UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Amendment No. 2 to
FORM 10-QSB
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly period ended June 30, 2006
Commission file number 002-90519
APPLIED DNA SCIENCES, INC.
(Exact name of registrant as specified in its charter)
Nevada 59-2262718
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
25 Health Sciences Drive, Suite 113
Stony Brook, New York 11790
(Address of Principal Executive Offices) (Zip Code)
(631) 444-6861
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the last 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days.
Yes _X__ No _____
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).
Yes _____ No _X__
The number of shares of Common Stock, $0.001 par value, outstanding on August
16, 2006, was 120,982,385 shares, held by approximately 1,341 shareholders.
Transitional Small Business Disclosure Format (check one):
Yes _____ No _X__
-i-
EXPLANATORY NOTE
This Amendment No. 2 on Form 10-QSB/A (this "Amendment") amends the Amendment
No. 1 on Form 10-QSB/A for the quarter ended June 30, 2006 as filed with the
Securities and Exchange Commission on October 10, 2006 (the "first Amended
filing"). This Amendment is being filed for the purpose of clarifying the
description of the accounting errors and related disclosures to the accompanying
financial statements which gave rise to the restatement of the financial
statements for each of the three and nine month periods ended June 30, 2006 and
June 30, 2005 and from September 16, 2002 (date of inception) through June 30,
2006 and June 30, 2005 as described in Notes I and J to the financial
statements, respectively.
We have not updated the information contained herein for events occurring
subsequent to August 17, 2006, the filing date of the original filing.
APPLIED DNA SCIENCES, INC
Amendment No. 2 to Quarterly Report on Form 10-QSB/A for the
Quarterly Period Ending June 30, 2006
Table of Contents
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheet: June 30, 2006 (Unaudited) 1
Condensed Consolidated Statements of Losses:
Three Months Ended June 30, 2006 and 2005 (Unaudited) and
the Period from September 16, 2002 (Date of Inception)
Through June 30, 2006 (Unaudited) 2
Condensed Consolidated Statement of Stockholder's Equity
(Deficiency): For the Period from September 16, 2002
(Date of Inception) Through June 30 2006 (Unaudited) 3
Condensed Consolidated Statements of Cash Flows:
Three Months Ended June 30, 2006 and 2005 (Unaudited) and
the Period from September 16, 2002 (Date of Inception)
Through June 30, 2006 (Unaudited) 17
Notes to Unaudited Condensed Consolidated Financial Information:
June 30, 2006 19
Item 2. Management Discussion and Analysis 56
Item 3 Controls and Procedures 74
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 75
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 75
Item 3. Defaults Upon Senior Securities 75
Item 4. Submission of Matters to a Vote of Security Holders 76
Item 5. Other Information 76
Item 6. Exhibits 76
Signatures 77
-ii-
PART 1. FINANCIAL INFORMATION
ITEM I. FINANCIAL STATEMENTS (UNAUDITED)
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
CONDENSED CONSOLIDATED BALANCE SHEET
JUNE 30, 2006
RESTATED
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 1,931,173
Accounts receivable 18,900
Advances and other receivables 11,611
Prepaid expenses 146,667
--------------
Total current assets 2,108,351
Property, plant and equipment-net of accumulated depreciation of $10,315 38,286
Deposits 8,322
Capitalized finance costs 1,437,862
Intangible assets:
Patients, net of accumulated amortization of $16,881 17,376
Intellectual property, net of accumulated amortization of $1,347,271 8,083,629
--------------
Total Assets $ 11,693,826
==============
LIABILITIES AND DEFICIENCY IN STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued liabilities $ 4,680,849
Note payable- Related Party (Note G) 410,429
--------------
Total current liabilities 5,091,278
Convertible notes payable, net of unamortized discount (Note C) 3,306,371
Debt derivative and warrant liability (Note F) 5,698,286
Commitments and contingencies (Note H)
Deficiency in Stockholders' Equity
Preferred stock, par value $0.001 per share; 10,000,000 shares authorized; 60,000 issued and
outstanding 6
Common stock, par value $0.001 per share; 250,000,000 shares authorized; 118,582,385 issued
and outstanding 118,582
Common stock subscription (200,000)
Additional paid in capital 81,997,006
Accumulated deficit (84,317,703)
--------------
Total deficiency in stockholders' equity (2,402,109)
Total liabilities and Deficiency in Stockholders' Equity $ 11,693,826
==============
See the accompanying notes to the unaudited condensed consolidated financial
statements
-1-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (LOSSES)
(Unaudited)
From
September
16,
2002
(Date of
For the Three For the Nine Inception)
Months Months Through
Ended June 30, Ended June 30, June 30,
2006 2005 2006 2005 2006
---- ---- ---- ---- -------------
RESTATED RESTATED RESTATED RESTATED RESTATED
-------- -------- -------- -------- --------
Sales $ 18,900 $ - $ 18,900 $ - $ 18,900
Cost of sales 15,639 - 15,639 - 15,639
-------------- -------------- -------------- -------------- --------------
Gross Profit 3,261 - 3,261 - 3,261
Operating expenses:
Selling, general and administrative 1,580,967 1,865,631 4,391,305 24,188,882 75,910,882
Research and development - 88,870 75,276 345,958 968,711
Depreciation and amortization 336,824 3,160 1,021,199 15,187 1,380,626
-------------- -------------- -------------- -------------- --------------
Total operating expenses 1,917,791 1,957,661 5,487,780 24,550,027 78,260,219
-------------- -------------- -------------- -------------- --------------
NET LOSS FROM OPERATIONS (1,914,530) (1,957,661) (5,484,519) (24,550,027) (78,256,958)
Net gain (loss) in fair value of debt derivative
and warrant liabilities 3,493,961 5,679,175 14,250,621 16,454,928 30,951,611
Other income (expenses) 8,483 241 17,976 3,415 49,319
Interest income (expense) (826,827) (21,557) (3,177,229) (32,373,143) (37,061,675)
-------------- -------------- -------------- ------------ --------------
Net income (loss) before provision for income taxes 761,087 3,700,198 5,043,099 (40,464,827) (84,317,703)
-
Income taxes (benefit) - - - - -
-------------- -------------- -------------- ------------ --------------
NET INCOME (LOSS) $ 761,087 $ 3,700,198 $ 5,606,849 $ (40,464,827) $ (84,317,703)
============== ============== ============== ============== ==============
Net income (loss) per share-basic $ 0.01 $ 0.06 $ 0.05 $ (0.83)
============== ============== ============== ==============
Net income (loss) per share-fully diluted $ 0.01 $ 0.04 $ 0.03
============== ============== ==============
Weighted average shares outstanding-
Basic 118,582,385 66,308,115 115,852,521 48,810,559
-------------- -------------- -------------- --------------
Fully diluted 177,501,849 109,223,832 181,716,985
-------------- -------------- --------------
See the accompanying notes to the unaudited condensed consolidated financial
statements
-2-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2006
(Unaudited)
RESTATED
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Issuance of common stock
to Founders in exchange
for services on September
16, 2002 at $.01 per share - - 100,000 $ 10 $ 990 $ - $ - $ - $ 1,000
Net Loss - - - - - - - (11,612) (11,612)
------ -------- ---------- ---------- --------- --------- ----------- ---------- ----------
Balance at September 30, 2002 - $ - 100,000 $ 10 $ 990 $ - $ - $ (11,612) $ (10,612)
====== ======== ========== ========== ========= ========= =========== ========== ==========
Issuance of common stock in
connection with merger with
Prohealth Medical Technologies,
Inc on October 1, 2002 - - 10,178,352 1,015 - - - - 1,015
Cancellation of Common stock
in connection with merger with
Prohealth Medical
Technologies, Inc on October
21, 2002 - - (100,000) (10) (1,000) - - - (1,010)
Issuance of common stock in
exchange for services in
October 2002 at $ 0.65 per
share - - 602,000 60 39,070 - - - 39,130
Issuance of common stock in
exchange for subscription in
November and December 2002
at $ 0.065 per share - - 876,000 88 56,852 - (56,940) - -
Cancellation of common stock
in January 2003 previously
issued in exchange for
consulting services - - (836,000) (84) (54,264) - 54,340 - (8)
Issuance of common stock in
exchange for licensing services
valued at $ 0.065 per share in
January 2003 - - 1,500,000 150 97,350 - - - 97,500
Issuance of common stock in
exchange for consulting
services valued at $ 0.13 per
share in January 2003 - - 586,250 58 76,155 - - - 76,213
Issuance of common stock in
exchange for consulting
services at $ 0.065 per share
in February 2003 - - 9,000 1 584 - - - 585
Issuance of common stock to
Founders in exchange for
services valued at $0.0001 per
share in March 2003 - - 10,140,000 1,014 - - - - 1,014
Issuance of common stock in
exchange for consulting
services valued at $2.50 per
share in March 2003 - - 91,060 10 230,624 - - - 230,634
See accompanying notes to the unaudited condensed consolidated financial statements
-3-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2006
(Unaudited)
RESTATED
(Continued)
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Issuance of common stock in
exchange for consulting services
valued at $ 0.065 per share in
March 2003 - - 6,000 1 389 - - - 390
Common stock subscribed in
exchange for cash at $1 per
share in March 2003 - - - - 18,000 - - - 18,000
Common stock issued in
exchange for consulting
services at $ 0.065 per
share on April 1, 2003 - - 860,000 86 55,814 - - - 55,900
Common stock issued in
exchange for cash at $ 1.00 per
share on April 9, 2003 - - 18,000 2 - - - - 2
Common stock issued in
exchange for consulting services
at $ 0.065 per share on April 9,
2003 - - 9,000 1 584 - - - 585
Common stock issued in
exchange for consulting services
at $ 2.50 per share on April 23,
2003 - - 5,000 1 12,499 - - - 12,500
Common stock issued in
exchange for consulting services
at $ 2.50 per share, on June 12,
2003 - - 10,000 1 24,999 - - - 25,000
Common stock issued in
exchange for cash at $ 1.00 per
share on June 17, 2003 - - 50,000 5 49,995 - - - 50,000
Common stock subscribed in
exchange for cash at $ 2.50 per
share pursuant to private
placement on June 27, 2003 - - - - - 24,000 - - 24,000
Common stock retired in
exchange for note payable
at $0.0118 per share,
in June 30, 2003 - - (7,500,000) (750) 750 - - - -
Common stock issued in
exchange for consulting services
at $0.065 per share, on June 30,
2003 - - 270,000 27 17,523 - - - 17,550
Common stock subscribed in
exchange for cash at $ 1.00 per
share pursuant to private
placement on June 30, 2003 - - - - - 10,000 - - 10,000
Common stock subscribed in
exchange for cash at $ 2.50 per
share pursuant to private
placement on June 30, 2003 - - - - - 24,000 - - 24,000
Common stock issued in
exchange for consulting services
at approximately $2.01 per
share, July 2003 - - 213,060 21 428,798 - - - 428,819
See accompanying notes to the unaudited condensed consolidated financial statements
-4-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2006
(Unaudited)
RESTATED
(Continued)
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Common stock canceled in July
2003, previously issued for
services rendered at $2.50 per
share - - (24,000) (2) (59,998) - - - (60,000)
Common stock issued in
exchange for options exercised
at $1.00 per share in July 2003 - - 20,000 2 19,998 - - - 20,000
Common stock issued in
exchange for exercised of
options previously subscribed at
$1.00 per share in July 2003 - - 10,000 1 9,999 (10,000) - - -
Common stock issued in
exchange for consulting services
at approximately $2.38 per
share, August 2003 - - 172,500 17 410,915 - - - 410,932
Common stock issued in exchange
for options exercised at $1.00
per share in August 2003 - - 29,000 3 28,997 - - - 29,000
Common stock issued in
exchange for consulting services
at approximately $2.42 per
share, September 2003 - - 395,260 40 952,957 - - - 952,997
Common stock issued in
exchange for cash at $2.50 per
share-subscription
payable-September 2003 - - 19,200 2 47,998 (48,000) - - -
Common stock issued in
exchange for cash at $2.50 per
share pursuant to private
placement September 2003 - - 6,400 1 15,999 - - - 16,000
Common stock issued in
exchange for options exercised
at $1.00 per share in
September 2003 - - 95,000 10 94,991 - - - 95,001
Common stock subscription
receivable reclassification
adjustment - - - - - - 2,600 - 2,600
Common Stock subscribed to
at $2.50 per share in September
2003 - - - - - 300,000 - - 300,000
Net Loss for the year
ended September 30, 2003 - - - - - - - (3,445,164) (3,445,164)
------ ------- ---------- ---------- ---------- --------- --------- ----------- ----------
Balance at September 30, 2003 - $ - 17,811,082 $ 1,781 $2,577,568 $ 300,000 $ - $(3,456,776) $ (577,427)
====== ======= ========== ========== ========== ========= ========= =========== ==========
See accompanying notes to the unaudited condensed consolidated financial statements
-5-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2006
(Unaudited)
RESTATED
(Continued)
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Preferred shares issues in
exchange for services at $25.00
per share, October 2003 15,000 15 - - - - - - 15
Common stock issued in
exchange for consulting services
at approximately $2.85 per
share, October 2003 - - 287,439 29 820,389 - - - 820,418
Common stock issued in
exchange for cash at $2.50 per
share-subscription
payable-October 2003 - - 120,000 12 299,988 (300,000) - - -
Common stock canceled in
October 2003, previously issued
for services rendered at $2.50
per share - - (100,000) (10) (249,990) - - - (250,000)
Common stock issued in
exchange for consulting services
at approximately $3 per share,
November 2003 - - 100,000 10 299,990 - - - 300,000
Common stock subscribed in
exchange for cash at $2.50 per
share pursuant to private
placement, November, 2003 - - 100,000 10 249,990 - - - 250,000
Common stock subscribed in
exchange for cash at $2.50 per
share pursuant to private
placement, December, 2003 - - 6,400 1 15,999 - - - 16,000
Common stock issued in
exchange for consulting services
at approximately $2.59 per
share, December 2003 - - 2,125,500 213 5,504,737 - - - 5,504,950
Common Stock subscribed to
at $2.50 per share in
December 2003 - - - - - 104,000 - - 104,000
Beneficial conversion feature
relating to notes payable - - - - 1,168,474 - - - 1,168,474
Beneficial conversion feature
relating to warrants - - - - 206,526 - - - 206,526
Adjust common stock par value
from $0.0001 to $0.50 per share,
per amendment of articles dated
in December 2004 - - - 10,223,166 (10,223,166) - - - -
Common Stock issued pursuant
to subscription at $2.50 share
in January 2004 - - 41,600 20,800 83,200 (104,000) - - -
Common stock issued in
exchange for consulting services
at $2.95 per share, January 2004 - - 13,040 6,520 31,948 - - - 38,468
Common stock issued in
exchange for consulting services
at $2.60 per share, January 2004 - - 123,000 61,500 258,300 - - - 319,800
See accompanying notes to the unaudited condensed consolidated financial statements
-6-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2006
(Unaudited)
RESTATED
(Continued)
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Common stock issued in
exchange for consulting services
at $3.05 per share, January 2004 - - 1,000 500 2,550 - - - 3,050
Common stock issued in
exchange for employee services
at $3.07 per share, February 2004 - - 6,283 3,142 16,147 - - - 19,289
Common stock issued in
exchange for consulting services
at $3.04 per share, March 2004 - - 44,740 22,370 113,640 - - - 136,010
Common Stock issued for
options exercised at $1.00 per
share in March 2004 - - 55,000 27,500 27,500 - - - 55,000
Common stock issued in
exchange for employee services
at $3.00 per share, March 2004 - - 5,443 2,722 13,623 - - - 16,345
Common stock issued in
exchange for employee services
at $3.15 per share, March 2004 - - 5,769 2,885 15,292 - - - 18,177
Preferred shared converted to
common shares for consulting
services at $3.00 per share,
March 2004 (5,000) (5) 125,000 62,500 312,500 - - - 374,995
Common stock issued in
exchange for employee services
at $3.03 per share, March 2004 - - 8,806 4,400 22,238 - - - 26,638
Common Stock issued pursuant
to subscription at $2.50 per
share in March 2004 - - 22,500 11,250 (9,000) - - - 2,250
Beneficial Conversion Feature
relating to Notes Payable - - 122,362 - - - 122,362
Beneficial Conversion Feature - -
relating to Warrants - - 177,638 - - - 177,638
Common stock issued in
exchange for consulting services
at $2.58 per share, April 2004 - - 9,860 4,930 20,511 - - - 25,441
Common stock issued in
exchange for consulting services
at $2.35 per share, April 2004 - - 11,712 5,856 21,667 - - - 27,523
Common stock issued in
exchange for consulting services
at $1.50 per share, April 2004 - - 367,500 183,750 367,500 - - - 551,250
Common stock returned to
treasury at $0.065 per share,
April 2004 - - (50,000) (25,000) 21,750 - - - (3,250)
Preferred stock converted to
common stock for consulting
services at $1.01 per share in
May 2004 (4,000) (4) 100,000 50,000 51,250 - - - 101,246
Common stock issued per
subscription May 2004 - - 10,000 5,000 (4,000) - (1,000) - -
See accompanying notes to the unaudited condensed consolidated financial statements
-7-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2005
(Unaudited)
RESTATED
(Continued)
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Common stock issued in
exchange for consulting
