transfer, exchange or exercise at any
time on or prior to their expiration date five years from the date of this
Prospectus, at which time the Warrants become wholly void and of no value. If a
market for the Warrants develops, the holder may sell the Warrants instead of
exercising them. There can be no assurance, however, that a market for the
Warrants will develop or continue.
MODIFICATION OF WARRANTS. The Company and the Warrant Agent may make such
modifications to the Warrants as they deem necessary and desirable that do not
adversely affect the interests of the Warrant holders. The Company may, in its
sole discretion, lower the exercise price of the Warrants for a period of not
less than 30 days on not less than 30 days' prior written notice to the Warrant
holders and the Representative. Modification of the number of securities
purchasable upon the exercise of any Warrant, the exercise price and the
expiration date with respect to any Warrant requires the consent of two-thirds
of the Warrant holders. No other modifications may be made to the Warrants
without the consent of two-thirds of the Warrant holders.
The Warrants are not exercisable unless, at the time of the exercise, the
Company has a current prospectus covering the shares of Common Stock issuable
upon exercise of the Warrants, and such shares have been registered, qualified
or deemed to be exempt under the securities laws of the state of residence of
the exercising holder of the Warrants. Although the Company will use its best
efforts to have all of the shares of Common Stock issuable upon exercise of the
Warrants registered or qualified on or before the exercise date and to maintain
a current prospectus relating thereto until the expiration of the Warrants,
there can be no assurance that it will be able to do so.
The Warrants are separately transferable immediately upon issuance. Although
the Securities will not knowingly be sold to purchasers in jurisdictions in
which the Securities are not registered or otherwise qualified for sale,
purchasers might buy Warrants in the after-market in, or may move to,
jurisdictions in which the shares underlying the Warrants are not so registered
or qualified during the period that the Warrants are exercisable. In this event,
the Company would be unable to issue shares to persons desiring to exercise
their Warrants, and holders of Warrants would have no choice but to attempt to
sell the Warrants in a jurisdiction where such sale is permissible or allow them
to expire unexercised.
56
<PAGE>
RIGHTS OF WARRANTHOLDERS. Holders of the Warrants have no voting rights and
are not entitled to dividends. In the event of liquidation, dissolution, or
winding up of the affairs of the Company, holders of the Warrants will not be
entitled to participate in any liquidation distribution.
REGISTRATION RIGHTS
The Company has granted certain piggyback registration rights to BWM
Investments, an affiliate of Breslow & Walker, LLP, counsel to the Company,
relating to shares underlying warrants to purchase 25,000 shares of Common Stock
at an exercise price of $.01 per share, and to Kalkines, Arky, Zall & Bernstein,
of which William Bernstein, a director of the Company, is a partner, relating to
shares underlying warrants to purchase 25,000 shares of Common Stock at an
exercise price of $.01 per share and to Baltimore Gas and Electric Company
relating to 80,000 shares of Common Stock.
The Company has also granted certain demand and piggyback registration
rights to the Selling Stockholders, whose shares of Common Stock are being
registered hereby and shall be sold pursuant to a concurrent offering. See
"Certain Transactions," "Legal Matters," "Shares Eligible for Future Sale," and
"Concurrent Offering."
ANTI-TAKEOVER PROVISIONS
Upon consummation of this Offering, the Company will be subject to the
provisions of Section 203 of the Delaware Law ("Section 203"). Section 203
provides, with certain exceptions, that a Delaware corporation may not engage in
any of a broad range of business combinations with a person or an affiliate, or
associate of such person, who is an "interested stockholder" for a period of
three years from the date that such person became an interested stockholder
unless: (i) the transaction resulting in a person becoming an interested
stockholder, or the business combination, is approved by the Board of Directors
of the corporation before the person becomes an interested stockholder; (ii) the
interested stockholder acquired 85% or more of the outstanding voting stock of
the corporation in the same transaction that makes such person an interested
stockholder (excluding shares owned by persons who are both officers and
directors of the corporation, and shares held by certain employee stock
ownership plans); or (iii) on or after the date the person becomes an interested
stockholder, the business combination is approved by the corporation's board of
directors and by the holders of at least 66 2/3% of the corporation's
outstanding voting stock at an annual or special meeting, excluding shares owned
by the interested stockholder. Under Section 203, an "interested stockholder" is
defined as any person who is: (i) the owner of 15% or more of the outstanding
voting stock of the corporation; or (ii) an affiliate or associate of the
corporation and who was the owner of 15% or more of the outstanding voting stock
of the corporation at any time within the three-year period immediately prior to
the date on which it is sought to be determined whether such person is an
interested stockholder.
A corporation may, at its option, exclude itself from the coverage of
Section 203 by amending its certificate of incorporation or bylaws, by action of
its stockholders, to exempt itself from coverage, provided that such bylaw or
certificate of incorporation amendment shall not become effective until 12
months after the date it is adopted. The Company has not adopted such an
amendment to its Certificate of Incorporation or Bylaws.
TRANSFER AGENT AND REGISTRAR AND WARRANT AGENT
The Transfer Agent and Registrar for the Common Stock and the Warrant Agent
for the Warrants is Continental Stock Transfer & Trust Company, 2 Broadway, New
York, New York 10004.
57
<PAGE>
SHARES ELIGIBLE FOR FUTURE SALE
No prediction can be made as to the effect, if any, that sales of shares of
Common Stock or even the availability of such shares for sale will have on the
market prices prevailing from time to time. The possibility that substantial
amounts of Common Stock may be sold in the public market may adversely affect
prevailing market prices for the Common Stock or the Warrants and could impair
the Company's ability to raise capital through the sale of its equity
securities.
Upon the consummation of this Offering, the Company will have 3,084,013
shares of Common Stock and 2,000,000 Warrants outstanding (assuming no exercise
of warrants or options). All of the 2,000,000 shares of Common Stock and
2,000,000 Warrants being offered hereby will be immediately tradeable without
restriction or further registration under the Securities Act. Subject to certain
contractual restrictions as described below and the continued effectiveness of
the separate registration statement relating to these shares, an additional
507,500 shares of Common Stock issuable upon exercise of the Private Placement
Warrants will be freely tradeable. See "Concurrent Offering." The Selling
Stockholders have agreed not to sell any of such securities for a period of
three months from the date of this Prospectus and not to sell 137,500 of such
securities for a period of nine months from the date of this Prospectus without
the prior written consent of the Representative. The 1,084,013 shares of Common
Stock issued and outstanding prior to this Offering are deemed to be "restricted
securities," as that term is defined under Rule 144 promulgated under the
Securities Act and may be sold without registration pursuant to such rule at
varying times, commencing 90 days from the date hereof. In addition, the Company
currently has outstanding options and warrants (not including the Warrants and
Private Placement Warrants) to purchase an additional 1,651,405 shares of Common
Stock. All of the officers and directors of the Company and all holders of 1% or
more of the issued and outstanding Common Stock and all holders of options,
warrants or other securities convertible, exercisable, or exchangeable for 1% or
more of the issued and outstanding Common Stock (including the shares underlying
the options and warrants for this purpose) (except as described above) have
agreed not to, directly or indirectly, issue, offer, agree or offer to sell,
sell, transfer, assign, encumber, grant an option for the purchase or sale of,
pledge, hypothecate or otherwise dispose of any beneficial interest in such
securities for a period of 13 months following the effective date of the
Registration Statement without the prior written consent of the Company and the
Representative. An appropriate legend shall be marked on the face of the
certificates representing all such securities. The Company has granted certain
piggyback registration rights to BWM Investments, an affiliate of Breslow &
Walker, LLP, counsel to the Company, and Kalkines, Arky, Zall & Bernstein, of
which William Bernstein, a director of the Company, is a partner, in each case
as to 25,000 shares of Common Stock underlying warrants and to Baltimore Gas and
Electric Company as to 80,000 shares of Common Stock. See "Certain Transactions"
and "Legal Matters," "Principal Stockholders," "Description of Securities,"
"Risk Factors--Shares Eligible for Future Sale," and "Underwriting."