services at $0.86 per
share in May 2004 - - 137,000 68,500 50,730 - - - 119,230
Common stock issued in
exchange for consulting
services at $1.15 per
share in May 2004 - - 26,380 13,190 17,147 - - - 30,337
Common stock returned to
treasury at $0.065 per
share, June 2004 - - (5,000) (2,500) 2,175 - - - (325)
Common stock issued in
exchange for consulting
services at $0.67 per
share in June 2004 - - 270,500 135,250 45,310 - - - 180,560
Common stock issued in
exchange for consulting services
at $0.89 per share in June 2004 - - 8,000 4,000 3,120 - - - 7,120
Common stock issued in
exchange for consulting services
at $0.65 per share in June 2004 - - 50,000 25,000 7,250 - - - 32,250
Common stock issued pursuant
to private placement at $1.00
per share in June 2004 - - 250,000 125,000 125,000 - - - 250,000
Common stock issued in
exchange for consulting services
at $0.54 per share in July 2004 - - 100,000 50,000 4,000 - - - 54,000
Common stock issued in
exchange for consulting services
at $0.72 per share in July 2004 - - 5,000 2,500 1,100 - - - 3,600
Common stock issued in
exchange for consulting services
at $0.47 per share in July 2004 - - 100,000 50,000 (2,749) - - - 47,251
Common stock issued in
exchange for consulting
services at $0.39 per
share in August 2004 - - 100,000 50,000 (11,000) - - - 39,000
Preferred stock converted
to common stock for
consulting services at
$0.39 per share in August 2004 (2,000) (2) 50,000 25,000 (5,500) - - - 19,498
Common stock issued in
exchange for consulting
services at $0.50 per
share in August 2004 - - 100,000 50,000 250 - - - 50,250
Common stock issued in
exchange for consulting
services at $0.56 per
share in August 2004 - - 200,000 100,000 12,500 - - - 112,500
Common stock issued in
exchange for consulting
services at $0.41 per
share in August 2004 - - 92,500 46,250 (8,605) - - - 37,645
Common stock issued in
exchange for consulting
services at $0.52 per
share in September 2004 - - 1,000,000 500,000 17,500 - - - 517,500
See accompanying notes to the unaudited condensed consolidated financial statements
-8-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2006
(Unaudited)
RESTATED
(Continued)
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Common stock issued in
exchange for consulting
services at $0.46 per
share in September 2004 - - 5,000 2,500 (212) - - - 2,288
Common stock issued pursuant
to subscription at $0.50 per
share in September 2004 - - 40,000 20,000 - - - - 20,000
Preferred shares converted to
common stock for consulting
services at $0.41 per share in
September 2004 (4,000) (4) 100,000 50,000 4,000 - - - 53,996
Preferred shares issued in
exchange for service at $25 per
share in September 2004 60,000 6 - - 1,499,994 - - - 1,500,000
Fair value of 2,841,000 warrants
issued to non-employees and
consultants for services
rendered at approximately $0.71
per warrant in September 2004 - - - - 2,019,862 - - - 2,019,862
Net Loss - - - - - - - (19,358,258) (19,358,258)
------ ------- ---------- ----------- ---------- -------- ------- ------------ -----------
Balance at September 30, 2004 60,000 $ 6 23,981,054 $11,990,527 $6,118,993 $ - $(1,000) $(22,815,034) $(4,706,508)
====== ======= ========== =========== ========== ======== ======= ============ ===========
See accompanying notes to the unaudited condensed consolidated financial statements
-9-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2006
(Unaudited)
RESTATED
(Continued)
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Common stock issued in
exchange for consulting services
at $0.68 per share in October
2004 - - 200,000 100,000 36,000 - - - 136,000
Common stock returned
to treasury at $0.60 per share
in October 2004 - - (1,069,600) (534,800) (107,297) - - - (642,097)
Common stock issued in exchange
for consulting services at $0.60
per share in October 2004 - - 82,500 41,250 8,250 - - - 49,500
Common Stock issued pursuant to
subscription at $0.60 per share
in October 2004 - - 500,000 250,000 50,000 (300,000) - - -
Common stock issued in exchange
for consulting servicesat $0.50
per share in October 2004 - - 532,500 266,250 - - - - 266,250
Common Stock issued in exchange
for debt at $0.50 per share
in October 2004 - - 500,000 250,000 - - - - 250,000
Common Stock issued pursuant to
subscription at $0.45 per share
in October 2004 - - 1,000,000 500,000 (50,000) (450,000) - - -
Common stock issued in exchange
for consulting services at $0.45
per share in October 2004 - - 315,000 157,500 (15,750) - - - 141,750
Common Stock issued in
exchange for consulting
services at $0.47 per share
in November 2004 - - 100,000 50,000 (3,000) - - - 47,000
Common Stock issued in
exchange for consulting
services at $0.80 per share
in November 2004 - - 300,000 150,000 90,000 - - - 240,000
Common Stock issued in
exchange for consulting
services at $1.44 per share
in November 2004 - - 115,000 57,500 108,100 - - - 165,600
Common Stock issued in
exchange for employee
services at $1.44 per share
in November 2004 - - 5,000 2,500 4,700 - - - 7,200
See accompanying notes to the unaudited condensed consolidated financial statements
-10-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2006
(Unaudited)
RESTATED
(Continued)
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Warrants exercised
at $0.60 per share
in November 2004 - - 60,000 30,000 6,000 (4,000) - - 32,000
Beneficial Conversion discount
relating to Notes Payable - - - - 1,465,000 - - - 1,465,000
Common stock issued at $0.016
per share in exchange for note
payable in December 2004 - - 5,500,000 2,750,000 (2,661,500) - - - 88,500
Common stock issued in
settlement of debt at $0.50 per
share in December 2004 - - 2,930,000 1,465,000 - (125,000) - - 1,340,000
Fair value of 6,063,500 warrants
issued to non employees and
consultants for services rendered
at $0.52 per warrant in October
and December 2004 - - - - 3,169,052 - - - 3,169,052
Warrants exercised at $0.10 per
share in January 2005 - - 25,000 12,500 (10,000) - - - 2,500
Common Stock issued in
settlement of debt at $0.33 per
share in January 2005 - - 1,628,789 814,395 (276,895) - - - 537,500
Warrants exercised at $0.10 per
share in January 2005 - - 17,500 8,750 (7,000) - - - 1,750
Common Stock issued in
settlement of debt at $0.33 per
share in January 2005 - - 2,399,012 1,199,504 (407,830) - - - 791,674
Common Stock issued in
exchange for consulting
services at $1.30 per share - - 315,636 157,818 252,508 - - - 410,326
in January 2005
Fair value of warant liability
reclassed due to registration
rights granted in
February 2005 - - - - (3,108,851) - - - (3,108,851)
Common Stock issued in
exchange for consulting
services at $1.44 per share
in February 2005 - - 5,796,785 2,898,393 5,418,814 - - - 8,317,207
Fair value of 55,000 warrants
issued to consultants for
services at $1.31 per warrant
in February 2005 - - - - 72,017 - - - 72,017
Common Stock issued in
settlement of debt at $0.33 per
share in February 2005 - - 75,757 37,879 (12,879) - - - 25,000
See accompanying notes to the unaudited condensed consolidated financial statements
-11-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2006
(Unaudited)
RESTATED
(Continued)
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Warrants exercised at $0.10 per
share in February 2005 - - 20,000 10,000 (8,000) - - - 2,000
Common Stock issued in
settlement of debt at $0.33 per
share in February 2005 - - 606,060 303,030 (103,030) - - - 200,000
Warrants exercised at $0.10 per
share in February 2005 - - 45,000 22,500 (18,000) - - - 4,500
Common Stock issued in
exchange for related party debt
at $1.31 per share in February
2005 - - 1,500,000 750,000 1,215,000 - - - 1,965,000
Common Stock issued in
settlement of debt at $0.33 per
share in February 2005 - - 278,433 139,217 (47,334) - - - 91,883
Common Stock issued in
exchange for consulting services
at $1.17 per share in February
2005 - - 17,236 8,618 11,548 - - - 20,166
Common stock issued in
exchange for debt at $0.50 per
share in February 2005 - - 300,000 150,000 - - - - 150,000
Common Stock issued in
exchange for consulting
services at $0.95 per share
in February 2005 - - 716,500 358,250 322,425 - - - 680,675
Common Stock issued in
exchange for consulting
services at $0.95 per share
in February 2005 - - 10,500 5,250 4,725 - - - 9,975
Common stock issued in
exchange for debt at $0.50 per
share in March 2005 - - 13,202,000 6,601,000 - - - - 6,601,000
Common Stock issued in
exchange for consulting
services at $1.19 per share
in March 2005 - - 185,000 92,500 127,650 - - - 220,150
Options exercised at $0.60 per
share in March 2005 - - 100,000 50,000 10,000 - - - 60,000
Common Stock issued in
exchange for consulting
services at $0.98 per share
in March 2005 - - 1,675,272 837,636 804,131 - - - 1,641,767
See accompanying notes to the unaudited condensed consolidated financial statements
-12-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2006
(Unaudited)
RESTATED
(Continued)
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Common Stock issued in
exchange for consulting
services at $0.92 per share
in March 2005 - - 24,333 12,167 10,219 - - - 22,386
Common Stock issued in
exchange for consulting
services at $0.99 per share
in March 2005 - - 15,000 7,500 7,350 - - - 14,850
Common stock issued in exchange
for debt at $0.50 per
share in March 2005 - - 1,240,000 620,000 - - - - 620,000
Common stock canceled for
shares issued in exchange of
debt in March 2005 - - (500,000) (250,000) - - - - (250,000)
Common stock subscribed
Canceled in March 2005 - - - - - 750,000 - - 750,000
Common Stock issued in
exchange for consulting
services at $0.89 per share
in March 2005 - - 10,000 5,000 3,900 - - - 8,900
Adjust common stock par value
from $0.50 to $0.001 per share,
per amendment of articles dated
Mar-05 - - - (32,312,879) 32,312,879 - - - -
Beneficial Conversion discount
relating to Notes Payable in
March 2005 - - - - 7,371,000 - - - 7,371,000
Stock options granted to
employees in exchange for
services rendered, at exercise
price below fair value of common
stock in March 2005 - - - - 180,000 - - - 180,000
Common Stock issued in
exchange for consulting services
at $0.80 per share in April 2005 - - 160,000 160 127,840 - - - 128,000
Common Stock issued in
exchange for consulting services
at $0.80 per share in April 2005 - - 40,000 40 31,960 - - - 32,000
See accompanying notes to the unaudited condensed consolidated financial statements
-13-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2006
(Unaudited)
RESTATED
(Continued)
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Common Stock issued in
exchange for consulting services
at $0.75 per share in April 2005 - - 850,000 850 636,650 - - - 637,500
Common Stock issued in
exchange for consulting services
at $0.33 per share in April 2005 - - 500,000 500 164,500 - - - 165,000
Common Stock canceled during
April 2005, previously issued for
services rendered at $3.42 per
share - - (10,000) (10) (34,190) - - - (34,200)
Common Stock issued in
settlement of debt at $0.33 per
share in April 2005 - - 75,758 77 24,923 (25,000) - - -
Common Stock issued in
exchange for consulting services
at $0.68 per share in April 2005 - - 50,000 50 33,950 - - - 34,000
Proceeds received against
subscription Payable in June
2005 - - - - - 118,000 - - 118,000
Common Stock canceled in
June 2005, previously issued for
services rendered at $0.50 per
share - - (10,000) (10) (4,990) - - - (5,000)
Cancellation of previously
granted stock options granted
to employees for services
rendered, at exercise price
below fair value of common stock - - - - (180,000) - - - (180,000)
Common Stock issued in
exchange for consulting services
at $0.60 per share in July 2005 - - 157,000 157 94,043 - - - 94,200
Common Stock issued in exchange
for intellectual property
at $0.67 per share in July 2005 - - 36,000,000 36,000 24,084,000 - - - 24,120,000
Common Stock issued in
exchange for consulting
services at $0.60 per share
in July 2005 - - 640,000 640 383,360 - - - 384,000
Common Stock issued in
exchange for employee services
at $0.48 per share in July 2005 - - 8,000,000 8,000 3,832,000 - - - 3,840,000
See accompanying notes to the unaudited condensed consolidated financial statements
-14-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2006
(Unaudited)
RESTATED
(Continued)
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Common Stock issued in
exchange for consulting
services at $0.94 per share
in July 2005 - - 121,985 121 168,217 - - - 168,338
Common Stock issued in
exchange for consulting
services at $0.48 per share
in August 2005 - - 250,000 250 119,750 - - - 120,000
Common Stock penalty shares
issued pursuant to pending SB-2
registration at $0.62 per share
in September 2005 - - 814,158 814 501,858 - - - 502,672
Common Stock penalty shares
issued pursuant to pending SB-2
registration at $0.70 per share
in September 2005 - - 391,224 391 273,466 - - - 273,857
Common Stock issued in
exchange for consulting
services at $0.94 per share
in September 2005 - - 185,000 185 173,715 - - - 173,900
Common Stock returned in
September 2005, previously
issued for services rendered at
$0.40 per share - - (740,000) (740) (453,232) 56,000 1,000 - (396,972)
Net Loss - - - - - - - (67,109,519) (67,109,519)
------ ----- ----------- --------- ----------- --------- ------- ------------ ------------
Balance as of September
30, 2005 60,000 $ 6 112,230,392 $ 112,230 $82,320,715 $ 20,000 $ - $(89,924,553) $ (7,471,602)
====== ===== =========== ========= =========== ========= ======= ============ ============
See accompanying notes to the unaudited condensed consolidated financial statements
-15-
APPLIED DNA SCIENCES, INC
(A development stage company)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY, (DEFICIENCY)
FOR THE PERIOD SEPTEMBER 16, 2002 (DATE OF INCEPTION) THROUGH JUNE 30, 2006
(Unaudited)
RESTATED
(Continued)
Deficit
Additional Accumulated
Preferred Common Paid in Common Stock During
Preferred Shares Common Stock Capital Stock Subscription Development
Shares Amount Shares Amount Amount Subscribed Receivable Stage Total
--------- --------- ---------- ----------- ----------- ---------- ------------ ----------- ----------
Common stock issued pursuant
to subscription at $0.50 per
share in October 2005 - - 400,000 400 199,600 (200,000) - - -
Common Stock issued in
exchange for consulting
services at $0.75 per share
in October 2005 - - 100,000 100 74,900 - - - 75,000
Common Stock returned in
October 2005, previously
issued for services
rendered at $0.60 per share - - (350,000) (350) (209,650) - - - (210,000)
Common stock issued pursuant
to subscription at $0.50 per
share in December 2005 - - 40,000 40 19,960 (20,000) - - -
Common Stock to investors
pursuant to registration rights
agreement at $0.51 per share in
December 2005 - - 505,854 506 257,480 - - - 257,986
Common Stock returned in
January 2006, previously issued
for services rendered at $0.60
per share - - (250,000) (250) (149,750) - - - (150,000)
Common Stock issued to investors
pursuant to registration rights
agreement at $0.32 per share
in January 2006 - - 806,212 806 257,182 - - - 257,988
Common Stock issued to investors
pursuant to registration rights
agreement at $0.20 per share
in January 2006 - - 1,289,927 1,290 256,695 - - - 257,985
Fair value of 200,000 warrants
issued to consultants for
services at $0.22 per warrant
in January 2006 - - - - 43,098 - - - 43,098
Common Stock issued in exchange
for consulting services at $0.17
per share in February 2006 - - 160,000 160 27,040 - - - 27,200
Common Stock issued in exchange
for consulting services at $0.16
per share in February 2006 - - 3,800,000 3,800 604,200 - - - 608,000
Common Stock returned in
March 2006, previously issued
for services rendered at $0.80
per share - - (150,000) (150) (119,850) - - - (120,000)
Previously issued warrants
reclassed to warrant liability - - - - (1,584,614) - - - (1,584,614)
Net Income - - - - - - - 5,606,849 5,606,849
------ ------- ----------- --------- ---------- --------- ----------- ----------- ----------
Balance as of June 30, 2006 60,000 6 118,582,385 118,582 81,997,006 (200,000) - (84,317,703) (2,402,109)
====== ======= =========== ========= ========== ========= =========== =========== ==========
See accompanying notes to unaudited condensed consolidated financial statements
-16-
APPLIED DNA SCIENCES, INC
(A DEVELOPMENT STAGE COMPANY)
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited)
For the Period
September 16, 2002
(Date of Inception)
For the nine months ended June 30, through
2006 2005 June 30, 2006
-------------- -------------- --------------
RESTATED RESTATED RESTATED
Cash flows from operating activities:
Net income (loss) $ 5,606,849 $ (40,464,827) $ (84,317,703)
Adjustments to reconcile net loss to net used in operating activities:
Depreciation and amortization 1,021,199 15,187 1,368,711
Organization expenses 88,500
Preferred shares issued in exchange for services - - 1,500,000
Warrants issued to consultants 43,100 3,241,068 9,421,530
Income attributable to repricing of warrants and debt
derivatives (14,250,621) (16,454,929) (30,951,611)
Financing costs attributable to issuance of warrants 2,271,000 23,148,214 25,418,674
Amortization of beneficial conversion feature-convertible
notes 8,836,000 10,461,000
Amortization of capitalized financing costs 247,238 - 247,238
Amortization of debt discount attributable to convertible
debenture 276,090 - 276,090
Fair value of common stock issued to related party in excess
of previously incurred debt - 1,365,000 1,365,000
Common stock issued in exchange for services 710,200 13,396,202 31,284,573
Common stock exchanged for intellectual property in
connection with costs of acquiring intangible assets - - 14,689,100
Common stock issued as penalty in connection financing 773,958 1,550,487
Common stock canceled-previously issued for services rendered (480,000) (181,298) (1,343,845)
Change in assets and liabilities:
Increase in accounts receivable (18,900) (18,900)
Increase in prepaid expenses and deposits (145,849) (33,291) (163,472)
Decrease in other assets 5,940 - (3,128)
Decrease in due related parties (52,662) (20,631) -
Increase (decrease) in accounts payable and accrued
liabilities 1,685,792 (833,465) 4,085,745
-------------- -------------- --------------
Net cash used in operating activities (2,306,666) (7,986,770) (15,042,011)
Cash flows from investing activities:
Payments for patent filing - (4,347) (25,698)
Capital expenditures (35,851) - (48,602)
-------------- -------------- --------------
Net cash used in investing activities (35,851) (4,347) (74,300)
Cash flows from financing activities:
Proceeds from sale of common stock, net of cost - 432,000
Proceeds from issuance of convertible notes 4,242,500 9,079,000 13,446,500
Proceeds form exercise of options and warrants - 102,750 343,750
Payment of debt - - (24,854)
Proceeds from loans - - 2,750,000
Advances from shareholders - - 100,088
-------------- -------------- --------------
Net cash provided by financing activities 4,242,500 9,181,750 17,047,484
Net increase in cash and cash equivalents 1,899,983 1,190,633 1,931,173
Cash and cash equivalents at beginning of period 31,190 1,832 -
-------------- -------------- --------------
Cash and cash equivalents at end of period $ 1,931,173 $ 1,192,465 $ 1,931,173
============== ============== ==============
See the accompanying notes to the unaudited condensed consolidated financial
statements
-17-
APPLIED DNA SCIENCES, INC
(A DEVELOPMENT STAGE COMPANY)
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited)
For the Period
September 16, 2002
(Date of Inception)
For the nine months ended June 30, through
2006 2005 June 30, 2006
-------------- -------------- --------------
RESTATED RESTATED RESTATED
Supplemental Disclosures of Cash Flow Information:
Cash paid during period for interest - - -
Cash paid during period for taxes - - -
Non-cash transactions:
Common stock issued for services 710,200 13,396,202 31,284,573
Common stock issued in exchange for previously incurred debt - 2,313,500 2,313,500
Common stock canceled-previously issued for services rendered (480,000) (181,298) (1,343,845)
Beneficial conversion feature attributable to convertible notes 8,836,000 10,461,000
Preferred shares in exchange for services - - 1,500,000
Warrants issued to consultants 43,100 3,241,068 9,421,530
Warrants issued in exchange for financing costs 2,271,000 23,148,214 25,418,674
Acquisition:
Common stock retained - 1,015 1,015
Assets acquired - (135) (135)
-------------- -------------- --------------
Total consideration paid - 880 880
-------------- -------------- --------------
Organizational expenses-note issued in exchange for shares retired 88,500
Common stock issued in exchange for note payable 88,500
See the accompanying notes to the unaudited condensed consolidated financial
statements
-18-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE A - SUMMARY OF ACCOUNTING POLICIES
General
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with the instructions to Form 10-QSB/A, and therefore, do
not include all the information necessary for a fair presentation of financial
position, results of operations and cash flows in conformity with generally
accepted accounting principles.
In the opinion of management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have been included.
Operating results for the three and nine month periods ended June 30, 2006 are
not necessarily indicative of the results that may be expected for the fiscal
year ending September 30, 2006. The unaudited condensed consolidated financial
statements should be read in conjunction with the consolidated September 30,
2005 financial statements and footnotes thereto included in the Company's SEC
Form 10-KSB, as amended.
Business and Basis of Presentation
On September 16, 2002, Applied DNA Sciences, Inc. (the "Company") was
incorporated under the laws of the State of Nevada. The Company is in the
development stage, as defined by Statement of Financial Accounting Standards No.
7 ("SFAS No. 7") and its efforts have been principally devoted to developing DNA
embedded biotechnology security solutions in the United States. To date, the
Company has generated nominal sales revenues, has incurred expenses and has
sustained losses. Consequently, its operations are subject to all the risks
inherent in the establishment of a new business enterprise. For the period from
inception through June 30, 2006, the Company has accumulated losses of
$84,317,703.
The consolidated financial statements include the accounts of the Company, and
its wholly-owned subsidiary ProHealth Medical Technologies, Inc. Significant
inter-company transactions have been eliminated in consolidation.
Reclassification
Certain prior period amounts have been reclassified for comparative purposes.
Property and Equipment
Property and equipment are stated at cost and depreciated over their estimated
useful lives of 3 to 5 years using the straight line method. At June 30, 2006
property and equipment consist of:
Computer equipment $ 15,328
Furniture 33,273
Accumulated depreciation (10,315)
-----------
Net $ 38,286
Stock Based Compensation
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation-Transition and Disclosure-an amendment of SFAS 123." This statement
amends SFAS No. 123, "Accounting for Stock-Based Compensation," to provide
alternative methods of transition for a voluntary change to the fair value based
method of accounting for stock-based employee compensation. In addition, this
statement amends the disclosure requirements of SFAS No. 123 to require
prominent disclosures in both annual and interim financial statements about the
method of accounting for stock-based employee compensation and the effect of the
method used on reported results. The Company has chosen to continue to account
for stock-based compensation using the intrinsic value method prescribed in APB
Opinion No. 25 and related interpretations. Accordingly, compensation expense
for stock options is measured as the excess, if any, of the fair market value of
the Company's stock at the date of the grant over the exercise price of the
related option. The Company has adopted the annual disclosure provisions of SFAS
No. 148 in its financial reports for the year ended September 30, 2003 and for
the subsequent periods.
Had compensation costs for the Company's stock options been determined based on
the fair value at the grant dates for the awards, the Company's net loss and
losses per share would have been as follows (transactions involving stock
options issued to employees and Black-Scholes model assumptions are presented in
Note E):
-19-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE A - SUMMARY OF ACCOUNTING POLICIES (continued)
For the Period
September, 16
2002 (Date of
For The Three For The Three For The Nine For The Nine Inception
Months ended Months ended Months ended Months ended through
June 30, June 30, June 30, June 30, June 30,
2006 2005 2006 2005 2006
Net income (loss) - as
reported $ 761,087 $ 3,700,198 $ 5,606,849 $ (40,464,827) $ (84,317,703)
Add: Total stock based
employee compensation
expense as reported
under intrinsic value
method (APB No. 25) -- -- -- -- --
Deduct: Total stock
based employee
compensation expense
as reported under fair
value method (APB No.
123) (1,406,350) (1,406,350) (1,406,350)
------------ ------------ ------------ -------------- --------------
Net income (loss) -
Pro Forma $ 761,087 $ 2,293,848 $ 5,606,849 $ (41,871,177) $ (85,724,053)
============ ============ ============ ============== ==============
Net income (loss)
attributable to common
stockholders - Pro
Forma $ 761,087 $ 2,293,848 $ 5,606,849 $ (41,871,177) $ (85,724,053)
============ ============ ============ ============== ==============
Basic income (loss)
per share - as reported $ 0.01 $ 0.06 $ 0.05 $ (0.83)
============ ============ ============ ==============
Basic income (loss)
per share - Pro Forma $ 0.01 $ 0,04 $ 0.04 $ (0.86)
============ ============ ============ ==============
Fully diluted income per
share - as reported $ 0.01 $ 0.04 $ 0.03 N/A N/A
============ ============ ============ ============== ==============
Fully diluted income per
share - Pro Forma $ 0.01 $ 0.03 $ 0.03 N/A N/A
============ ============ ============ ============== ==============
-20-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE A - SUMMARY OF ACCOUNTING POLICIES (continued)
On December 16, 2004, the Financial Accounting Standards Board (FASB) issued
FASB Statement No. 123R (revised 2004), "Share-Based Payment" which is a
revision of FASB Statement No. 123, "Accounting for Stock-Based Compensation".
Statement 123R supersedes APB opinion No. 25, "Accounting for Stock Issued to
Employees", and amends FASB Statement No. 95, "Statement of Cash Flows".
Generally, the approach in Statement 123R is similar to the approach described
in Statement 123. However, Statement 123R requires all share-based payments to
employees, including grants of employee stock options, to be recognized in the
income statement based on their fair values. Pro-forma disclosure is no longer
an alternative. On April 14, 2005, the SEC amended the effective date of the
provisions of this statement. The effect of this amendment by the SEC is that
the Company will have to comply with Statement 123R and use the Fair Value based
method of accounting no later than the first quarter of 2006. Management has not
determined the impact that this statement will have on Company's consolidated
financial statements.
Revenue Recognition
Revenues are recognized in the period that services are provided. For revenue
from product sales, the Company recognizes revenue in accordance with Staff
Accounting Bulletin No. 104, REVENUE RECOGNITION ("SAB104"), which superseded
Staff Accounting Bulletin No. 101, REVENUE RECOGNITION IN FINANCIAL STATEMENTS
("SAB101"). SAB 101 requires that four basic criteria must be met before revenue
can be recognized: (1) persuasive evidence of an arrangement exists; (2)
delivery has occurred; (3) the selling price is fixed and determinable; and (4)
collectibility is reasonably assured. Determination of criteria (3) and (4) are
based on management's judgments regarding the fixed nature of the selling prices
of the products delivered and the collectibility of those amounts. Provisions
for discounts and rebates to customers, estimated returns and allowances, and
other adjustments are provided for in the same period the related sales are
recorded. The Company defers any revenue for which the product has not been
delivered or is subject to refund until such time that the Company and the
customer jointly determine that the product has been delivered or no refund will
be required. At June 30, 2006 the Company did not have any deferred revenue.
SAB 104 incorporates Emerging Issues Task Force 00-21 ("EITF 00-21"), MULTIPLE
DELIVERABLE REVENUE ARRANGEMENTS. EITF 00-21 addresses accounting for
arrangements that may involve the delivery or performance of multiple products,
services and/or rights to use assets. The effect of implementing EITF 00-21 on
the Company's financial position and results of operations was not significant.
Concentrations of Credit Risk
Financial instruments and related items which potentially subject the Company to
concentrations of credit risk consist primarily of cash, cash equivalents and
trade receivables. The Company places its cash and temporary cash investments
with credit quality institutions. At times, such investments may be in excess of
the FDIC insurance limit. The Company periodically reviews its trade receivables
in determining its allowance for doubtful accounts. At June 30, 2006, allowance
for doubtful receivable was $0.
Derivative Financial Instruments
The Company's derivative financial instruments consist of embedded derivatives
related to the 10% Secured Convertible Promissory Notes (the "Serial Notes")
entered into in 2006 (see Note D). These embedded derivatives include certain
conversion features, variable interest features, call options and default
provisions. The accounting treatment of derivative financial instruments
requires that the Company recorded the derivatives and related warrants at their
fair values as of the inception date of the Note Agreement (estimated at
$2,419,719) and at fair value as of each subsequent balance sheet date. In
addition, under the provisions of EITF Issue No. 00-19, "Accounting for
Derivative Financial Instruments Indexed to, and Potentially Settled in, a
Company's Own Stock," as a result of entering into the Notes, the Company is
required to classify all other non-employee stock options and warrants as
derivative liabilities and mark them to market at each reporting date. The fair
value of such options and warrants that were reclassified as liabilities from
additional paid-in capital in the nine months ended June 30, 2006 totaled
$1,584,614. Any change in fair value will be recorded as non-operating, non-cash
income or expense at each reporting date. If the fair value of the derivatives
is higher at the subsequent balance sheet date, the Company will record a
non-operating, non-cash charge. If the fair value of the derivatives is lower at
the subsequent balance sheet date, the Company will record non-operating,
non-cash income. Conversion-related derivatives were valued using the Binomial
Option Pricing Model with the following assumptions: dividend yield of 0%;
annual volatility of 111 to 112%; and risk free interest rate of 4.96 to 5.15%
as well as probability analysis related to trading volume restrictions. The
remaining derivatives were valued using discounted cash flows and probability
analysis. The derivatives are classified as long-term liabilities (see Note F).
-21-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE A - SUMMARY OF ACCOUNTING POLICIES (continued)
New Accounting Pronouncements
In March 2005, the FASB issued FASB Interpretation (FIN) No. 47, "Accounting for
Conditional Asset Retirement Obligations, an interpretation of FASB Statement
No. 143," which requires an entity to recognize a liability for the fair value
of a conditional asset retirement obligation when incurred if the liability's
fair value can be reasonably estimated. The Company is required to adopt the
provisions of FIN 47 no later than the first quarter of fiscal 2006. The Company
adopted this interpretation from January 1, 2006. The adoption of this
Interpretation did not have a material impact on its consolidated financial
position, results of operations or cash flows.
In May 2005 the FASB issued Statement of Financial Accounting Standards (SFAS)
No. 154, "Accounting Changes and Error Corrections, a replacement of APB Opinion
No. 20 and FASB Statement No. 3." SFAS 154 requires retrospective application to
prior periods' financial statements for changes in accounting principle, unless
it is impracticable to determine either the period-specific effects or the
cumulative effect of the change. SFAS 154 also requires that retrospective
application of a change in accounting principle be limited to the direct effects
of the change. Indirect effects of a change in accounting principle, such as a
change in non-discretionary profit-sharing payments resulting from an accounting
change, should be recognized in the period of the accounting change. SFAS 154
also requires that a change in depreciation, amortization, or depletion method
for long-lived, non-financial assets be accounted for as a change in accounting
estimate affected by a change in accounting principle. SFAS 154 is effective for
accounting changes and corrections of errors made in fiscal years beginning
after December 15, 2005. Early adoption is permitted for accounting changes and
corrections of errors made in fiscal years beginning after the date this
Statement is issued. The Company adopted of this SFAS with its restatements
included within.
On February 16, 2006 the Financial Accounting Standards Board (FASB) issued SFAS
155, "Accounting for Certain Hybrid Instruments," which amends SFAS 133,
"Accounting for Derivative Instruments and Hedging Activities," and SFAS 140,
"Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities." SFAS 155 allows financial instruments that have embedded
derivatives to be accounted for as a whole (eliminating the need to bifurcate
the derivative from its host) if the holder elects to account for the whole
instrument on a fair value basis. SFAS 155 also clarifies and amends certain
other provisions of SFAS 133 and SFAS 140. This statement is effective for all
financial instruments acquired or issued in fiscal years beginning after
September 15, 2006. The Company does not expect its adoption of this new
standard to have a material impact on its financial position, results of
operations or cash flows.
In March 2006, the FASB issued FASB Statement No. 156, Accounting for Servicing
of Financial Assets - an amendment to FASB Statement No. 140. Statement 156
requires that an entity recognize a servicing asset or servicing liability each
time it undertakes an obligation to service a financial asset by entering into a
service contract under certain situations. The new standard is effective for
fiscal years beginning after September 15, 2006. The Company does not expect its
adoption of this new standard to have a material impact on its financial
position, results of operations or cash flows.