In general, under Rule 144 as currently in effect, a person (or persons
whose shares are aggregated) who has beneficially owned restricted shares for at
least one year (including the holding period of any prior owner except an
affiliate) would be entitled to sell within any three-month period a number of
shares that does not exceed the greater of (i) one percent of the number of
shares of Common Stock then outstanding (approximately 30,840 shares immediately
after this Offering), or (ii) the average weekly trading volume of the Common
Stock during the four calendar weeks preceding the filing of a Form 144 with
respect to such sale. Sales under Rule 144 are also subject to certain manner of
sale provisions and notice requirements and to the availability of current
public information about the Company. Under Rule 144(k), a person who is not
deemed to have been an affiliate of the Company at any time during the 90 days
preceding a sale, and who has beneficially owned the shares proposed to be sold
for at least two years (including the holding period of any prior owner except
an affiliate), is entitled to sell such shares without complying with the manner
of sale, public information, volume limitation or notice provisions of Rule 144.
In general, Rule 701 permits resales of shares issued pursuant to certain
compensatory benefit plans and contracts 90 days after the Company becomes
subject to the reporting requirements of the Securities
58
<PAGE>
Exchange Act of 1934, as amended (the "Exchange Act"), in reliance upon Rule
144, but without compliance with certain restrictions including the holding
period requirements contained in Rule 144. Shortly after this Offering, the
Company intends to file a registration statement on Form S-8 under the
Securities Act covering shares of Common Stock reserved for issuance under the
Company's stock plans. Such registration statement will automatically become
effective upon filing. Accordingly, shares registered under such registration
statement will, subject to Rule 144 volume limitations applicable to affiliates,
be available for sale in the open market, unless such shares are subject to
vesting restrictions with the Company or the lock-up agreements described above.
59
<PAGE>
UNDERWRITING
The Underwriters named below (the "Underwriters"), for whom National
Securities Corporation is acting as representative (in such capacity, the
"Representative"), have severally agreed, subject to the terms and conditions of
the Underwriting Agreement (the "Underwriting Agreement") to purchase from the
Company and the Company has agreed to sell to the Underwriters on a firm
commitment basis, the respective number of Shares and Warrants set forth
opposite their names:
<TABLE>
<CAPTION>
NUMBER OF NUMBER OF
UNDERWRITER SHARES WARRANTS
- -------------------------------------------------------------------- ---------- ----------
<S> <C> <C>
National Securities Corporation..................................... 1,100,000 1,100,000
Dirks & Company, Inc................................................ 200,000 200,000
First London Securities Corporation................................. 200,000 200,000
Cohig & Associates, Inc............................................. 100,000 100,000
First Colonial Securities Group, Inc................................ 100,000 100,000
Frederick & Company, Inc............................................ 100,000 100,000
Kashner Davidson Securities Corporation............................. 100,000 100,000
Smith, Moore & Co................................................... 100,000 100,000
---------- ----------
Total......................................................... 2,000,000 2,000,000
---------- ----------
---------- ----------
</TABLE>
The Underwriters are committed to purchase all the Shares of Common Stock
and Warrants offered hereby, if any of such Securities are purchased. The
Underwriting Agreement provides that the obligations of the several Underwriters
are subject to conditions precedent specified therein.
The Company has been advised by the Representative that the Underwriters
propose initially to offer the Securities to the public at the initial public
offering prices set forth on the cover page of this Prospectus and to certain
dealers at such prices less concessions not in excess of $.34 per Share and
$.0045 per Warrant. Such dealers may reallow a concession not in excess of $.15
per Share and $.002 per Warrant to certain other dealers. After the commencement
of the Offering, the public offering prices, concession and reallowance may be
changed by the Representative.
The Representative has informed the Company that it does not expect sales to
discretionary accounts by the Underwriters to exceed five percent (5%) of the
Securities offered hereby.
The Company has agreed to indemnify the Underwriters against certain
liabilities, including liabilities under the Securities Act, or to contribute to
payments that the Underwriters may be required to make. The Company has also
agreed to pay to the Representative a non-accountable expense allowance equal to
3% of the gross proceeds derived from the sale of the Securities underwritten,
of which $50,000 has been paid to date.
The Company has granted to the Underwriters an Over-allotment option,
exercisable during the forty-five (45) day period from the date of this
Prospectus, to purchase up to an additional 300,000 shares of Common Stock
and/or 300,000 Warrants at the initial public offering price per Share and
Warrant, respectively, offered hereby, less underwriting discounts and the
non-accountable expense allowance. Such option may be exercised only for the
purpose of covering over-allotments, if any, incurred in the sale of the
Securities offered hereby. To the extent such option is exercised in whole or in
part, each Underwriter will have a firm commitment, subject to certain
conditions, to purchase the number of the additional Securities proportionate to
its initial commitment.
In connection with this Offering, the Company has agreed to sell to the
Representative, for nominal consideration, warrants to purchase from the Company
up to 200,000 shares of Common Stock and/or 200,000 Warrants (the
"Representative's Warrants"). The Representative's Warrants are initially
exercisable at a price of $12.375 per share of Common Stock and $.165 per
Warrant for a period of four (4) years, commencing at the beginning of the
second year after their issuance and sale and are restricted from sale,
transfer, assignment or hypothecation for a period of twelve (12) months from
the date hereof, except to
60
<PAGE>
officers of the Representative. The Representative's Warrants provide for
adjustment in the number of shares of Common Stock and Warrants issuable upon
the exercise thereof and in the exercise price of the Representative's Warrants
as a result of certain events, including subdivisions and combinations of the
Common Stock. The Warrants underlying the Representative's Warrants are
initially exercisable to purchase one share of Common Stock at $11.55. The
Representative's Warrants grant to the holders thereof certain rights of
registration for the securities issuable upon exercise thereof.
All officers and directors of the Company and all holders of 1% or more of
the issued and outstanding Common Stock and all holders of options, warrants or
other securities convertible, exercisable or exchangeable for 1% or more of the
issued and outstanding Common Stock (including the shares underlying the options
and warrants for this purpose) have agreed not to, directly or indirectly,
issue, offer, agree or offer to sell, sell, transfer, assign, encumber, grant an
option for the purchase or sale of, pledge, hypothecate or otherwise dispose of
any beneficial interest in such securities for a period of thirteen (13) months
following the effective date of the Registration Statement without the prior
written consent of the Company and the Representative. An appropriate legend
shall be marked on the face of certificates representing all such securities.
The Company has agreed not to, without the prior written consent of the
Representative, issue, sell, agree or offer to sell, grant an option for the
purchase or sale of, or otherwise transfer or dispose of any of its securities
for a period of thirteen (13) months following the effective date of the
Registration Statement, except in connection with the exercise of the
Underwriters' Over-allotment Option, the issuance of shares of Common Stock upon
the exercise of currently outstanding options and warrants and up to 250,000
shares of Common Stock issuable upon exercise of options granted under a stock
option plan approved by a majority of the stockholders of the Company.
The Company has agreed that, for a period of five (5) years from the
effective date of the Registration Statement, the Representative may designate
for election one person to the Company's Board of Directors. In the event the
Representative elects not to exercise the right, then it may designate one
person to attend all the Company's Board of Directors meetings as an observer.
Such person shall be entitled to attend all meetings and to receive all notices
of meetings of the Company's Board of Directors and all other correspondence and
communications sent by the Company to members of its Board of Directors. The
Company has agreed to reimburse designees of the Representative for their
out-of-pocket expenses incurred in connection with their attendance of meetings
of the Company's Board of Directors.
Prior to this Offering, there has been no public market for the Common Stock
or the Warrants. Consequently, the initial public offering prices of the
Securities have been determined by negotiation between the Company and the
Representative and do not necessarily bear any relationship to the Company's
asset value, net worth or other established criteria of value.