NOTE B - INTANGIBLE ASSETS AND AMORTIZATION
The Company has adopted SFAS No. 142, Goodwill and Other Intangible Assets,
whereby the Company periodically test its intangible assets for impairment. On
an annual basis, and when there is reason to suspect that their values have been
diminished or impaired, these assets are tested for impairment, and write-downs
will be included in results from operations.
Biowell Technology, Inc.
On July 12, 2005, the Company acquired certain intellectual properties from
Biowell Technology, Inc. ("Biowell") through an Asset Purchase Agreement
("Agreement") in exchange for 36 million shares of the Company's restricted
common stock having an aggregate fair value at the date of issuance of
$24,120,000. The intangible assets acquired consist of proprietary DNA
anti-counterfeit trade secrets created by Biowell that are intended to protect
intellectual property from counterfeiting, fraud, piracy, product diversion and
unauthorized intrusion.
-22-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE B - INTANGIBLE ASSETS AND AMORTIZATION (continued)
The purchase price has been allocated as follows:
Amortizable intangible assets acquired are comprised of:
Developed core technologies $ 2,260,900
Developed product technologies 7,170,000
-----------
Total amortizable intangible assets $ 9,430,900
Transaction costs 14,869,100
-----------
Total purchase price $24,120,000
===========
In Process Research & Development
The Company concluded as of the date of acquisition, the acquired intangible
assets, consisting of developed core and product technologies had reached full
development and that it was not the intention of the Company's management to
utilize the asset in specific research and development activities as defined in
SFAS No. 2 Accounting for Research & Development Costs, As a result, the Company
determined there was no in-process research and development ("IPR& D") projects
in place related to the technology acquired , nor any future research and
development activities planned. Accordingly, there is no charge to operations
during the year ended September 30, 2005 for IPR&D in connection with the
acquisition of the assets.
Transaction costs
The amount of the purchase price that could not be allocated to acquired
identifiable intangible assets or IPR & D was $14,689,100 and was charged to
operations as a cost of the transaction during the year ended September 30,
2005.
The identifiable intangible assets acquired and their carrying value at June 30,
2006 are:
Weighted
Gross Carrying Average
Amount Accumulated Residual Amortization
Amortization Net Value Period
(Years)
Amortizable
Intangible
Assets:
Trade secrets and
developed technologies $ 9,430,900 $ 1,347,271 $ 8,083,629 - 7
Patents 34,237 16,881 17,376 - 5
----------- ----------- ----------- ----------- ------------
Total
Amortized
Identifiable
Intangible Assets $ 9,465,137 $ 1,364,152 $ 8,101,005 - 6.99
Total amortization expense charged to operations for the nine months ended June
30, 2006 and 2005 was $1,015,571and $7,748, respectively.
-23-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE C - PRIVATE PLACEMENT OF CONVERTIBLE NOTES
Convertible notes payable as of June 30, 2006 are as follows:
10% Secured Convertible Notes Payable dated March 8, 2006, net of
unamortized debt discount of $680,110 (see
below) $ 819,890
10% Secured Convertible Notes Payable dated May 2, 2006,
net of unamortized debt discount of $395,158 (see below)
604,842
10% Secured Convertible Notes Payable dated June 15, 2006, net of
unamortized debt discount of $1,068,361 (see
below)
1,881,639
$ 3,306,371
============
10% Secured Convertible Promissory Notes dated March 8, 2006
On March 8, 2006, in connection with a private placement, the Company issued 10%
Secured Convertible Promissory Notes in the aggregate principal amount of
$1,500,000 (the "Serial Notes") and warrants to purchase 3,000,000 shares of the
Company's common stock to accredited investors. The Serial Notes bear interest
at 10%, mature on September 7, 2007 and are convertible into the Company's
common stock, at the holder's option, at fifty cents ($.50) per share during the
period from the date of issuance (March 8, 2006) through March 7, 2007. Should
the holder of the Serial Note elect not to convert to the Company's common stock
on or before March 7, 2007, the outstanding principal, along with accrued and
unpaid interest automatically converts to the Company's common stock at an
amount equal to 80% of the average bid price of the Company's common stock on
the Over-The-Counter Bulletin Board for a period equal to ten (10) days prior to
conversion on the maturity date of September 7, 2007. The full principal amount
of the Serial Notes is due upon a default under the terms of the Note Agreement.
In addition, the Company granted the Investors a security interest in all of its
assets (see Note B). The Company agreed to file a registration statement with
the SEC to effect the registration of the shares of its common stock underlying
the Serial Notes and the warrants within 30 days of the effective date of the
Company's pending Registration Statement (SEC File 333 - 122848) being declared
effective. The Company also agreed to use its reasonable best efforts to cause
the registration statement to be declared effective no later than 180 days after
its filing. If the Registration Statement is not filed and declared effective as
described above, the Company will be required to pay liquidated damages in the
form of cash to the holders of the Serial Notes, in an amount equal to 2% of the
unpaid principal balance per month if the above deadlines are not met. In the
event of a default on the Serial Notes, the Serial Notes will bear interest at
twelve percent (12%) per annum until paid.
The warrants are exercisable until five years from March 8, 2006 until March 7,
2011 at a price of $0.50 per share. The Company has the right, but not the
obligation, to call these warrants for $1.25 per share at the earlier of (i) one
year from issuance or (ii) the date that shares of common stock issuable upon
conversion of the Serial Notes and exercise of the warrants are registered for
resale and the Company's common stock trades at or above $1.25 per share for
twenty (20) consecutive trading days. The Notes include certain features that
are considered embedded derivative financial instruments, such as a variety of
conversion options, a variable interest rate feature, events of default and a
variable liquidated damages clause.
The initial relative fair value assigned to the embedded derivatives was
$346,500.
In conjunction with the Notes, the Company issued warrants to purchase 3,000,000
shares of common stock. The accounting treatment of the derivatives and warrants
requires that the Company record the warrants at their fair values as of the
inception date of the debt issuance, which totaled $512,100.
The Company recorded the fair value of the derivatives ($346,500) and warrants
($ 512,100) to debt discount, aggregating $858,600, which will be amortized to
interest expense over the term of the Notes. Amortization of $178,490 was
recorded for the nine months ended June 30, 2006.
-24-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE C - PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued)
The market price of the Company's common stock significantly impacts the extent
to which the Company may be required or may be permitted to convert the Serial
Notes into shares of the Company's common stock. The lower the market price of
the Company's common stock at the due date of September 7, 2007, the more shares
the Company will need to issue to convert the principal and interest payments
then due on the Notes.
10% Secured Convertible Promissory Notes dated May 2, 2006
On May 2, 2006, in connection with a private placement, the Company issued 10%
Secured Convertible Promissory Notes in the aggregate principal amount of
$1,000,000 (the "Serial Notes") and warrants to purchase 2,000,000 shares of the
Company's common stock to accredited investors. The Serial Notes bear interest
at 10%, mature on August 2, 2007 and are convertible into the Company's common
stock, at the holder's option, at fifty cents ($.50) per share during the period
from the date of issuance (May 2, 2006) through May 2, 2007. Should the holder
of the Serial Note elect not to convert to the Company's common stock on or
before May 2, 2007, the outstanding principal, along with accrued and unpaid
interest automatically converts to the Company's common stock at an amount equal
to 80% of the average bid price of the Company's common stock on the
Over-The-Counter Bulletin Board for a period equal to ten (10) days prior to
conversion on the maturity date of May 2, 2007. The full principal amount of the
Serial Notes is due upon a default under the terms of the Note Agreement. In
addition, the Company granted the Investors a security interest in all of its
assets (see Note B). The Company agreed to file a registration statement with
the SEC to effect the registration of the shares of its common stock underlying
the Serial Notes and the warrants within 30 days of the effective date of the
Company's pending Registration Statement (SEC File 333 - 122848) being declared
effective. The Company also agreed to use its reasonable best efforts to cause
the registration statement to be declared effective no later than 180 days after
its filing. In the event of a default on the Serial Notes, the Serial Notes will
bear interest at twelve percent (12%) per annum until paid.
The warrants are exercisable until four years from May 2, 2007 until May 2, 2011
at a price of $0.50 per share. The Company has the right, but not the
obligation, to call these warrants for $0.001 per share at the earlier of (i)
one year from issuance and (ii) the date that shares of common stock issuable
upon conversion of the Serial Notes and exercise of the warrants are registered
for resale and the Company's common stock trades at and above $1.00 per share
for twenty (20) consecutive trading days. The Notes include certain features
that are considered embedded derivative financial instruments, such as a variety
of conversion options, a variable interest rate feature, events of default and a
variable liquidated damages clause.
The initial relative fair value assigned to the embedded derivatives was
$82,358.
In conjunction with the Notes, the Company issued warrants to purchase 2,000,000
shares of common stock. The accounting treatment of the derivatives and warrants
requires that the Company record the warrants at their fair values as of the
inception date of the debt issuance, which totaled $373,600.
The Company recorded the fair value of the derivatives ($82,358) and warrants
($373,600) to debt discount, aggregating $455,958, which will be amortized to
interest expense over the term of the Notes. Amortization of $60,800 was
recorded for the nine months ended June 30, 2006.
The market price of the Company's common stock significantly impacts the extent
to which the Company may be required or may be permitted to convert the Serial
Notes into shares of the Company's common stock. The lower the market price of
the Company's common stock at the due date of September 7, 2007, the more shares
the Company will need to issue to convert the principal and interest payments
then due on the Notes.
-25-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE C - PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued)
10% Secured Convertible Promissory Notes dated June 15, 2006
On June 15, 2006, in connection with a private placement, the Company issued 10%
Secured Convertible Promissory Notes in the aggregate principal amount of
$2,950,000 (the "Serial Notes") and warrants to purchase 5,900,000 shares of the
Company's common stock to accredited investors. The Serial Notes bear interest
at 10%, mature on August 2, 2007 and are convertible into the Company's common
stock, at the holder's option, at fifty cents ($.50) per share during the period
from the one years from the date of issuance (June 15, 2006) through June 15,
2007. Should the holder of the Serial Note elect not to convert to the Company's
common stock on or before June 15, 2007, the outstanding principal, along with
accrued and unpaid interest automatically converts to the Company's common stock
at an amount equal to 80% of the average bid price of the Company's common stock
on the Over-The-Counter Bulletin Board for a period equal to ten (10) days prior
to conversion on the maturity date of June 15, 2007. The full principal amount
of the Serial Notes is due upon a default under the terms of the Note Agreement.
In addition, the Company granted the Investors a security interest in all of its
assets (see Note B). The Company agreed to file a registration statement with
the SEC to effect the registration of the shares of its common stock underlying
the Serial Notes and the warrants within 30 days of the effective date of the
Company's pending Registration Statement (SEC File 333 - 122848) being declared
effective. The Company also agreed to use its reasonable best efforts to cause
the registration statement to be declared effective no later than 180 days after
its filing. In the event of a default on the Serial Notes, the Serial Notes will
bear interest at twelve percent (12%) per annum until paid.
The warrants are exercisable until four years from June 15, 2007 until June 15,
2011 at a price of $0.50 per share. The Company has the right, but not the
obligation, to call these warrants for $0.001 per share at the earlier of (i)
one year from issuance and (ii) the date that shares of common stock issuable
upon conversion of the Serial Notes and exercise of the warrants are registered
for resale and the Company's common stock trades at and above $1.00 per share
for twenty (20) consecutive trading days. The Notes include certain features
that are considered embedded derivative financial instruments, such as a variety
of conversion options, a variable interest rate feature, events of default and a
variable liquidated damages clause.
The initial relative fair value assigned to the embedded derivatives was
$175,321.
In conjunction with the Notes, the Company issued warrants to purchase 5,900,000
shares of common stock. The accounting treatment of the derivatives and warrants
requires that the Company record the warrants at their fair values as of the
inception date of the debt issuance, which totaled $929,840.
The Company recorded the fair value of the derivatives ($175,321) and warrants
($929,840) to debt discount, aggregating $1,105,161, which will be amortized to
interest expense over the term of the Notes. Amortization of $36,800 was
recorded for the nine months ended June 30, 2006.
The market price of the Company's common stock significantly impacts the extent
to which the Company may be required or may be permitted to convert the Serial
Notes into shares of the Company's common stock. The lower the market price of
the Company's common stock at the due date of September 7, 2007, the more shares
the Company will need to issue to convert the principal and interest payments
then due on the Notes.
$ 1,675,000 Convertible Notes
Convertible notes payable ("Bridge Unit Offering") in quarterly installments of
interest only at 10% per annum, secured by all assets of the Company and due on
the earlier of the 9 month anniversary date of the initial closing of the
offering or the completion of any equity financing of $3,000,000 or more; the
Company, at its sole discretion may prepay principal at any time without
penalty. The Bridge Unit Offering Notes unpaid principal along with accrued and
unpaid interest were converted to an aggregate of 4,988,051 shares of the
Company's common shares at a price equal to approximately $. 33 per share during
the quarter ended March 31, 2005.
-26-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE C - PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued)
$ 1,465,000 CONVERTIBLE NOTES
Beginning in December, 2004, the Company sold a 10% convertible debenture in the
aggregate amount of $ 1,465,000 in a private placement and exempt offerings to
sophisticated investors, net of costs and fees.
The Convertible Note's terms called for the debt to automatically convert at
$.50 per share upon the filing a of a registration statement with the Securities
and Exchange Commission.
The Company filed the registration statement on February 15, 2005 and the
Convertible Notes were converted to an aggregate of 2,930,000 shares of the
Company's common stock in February 2005.
As additional consideration for the purchase of the Convertible Notes, the
Company granted to the holders warrants entitling it to purchase 2,930,000
common shares of the Company's common stock at the price of $ .75 per share.
These warrants were issued in February, 2005 and lapse if unexercised by
February, 2010. A registration rights agreement was executed in December 2004
and consummated in February, 2005 requiring the Company to register the shares
of its common stock underlying the Convertible Notes and warrants so as to
permit the public resale thereof. The registration rights agreement provided for
the payment of liquidated damages of 3.5% of the aggregate Convertible Note
financing per month if the stipulated registration deadlines were not met. The
liquidated damages, which approximate $ 51,275 per month, may be paid, at the
Company's option, in cash or unregistered shares of the Company's common stock.
In accordance with EMERGING ISSUES TASK FORCE ISSUE 98-5, ACCOUNTING FOR
CONVERTIBLE SECURITIES WITH A BENEFICIAL CONVERSION FEATURES OR CONTINGENTLY
ADJUSTABLE CONVERSION RATIOS ("EITF 98-5"), the Company recognized an imbedded
beneficial conversion feature present in the Convertible Notes. The Company
allocated a portion of the proceeds equal to the intrinsic value of that feature
to additional paid-in capital. The Company recognized and measured an aggregate
of $1,465,000 of the proceeds, which is equal to the intrinsic value of the
imbedded beneficial conversion feature, to additional paid-in capital and a
discount against the Convertible Notes. Since the Convertible Notes were
converted to the Company's common stock in February 2005, the debt discount
attributed to the beneficial conversion feature of $ 1,465,000 was charged to
interest expense in its entirety during the six months ended March 31, 2005.
In conjunction with raising capital through the issuance of Convertible Notes,
the Company has issued a warrant in February, 2005 that has registration rights
for the underlying shares. As the contract must be settled by the delivery of
registered shares and the delivery of the registered shares is not controlled by
the Company, pursuant to EITF 00-19, "Accounting for Derivative Financial
Instruments Indexed to, and Potentially Settled in, a Company's Own Stock", the
net value of the warrants at the date of issuance was recorded as a warrant
liability on the balance sheet $3,845,039 and charged to operations as interest
expense. Upon the registration statement being declared effective, the fair
value of the warrant on that date will be reclassified to equity. The Company
initially valued the warrants using the Black-Scholes pricing model with the
following assumptions: (1) dividend yield of 0%; (2) expected volatility of
148.66%, (3) risk-free interest rate of 3.21%, and (4) expected life of 3 years.
In connection with the placement of the $1,465,000 of convertible notes as
described above, the Company agreed to registered shares of the Company's common
stock underlying certain previously issued and outstanding warrants that were
not subject to a registration rights agreement at the time the warrants were
issued. These warrants consist of following:
o 105,464 warrants entitling the holder to purchase 105,464 shares of the
Company's common stock at the price of $ .10 per share. These warrants
were issued in July, 2004 and lapse if unexercised by July, 2009.
o 1,602,500 warrants entitling the holder to purchase 1,602,500 shares of
the Company's common stock at the price of $ .60 per share. These
warrants were issued in October, 2003 and lapse if unexercised by
October, 2008.
As a result, the Company is required to classify the warrants as derivative
liabilities and mark then to market at each reporting date. The fair value of
the warrants that were subject to registration reclassified as liabilities from
additional paid in capital at February 2005 totaled $3,108,851. Upon the
registration statement being declared effective, the fair value of the warrants
on that date will be reclassified to equity. The Company initially valued the
warrants using the Black-Scholes pricing model with the following assumptions:
(1) dividend yield of 0%; (2) expected volatility of 148.66%, (3) risk-free
interest rate of 3.21%, and (4) expected life of 3 years.
-27-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE C - PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued)
$ 7,371,000 Convertible Notes
In January and February, 2005, the Company sold a 10% convertible debenture in
the aggregate amount of $7,371,000 in a private placement and exempt offerings
to sophisticated investors, net of costs and fees.
The Convertible Note's terms called for the debt to automatically convert at
$.50 per share upon the filing of a registration statement with the Securities
and Exchange Commission.
The Company filed the registration statement on February 15, 2005 and the
Convertible Notes were converted to an aggregate of 14,742,000 shares of the
Company's common stock.
As additional consideration for the purchase of the Convertible Notes, the
Company granted to the holders warrants entitling it to purchase 14,742,000
common shares of the Company's common stock at the price of $ .75 per share.
These warrants lapse if unexercised by February, 2010. A registration rights
agreement was executed and consummated in January, 2005 requiring the Company to
register the shares of its common stock underlying the Convertible Notes and
warrants so as to permit the public resale thereof. The registration rights
agreement provided for the payment of liquidated damages of 3.5% of the
aggregate Convertible Note financing per month if the stipulated registration
deadlines were not met. The liquidated damages, which approximate $ 257,985 per
month, may be paid, at the Company's option, in cash or unregistered shares of
the Company's common stock.
In accordance with Emerging Issues Task Force Issue 98-5, Accounting for
Convertible Securities with a Beneficial Conversion Features or Contingently
Adjustable Conversion Ratios ("EITF 98-5"), the Company recognized an imbedded
beneficial conversion feature present in the Convertible Notes. The Company
allocated a portion of the proceeds equal to the intrinsic value of that feature
to additional paid-in capital. The Company recognized and measured an aggregate
of $ 7,731,000 of the proceeds, which is equal to the intrinsic value of the
imbedded beneficial conversion feature, to additional paid-in capital and a
discount against the Convertible Notes. Since the Convertible Notes were
converted to the Company's common stock in February, 2005, 2005, the debt
discount attributed to the beneficial conversion feature of $ 7,371,000 was
charged to interest expense in its entirety during the six months ended March
31, 2005.
In conjunction with raising capital through the issuance of Convertible Notes,
the Company has issued warrants that have registration rights for the underlying
shares. As the contract must be settled by the delivery of registered shares and
the delivery of the registered shares is not controlled by the Company, pursuant
to EITF 00-19, "Accounting for Derivative Financial Instruments Indexed to, and
Potentially Settled in, a Company's Own Stock", the net value of the warrants at
the date of issuance was recorded as a warrant liability on the balance sheet
$19,303,175 and charged to operations as interest expense. Upon the registration
statement being declared effective, the fair value of the warrant on that date
will be reclassified to equity. The Company initially valued the warrants using
the Black-Scholes pricing model with the following assumptions: (1) dividend
yield of 0%; (2) expected volatility of 152.59%, (3) risk-free interest rate of
3.67%, and (4) expected life of 5 years.
NOTE D - CAPITAL STOCK
The Company is authorized to issue 10,000,000 shares of preferred stock with a
$.001 par value per share. The Company is authorized to issue 250,000,000 shares
of common stock, with a $0.001 par value per share as the result of a
shareholder meeting conducted on February 14, 2005. Prior to the February 14,
2005 share increase and par value change, the Company had 100,000,000 authorized
shares with a par value of $0.50. In February 2005, the Company passed a
resolution authorizing change in the par value per common shares from $0.50 per
share to $0.001 per share.
During the period September 16, 2002 through September 30, 2003, the Company
issued 100,000 shares of common stock in exchange for reimbursement of services
provided by the founders of the Company. The Company valued the shares issued at
approximately $1,000, which represents the fair value of the services received
which did not differ materially from the value of the stock issued.
-28-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE D - CAPITAL STOCK (continued)
In October, 2002, the Company issued 10,178,352 shares of common stock in
exchange for the previously issued 100,000 shares to the Company's founders in
connection with the merger with Prohealth Medical Technologies, Inc.
In October, 2002 the Company canceled 100,000 shares of common stock issued to
the Company's founders.
During the fiscal year ended September 30, 2003, the Company issued 2,369,130
shares of common stock, net of cancellation of 860,000 shares in exchange for
consulting services. The Company valued the shares issued at $2,191,227, net of
cancellation of $60,008, which represents the fair value of the services
received which did not differ materially from the value of the stock issued.
In November 2003, the Company issued 876,000 shares of common stock in exchange
for subscription at approximately $ 0.065 per share.
In January 2003, the Company issued 1,500,000 shares of common stock in exchange
for a licensing agreement. The Company valued the shares issued at approximately
$ .065 per share, which represents the fair value of the license received which
did not differ materially from the value of the stock issued. The Company
charged the cost of the license to operations.
In March 2003, the Company issued 10,140,000 shares of common stock to Company's
founders in exchange for services. In accordance with EITF 96-18 the measurement
date to determine fair value was in September 2002. This was the date at which a
commitment for performance by the counter party to earn the equity instrument
was reached. The Company valued the shares issued at approximately $0.0001 per
share, which presents the fair value of the services received which did not
differ materially from the value of the stock issued.
In connection with the Company's acquisition of ProHealth, the controlling owner
of ProHealth granted the Company an option to acquire up to 8,500,000 shares of
the Company's common stock in exchange for $100,000. The option expired on
December 10, 2004. On June 30, 2003, the Company exercised its option and
acquired 7,500,000 common shares under this agreement in exchange for an $88,500
convertible promissory note payable to the former controlling owner. The Company
had an option through December 10, 2004 to acquire the remaining 1,000,000
shares from the former controlling owner in exchange for $11,500. On June 30,
2003, the Company retired the 7,500,000 shares common acquired pursuant to the
option agreement.
In September 2003, the Company issued 19,200 shares of common stock for cash
previously subscribed at $2.50 per share.
During the fiscal year ended September 30, 2003, the Company issued 154,000
shares of common stock in exchange for previously issued options to purchase the
Company's common stock at $1.00 per share.
During the fiscal year ended September 30, 2003, the Company issued 74,400
shares of common stock in exchange for cash at approximately $0.89 per share.
In October 2003, the Company issued 15,000 shares of convertible preferred stock
in exchange for services. The Company valued the shares issued at the $15 par
value and recorded the value for services when the shares were converted into
common shares as identified below.
During the fiscal year ended September 30, 2004, the Company issued 5,149,472
shares of common stock, net of cancellation of 155,000 shares, in exchange for
consulting services. The Company valued the shares issued at $8,787,315, net of
cancellation of $408,575, which represents the fair value of the services
received which did not differ materially from the value of the stock issued
During the fiscal year ended September 30, 2004, the Company issued 340,500
shares of common stock for shares previously subscribed at approximately $2.04
per share.
-29-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE D - CAPITAL STOCK (continued)
In March 2004, the Company issued 55,000 of common stock for options exercised
at $1.00 per share.
During the fiscal year ended September 30 2004, the Company converted 15,000
preferred shares into 375,000 shares of common stock at $1.47 per share in
exchange for employee services valued at $549,750.
In June 2004, the Company sold 250,000 shares of common stock at $1.00 per share
for total proceeds of $250,000 pursuant to private placement.
In September 2004, the Company issued 60,000 convertible preferred shares at
$25.00, in exchange for consulting services valued at $1,500,000.
During the fiscal year ended September 30, 2005, the Company issued 11,040,647
shares of common stock, net of cancellation of 2,329,600 shares, in exchange for
consulting and employee services. The Company valued the shares issued at
$13,008,371, net of cancellation of $1,328,269, which represents the fair value
of the services received which did not differ materially from the value of the
stock issued
During the fiscal year ended September 30, 2005, the Company issued 1,500,000
shares of common stock for shares previously subscribed at approximately $.54
per share.
During the fiscal year ended September 30, 2005, the Company issued 267,500
shares of common stock for warrants and options exercised at approximately $0.39
per share
In October 2004, the Company issued 500,000 shares of common stock in exchange
for debt at $0.50 per share.
In December 2004, the Company issued net 5,500,000 shares of common stock for
default as per terms of notes payable for $88,500. Out of total, 3,500,000
shares were retained in escrow on behalf of another party for future deferred
compensation.
In February 2005, the Company in exchange for a related party note in the
outstanding principal amount of $600,000 and as settlement for certain claims
related thereto issued 1,500,000 shares of common stock using a price of $1.31
per share. (See note G)
In March, 2005, the Company granted an aggregate of 300,000 stock options to
employees that vested immediately. The exercise prices of the stock options
granted were below the fair value of the Company's common stock at the grant
date. Compensation expense of $180,000 and $0 was charged to operations during
the period ended March 31, 2005 and 2004, respectively.
In June 2005, the Company cancelled 300,000 stock options previously granted
valued at $180,000. In accordance with EITF 96-18 the measurement date to
determine fair value was the date at which a commitment for performance by the
counter party to earn the equity instrument was reached. The Company valued the
shares issued for consulting services at the rate which represents the fair
value of the services received which did not differ materially from the value of
the stock issued.
-30-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE D - CAPITAL STOCK (continued)
In July 2005, the Company issued 36 million shares in exchange for intellectual
property at approximately $0.67 per share for a total of $24,120,000. The value
of the acquired intangible assets was established at $9,430,900, with the
balance of the purchase price, or $14,689,100, charged to operations as a cost
of the transaction. (See Note B)
In 2005, the Company issued 8,550,000 shares of its common stock without
restriction to employees in exchange for services rendered. The Company valued
the shares issued at market value and charged to operations in the period the
shares were issued. The Company is investigating the circumstances surrounding
the issuance of the shares and the possible subsequent resale of certain of the
shares on the open market and the possibility of violations of securities laws
(see Note H).
Until the Company successfully completes its pending registration statement on
SEC Form SB-2, the Company is subject to liquidated damages (see Note D). In
connection with the $1,465,000 and $7,371,000 million convertible debt
financing, the Company was obligated to deliver registered shares underlying the
convertible notes and warrants by July 2005. Since the registration was not
effective by July 2005, the Company has been accruing and charging to operations
the stipulated liquidated damages in shares of the Company's common stock
accruing at a rate of 3.5% per month on the face value of the previously issued
convertible notes. During the year ended September 30, 2005, the Company has
paid and charged to operations penalties of $776,529 in the form of 605,382
unregistered shares of its common stock to the former note holders.
In October, 2005, the Company issued 400,000 shares of common stock subscribed
for cash at $0.50 per share for a total of $200,000 pursuant to the terms of a
subscription payable. This issuance is considered exempt under Regulation D of
the Securities Act of 1933 and Rule 506 promulgated thereunder.
In October 2005, the Company issued 100,000 shares of common stock in exchange
for consulting services. The Company valued the shares issued at approximately
$0.75 per share for a total of $75,000, which represents the fair value of the
services received which did not differ materially from the value of the stock
issued.
In October 2005, the Company cancelled 350,000 shares previously issued for
services valued at $210,000.
In December, 2005, the Company issued 40,000 shares of common stock subscribed
for cash at $0.50 per share for a total of $20,000 pursuant to the terms of a
subscription payable. This issuance is considered exempt under Regulation D of
the Securities Act of 1933 and Rule 506 promulgated thereunder.
For the fiscal year ended September 30, 2005, the Company issued a total of
2,096,139 penalty shares pursuant to a registration rights agreement. In
connection with the 7,371,000 million convertible debt financing in the quarter
ended March 31, 2005, the Company was obligated to complete a stock registration
by July 2005. Since the registration statement was not effective by July 2005,
the Company paid the required $773,959 of liquidated damages in shares of
Company stock accruing at the rate of 3.5% per month on the face value of the
Notes for the month of September 2005. The Company valued the shares issued at
approximately $0.30 per share for a total of $773,959. The Company continues to
accrue the penalties relating to the pending registration statement.
In December 2005, in connection with debt financing, the Company issued
5,500,000 warrants to purchase the Company's common stock at an exercise price
of $0.50 for five years. The fair value attributable to the warrants of $563,750
was recorded as to current period operations with an offsetting adjustment to
additional paid in capital.
-31-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE D - CAPITAL STOCK (continued)
In January, 2006, the Company cancelled 250,000 shares previously issued for
services valued at $150,000.
In January 2006, the Company issued 2,096,139 penalty shares pursuant to a
registration rights agreement. In connection with the 7,371,000 million
convertible debt financing in the quarter ended March 31, 2005, the Company was
obligated to complete a stock registration by July 2005. Since the registration
statement was not effective by July 2005, the Company paid the required $257,985
of liquidated damages in shares of Company stock accruing at the rate of 3.5%
per month on the face value of the Notes for the month of November and December
2005. The Company valued the shares issued at approximately $0.25 per share for
a total of $515,973. The Company continues to accrue the penalties relating to
the pending registration statement.
In February 2006, the Company issued 160,000 shares of common stock in exchange
for consulting services. The Company valued the shares issued at approximately
$0.17 per share for a total of $27,200, which represents the fair value of the
services received which did not differ materially from the value of the stock
issued
In February 2006, the Company issued 3,800,000 shares of common stock in
exchange for consulting services. The Company valued the shares issued at
approximately $0.16 per share for a total of $608,000, which represents the fair
value of the services received which did not differ materially from the value of
the stock issued
In March, 2006, the Company cancelled 150,000 shares previously issued for
services valued at $120,000.
NOTE E - STOCK OPTIONS AND WARRANTS
Warrants
The following table summarizes the changes in warrants outstanding and the
related prices for the shares of the Company's common stock issued to
non-employees of the Company. These warrants were granted in lieu of cash
compensation for services performed or financing expenses in connection with the
sale of the Company's common stock.
Warrants Outstanding Exercisable
Remaining Weighted Weighted Weighted
Number Contractual Average Average Average
Exercise Exercise
Prices Outstanding Life (Years) Price Exercisable Exercise Price
================ ============== ======================== =============== ============== =================
$0.10 105,464 3.01 $0.10 105,464 $0.10
$0.20 5,000 2.39 $0.20 5,000 $0.20
$0.50 16,450,000 4.63 $0.50 8,550,000 $0.50
$0.55 9,000,000 1.97 $0.55 9,000,000 $0.55
$0.60 9,132,000 2.88 $0.60 9,132,000 $0.60
$0.70 950,000 1.39 $0.70 950,000 $0.70
$0.75 17,727,000 3.25 $0.75 17,727,000 $0.75
$1.00 100,000 .30 $1.00 100,000 $1.00
-------------- --------------
53,469,464 45,569,464
============== ==============
-32-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE E - STOCK OPTIONS AND WARRANTS (continued)
Transactions involving warrants are summarized as follows:
Number of Weighted
Shares Average
Price Per
Share
Balance, September 30, 2003 383,500 $1.38
Granted 4,574,753 0.58
Exercised (88,000) 1.00
Canceled or expired - -
---------------- -----------------
Balance, September 30, 2004 4,870,253 $0.63
Granted 32,873,000 0.71
Exercised (142,500) 0.34
Canceled or expired (731,289) 0.65
---------------- -----------------
Balance, September 30, 2005 36,869,464 0.67
Granted 16,600,000 0.51
Exercised - -
Canceled or expired - -
---------------- -----------------
Outstanding at June 30, 2006 53,469,464 $0.61
================ =================
In the nine months ended June 30, 2006, the Company granted 5,500,000 warrants
to holders of the Company's $550,000 notes payable with a $0.50 exercise price.
As the contract must be settled by the delivery of registered shares and the
delivery of the registered shares is not controlled by the Company, pursuant to
EITF 00-19, "Accounting for Derivative Financial Instruments Indexed to, and
Potentially Settled in, a Company's Own Stock", the fair value of the warrants
at the date of issuance was recorded as a warrant liability of $1,758,900 and
charged to operations as interest expense. Upon the registration statement being
declared effective, the fair value of the warrants on that date will be
reclassified to equity. The Company initially valued the warrants using the
Black-Scholes pricing model with the following assumptions: (1) dividends yield
of 0%; (2) expected volatility of 156.19%, (3) risk-free interest rate of 4.35%,
and (4) expected life of 5 years.