Upon the exercise of any Warrants more than one year after the date of this
Prospectus, which exercise was solicited by the Representative, and to the
extent not inconsistent with the guidelines of the National Association of
Securities Dealers, Inc. and the Rules and Regulations of the Commission, the
Company has agreed to pay the Representative a commission of five percent (5%)
of the aggregate exercise price of such Warrants in connection with bona fide
services provided by the Representative relating to any warrant solicitation
undertaken by the Representative. However, no compensation will be paid to the
Representative in connection with the exercise of the Warrants if (a) the market
price of the Common Stock is lower than the exercise price, (b) the Warrants
were held in a discretionary account, or (c) the Warrants are exercised in an
unsolicited transaction where the holder of the Warrants has not stated in
writing that the transaction was solicited and has not designated in writing the
Representative as soliciting agent. Unless granted an exemption by the
Commission from its Rule 101 under the Securities Act, the Representative and
any soliciting broker-dealers will be prohibited from engaging in any market-
making activities or solicited brokerage activities with regard to the Company's
securities for the periods prescribed by Rule 101 prior to any solicitation of
the exercise of the Warrants until the later of the termination of such
solicitation activity or the termination (by waiver or otherwise) of any right
the
61
<PAGE>
Representative or any soliciting broker-dealers may have to receive a fee for
the exercise of the Warrants following such solicitation. As a result, the
Representative and any soliciting broker-dealers may be unable to continue to
provide a market for the Common Stock or Warrants during certain periods while
the Warrants are exercisable. If the Representative has engaged in any of the
activities prohibited by Rule 101 during the periods described above, the
Representative undertakes to waive unconditionally its rights to receive a
commission on the exercise of such Warrants.
In connection with this Offering, certain Underwriters and selling group
members and their respective affiliates may engage in transactions that
stabilize, maintain or otherwise affect the market price of the Securities. Such
transactions may include stabilization transactions effected in accordance with
Rule 104 of Regulation M, pursuant to which such persons may bid for or purchase
Common Stock or Warrants for the purpose of stabilizing their respective market
prices. The Underwriters also may create a short position for the account of the
Underwriters by selling more Securities in connection with the Offering than
they are committed to purchase from the Company, and in such case may purchase
Securities in the open market following completion of the Offering to cover all
or a portion of such short position. The Underwriters may also cover all or a
portion of such short position by exercising the Underwriters' Over-allotment
Option referred to above. In addition, the Representative, on behalf of the
Underwriters, may impose "penalty bids" under contractual arrangements with the
Underwriters whereby it may reclaim from an Underwriter (or dealer participating
in the Offering) for the account of other Underwriters, the selling concession
with respect to Securities that are distributed in the Offering but subsequently
purchased for the account of the Underwriters in the open market. Any of the
transactions described in this paragraph may result in the maintenance of the
price of the Securities at a level above that which might otherwise prevail in
the open market. None of the transactions described in this paragraph is
required, and, if they are undertaken, they may be discontinued at any time.
The foregoing is a summary of the principal terms of the agreements
described above and does not purport to be complete. Reference is made to a copy
of each such agreement which are filed as exhibits to the Registration
Statement. See "Additional Information."
LEGAL MATTERS
The validity of the securities offered hereby will be passed upon for the
Company by Breslow & Walker, LLP, New York, New York. BWM Investments, an
affiliate of Breslow & Walker, LLP, is the owner of warrants to purchase 25,000
shares of Common Stock at an exercise price of $.01 per share. Orrick,
Herrington & Sutcliffe LLP, New York, New York, has acted as counsel to the
underwriters in connection with this Offering.
EXPERTS
The balance sheet as at December 31, 1996 and the statements of operations,
capital deficiency and cash flows for the years ended December 31, 1995 and 1996
of QuietPower Systems, Inc., appearing in this Prospectus and Registration
Statement have been audited by Richard A. Eisner & Company, LLP, independent
auditors, as set forth in their report thereon appearing elsewhere herein, and
are included in reliance upon such report given upon the authority of such firm
as experts in accounting and auditing.
ADDITIONAL INFORMATION
The Company has filed with the Commission, 450 Fifth Street, N.W.,
Washington, D.C., a Registration Statement on Form SB-2 under the Securities Act
of 1933, as amended, for the registration of Securities offered hereby. This
Prospectus, which is part of the Registration Statement, does not contain all of
the information contained in the Registration Statement. For further information
with respect to the Company and the Securities offered hereby, reference is made
to the Registration Statement, including exhibits thereto, which may be
inspected, without charge, at the office of the Securities and Exchange
Commission, or copies of which may be obtained from the Commission in
Washington, D.C., upon payment of the requisite fees, or from the Commission's
Website at http://www.sec.gov. Statements contained in this Prospectus as to the
intent of any contract or other document referred to are not necessarily
complete, and in each instance reference is made to the copy of such contract or
other document filed as an exhibit to the Registration Statement, each such
statement being qualified in all respects by such reference.
62
<PAGE>
QUIETPOWER SYSTEMS, INC.
-I N D E X -
<TABLE>
<CAPTION>
PAGE
NUMBER
-------------
<S> <C>
REPORT OF INDEPENDENT AUDITORS......................................................................... F-2
BALANCE SHEETS AS AT DECEMBER 31, 1996 AND MARCH 31, 1997 (UNAUDITED).................................. F-3
STATEMENTS OF OPERATIONS FOR EACH OF THE YEARS IN THE TWO-YEAR PERIOD ENDED DECEMBER 31, 1996 AND FOR
THE THREE MONTH PERIODS ENDED MARCH 31, 1996 AND MARCH 31, 1997 (UNAUDITED).......................... F-4
STATEMENTS OF CHANGES IN CAPITAL DEFICIENCY FOR EACH OF THE YEARS IN THE TWO-YEAR PERIOD ENDED DECEMBER
31, 1996 AND FOR THE THREE MONTH PERIOD ENDED MARCH 31, 1997 (UNAUDITED)............................. F-5
STATEMENTS OF CASH FLOWS FOR EACH OF THE YEARS IN THE TWO-YEAR PERIOD ENDED DECEMBER 31, 1996 AND FOR
THE THREE MONTH PERIODS ENDED MARCH 31, 1996 AND MARCH 31, 1997 (UNAUDITED).......................... F-6
NOTES TO FINANCIAL STATEMENTS.......................................................................... F-7
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT AUDITORS
Board of Directors and Stockholders of
QuietPower Systems, Inc.
We have audited the accompanying balance sheet of QuietPower Systems, Inc.
as at December 31, 1996 and the related statements of operations, changes in
capital deficiency and cash flows for the years ended December 31, 1995 and
December 31, 1996. 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 enumerated above present fairly, in
all material respects, the financial position of QuietPower Systems, Inc. as at
December 31, 1996 and the results of its operations and its cash flows for the
years ended December 31, 1995 and December 31, 1996 in conformity with generally
accepted accounting principles.
Richard A. Eisner & Company, LLP
New York, New York
April 29, 1997
F-2
<PAGE>
QUIETPOWER SYSTEMS, INC.
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
1996
------------- MARCH 31,
1997
-------------
(UNAUDITED)
<S> <C> <C>
ASSETS
Current assets:
Cash................................................................................ $ 6,000 $ 6,000
Accounts receivable (including unbilled of $49,000 and $46,000)..................... 81,000 99,000
Other current assets................................................................ 8,000 6,000
------------- -------------
Total current assets.......................................................... 95,000 111,000
Equipment, net...................................................................... 40,000 41,000
Technology rights, less accumulated amortization of $172,000 and $187,000........... 328,000 313,000
Deferred registration costs......................................................... 150,000
Deferred financing costs less accumulated amortization of $4,000.................... 30,000
------------- -------------
TOTAL......................................................................... $ 463,000 $ 645,000
------------- -------------
------------- -------------
LIABILITIES AND CAPITAL DEFICIENCY
Current liabilities:
Due to bank......................................................................... $ 13,000 $ 25,000
Accounts payable and accrued expenses............................................... 359,000 752,000
Due to Noise Cancellation Technologies, Inc., including technology rights of
$100,000 and $75,000.............................................................. 312,000 487,000
Advances from stockholder........................................................... 80,000
Notes payable....................................................................... 65,000 683,000
------------- -------------
Total current liabilities..................................................... 749,000 2,027,000
Advances from stockholder........................................................... 75,000
Due to Noise Cancellation Technologies, Inc., less current portion.................. 200,000
Notes payable, less current portion................................................. 446,000 200,000
Other liabilities................................................................... 73,000
------------- -------------
Total liabilities............................................................. 1,543,000 2,227,000
------------- -------------
Commitments and other matters (Notes D and J)
Capital deficiency:
Preferred stock--$.01 par value, 10,000 shares authorized; 1,325 shares of Series A
convertible preferred stock issued and outstanding (liquidation value
$1,325,000)....................................................................... 1,059,000 1,059,000
Common stock--$.01 par value, 10,000,000 shares authorized; 684,855 and 699,547
shares issued and outstanding at December 31, 1996 and March 31, 1997............. 7,000 7,000
Additional paid-in capital.......................................................... 3,074,000 3,169,000
Unearned portion of compensatory stock options and warrants......................... (303,000) (276,000)
Accumulated (deficit)............................................................... (4,917,000) (5,541,000)
------------- -------------
Total capital deficiency...................................................... (1,080,000) (1,582,000)
------------- -------------
TOTAL......................................................................... $ 463,000 $ 645,000
------------- -------------
------------- -------------
</TABLE>
The accompanying notes to financial statements are an integral part hereof.