In the nine months ended June 30, 2006, the Company granted 200,000 warrants as
settlement to bridge financing with a $0.70 exercise price and a three year
life. The fair value of the warrants of $43,098 was charged to operations.
In the nine months ended June 30, 2006, the Company granted 10,900,000 warrants
to holders of the Company's convertible notes (See Note C). The warrants have an
exercise price of $0.50 per with a five year life. Under certain conditions, as
described in Note C, the Company as the option to redeem these warrants.
In accordance with SFAS 133 "Accounting for Derivative Instruments and Hedging
Activities", the Company revalued the warrants as of June 30, 2006 using the
Black-Scholes option pricing model. The difference between the fair value of the
warrants as of June 30, 2006 and the previous valuation as of July, 2005 has
been recorded as a gain on revaluation of warrant liability, and included in the
accompanying consolidated financial statements (see Note F)
-33-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE F - DEBT DERIVATIVE AND WARRANT LIABILITY
In accordance with SFAS 133 "Accounting for Derivative Instruments and Hedging
Activities and EITF 00-19 "Accounting for Derivative Financial Instruments
Indexed to, and Potentially Settled in, a Company's Own Stock", the Company
accounted for identified embedded derivatives and warrants to purchase its
common stock that provide for the payment of liquidated damages if the
stipulated registration deadlines were not met as liabilities.
As of the date of this filing, the registration statement has not yet been
declared effective by the SEC. The Company determined the fair value of the
embedded derivatives and valued the warrants using the Black-Scholes option
pricing model. Assumptions regarding the life were one to five years, expected
dividend yield of 0%, a risk free rate of 5.1 to 5.21%, and a volatility of
154.43%. The determined value of both the warrants and the underlying embedded
derivatives as of June 30, 2006 was $5,698,286. The net change in the fair value
of the derivative and warrant liability values from March 31, 2006 has been
recorded as a gain from change in debt derivative and warrant liabilities in the
consolidated condensed statement of operations.
NOTE G- RELATED PARTY TRANSACTIONS
At June 30, 2006, notes payable are as follows:
4% Convertible Note Payable, unsecured, to related party and due August 1,
2005; currently in default. Note holder has the option to covert unpaid
principal together with any accrued and unpaid interest to 180,000 shares of
the Company's common stock. $ 410,429
In February, 2005 the Company issued 1,500,000 shares of its restricted common
stock to a Company officer and Director in exchange for $600,000 of previously
incurred debt. The debt was in the form of a promissory note.
The Company valued the shares at $1.31 per share for a total of $1,965,000,
which represents the fair value of the common stock on the date of the exchange.
The difference between the fair value of the common stock of $1,965,000 and the
face value of the debt of $600,000 or $1,365,000 has been charged to current
period interest expense.
The Company's officers have advanced funds to the Company for travel related and
working capital purposes. No formal repayment terms or arrangements exist. There
were no advances due at June 30, 2006.
On July 15, 2005, the Company entered into a consulting agreement with Timpix
International Limited ("Timpix") for the consulting services of three former
Biowell employees, Drs. Jun-Jei Sheu, Ben Liang and Johnson Chen. The consulting
agreement is for the shorter of two years, or until all of the consultants have
obtained a visa to work in the United States and execute employment agreements
with the Company. The consulting agreement shall automatically renew for one
year periods until terminated. Pursuant to the consulting agreement, the Company
is obligated to pay $47,000 per month, which is apportioned at $20,000 per month
for Mr. Sheu, $15,000 per month for Mr. Liang and $12,000 per month for Mr.
Chen. In the event that either of Messrs. Sheu, Liang or Chen becomes employed
by us, the monthly consulting fee shall be reduced accordingly. We have
negotiated an agreement in principle to restructure the Consulting Agreement,
whereby, fees owed to Timpix from July 2005 through December 2005 will be
waived, and salaries for each of the three consultants will be reduced starting
January 1, 2006.
In July 2005, the Company entered into a license agreement with Biowell, whereby
the Company granted Biowell an exclusive license to sell, market, and
sub-license the Company's products in selected Asian countries. The exclusive
license for such selected territories is for an initial period of until December
31, 2010, and if Biowell meets its performance goals, the license agreement will
extend for an additional five year term. The license agreement gives Biowell the
initial rights to future anti-fraud biotechnologies developed by the Company and
also new applications for the existing technology that may be developed for the
marketplace as long as the license agreement remains in effect. In the event
that Biowell shall sub-license the products within its territories, Biowell
shall pay the Company 50% of all fees, payments or consideration or any kind
received in connection with the grant of the sublicense. Biowell is required to
pay a royalty of 10% on all net sales made and is required to meet certain
minimum annual net sales in its various territories. Cumulative royalties earned
from the period July 2005 through June 30, 2006 totaled $20,532.
-34-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE G- RELATED PARTY TRANSACTIONS (continued)
On March 29, 2006, and April 13, 2006, the Company borrowed $200,000 in the
aggregate, at a rate of 7.5% per annum, from BioCogent, Ltd., ("BioCogent"), an
entity controlled by the Company's President and Chief Executive Officer. These
loans were due and payable upon the earlier to occur of (1) the close of
business on June 30, 2006, or (2) the closing of the issuance and sale by the
Company of its securities for gross proceeds of at least $250,000. These loans
were paid in full as of June 30, 2006.
NOTE H - COMMITMENTS AND CONTINGENCIES
Employment and Consulting Agreements
The Company has consulting agreements with outside contractors, certain of whom
are also Company stockholders. The Agreements are generally month to month.
On July 15, 2005, we entered into a consulting agreement with Timpix for the
consulting services of three former Biowell employees, Drs. Jun-Jei Sheu, Ben
Liang and Johnson Chen. The consulting agreement is for the shorter of two
years, or until all of the consultants have obtained a visa to work in the
United States and execute employment agreements with us. Such consulting
agreement shall automatically renew for one year periods until terminated.
Pursuant to the consulting agreement, we shall pay $47,000 per month, which is
apportioned at $20,000 per month for Mr. Sheu, $15,000 per month for Mr. Liang
and $12,000 per month for Mr. Chen. In the event that either of Messrs. Sheu,
Liang or Chen becomes employed by us, the monthly consulting fee shall be
reduced accordingly. We have negotiated an agreement in principle to restructure
the Consulting Agreement, whereby, fees owed to Timpix from July 2005 through
December 2005 will be waived, and salaries for each of the three consultants
will be reduced starting January 1, 2006.
Litigation
On or about November 24, 2004, Oceanic Consulting, S.A. filed a complaint
against the Company in the Superior Court of the State of New York. The
Complaint alleges a breach of contract. The Company and the Plaintiff settled
the dispute and the Company recorded the settlement amount as of June 30, 2006.
On or about January 10, 2005, Stern & Co. filed a complaint against the Company
in the United States District Court for the Southern District of New York. The
Complaint alleges a breach of contract. Subsequent to the date of the financial
statements, the Company and the Plaintiff settled the dispute and the Company
have recorded the settlement amount as of June 30, 2006.
On April 29, 2005, Crystal Research Associates, LLC obtained a default judgment
against us for $13,000 in the Superior Court of New Jersey, Middlesex County.
The Company settled this matter in May 2006.
On or about January 12, 2006, James Paul Brown, a former consultant to the
Company filed a complaint against the Company in the Superior Court of the State
of California. The Complaint alleges a breach of contract. Subsequent to the
date of the financial statements, the Company and the Plaintiff settled the
dispute and the Company have recorded the settlement amount as of June 30, 2006.
In January 2006, a former employee of the Company filed a complaint alleging
wrongful termination against the Company. The former employee is seeking
$230,000 in damages. The Company believes that it has meritorious defenses to
the plaintiff's claims and intends to vigorously defend itself against the
Plaintiff's claims. Management believes the ultimate outcome of this matter will
not have a material adverse effect on the Company's consolidated financial
position or results of operations.
-35-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE H - COMMITMENTS AND CONTINGENCIES (continued)
Litigation (continued)
On or about April 4, 2006, the Company filed a complaint against Paul Reep,
Adrian Butash, John Barnett, Chanty Cheang, Jaime Cardona (former Company
employees and officers), and Angela Wiggins ( a former consultant to the
Company) in the United States District Court for the Central District of
California . The Company has asked the court to make a judicial determination
that an agreement, which the Company did not authorize and which is the basis of
previously disclosed litigation against the Company by Paul Reep, a former
employee of the Company, and a new action filed by former employees of the
Company as set forth in the subsequent paragraph, is invalid and unenforceable.
This matter is in its early stages.
On or about April 17, 2006, former employees of the Company filed a complaint
against the Company and certain of its current officers and Directors in Los
Angeles County Superior Court. The Complaint alleges a breach of contract,
violations of California Labor Code and wrongful termination and is seeking
$950,000 in specified damages, plus fees and costs. The complaint alleges a
breach of contract. The Company believes that it has meritorious defenses to the
plaintiff's claims and intends to vigorously defend itself against the
Plaintiff's claims. Management believes the ultimate outcome of this matter will
not have a material adverse effect on the Company's consolidated financial
position or results of operations.
The Company is subject to other legal proceedings and claims, which arise in the
ordinary course of its business. Although occasional adverse decisions or
settlements may occur, the Company believes that the final disposition of such
matters should not have a material adverse effect on its financial position,
results of operations or liquidity.
Registration of Company's Shares of Common Stock
Until the Company successfully completes its pending registration statement on
SEC Form SB-2, the Company is subject to liquidated damages (see Notes C and F).
In connection with the $ 1,465,000 and $ 7,371,000 million convertible debt
financing during the quarters ended December 31, 2004 and March 31, 2005,
respectively, , the Company was obligated to deliver registered shares
underlying the convertible notes and warrants by July 2005 (see Note C). Since
the registration was not effective by July 2005, the Company has been accruing
and charging to operations the stipulated liquidated damages in shares of
Company stock accruing at the rate of 3.5% per month on the face value of the
previously issued convertible notes. During the nine months ended June 30, 2006,
the Company has paid and charged to operations penalties of $773,958 in the form
of unregistered shares of its common stock to the former note holders, and has
accrued and charged to operations an additional $1,547,910 representing unpaid
penalties as of June 30, 2006
-36-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE H - COMMITMENTS AND CONTINGENCIES (continued)
Matters Voluntarily Reported to the SEC and Securities Act Violations
We previously disclosed that we were investigating the circumstances surrounding
certain issuances of 8,550,000 shares to employees and consultants in July 2005
(see Note G), and have engaged our new outside counsel to conduct this
investigation. We have voluntarily reported our current findings from the
investigation to the SEC, and we have agreed to provide the SEC with further
information arising from the investigation. We believe that the issuance of
8,000,000 shares to employees in July 2005 was effectuated by both our former
President and our former Chief Financial Officer/Chief Operating Officer without
approval of the Board of Directors. These former officers received a total of
3,000,000 of these shares. In addition, it appears that the 8,000,000 shares
issued in July 2005, as well as an additional 550,000 shares issued to employees
and consultants in March, May and August 2005, were improperly issued without a
restrictive legend stating that the shares could not be resold legally except in
compliance with the Securities Act of 1933, as amended. Our investigation is
continuing. The members of our management who effectuated the stock issuances
that are being examined in the investigation no longer work for us. We believe
that we may incur significant costs and expenses in continuing this
investigation. In the event that any of the exemptions from registration with
respect to the issuance of the Company's common stock under federal and
applicable state securities laws were not available, the Company may be subject
to claims by federal and state regulators for any such violations. In addition,
if any purchaser of the Company's common stock were to prevail in a suit
resulting from a violation of federal or applicable state securities laws, the
Company could be liable to return the amount paid for such securities with
interest thereon, less the amount of any income received thereon, upon tender of
such securities, or for damages if the purchaser no longer owns the securities.
As of the date of these financial statements, the Company is not aware of any
alleged specific violation or the likelihood of any claim. There can be no
assurance that litigation asserting such claims will not be initiated, or that
the Company would prevail in any such litigation.
The Company is unable to predict the extent of its ultimate liability with
respect to any and all future securities matters. The costs and other effects of
any future litigation, government investigations, legal and administrative cases
and proceedings, settlements, judgments and investigations, claims and changes
in this matter could have a material adverse effect on the Company's financial
condition and operating results
-37-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE I - RESTATEMENT OF QUARTERLY FINANCIAL STATEMENTS
The accompanying condensed consolidated financial statements as of June 30, 2006
and the three and nine months ended June 30, 2006 and from September 16, 2002
(date of inception) through June 30, 2006 have been restated to correct its
accounting for (a) the issuance of options and warrants in exchange for
compensation and financing activities, (b) correcting the period reporting
capitalized finance costs and current operating expenses and (c) errors in
report preparation and miscellaneous accounting adjustments appropriate for the
fair presentation of the financial statements.
The effect of the adjustments in the restated financial statements is an
increase in net loss of $136,401 from September 16, 2002 (date of inception)
through June 30, 2006 and an increase in net income of $766,698 and $2,148,364
for the three and nine month periods ended June 30, 2006, respectively. There
was no effect on total cash flows provided by (used in) operations, investing or
financing activities.