F-3
<PAGE>
QUIETPOWER SYSTEMS, INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED THREE MONTHS ENDED
DECEMBER 31, MARCH 31,
--------------------------- ----------------------------
<S> <C> <C> <C> <C>
1995 1996 1996 1997
------------ ------------- ------------- -------------
<CAPTION>
(UNAUDITED)
<S> <C> <C> <C> <C>
Revenues:
Product sales........................................ $ 35,000 $ 216,000 $ 80,000 $ 51,000
Development funding.................................. 315,000
------------ ------------- ------------- -------------
Total revenues................................... 350,000 216,000 80,000 51,000
------------ ------------- ------------- -------------
Costs and expenses:
Cost of sales........................................ 29,000 260,000 66,000 76,000
Development costs.................................... 335,000 187,000 30,000 92,000
Selling, general and administrative.................. 843,000 1,714,000 276,000 418,000
------------ ------------- ------------- -------------
1,207,000 2,161,000 372,000 586,000
------------ ------------- ------------- -------------
Interest expense....................................... 17,000 333,000 35,000 89,000
------------ ------------- ------------- -------------
NET (LOSS)............................................. (874,000) (2,278,000) (327,000) (624,000)
Dividend on preferred stock............................ (238,000)
------------ ------------- ------------- -------------
Net (loss) after preferred dividend.................... $ (874,000) $ (2,516,000) $ (327,000) $ (624,000)
------------ ------------- ------------- -------------
------------ ------------- ------------- -------------
Net (loss) per common share............................ $ (0.62) $ (1.53) $ (0.23) $ (0.39)
------------ ------------- ------------- -------------
------------ ------------- ------------- -------------
Weighted average number of shares outstanding.......... 1,402,625 1,484,055 1,431,226 1,590,997
------------ ------------- ------------- -------------
------------ ------------- ------------- -------------
</TABLE>
The accompanying notes to financial statements are an integral part hereof.
F-4
<PAGE>
QUIETPOWER SYSTEMS, INC.
STATEMENTS OF CHANGES IN CAPITAL DEFICIENCY
<TABLE>
<CAPTION>
SERIES A UNEARNED
CONVERTIBLE PORTION OF
PREFERRED COMMON STOCK ADDITIONAL COMPENSATORY
STOCK ---------------------- PAID-IN STOCK OPTIONS ACCUMULATED
AMOUNT SHARES AMOUNT CAPITAL AND WARRANTS (DEFICIT) TOTAL
----------- --------- ----------- ----------- ------------- ------------ ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance--December 31, 1994............ 641,399 $ 6,000 $1,326,000 $(1,527,000) $ (195,000)
Stock issued in connection with
private placements.................. 33,456 1,000 174,000 175,000
Fair value of warrants issued with
debt................................ 16,000 16,000
Fair value of stock option issued to
consultant.......................... 2,000 2,000
Warrants issued in consideration of
forbearance of demand payment....... 39,000 39,000
Net (loss) for the year ended December
31, 1995............................ (874,000) (874,000)
--------- ----------- ----------- ------------ ----------
Balance--December 31, 1995............ 674,855 7,000 1,557,000 (2,401,000) (837,000)
Stock issued in connection with
private placement................... 10,000 68,000 68,000
Stock issued in connection with
private placement of Series A
preferred stock, net of expenses of
$266,000............................ $1,059,000 1,059,000
Fair value of warrants issued with
debt................................ 493,000 493,000
Fair value of stock options and
warrants issued to consultants...... 209,000 209,000
Warrants issued in consideration of
forbearance of demand payment....... 169,000 169,000
Compensatory stock options and
warrants issued..................... 340,000 $(303,000) 37,000
Fair value of warrants issued as
preferred dividend.................. 238,000 (238,000) 0
Net (loss) for the year ended December
31, 1996............................ (2,278,000) (2,278,000)
----------- --------- ----------- ----------- ------------- ------------ ----------
BALANCE--DECEMBER 31, 1996............ 1,059,000 684,855 7,000 3,074,000 (303,000) (4,917,000) (1,080,000)
Stock issued with warrants for
occupancy costs..................... 14,692 73,000 73,000
Compensation attributable to stock
options and warrants................ 27,000 27,000
Fair value of warrants issued with
debt................................ 22,000 22,000
Net (loss) for the three-month period
ended March 31, 1997................ (624,000) (624,000)
----------- --------- ----------- ----------- ------------- ------------ ----------
BALANCE--MARCH 31, 1997 (Unaudited)... $1,059,000 699,547 $ 7,000 $3,169,000 $(276,000) $(5,541,000) $(1,582,000)
----------- --------- ----------- ----------- ------------- ------------ ----------
----------- --------- ----------- ----------- ------------- ------------ ----------
</TABLE>
The accompanying notes to financial statements are an integral part hereof.
F-5
<PAGE>
QUIETPOWER SYSTEMS, INC.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED THREE MONTHS ENDED
DECEMBER 31, MARCH 31,
-------------------------- ------------------------
<S> <C> <C> <C> <C>
1995 1996 1996 1997
----------- ------------- ----------- -----------
<CAPTION>
(UNAUDITED)
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net (loss)..................................................... $ (874,000) $ (2,278,000) $ (327,000) $ (624,000)
Adjustments to reconcile net (loss)
to net cash (used in) operating activities:
Depreciation and amortization................................ 77,000 78,000 18,000 25,000
Stock options and warrants issued:
Employee and director compensation......................... 37,000 5,000 27,000
Interest................................................... 16,000 269,000 32,000 59,000
Consulting................................................. 2,000 209,000 7,000
Forbearance of demand payment.............................. 39,000 169,000
Changes in operating assets and
liabilities:
(Increase) decrease in accounts receivable................. 152,000 (71,000) (32,000) (18,000)
(Increase) decrease in other current assets................ (8,000) (10,000) 2,000
Increase in accounts payable and accrued expenses.......... 202,000 93,000 268,000
Increase (decrease) in due to
Noise Cancellation Technologies, Inc..................... 1,000 (9,000)
----------- ------------- ----------- -----------
Net cash (used in) operating activities.................. (385,000) (1,604,000) (214,000) (261,000)
----------- ------------- ----------- -----------
Cash flows from investing activities:
Purchase of equipment.......................................... (7,000) (40,000) (6,000) (7,000)
Payment for technology rights.................................. (150,000) (25,000)
----------- ------------- ----------- -----------
Net cash (used in) investing activities.................. (7,000) (190,000) (6,000) (32,000)
----------- ------------- ----------- -----------
Cash flows from financing activities:
Net proceeds from sale of common stock......................... 175,000 68,000 68,000
Advance from bank.............................................. 13,000 12,000 12,000
Net proceeds from sale of Series A preferred stock............. 1,059,000
Proceeds from notes payable, net of expenses................... 93,000 855,000 120,000 301,000
Repayment of notes payable..................................... (213,000)
Net advances from (payments to) stockholder.................... 22,000 (2,000) 5,000
Deferred registration costs.................................... (25,000)
----------- ------------- ----------- -----------
Net cash provided by financing activities................ 290,000 1,780,000 200,000 293,000
----------- ------------- ----------- -----------
NET (DECREASE) IN CASH AND CASH EQUIVALENTS...................... (102,000) (14,000) (20,000) 0
Cash--beginning of year.......................................... 122,000 20,000 20,000 6,000
----------- ------------- ----------- -----------
CASH--END OF YEAR................................................ $ 20,000 $ 6,000 $ 0 $ 6,000
----------- ------------- ----------- -----------
----------- ------------- ----------- -----------
Supplemental disclosures of cash flow information:
Cash paid during the year for interest....................... $ 11,000
Noncash financing activities:
Registration costs incurred included in accounts payable
and accrued expenses at March 31, 1997................... $ 125,000
</TABLE>
The accompanying notes to financial statements are an integral part hereof.
F-6
<PAGE>
QUIETPOWER SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
(UNAUDITED WITH RESPECT TO MARCH 31, 1997 AND THE
THREE MONTHS ENDED MARCH 31, 1996 AND MARCH 31, 1997)
(NOTE A)--THE COMPANY:
QuietPower Systems, Inc. (the "Company") was incorporated on May 4, 1992.
The Company (formerly "Active Acoustical Solutions, Inc.") is engaged in the
development, commercialization and marketing of products using two basic
technologies: active noise and vibration control, which is used for transformers
and communication headsets; and failure diagnostic and condition monitoring,
which is used for substation equipment. For active noise and vibration control
the Company is dependent on the proprietary technology which Noise Cancellation
Technologies, Inc. ("NCT") holds or has rights to (see Note C).
The Company has incurred substantial losses since inception and at December
31, 1996 had a working capital deficiency and capital deficiency of $654,000 and
$1,080,000, respectively. These losses have been funded primarily from the net
proceeds of debt and equity securities and from project funding provided by gas
and electric utility companies. The Company has not yet generated any
significant revenues from sales of its products. The Company obtained additional
financing during February, March and April 1997 (see Note L) and is seeking
additional financing through a proposed initial public offering of common stock
and warrants (see Note H[4]). However, there is no assurance when or if such
funding can be obtained or whether it will be sufficient to fund operations.
(NOTE B)--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
[1] USE OF ESTIMATES:
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
[2] EQUIPMENT:
Equipment is stated at cost. Depreciation is provided using the
straight-line method over the estimated useful lives of the assets which range
from three to five years.
[3] FAIR VALUE OF FINANCIAL INSTRUMENTS:
The carrying value of cash, accounts receivable, accounts payable and notes
payable approximates their fair value.
[4] TECHNOLOGY RIGHTS:
Manufacturing, marketing and distribution rights acquired from NCT (see Note
C) are stated at cost and are being amortized on the straight-line basis over 7
years. The Company evaluates the appropriateness of the amortization period and
related carrying amount using several factors, including the estimated future
undiscounted cash flows from revenues resulting from these rights.
[5] REVENUE RECOGNITION:
Revenue from development contracts and transformer quieting system sales are
recognized as costs are incurred and services are performed under the percentage
of completion method. Under the percentage of completion method, revenues and
gross profit are recognized as work is performed based on the
F-7
<PAGE>
QUIETPOWER SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO MARCH 31, 1997 AND THE
THREE MONTHS ENDED MARCH 31, 1996 AND MARCH 31, 1997)
(NOTE B)--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
[5] REVENUE RECOGNITION: (CONTINUED)
relationship between actual costs incurred and total estimated costs to
complete. Estimated losses are recorded when identified.
Revenue from sales of communication headsets are recognized upon shipment.
[6] NET LOSS PER COMMON SHARE:
Net loss per common share is based on the weighted average number of common
shares outstanding during the period. In accordance with Staff Accounting
Bulletin No. 83, common and convertible preferred stock issued and options and
warrants granted during the twelve-month period prior to filing of the proposed
initial public offering ("IPO") have been included in the calculation of common
and common equivalent shares outstanding as if they were outstanding for all
periods presented using the treasury stock method and an assumed public offering
price of $8.50 per share.
[7] STOCK-BASED COMPENSATION:
During 1996 the Company adopted Statement of Financial Accounting Standards
Board No. 123, "Accounting for Stock-Based Compensation" ("SFAS No. 123"). The
provisions of SFAS No. 123 allow companies to either expense the estimated fair
value of stock options or other awards granted to employees or to continue to
follow the intrinsic value method set forth in APB Opinion 25, "Accounting for
Stock Issued to Employees" ("APB 25") but disclose the pro forma effects on net
income (loss) had the fair value of the options been expensed. The Company has
elected to apply APB 25 in accounting for stock options and warrants (see Note
H). Accordingly, the Company accounts for the difference between the exercise
price of compensatory stock options and warrants and the fair value of the stock
as "Unearned compensatory stock options and warrants," which the Company charges
to operations over the vesting period.
[8] INTERIM FINANCIAL INFORMATION:
The accompanying financial statements as at March 31, 1997 and for the three
months ended March 31, 1996 and March 31, 1997 are unaudited but, in the opinion
of management of the Company, reflect all adjustments (consisting only of normal
and recurring adjustments) necessary for a fair presentation. The results of
operations for the three-month period are not necessarily indicative of the
results that may be expected for the full year ending December 31, 1997.
(NOTE C)--LICENSED TECHNOLOGY RIGHTS:
The Company entered into a master agreement (the "NCT Agreement") in March
1995, which was amended in April 1995 and May 1996, with NCT which superseded
previous agreements entered into in 1993 (the "1993 Agreements"). Under the NCT
Agreement, the Company was granted an exclusive and worldwide license, under
patents and patent applications owned or controlled by NCT, to manufacture,
market, sell and distribute transformer quieting products and gas turbine
quieting products and all future products funded by the Company related to the
electric power generation, transmission, distribution and supply industries. The
NCT Agreement provides that after the Company recoups 150% of its development
costs from pre-tax profit, it shall pay a royalty of 9% on the first $6,000,000
in sales of noise reduction systems and 6% of sales thereafter. For these rights
the Company agreed to pay a license fee to NCT of $750,000, $250,000 of which
the Company paid to NCT in June of 1994 pursuant to the 1993 Agreements, and the
balance payable in equal monthly installments. In April 1995 the Company also
returned a warrant to purchase 750,000 shares of NCT's common stock granted
pursuant to the 1993 Agreements and the $500,000 balance due NCT for the
technology rights was reduced to $250,000 to be paid in 30 monthly
F-8
<PAGE>
QUIETPOWER SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO MARCH 31, 1997 AND THE
THREE MONTHS ENDED MARCH 31, 1996 AND MARCH 31, 1997)
(NOTE C)--LICENSED TECHNOLOGY RIGHTS: (CONTINUED)
installments of $8,333. Accordingly, the Company recorded technology rights of
$250,000 in 1995 which is being amortized over seven years. Amortization for the
years ended December 31, 1995 and December 31, 1996 was $68,000 and $63,000,
respectively and $16,000 for each of the three months ended March 31, 1996 and
March 31, 1997. At December 31, 1996 and March 31, 1997 the balance due for
technology rights was $100,000 and $75,000, respectively, payable in monthly
installments of $8,333.
In addition, in October 1994, the Company entered into a distributor
agreement with NCT relating to industrial communication headsets. The agreement
provides that the Company shall have nonexclusive distribution rights.
In April 1997 the Company amended the NCT Agreement whereby the Company
agreed to pay $336,000 relating to past engineering services for active quieting
system development and for headset purchases (and unrelated to the $750,000
license fee). In accordance with the amended NCT Agreement, the Company paid
$136,000 to NCT in April 1997 and is required to pay $200,000 upon the earlier
of (a) the closing date of the contemplated IPO, or (b) January 1, 1998. The
amended agreement also requires the Company to repay the $200,000 due to NCT by
applying towards repayment, 15% of all funds received after April 21, 1997 from
all financing activities other than the proposed IPO. The agreement also
requires that the Company pay NCT interest at 10% per annum on the balance
outstanding after July 1, 1997. As a result of this amendment the Company
classified $200,000 as a noncurrent liability due to NCT at December 31, 1996.
(NOTE D)--JOINT VENTURE AGREEMENTS:
On November 13, 1996 the Company entered into a five year joint venture (the
"GE JV Agreement") with Prolec-GE, S. de R.L. de C.V. ("Prolec-GE"), a joint
venture between General Electric Company and Prolec S.A. de C.V., to develop,
market and sell failure diagnostic and condition monitoring systems. The GE JV
Agreement provides for sole ownership of all of the acoustically-based failure
diagnostic and condition monitoring technology by the Company. Earnings and
losses from the joint venture will be shared equally and each party is
obligated, upon approval of each new project by the parties, to contribute such
personnel and resources as shall have been approved in connection with such
project.
On June 15, 1996 the Company entered into a five year joint venture (the
"ABB JV Agreement") with ABB Secheron SA, an indirect wholly owned subsidiary of
ABB Asea Brown Boveri Limited ("ABB"), to further develop, market and sell
active noise and vibration control systems for transformers for the European
market. The ABB JV Agreement provides for the sole ownership of the active noise
and vibration control technology by the Company. Earnings and losses from the
joint venture will be shared equally and each party is obligated, upon approval
by the parties of a product improvement program, to contribute such personnel
and resources to a project as shall have been approved in connection with such
project.