The following tables summarize the effects of these adjustments on the Company's
condensed consolidated balance sheet as of June 30, 2006, condensed consolidated
statements of losses for the three and nine months ended June 30, 2006 and for
the period from September 16, 2002 (date of inception) through June 30, 2006 and
the condensed consolidated statements of cash flows for the nine months ended
June 30, 2006 and for the period from September 16, 2002 (date of inception)
through June 30, 2006:
Condensed Consolidated Balance Sheet
June 30, 2006
AS PREVIOUSLY
REPORTED ADJUSTMENT REFERENCE AS RESTATED
Cash $ 1,931,173 $ $ 1,931,173
Accounts receivable, net $ 18,900 $ $ 18,900
Advances and other receivables $ 11,611 $ $ 11,611
Prepaid expenses $ 146,667 $ $ 146,667
Total current assets $ 2,108,351 $ $ 2,108,351
Property, plant and equipment, net $ 38,286 $ $ 38,286
Deposits $ 8,322 $ $ 8,322
Capitalized finance costs $ 1,437,862 $ $ 1,437,862
Patents, net $ 17,376 $ $ 17,376
Intellectual property, net $ 8,083,629 $ $ 8,083,629
total assets $ 11,693,826 $ $ 11,693,826
Accounts payable and accrued liabilities $ 4,680,849 $ $ 4,680,849
Notes payable, related party $ 410,429 $ $ 410,429
Total current liabilities $ 5,091,278 $ $ 5,091,278
Convertible notes payable, net $ 3,306,371 $ $ 3,306,371
Debt derivative and warrant liability $ 5,698,286 $ $ 5,698,286
Total liabilities $ 14,095,935 $ $ 14,095,935
Preferred stock $ 6 $ $ 6
Common stock $ 118,582 $ $ 118,582
Common stock subscription $ (200,000) $ $ (200,000)
Additional paid in capital $ 81,860,606 $ 136,400 a $ 81,997,006
Accumulated deficit $ (84,181,303) $ (136,400) a $ (84,317,703)
Total deficiency in stockholders' equity $ (2,402,109) $ $ (2,402,109)
Total liabilities and Deficiency in
Stockholders' equity $ 11,693,826 $ $ 11,693,826
-38-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE I - RESTATEMENT OF QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
Condensed Consolidated Statement of Income (Losses)
For the Three Months Ended June 30, 2006
Sales $ 18,900 $ $ 18,900
Cost of sales $ 15,639 $ $ 15,639
Gross margin $ 3,261 $ $ 3,261
Selling, general & administrative $ 1,190,967 $ 390,000 b $ 1,580,967
Research and development $ - $ -
Depreciation and amortization $ 336,824 $ $ 336,824
Total operating expenses $ 1,527,791 $ 390,000 b $ 1,917,791
Net loss from operations $ (1,524,530) $ (390,000) b $ (1,914,530)
Net gain (loss) in fair value of debt derivative and
warrant liability $ 2,337,263 $ 1,156,698 c $ 3,493,961
Other income (expense) $ 8,483 $ $ 8,483
Interest income (expense) $ (826,827) $ $ (826,827)
Net income (loss) $ (5,611) $ 766,698 b,c $ 761,087
Net income (loss) per share-basic $ (0.00) 0.01 $ 0.01
Net income (loss) per share-fully diluted NA 0.01 $ 0.01
Condensed Consolidated Statement of Income (Losses)
For the Nine Months Ended June 30, 2006
Sales $ 18,900 $ $ 18,900
Cost of sales $ 15,639 $ $ 15,639
Gross margin $ 3,261 $ $ 3,261
Selling, general & administrative $ 4,955,055 $ (563,750) d $ 4,391,305
Research and development $ 75,276 $ 75,276
Depreciation and amortization $ 1,021,199 $ $ 1,021,199
Total operating expenses $ 6,051,530 $ (563,750) d $ 5,487,780
Net loss from operations $ (6,048,269) $ (563,750) d $ (5,484,519)
Net gain (loss) in fair value of debt derivative and
warrant liability $ 18,606,563 $ (4,355,942) e $ 14,250,621
Other income (expense) $ 17,976 $ $ 17,976
(136,400) a
(563,750) d
6,640,706 e
---------
Interest income (expense) $ (9,117,785) $ 5,940,556 $ (3,177,229)
Net income (loss) $ 3,458,485 $ 2,148,364 $ 5,606,849
Net income (loss) per share-basic $ 0.03 0.02 $ 0.05
Net income (loss) per share-fully diluted 0.02 0.01 $ 0.03
Condensed Consolidated Statement of Income (Losses)
From September 16, 2002 (date of inception) through June 30, 2006
Sales $ 18,900 $ $ 18,900
Cost of sales $ 15,639 $ $ 15,639
Gross margin $ 3,261 $ $ 3,261
Selling, general & administrative $ 70,072,368 $ 5,838,514 f $ 75,910,882
Research and development $ 968,711 $ 968,711
Depreciation and amortization $ 1,380,626 $ $ 1,380,626
Total operating expenses $ 72,421,705 $ 5,838,514 $ 78,260,219
Net loss from operations $ (72,418,444) $ (5,838,514) $ (78,256,958)
Net gain (loss) in fair value of debt derivative and
warrant liability $ 35,307,553 $ (4,355,942) f $ 30,951,611
Other income (expense) $ 49,318 $ $ 49,318
Interest income (expense) $ (47,119,730) $ 10,058,055 f $ (37,061,675)
Net income (loss) $ (84,181,303) $ (136,401) $ (84,317,703)
-39-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE I - RESTATEMENT OF QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
Condensed Consolidated Statement of Cash Flows
For the Nine Months Ended June 30, 2006
Cash flows from operating activities
Net income (loss) $ 3,458,485 $ 2,148,364 $ 5,606,849
Adjustments to reconcile to net used in operating
activities
Depreciation and amortization $ 1,021,199 $ $ 1,021,199
Organization expenses $ $
Preferred shares issued in exchange for services $ $ $ -
Warrants issued to consultants $ 606,850 $ (563,750) d $ 43,100
Income attributable to repricing of warrants and debt
derivatives $ (10,118,917) $ (4,131,704) g $ (14,250,621)
Financing costs attributable to issuance of warrants $ $ 2,271,000 h $ 2,271,000
Amortization of beneficial conversion feature
-convertible notes $ - $ $ -
Amortization of capitalized finance costs $ 247,238 $ $ 247,238
Amortization of debt discount attributable to
convertible debenture $ - $ 276,090 i $ 276,090
Fair value of common stock issued to related party in
excess of debt $ - $ $ -
Common stock issued in exchange for services $ 710,200 $ $ 710,200
Common stock issued in exchange for intellectual
property $ - $ $ -
Common stock issued as penalty in connection with
financing $ 773,958 $ $ 773,958
Common stock canceled-previously issued for services
rendered $ (480,000) $ $ (480,000)
Change in assets and liabilities:
Increase in accounts receivable $ (18,900) $ $ (18,900)
Increase in prepaid expenses and deposits $ (145,849) $ $ (145,849)
Decrease in other assets $ 5,940 $ $ 5,940
Decrease in due related parties $ (52,662) $ $ (52,662)
Increase (decrease) in accounts payable and accrued
liabilities $ 1,685,792 $ $ 1,685,792
Net cash used in operating activities $ (2,306,666) $ $ (2,306,666)
Cash flows from investing activities:
Payments for patent filing $ -
Capital expenditures $ (35,851) $ $ (35,851)
Net cash used in investing activities $ (35,851) $ $ (35,851)
Cash flows from financing activities
Proceeds from sales of common stock, net $ - $ $
Proceeds from issuance of convertible notes $ 4,242,500 $ $ 4,242,500
Proceeds from exercise of options and warrants $ - $ $ -
Payment of debt $ - $ $ -
Proceeds from loans $ - $ $ -
Advances from shareholders $ - $ $ -
Net cash provided by financing activities $ 4,242,500 $ $ 4,242,500
Net increase in cash and cash equivalents $ 1,899,983 $ $ 1,899,983
Cash and cash equivalents at beginning of period $ 31,190 $ $ 31,190
Cash and cash equivalents at end of period $ 1,931,173 $ $ 1,931,173
-40-
NOTE I - RESTATEMENT OF QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
Condensed Consolidated Statement of Cash Flows
From September 16, 2002 (date of inception) through June 30, 2006
Cash flows from operating activities
Net income (loss) $ (84,181,303) $ (136,400) a $ (84,317,703)
Adjustments to reconcile to net used in operating
activities
Depreciation and amortization $ 1,374,467 $ (5,756) j $ 1,368,711
Organization expenses $ 88,500 $ 88,500
Preferred shares issued in exchange for services $ 1,500,000 $ $ 1,500,000
Warrants issued to consultants $ 3,583,016 $ 5,838,514 f $ 9,421,530
Income attributable to repricing of warrants and debt
derivatives $ (26,819,908) $ (4,131,703) g $ (30,951,611)
Financing costs attributable to issuance of warrants $ 27,265,174 $ (1,846,500) k $ 25,418,674
Amortization of beneficial conversion feature
-convertible notes $ 10,461,000 $ $ 10,461,000
Amortization of capitalized finance costs $ 247,238 $ $ 247,238
Amortization of debt discount attributable to
convertible debenture $ - $ 276,090 i $ 276,090
Fair value of common stock issued to related party in
excess of debt $ 1,365,000 $ $ 1,365,000
Common stock issued in exchange for services
$ 31,284,573 $ $ 31,284,573
Common stock issued in exchange for intellectual
property
$ 14,689,100 $ $ 14,689,100
Common stock issued as penalty in connection with
financing
$ 1,550,487 $ $ 1,550,487
Common stock canceled-previously issued for services
rendered
$ (1,343,845) $ $ (1,343,845)
Change in assets and liabilities:
Increase in accounts receivable $ (18,900) $ $ (18,900)
Increase in prepaid expenses and deposits $ (163,472) $ $ (163,472)
Decrease in other assets $ (3,128) $ $ (3,128)
Decrease in due related parties $ - $ $ -
Increase (decrease) in accounts payable and accrued
liabilities $ 4,079,990 $ 5,755 j $ 4,085,745
Net cash used in operating activities $ (15,042,011) $ $ (15,042,011)
Cash flows from investing activities:
Payments for patent filing $ (25,698) $ $ (25,698)
Capital expenditures $ (48,602) $ $ (48,602)
Net cash used in investing activities $ (74,300) $ $ (74,300)
Cash flows from financing activities
Proceeds from sales of common stock, net $ 432,000 $ $ 432,000
Proceeds from issuance of convertible notes $ 13,446,500 $ 13,446,500
Proceeds from exercise of options and warrants $ 343,750 $ $ 343,750
Payment of debt $ (24,854) $ $ (24,854)
Proceeds from loans $ 2,750,000 $ $ 2,750,000
Advances from shareholders $ 100,088 $ $ 100,088
Net cash provided by financing activities $ 17,047,484 $ $ 17,047,484
Net increase in cash and cash equivalents $ 1,931,173 $ $ 1,931,173
Cash and cash equivalents at beginning of period $ - $ $ -
Cash and cash equivalents at end of period $ 1,931,173 $ $ 1,931,173
a) During its review of the issuance and valuation of equity instruments during
the nine month period ended June 30, 2006, the Company determined that certain
warrants to acquire the Company's common stock, which were issued to
non-employees in connection with the Company's financing activities, were not
valued in accordance with SFAS No. 123R. The Company's policy is to charge the
fair value of equity instruments such as preferred and common stock, warrants
and options, related to financing activities to interest expense in the period
the cost is incurred. The fair value of equity instruments issued in connection
with providing services to the Company by non-employees is charged to general
and administrative expenses in the period the cost is incurred. The Company
corrected the valuation of these warrants as a net charge to interest expense
and a credit to additional paid in capital in the amount of $136,400.
-41-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(UNAUDITED)
NOTE I - RESTATEMENT OF QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
(b) During its review of the accounting for the issuance and valuation of the
March 2006 debt instruments, the Company determined that debt issuance costs of
$390,000 were charged in error to operations as general and administrative
expense during the three months ended March 31, 2006 instead of capitalized and
amortized over the term of the debt. The Company amended and restated its March
31, 2006 SEC Form 10-QSB to correct the error in accounting. In connection with
the review of the accounting for the transaction and correction of the error,
the Company determined that during the three month period ended June 30, 2006,
the Company had reduced general and administrative expenses a further $390,000
in error. The Company carried forward the error from March 31, 2006 to the June
30, 2006 10-QSB as originally filed, incorrectly reducing the amounts recorded
to selling general and administrative expenses for the three month period ended
June 2006 by $390,000. The Company amended the March 2006 10-QSB to restate and
correct the accounting for the cost relating to the issuance of these debt
instruments from selling, general and administrative expenses to capitalized
debt issuance costs. The correction is intended to reflect the adjustment to
capitalize financing costs in the proper reporting period. The net effect of
this adjustment on the three month period ended June 30, 2006 is to increase
operating expenses by $390,000. The adjustment as a result of the correction of
the error has no net effect on operating expenses during the nine month period
ended June 30, 2006 and the period from September 16, 2002 (date of inception)
to June 30, 2006.
c) During the Company's review of the outstanding warrants and options to
acquire the Company's common stock, the Company determined that the warrants
must be settled by the delivery of registered shares and the delivery of the
registered shares which event is not controlled by the Company. Therefore,
management re-evaluated its accounting for the warrants under the guidelines of
SFAS No. 133 and EITF Issue No. 00-19, and concluded that the embedded
conversion option did not meet the SFAS No. 133 paragraph 11(a) scope exception.
Accordingly, the Company determined that the warrants should be reclassified as
derivative liabilities (see Note C). In addition to incorrectly accounting for
the warrants as equity instruments, the Company determined that as of March 31,
2006, the derivatives were valued in error and recorded an increase in the
warrant valuation with its amended March 31, 2006 10-QSB. Although the fair
value of related warrants were properly reflected in the initial June 30, 2006
10-QSB, the change from the prior reporting period due to the amended March 31,
2006 10-QSB resulted in an increase in income for the three months ended June
30, 2006 The warrants were initially valued at $933,117. The correct valuation
is $2,089,814, an increase of $1,156,698.
(d) During its review of the issuance and valuation of equity instruments, the
Company determined that $563,750, the cost related to the issuance of certain
warrants to acquire the Company's common stock, which were issued during the
nine month period ended June 30, 2006 to non-employees in connection with the
Company's financing activities, was recorded in error as selling, general and
administrative expenses instead of interest expense. Based upon the Company's
policy of classifying the fair value of equity instruments issued in connection
with financing activities as interest expense, the Company corrected the error
by reclassifying the amount of $563,750 to interest expense.
(e) During its review of the issuance and valuation of equity instruments, the
Company determined that certain warrants to acquire the Company's common stock,
which were issued to non-employees during the year ended September 30, 2005 in
connection with the Company's financing activities, were erroneously recorded as
having been issued during the nine month period ended June 30, 2006. These
transactions were recorded initially in error as a charge to interest expense
(initial valuation) of $6,640,706 and a gain from mark to market change from the
initial valuation of $4,355,942; net $2,284,764 charge to operations. In
conjunction with the September 30, 2005 amended 10-KSB, these errors were
properly corrected to reflect in the accounting period the issuance of the
related warrants recording the initial valuation (interest expense) and
subsequent mark to market change. The amended June 30, 2006 10-QSB reverses the
initial erroneous recording. The effect of the error was an overstatement of
$4,355,942 in the net gain in the fair value of the debt derivative and warrant
liability and an overstatement of $6,640,706 in the net interest expense in the
original filing, resulting in a net increase of $2,284,764 in income for the
nine months ended June 30, 2006. This amount of $2,284,764 is comprised of the
corrections of errors in the recording and valuation of the following warrants:
-42-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(UNAUDITED)
NOTE I - RESTATEMENT OF QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
Original amount Revised Amount Increase/(decrease)
Warrants issued in December 2004 $ 394,698 $ 3,169,052 $2,774,354
Warrants issued in February 2005 - 72,017 72,017
Warrants issued in June 2005
(Company determined warrants were
not properly authorized and
issued) 849,047 - (849,047)
Warrants previously cancelled,
later determined issued (287,440) - 287,440
--------- ----------- -----------
$ 956,305 $ 3,241,069 $ 2,284,764
========= =========== ===========
The adjustment of $2,284,764, net of the additional cost of warrants issued (see
Note A above) of $136,400, results in an aggregate increase of $2,148,364 in net
income for the nine month period ended June 30, 2006, from $3,458,485 to
$5,606,849.
(f) During its review of the issuance and valuation of equity instruments, the
Company determined that $5,838,514, the fair value of certain warrants to
acquire the Company's common stock that were issued to non-employees during the
period from September 16, 2002 (date of inception) through September 30, 2005 in
connection with payment for services rendered to the Company, was erroneously
recorded as interest expenses instead of selling, general and administrative
expenses.
Below is a summary of the changes to the various line items for the period from
September 16, 2002 (date of inception) through June 30, 2006:
Selling, general and Gain/Loss in fair value of Interest expense
administrative warrant liability and debt
derivative
Originally reported: $ 70,072,368 $ 35,307,553 $47,119,730
Reclassification on fair value of
warrants issued for services rendered
(above) 5,838,514 - (5,838,514)
Adjustment to fair value of warrants
issued in previous year (see e above) (4,355,942) (4,355,942)
Fair value of unrecorded warrants
issued in conjunction with financing
(see a above) 136,401
------------
Amended reported $ 75,910,882 $ 30,951,611 $ 37,061,675
============ ============ ============
-43-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(UNAUDITED)
NOTE I - RESTATEMENT OF QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
g) During its review of the issuance and valuation of equity instruments, the
Company reclassified the amortization of debt discount attributable to the
issuance of $4,131,704 of convertible debt separately from the income
attributable to repricing of warrants and debt derivatives, as set forth below:
Reclassification of initial warrant valuations relating to financing from
interest to separate line item in cash flow statement as described in (h)
below:
$2,271,000
Change in non warrant valuations as described in (e) above: 2,284,764
Reclassification on non financing warrants to selling, general and
administrative as described in (d) above (563,750)
Reclassification of warrants as described in (a) above (136,400)
Reclassification of amortization of debt discount to separate cash flow
line item as described in (i) below 276,090
----------
Total: $4,131,704
==========
(h) During its review of the issuance and valuation of equity instruments, the
Company separately reclassified from income attributable to repricing of
warrants and debt derivatives, the value of warrants issued in connection with
the issuance of debt having a fair value of $2,271,000.
(i) During its review of the issuance and valuation of equity instruments, the
Company reclassified the amortization of debt discount attributable to the
issuance of convertible debt of $276,090 separately from income attributable to
repricing of warrants and debt derivatives.
(j) During its review of capital expenditures and related depreciation and
amortization, the Company corrected a classification error of $5,756 between the
depreciation and amortization expenses line item and accounts payable within the
cash used in operating expenses.
(k) During its review of the issuance and valuation of equity instruments, the
Company determined that $1,846,500, the fair value of certain warrants to
acquire the Company's common stock issued to non-employees in connection with
payment for services rendered to the Company, was charged in error to interest
expense instead of selling, general and administrative expenses. This adjustment
is in conjunction with (a), (f) and (g) above.
-44-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(Unaudited)
NOTE J - RESTATEMENT OF JUNE 30 2005 QUARTERLY FINANCIAL STATEMENTS
The accompanying consolidated financial statements as of June 30, 2005 and for
the three and nine months ended June 30, 2005 and for the period from September
16, 2002 (date of inception) through June 30, 2005 have been restated to correct
the accounting for (a) the issuance of warrants in exchange for compensation and
financing activities, (b) the unrecorded expense accruals relating to penalties
due for late registration, and (c) the errors in report preparation and
miscellaneous accounting adjustments appropriate for the fair presentation of
the financial statements.