The joint venture agreements do not specify dollar amounts to be funded and
as of December 31, 1996 the Company has not been requested to provide funds for
either joint venture. Services charged to or incurred by the joint ventures were
not material. During the three months ended March 31, 1997 the Company incurred
costs of $8,000 and $63,000 relating to the GE JV Agreement and the ABB JV
Agreement, respectively.
F-9
<PAGE>
QUIETPOWER SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO MARCH 31, 1997 AND THE
THREE MONTHS ENDED MARCH 31, 1996 AND MARCH 31, 1997)
(NOTE E)--EQUIPMENT:
Equipment consists of the following:
<TABLE>
<CAPTION>
DECEMBER
31, MARCH 31,
1996 1997
----------- -----------
Furniture and fixtures................................ $ 2,000 $ 4,000
<S> <C> <C>
Computers............................................. 44,000 49,000
Field equipment....................................... 23,000 23,000
----------- -----------
Total............................................. 69,000 76,000
Less accumulated depreciation......................... 29,000 35,000
----------- -----------
Net............................................... $ 40,000 $ 41,000
----------- -----------
----------- -----------
</TABLE>
(NOTE F)--ACCOUNTS PAYABLE AND ACCRUED EXPENSES:
Accounts payable and accrued expenses consists of the following:
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1996 1997
------------ ----------
<S> <C> <C>
Professional fees.................................................. $ 107,000 $ 165,000
Occupancy costs (Note K)........................................... 73,000 95,000
Interest........................................................... 54,000 84,000
Payroll related costs.............................................. 105,000
Registration costs................................................. 125,000
Others............................................................. 125,000 178,000
------------ ----------
$ 359,000 $ 752,000
------------ ----------
------------ ----------
</TABLE>
F-10
<PAGE>
QUIETPOWER SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO MARCH 31, 1997 AND THE
THREE MONTHS ENDED MARCH 31, 1996 AND MARCH 31, 1997)
(NOTE G)--NOTES PAYABLE:
Notes payable consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1996 1997
------------ ----------
<S> <C> <C>
Note bearing interest at 6% per annum, convertible into 6,250 shares of common stock,
guaranteed by the president of the Company, and due on demand (1).................... $ 25,000 $ 25,000
Notes bearing interest at 12% per annum, convertible into 28,382 shares of common stock
and due on demand (1)................................................................ 175,000 175,000
Notes bearing interest at 12% per annum through November 1996 and 15% thereafter, due
in four quarterly installments of $133,750 beginning February 1997 (face value
$535,000, effective interest rate, giving effect to the value of warrants issued
therewith, ranging from 194% to 246%), and collateralized by all of the assets of the
Company. The loan agreement, among other matters, requires that certain officers and
significant stockholders of the Company grant proxies for their shares of the Company
in the event of default with respect to any payments (2)............................. 311,000 367,000
Notes issued in February and March 1997, bearing interest at 10% per annum (face values
of $335,000, effective interest rate, giving effect to the value of the warrants
issued therewith, 16.9%) , convertible (after an IPO) into common stock at the IPO
price, due and payable together with accrued but unpaid interest at the option of the
holder, on the earliest of the closing of an initial public offering of the Company's
common stock, but no later than one year after the date the notes were issued (3).... 316,000
------------ ----------
511,000 883,000
Less current maturities................................................................ 65,000 683,000
------------ ----------
$ 446,000 $ 200,000
------------ ----------
------------ ----------
</TABLE>
- ------------------------
(1) In conjunction with the issuance of these notes, the Company granted
investors warrants to purchase 29,926 shares of common stock at an exercise
price ranging from $3.625 to $6.80 per share. During the years ended
December 31, 1995 and December 31, 1996 the Company charged to interest
$3,000 and $23,000, respectively, representing the fair value of these
warrants. On April 8, 1997, certain noteholders elected to receive 39,466
shares of common stock in lieu of principal and interest of $200,000 and
$27,144, respectively. As a result of these elections $200,000 of this
liability is classified as long-term debt at December 31, 1996 and March 31,
1997.
(2) In conjunction with the issuance of these notes (the "Secured Notes") the
Company granted the investors 107,000 units, at $0.01 per unit (the "Unit")
each comprised of one share of common stock and a warrant to purchase one
share of common stock at 110% of the IPO price. The Company valued these
units at $362,000, which is being accounted for as debt discount. In April
1997 the Secured Notes were amended whereby the Company paid the principal
payment due February 24, 1997 of $133,750 plus accrued interest of $16,752
and the remaining principal of $401,250 and accrued interest is due at the
earlier of the closing of an initial public offering or a private offering
greater than $3 million, but no later than January 15, 1998. In connection
therewith the Company granted the holders
F-11
<PAGE>
QUIETPOWER SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO MARCH 31, 1997 AND THE
THREE MONTHS ENDED MARCH 31, 1996 AND MARCH 31, 1997)
(NOTE G)--NOTES PAYABLE: (CONTINUED)
26,750 additional Units at $0.01 per unit. The Company valued these warrants
at $170,000 representing the fair value at date of grant which will be
charged to operations. As a result of this amendment, $246,000 of this
liability is classified as long-term debt at December 31, 1996.
(3) In conjunction with the issuance of the subordinated notes, the Company
issued warrants to purchase 8,934 shares of common stock exercisable at the
lower of (i) one-half of the IPO price per share, or (ii) $6.00 per share.
The Company valued the warrants at $22,000 representing the fair value at
the date of grant and is being accounted for as debt discount. In addition
the Company incurred offering costs of $34,000 paid to the related party
referred to in Note K[3]. In April 1997 the Company issued additional notes
under the same terms aggregating $290,000 and incurred $29,000 in additional
offering costs paid to a related party.
In addition, during 1995 and 1996 the Company issued notes of $68,000 and
$145,000, respectively, which were repaid in 1996. In conjunction with these
notes and certain extensions granted, the Company issued warrants. The Company
charged to interest $13,000 and $108,000 for the years ended December 31, 1995
and December 31, 1996, respectively, for the fair value of these warrants.
(NOTE H)--CAPITAL DEFICIENCY:
[1] PREFERRED STOCK:
During 1996 the Board of Directors designated a total of 1,325 shares of
preferred stock as Series A convertible preferred stock. The holders of Series A
preferred stock are entitled to (i) convert on a one-for-two hundred basis to
common stock plus five-year warrants to purchase 200 shares of common stock at
$2.50 per share subject to adjustment, as defined, (ii) voting rights equivalent
to voting rights of common stockholders at 200 hundred votes per share (iii)
liquidation preferences of $1,000 per preferred share and (iv) dividends when
declared equal to 200 times the amount of any cash dividend payable to holders
of common stock. The Series A preferred stock will automatically convert into
265,000 shares of common stock and 265,000 warrants to purchase common stock
upon the completion of an IPO. During 1996, the Company recorded $238,000 as a
dividend, representing the fair value of warrants issuable upon conversion of
the preferred stock. The number of shares of common stock and warrants are
subject to adjustment to the extent the investors do not receive a 35% annual
rate of return on the amount invested, based on the value of the securities
received upon conversion at the IPO.
[2] STOCK OPTIONS:
The Company applies APB 25 in accounting for stock based compensation to
employees and, accordingly, recognizes compensation expense for the difference
between the fair value of the underlying common stock and the exercise price of
the option and warrant at the date of grant. The effect of applying SFAS No. 123
on 1995 and 1996 pro forma net loss is not necessarily representative of the
effects on reported net loss for future years due to, among other things, (1)
the vesting period of the stock options and (2) the fair value of additional
stock options that may be granted in future years. Had compensation cost for the
Company's warrants and stock options granted to employees been determined based
upon the fair value at the grant date consistent with the methodology prescribed
under SFAS No. 123, the Company's net loss and net loss per share would have
been approximately (i) $(893,000) and $(0.64) for the year ended December 31,
1995, (ii) $(2,364,000) and $(1.59) for the year ended December 31, 1996, (iii)
$(348,000) and $(0.24) for the three months ended March 31, 1996, (iv)
$(645,000) and $(0.41) for the three months ended March 31, 1997, respectively.
The weighted average fair value of the options and
F-12
<PAGE>
QUIETPOWER SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO MARCH 31, 1997 AND THE
THREE MONTHS ENDED MARCH 31, 1996 AND MARCH 31, 1997)
(NOTE H)--CAPITAL DEFICIENCY: (CONTINUED)
[2] STOCK OPTIONS: (CONTINUED)
warrants granted during 1995 and 1996 are estimated at $1.21 and $1.88,
respectively, on the date of grant using the Black-Scholes option-pricing model
with the following assumptions: dividend yield 0%, volatility of 30%, risk-free
interest rates ranging from 5.8% to 6.2% for 1995 and 5.2% to 5.8% for 1996, and
expected life of four years for five year options and warrants and six years for
ten year options and warrants.
The Company's 1993 stock option plan (the "1993 Plan") provides for the
granting of options to purchase up to 250,000 shares of common stock, pursuant
to which officers, directors, key employees and consultants are eligible to
receive incentive and/or nonstatutory stock options. Options granted under the
1993 Plan are exercisable for a period of up to 10 years from date of grant at
an exercise price which is not
less than the fair value on date of grant, except that the exercise price of
options granted to a stockholder owning more than 10% of the outstanding capital
stock may not be less than 110% of the fair value of the common stock at date of
grant. Options generally vest 25% annually on the anniversary of the date of
grant.
Additional information with respect to the 1993 Plan activity is summarized
as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------
<S> <C> <C> <C> <C>
1995 1996
---------------------- ----------------------
<CAPTION>
WEIGHTED WEIGHTED
AVERAGE AVERAGE
EXERCISE EXERCISE
SHARES PRICE SHARES PRICE
--------- ----------- --------- -----------
<S> <C> <C> <C> <C>
Outstanding at beginning of year...................................... 88,390 $ 3.80 210,990 $ 4.20
Options granted....................................................... 127,600 $ 4.47 36,000 $ 4.48
Options cancelled or expired.......................................... (5,000) $ 4.00 (7,500) $ 5.00
--------- ---------
Outstanding at end of year............................................ 210,990 $ 4.20 239,490 $ 4.22
--------- ---------
--------- ---------
Options exercisable at year end....................................... 48,733 $ 3.57 110,235 $ 4.07
--------- ---------
--------- ---------
</TABLE>
During the three months ended March 31, 1997 no options were granted under
the 1993 Plan. As of March 31, 1997, 115,958 options with a weighted average
exercise price of $4.09 were exercisable.
The following table summarizes information about stock options outstanding
at December 31, 1996:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
----------------------------------------- ------------------------
<S> <C> <C> <C> <C> <C>
WEIGHTED
AVERAGE
REMAINING WEIGHTED WEIGHTED
RANGE OF CONTRACTUAL AVERAGE AVERAGE
EXERCISE NUMBER LIFE EXERCISE NUMBER EXERCISE
PRICE OUTSTANDING (IN YEARS) PRICE EXERCISABLE PRICE
- ---------------- ----------- --------------- ----------- ----------- -----------
$ 2.50 27,500 3.77 $ 2.50 23,500 $ 2.50
$ 4.00 to $5.00 196,890 7.73 $ 4.11 80,445 $ 4.17
$ 8.77 15,100 3.97 $ 8.77 6,290 $ 8.77
----------- -----------
Total 239,490 7.04 $ 4.22 110,235 $ 4.07
----------- -----------
----------- -----------
</TABLE>
F-13
<PAGE>
QUIETPOWER SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO MARCH 31, 1997 AND THE
THREE MONTHS ENDED MARCH 31, 1996 AND MARCH 31, 1997)
(NOTE H)--CAPITAL DEFICIENCY: (CONTINUED)
[2] STOCK OPTIONS: (CONTINUED)
As of December 31, 1996 and March 31, 1997, options for the purchase of
10,510 shares were available for future grant under the 1993 Plan.
[3] WARRANTS:
The Company has the following warrants outstanding for the purchase of its
common stock:
<TABLE>
<CAPTION>
EXERCISE DECEMBER 31,
PRICE -------------------- MARCH 31,
PER SHARE EXPIRATION DATE 1995 1996 1997
- --------- ---------------------------------------------------------------- --------- --------- ---------
<S> <C> <C> <C> <C>
$ .01 May 2001........................................................ 157,000(1) 157,000(1)
.10 December 2006................................................... 20,000(2) 20,000(2)
2.50 August 2001..................................................... 5,000 5,000
2.50 October 2001.................................................... 45,000 45,000
2.50 December 2001................................................... 85,500 85,500
2.50 January 2002.................................................... 14,692
2.50 April 2006...................................................... 125,000(2) 125,000(2)
2.50 December 2006................................................... 165,500(2) 165,500(2)
3.625 March/April 2001................................................ 24,852 24,852
4.00 July 2000....................................................... 40,000
6.00 July/August 2000................................................ 25,000 25,000 25,000
6.00 August 2001..................................................... 30,000 30,000
6.00 February/March 2002............................................. 8,934(3)
6.80 October 2000.................................................... 24,706 14,706 14,706
6.80 February/March 2001............................................. 12,500 12,500
8.77 August 2001..................................................... 2,000 2,000
---------------------------------------------------------------- --------- --------- ---------
Total........................................................... 89,706 712,058 735,684
---------------------------------------------------------------- --------- --------- ---------
---------------------------------------------------------------- --------- --------- ---------
Weighted average exercise price................................. $ 5.33 $ 2.38 $ 2.42
---------------------------------------------------------------- --------- --------- ---------
---------------------------------------------------------------- --------- --------- ---------
</TABLE>
As of December 31, 1996 and March 31, 1997 there were 401,558 and 425,184
warrants exercisable at a weighted-average exercise price of $2.40 and $2.48,
respectively.
- ------------------------
(1) Includes 107,000 shares of common stock underlying the Units issued in
conjunction with the Secured Notes.
(2) Warrants unexercisable at December 31, 1996 and March 31, 1997. Generally,
these warrants are exercisable at 25% per annum on each anniversary of the
date of grant.
(3) Warrants exercisable at the lower of $6.00 or one-half of the IPO price per
share.
[4] PROPOSED PUBLIC OFFERING:
The Company has signed a letter of intent with an underwriter with respect
to a proposed public offering of the Company's securities. There is no assurance
that such offering will be consummated. In connection therewith the Company
anticipates incurring substantial expenses which, if the offering is not
consummated, will be charged to expense.
F-14
<PAGE>
QUIETPOWER SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO MARCH 31, 1997 AND THE
THREE MONTHS ENDED MARCH 31, 1996 AND MARCH 31, 1997)
(NOTE I)--INCOME TAXES:
At December 31, 1996, the Company had approximately $4,340,000 of net
operating loss carryforwards for federal income tax purposes which expire
through 2011.
At December 31, 1996, the Company had a deferred tax asset of approximately
$2,070,000 representing the benefits of its net operating loss carryforwards and
certain expenses not currently deductible. The Company has provided a valuation
reserve against the full amount of its deferred tax asset since the likelihood
of realization cannot be determined. The difference between the statutory tax
rate of 34% and the Company's effective tax rate of 0% is substantially due to
the increase in the valuation allowance of $370,000 (1995) and $1,020,000
(1996), respectively.
Section 382 of the Internal Revenue Code contains provisions which may limit
the loss carryforwards available if significant changes occur in stockholder
ownership interests. These limitations will apply if the proposed public
offering is consummated. Accordingly, the Company would be subject to a
significant annual limitation on the utilization of its net operating losses.
(NOTE J)--COMMITMENTS AND OTHER MATTERS:
[1] LEASE:
The Company was obligated under a lease with a related party (see Note K[1])
for office space which was scheduled to expire in September 1999. In May 1997
the Company entered into a ten year lease for new offices and terminated its
lease with the related party. Minimum lease payments are as follows:
<TABLE>
<CAPTION>
YEARS ENDING
DECEMBER 31,
- --------------------------------------------------------------------------------
<S> <C>
1997........................................................................ $ 102,000
1998........................................................................ 157,000
1999........................................................................ 163,000
2000........................................................................ 165,000
2001........................................................................ 165,000
Thereafter.................................................................. 880,000
------------
Total................................................................... $ 1,632,000
------------
------------
</TABLE>
The lease provides for escalations for increases in real estate taxes and
certain operating expenses.
Rent expense (net of sublease income) was approximately $61,000, $73,000,
$15,000 and $21,000 for the years ended December 31, 1995 and December 31, 1996
and the three months ended March 31, 1996 and March 31, 1997, respectively.
[2] EMPLOYMENT AGREEMENTS:
In March 1995, the Company entered a three year employment agreement with
the President which provides for annual base salary of $195,000 (subject to
yearly increase based on the Consumer Price Index) and bonuses at the discretion
of the Compensation Committee.
In addition, effective January 1, 1996, the Company entered into employment
agreements with two officers which provide for annual base salaries aggregating
$300,000 (subject to yearly increase based on
F-15
<PAGE>
QUIETPOWER SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO MARCH 31, 1997 AND THE
THREE MONTHS ENDED MARCH 31, 1996 AND MARCH 31, 1997)
(NOTE J)--COMMITMENTS AND OTHER MATTERS: (CONTINUED)
[2] EMPLOYMENT AGREEMENTS: (CONTINUED)
the Consumer Price Index and bonuses at the discretion of the Compensation
Committee) expiring on January 1, 1999.
[3] 401(K) PLAN:
The Company has a retirement savings plan for eligible full-time employees
pursuant to Section 401(k) of the Internal Revenue Code. The Company at its
discretion may make contributions up to 15% of plan participants' compensation.
The Company made no contributions to the plan for the years ended December 31,
1995 and December 31, 1996 and the three month period March 31, 1997.
[4] MAJOR CUSTOMERS--CONCENTRATION OF RISK:
Four customers accounted for the following percentage of revenues:
<TABLE>
<CAPTION>
THREE MONTHS
YEAR ENDED ENDED
DECEMBER 31, MARCH 31,
------------------------ ------------------------
CUSTOMER 1995 1996 1996 1997
- -------------------------------------------------------- ----- ----- ----- -----
<S> <C> <C> <C> <C>
A....................................................... 9% 60% 84%
B....................................................... 35% 22% 31%
C....................................................... 50%
D....................................................... 61%
</TABLE>
[5] ROYALTIES:
Through December 31, 1995 the Company and certain utilities were engaged in
the development of active noise and vibration control and failure diagnostic and
condition monitoring technologies. In connection therewith, these utilities
provided development funding. In some cases, as an inducement to provide funding
the Company agreed to pay royalties based on 3% of future products sold and 5%
purchase discounts which in the aggregate may provide returns of up to 200% of
the amount funded by the utilities or approximately $2.2 million.
(NOTE K)--RELATED PARTY TRANSACTIONS:
[1] The Company leased office space from a law firm of which certain
partners are directors/ stockholders of the Company (see Note J[1]). Amounts
owed to this related party aggregated approximately $146,000 and $95,000 as of
December 31, 1996 and March 31, 1997, respectively. During the year ended
December 31, 1995 the Company granted the law firm a warrant to purchase 20,000
shares of common stock at $4.00 per share, which was valued at $19,000 and
charged to operations. During the year ended December 31, 1996 the Company
cancelled the warrant granted in 1995 and granted new warrants to purchase
25,000 shares of common stock at $0.01 per share, which were valued at $85,000
and charged to operations. In January 1997, the Company issued the law firm
14,692 units each comprised of one share of common stock and a warrant to
purchase one share of common stock at $2.50 a share, to satisfy $73,000 of
$146,000 due at December 31, 1996. Accordingly, $73,000 of this liability is
classified as long-term at December 31, 1996.
F-16
<PAGE>
QUIETPOWER SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO MARCH 31, 1997 AND THE
THREE MONTHS ENDED MARCH 31, 1996 AND MARCH 31, 1997)
(NOTE K)--RELATED PARTY TRANSACTIONS: (CONTINUED)
[2] At December 31, 1996 and March 31, 1997 the advances from a stockholder
of $75,000 and $80,000, respectively, are noninterest bearing and are payable at
the earlier of the closing of an IPO or January 15, 1998.
[3] For the years ended December 31, 1995 and December 31, 1996 and the
three months ended March 31, 1997 approximately $58,000, $163,000 and $34,000,
respectively, was incurred for services provided by an investment banking firm,
of which one partner is also a director of the Company. Another director is a
principal of a firm which has an agreement whereby it will share in the fees
received by the investment banking firm from the Company. During the year ended
December 31, 1996 the Company granted the investment banking firm 60,000
warrants valued at $127,000 which were charged to operations.
In April 1997 the Company entered into an agreement with the investment
banking firm whereby the investment banking firm is to receive commissions,
based on certain percentages of proceeds obtained by the Company in connection
with certain purchase, financing and venture transactions (excluding an IPO) for
financial and investment banking services.
(NOTE L)--SUBSEQUENT EVENTS:
In April 1997, in contemplation of its proposed IPO, the Company issued
bridge notes (the "Bridge Notes") in the principal amount of $2,000,000, for
which the Company received proceeds, net of offering costs (which include
$200,000 paid to the related party referred to in Note K[3]), of approximately
$1,594,000. The Bridge Notes bear interest at 11% per annum (effective interest
rate, giving effect to the value of warrants issued therewith, 85.7%) and are
due and payable on the earlier of (a) the closing of an initial public offering
of the Company's common stock, or (b) one year after the date of execution of
the Bridge Notes.
The Bridge Notes are collateralized by all of the assets of the Company
pursuant to an agreement with the Secured Note holders whereby the Bridge Notes
are subordinate to the Secured Notes. The loan agreement, among other matters,
restricts the Company from entering into new indebtedness senior to the Bridge
Notes, paying of indebtedness subordinate to the Bridge Notes and declaring or
paying dividends. In conjunction with the issuance of the Bridge Notes, the
Company issued warrants to purchase 240,000 shares of common stock exercisable
at the lower of (i) one-half of the IPO price per share, or (ii) $3.75 per
share. The Company valued the warrants at $856,000 representing the fair value
at the date of grant and is being accounted for as debt discount.
F-17
<PAGE>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
NO UNDERWRITER, DEALER, SALESPERSON OR OTHER PERSON HAS BEEN AUTHORIZED TO
GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED
IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS
MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE COMPANY OR ANY
UNDERWRITER. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER
SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS BEEN NO
CHANGE IN THE AFFAIRS OF THE COMPANY SINCE THE DATE HEREOF OR THAT THE
INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY DATE SUBSEQUENT TO THE DATE
HEREOF. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION
OF AN OFFER TO BUY ANY SECURITIES OFFERED HEREBY BY ANYONE IN ANY JURISDICTION
IN WHICH SUCH OFFER OR SOLICITATION IS NOT AUTHORIZED OR IN WHICH THE PERSON
MAKING SUCH OFFER OR SOLICITATION IS NOT QUALIFIED TO DO SO OR TO ANYONE TO WHOM
IT IS UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION.
------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Prospectus Summary............................... 3
Risk Factors..................................... 8
Concurrent Offering.............................. 18
Use of Proceeds.................................. 19
Dividend Policy.................................. 20
Capitalization................................... 21
Dilution......................................... 22
Selected Financial Data.......................... 24
Management's Discussion and Analysis of Financial
Condition and Results of Operations............ 26
Business......................................... 32
Management....................................... 47
Principal Stockholders........................... 52
Certain Transactions............................. 54
Description of Securities........................ 55
Shares Eligible for Future Sale.................. 58
Underwriting..................................... 60
Legal Matters.................................... 62
Experts.......................................... 62
Additional Information........................... 62
Index to Financial Statements.................... F-1
</TABLE>
------------------------
UNTIL AUGUST 4, 1997, ALL DEALERS EFFECTING TRANSACTIONS IN THE REGISTERED
SECURITIES, WHETHER OR NOT PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED
TO DELIVER A PROSPECTUS. THIS DELIVERY REQUIREMENT IS IN ADDITION TO THE
OBLIGATIONS OF DEALERS TO DELIVER A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND
WITH RESPECT TO THEIR UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
QUIETPOWER SYSTEMS, INC.
2,000,000 SHARES OF COMMON STOCK
AND
2,000,000 REDEEMABLE COMMON STOCK
PURCHASE WARRANTS
---------------------
PROSPECTUS
---------------------
NATIONAL SECURITIES
CORPORATION
JULY 9, 1997
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