The effect of these adjustments is an increase in net loss of $8,645,561 for the
period from September 16, 2002 (date of inception) through June 30, 2005 and for
the nine months ended June 30, 2005. The effect on cash flows used in operations
was an increase of $2,911,764 for the nine months ended June 30, 2005 and an
increase of $2,888,205 from September 16, 2002 (date of inception) to June 30,
2005. Cash flow used in investing activities increased by $33,291 for the nine
months ended June 30, 2005 and increased by $56,850 for the period from
September 16, 2002 (date of inception) through June 30, 2005. Cash flow from
financing activities decreased by $2,945,055 for the nine months ended June 30,
2005 and for the period from September 16, 2002 (date of inception) through June
30, 2005.
Condensed Consolidated Balance Sheet
June 30, 2005
AS PREVIOUSLY
REPORTED ADJUSTMENT REFERENCE AS RESTATED
Cash $ 1,192,465 $ $ 1,192,465
Total current assets $ 1,192,465 $ $ 1,192,465
Property, plant and equipment, net $ 20,663 $ $ 20,663
Deposits $ 56,850 $ $ 56,850
Patents, net $ 24,753 $ $ 24,753
Total assets $ 1,294,731 $ $ 1,294,731
Accounts payable and accrued liabilities $ 933,074 $ 104,951 a $ 1,038,025
Accrued liabilities, related parties $ 95,162 $ 41,312 a $ 136,474
Due related parties $ 91,312 $ (91,312) a $ -
Notes payable $ 425,000 $ $ 425,000
Total current liabilities 1,544,548 54,951 a 1,599,499
Warrant liability $ $ 9,802,137 b $ 9,802,137
Total liabilities $ 1,544,548 $ 9,857,088 a,b $ 11,401,636
Preferred stock $ 6 $ $ 6
Common stock $ 66,412 $ $ 66,412
Common stock subscription $ (37,000) $ 1,000 c $ (36,000)
Common stock receivable $ - $ (1,000) c $ (1,000)
Additional paid in capital $ 54,355,065 $ (1,211,527) d $ 53,143,538
Accumulated deficit $ (54,634,300) $ (8,645,561) a,b,d $ (63,279,861)
Total deficiency in stockholders' equity $ (249,817) $ (9,857,088) a,b,d $ (10,106,905)
Total liabilities and Deficiency in
Stockholders' equity $ 1,294,731 $ $ 1,294,731
-45-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(UNAUDITED)
NOTE J - RESTATEMENT OF JUNE 30 2005 QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
Condensed Consolidated Statement of Income (Losses)
For the Three Months Ended June 30, 2005
Selling, general & administrative $ 2,659,727 $ (794,096) e $ 1,865,631
Research and development $ 88,870 $ 88,870
Depreciation and amortization $ 3,160 $ $ 3,160
Total operating expenses $ 2,751,757 $ (794,096) e $ 1,957,661
Net loss from operations $ (2,751,757) $ (794,096) e $ (1,957,661)
Net gain (loss) in fair value of debt
derivative and warrant liability $ - $ 5,679,175 f $ 5,679,175
Other income (expense) $ 241 $ $ 241
Interest income (expense) $ (21,557) $ $ (21,557)
Net income (loss) $ (2,773,073) $ 6,473,271 e,f $ 3,700,198
Net income (loss) per share-basic $ (0.04) 0.10 $ 0.06
Net income (loss) per share-fully diluted NA 0.06 $ 0.04
Condensed Consolidated Statement of Income (Losses)
For the Nine Months Ended June 30, 2005
Selling, general & administrative $ 22,236,607 $ 1,952,275 g $ 24,188,882
Research and development $ 345,958 $ 345,958
Depreciation and amortization $ 15,187 $ $ 15,187
Total operating expenses $ 22,597,752 $ 1,952,275 g $ 24,550,027
Net loss from operations $ (22,597,752) $ (1,952,275) g $ (24,550,027)
Net gain (loss) in fair value of debt
derivative and warrant liability $ - $ 16,454,928 h $ 16,454,928
Other income (expense) $ 3,415 $ $ 3,415
Interest income (expense) $ (9,224,929) $ (23,148,214) b, h $ (32,373,143)
Net income (loss) $ (31,819,266) $ (8,645,561) b,g,h $ (40,464,827)
Net income (loss) per share-basic $ (.65) (0.18) $ (0.83)
Net income (loss) per share-fully diluted NA NA $ NA
Condensed Consolidated Statement of Income (Losses)
From September 16, 2002 (date of inception) through June 30, 2005
Selling, general & administrative $ 43,296,679 $ 1,713,740 i $ 45,010,419
Research and development $ 345,958 $ 238,535 i 584,493
Depreciation and amortization $ 18,348 $ $ 18,348
Total operating expenses $ 43,660,985 $ 1,952,275 i $ 45,613,260
Net loss from operations $ (43,660,985) $ (1,952,275) i $ (45,613,260)
Net gain (loss) in fair value of debt
derivative and warrant liability $ - $ 16,454,928 h $ 16,454,928
Other income (expense) $ 29,800 $ $ 29,800
Interest income (expense) $ (11,003,115) $ (23,148,214) b,h $ (34,151,329)
Net income (loss) $ (54,634,300) $ (8,645,561) b,h,i $ (63,279,861)
-46-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(UNAUDITED)
NOTE J - RESTATEMENT OF JUNE 30 2005 QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
Condensed Consolidated Statement of Cash Flows
For the Nine Months Ended June 30, 2005
Cash flows from operating activities
Net income (loss) $ (31,819,266) $ (8,645,561) j $ (40,464,827)
Adjustments to reconcile to net used in
operating activities
Depreciation and amortization $ 15,187 $ $ 15,187
Warrants issued to consultants $ 1,243,744 $ 1,997,324 j $ 3,241,068
Income attributable to repricing of
warrants and debt derivatives $ $ (16,454,929) j $ (16,454,929)
Financing costs attributable to issuance
of warrants $ $ 23,148,214 j $ 23,148,214
Amortization of beneficial conversion
feature -convertible notes $ 8,836,000 $ $ 8,836,000
Fair value of common stock issued to
related party in excess of debt $ - $ 1,365,000 j $ 1,365,000
Common stock issued in exchange for
services $ 12,471,727 $ 924,475 j $ 13,396,202
Common stock canceled-previously issued
for services rendered $ (642,098) $ 460,800 j $ (181,298)
Change in assets and liabilities:
Payments of security deposits $ - $ (33,291) j $ (33,291)
Decrease in due related parties $ (20,631) $ $ (20,631)
Increase (decrease) in accounts payable
and accrued liabilities $ (983,197) $ 149,732 j $ (833,465)
Net cash used in operating activities $ (10,898,534) $ 2,911,764 j $ (7,986,770)
Cash flows from investing activities:
Payments for patent filing $ (4,347) (4,347)
Payments of security deposits $ (33,291) 33,291 j
Capital expenditures $ - $ $
Net cash used in investing activities $ (37,638) $ 33,291 j $ (4,347)
Cash flows from financing activities
Proceeds from sales of common stock, net $ 8,141,055 $ (8,141,055) j $ -
Proceeds from subscription of common
stock $ 2,340,000 (2,340,000) j -
Proceeds from notes converted to stock $ 1,575,000 (1,575,000) j -
Proceeds from issuance of convertible
notes $ - $ 9,079,000 j $ 9,079,000
Proceeds from exercise of options and
warrants $ 70,750 $ 32,000 j $ 102,750
Net cash provided by financing activities$ 12,126,805 $ (2,945,055) j $ 9,181,750
Net increase in cash and cash equivalents$ 1,190,633 $ $ 1,190,633
Cash and cash equivalents at beginning
of period $ 1,832 $ $ 1,832
Cash and cash equivalents at end of
period $ 1,192,465 $ $ 1,192,465
-47-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(UNAUDITED)
NOTE J - RESTATEMENT OF JUNE 30 2005 QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
Condensed Consolidated Statement of Cash Flows
From September 16, 2002 (date of inception) through June 30, 2005
Cash flows from operating activities
Net income (loss) $ (54,634,300) $ (8,645,561) k $ (63,279,861)
Adjustments to reconcile to net used in
operating activities
Depreciation and amortization $ 18,348 $ $ 18,348
Organization expenses $ 88,500 $ 88,500
Preferred shares issued in exchange for
services $ 1,500,000 $ $ 1,500,000
Warrants issued to consultants $ 3,263,606 $ 1,997,324 k $ 5,260,930
Income attributable to repricing of
warrants and debt derivatives $ - $ (16,454,929) k $ (16,454,929)
Financing costs attributable to issuance
of warrants $ - $ 23,148,214 k $ 23,148,214
Amortization of beneficial conversion
feature -convertible notes $ 10,461,000 $ $ 10,461,000
Fair value of common stock issued to
related party in excess of debt $ $ 1,365,000 k $ 1,365,000
Common stock issued in exchange for k
services
$ 24,819,459 $ 974,475 $ 25,793,934
Common stock canceled-previously issued k
for services rendered
$ (927,673) $ 460,800 $ (466,873)
Change in assets and liabilities:
Payments for security deposits $ $ (56,850) k $ (56,850)
Increase in prepaid expenses and deposits$ $ $
Decrease in other assets $ (13,890) $ $ (13,890)
Decrease in due related parties $ 132,065 $ $ 132,065
Increase (decrease) in accounts payable
and accrued liabilities $ 822,512 $ 99,732 k $ 922,244
Net cash used in operating activities $ (14,470,373) $ 2,888,205 k $ (11,582,168)
Cash flows from investing activities:
Payments for patent filing $ (25,698) $ $ (25,698)
Payments of security deposits $ (56,850) 56,850 k
Capital expenditures $ (29,507) $ $ (29,507)
Net cash used in investing activities $ (112,055) $ 56,850 k $ (55,205)
Cash flows from financing activities
Proceeds from sales of common stock, net $ 8,573,055 $ (8,141,055) k $ 432,000
Proceeds from subscription of common
stock $ 2,465,000 (2,465,000) k
Proceeds from notes converted to common
stock $ 1,575,000 (1,575,000) k
Proceeds from issuance of convertible
notes $ $ 9,204,000 k 9,204,000
Proceeds from exercise of options and
warrants $ 311,750 $ 32,000 k $ 343,750
Proceeds from loans $ 2,750,000 $ $ 2,750,000
Advances from shareholders $ 100,088 $ $ 100,088
Net cash provided by financing activities$ 15,774,893 $ (2,945,055) k $ 12,829,838
Net increase in cash and cash equivalents$ 1,192,465 $ $ 1,192,465
Cash and cash equivalents at beginning
of period $ - $ $ -
Cash and cash equivalents at end of
period $ 1,192,465 $ $ 1,192,465
-48-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(UNAUDITED)
NOTE J - RESTATEMENT OF JUNE 30 2005 QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
(a) Accounts payable and accrued expenses:
In connection with the placement of convertible promissory notes in the amount
of $1,465,000 in December 2004 and $1,675,000 in 2003, aggregating $3,140,000,
the Company was obligated pursuant to the terms of a registration rights
agreement to pay liquidated damages of 3.5% of the aggregate convertible note
financing amount each month in the event it failed to have a registration
statement registering the shares underlying the convertible notes declared
effective by the specified deadline. During its comment process on the Company's
Registration Statement on Form SB-2, as amended, the Securities and Exchange
Commission requested that the Company provide additional disclosure regarding
the Company's accounting policies in connection with the accounting for
previously issued common stock, convertible notes and warrants issued pursuant
to the registration rights agreement. The Company initially did not calculate
the penalties incurred in connection with its failure to meet the deadline to
file an effective registration statement. Following its review, the Company
concluded that such penalties should be calculated as 3.5% multiplied by
$3,140,000 multiplied by 0.5 months, which resulted in an increase of $54,951.
The failure to properly account for such penalties resulted in an understatement
of liquidated damage penalties (included in selling, general and administrative
expense in the accompanying restated statement of losses) and an underestimate
of accrued expenses as of June 30, 2005 aggregating $54,951.
Separately, the Company corrected the classification of a non related party debt
of $50,000. In addition, the Company, as part of the restatement, consolidated
"Accrued liabilities, related parties" and "Due to related parties". To
summarize:
Accounts Payable and Accrued liabilities, Due to related
accrued liabilities related parties parties
Per previously reported $933,074 $95,162 $91,312
Accrual of penalties as described
above 54,951
Reclassification of non related party
debt 50,000 (50,000)
Consolidation of liabilities due
related parties 91,312 (91,312)
Per restatement $1,038,025 $136,474 $-0-
b) In conjunction with raising capital through the issuance of convertible
promissory notes, the Company issued warrants that have registration rights for
the underlying shares. As the contract must be settled by the delivery of
registered shares and the delivery of the registered shares is not controlled by
the Company, pursuant to EITF 00-19, "Accounting for Derivative Financial
Instruments Indexed to, and Potentially Settled in, a Company's Own Stock", the
net value of the warrants of $3,845,039 relating to our December 2004 $1.465
million convertible notes and $19,303,175 relating to our January/February 2005
$7.371 million convertible notes (total of $23,148,214) at the date of issuance
was recorded as a warrant liability on the balance sheet charged to operations
as interest expense. Upon the registration statement being declared effective,
the fair value of the warrants on that date will be reclassified as equity. The
Company did not record the fair value of warrant liability of $9,802,137 as of
June 30, 2005 with the original filing. The net effect of the adjustment is an
increase in liabilities of $9,802,137 as of June 30, 2005.
A summary of the various warrant and debt derivative account components are as
follows:
-49-
Debt derivative Interest Expense Gain/Loss in fair
and warrant value of debt
liability (Balance (Statement of derivative and
Sheet) Income (Loss)) warrant liability
Originally reported: $ -0- $ 9,224,929 $ -0-
Initial warrant valuation related to financing
(separated on cash flow statement) 23,148,214 23,148,214
Reclassification of warrant liability from
equity to liability 3,108,851
Adjustment to fair value of debt derivative
and warrant liability (mark to market change) (16,454,928) 0 16,454,928
As per amended $9,802,137 $32,373,143 $16,454,928
(c) The Company separated subscription receivable from common stock
subscriptions. There was no effect on Deficiency in Stockholders' Equity or
Statement of operations.
(d) In conjunction with raising capital through the issuance of convertible
promissory notes, the Company issued warrants with registration rights for the
underlying shares. The Company initially recorded these warrants as a charge to
interest expense with the offsetting entry to additional paid in capital.
As the contract must be settled by the delivery of registered shares and the
delivery of the registered shares is not controlled by the Company, pursuant to
EITF 00-19, "Accounting for Derivative Financial Instruments Indexed to, and
Potentially Settled in, a Company's Own Stock", the Company reclassified the net
value of the warrants at the date of issuance as a warrant liability of
$3,108,851. Upon the registration statement being declared effective, the fair
value of the warrants on that date will be reclassified as equity.
Separately, the Company corrected the valuation of non financing warrants issued
to non employees by $1,997,324 and charged selling, general and administrative
expense.
Additionally, the Company corrected the recording of a subscription for common
stock by reducing additional paid in capital and crediting selling, general and
administrative.
The table below summarizes the effects in additional paid in capital described
above:
Additional paid
in capital
Per previously reported $54,355,065
Reclassification of warrants related to financing activities
to warrant liability (3,108,851)
Correction of valuation of non financing warrants issued to
non employees, net of cancellations 1,997,324
Correction of subscription for common stock (100,000)
Per restatement $53,143,538
-50-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(UNAUDITED)
NOTE J - RESTATEMENT OF JUNE 30 2005 QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
(e) The Company determined certain warrants issued to non employees having a
fair value of $849,047 and charged to operations a selling, general and
administrative expenses, were not properly authorized by the Company's Board of
Directors and as such, reversed the $849,047 and credited selling, general and
administrative expense.
The table below summarizes the effects below:
Selling, general and
administrative for the
three months ended June 30,
2005
Per previously reported $ 2,659,727
Cancellation of unauthorized warrants issued to non
employees (849,047)
Accrual of penalties as described in (a) above 54,951
-----------
Per restatement $ 1,865,631
===========
(f) In conjunction with raising capital through the issuance of convertible
promissory notes, the Company issued warrants with registration rights for the
underlying shares. As the contract must be settled by the delivery of registered
shares and the delivery of the registered shares is not controlled by the
Company, pursuant to EITF 00-19, "Accounting for Derivative Financial
Instruments Indexed to, and Potentially Settled in, a Company's Own Stock", the
Company recorded the net value of the warrants at the date of issuance as a
warrant liability of $23,148,214 ($3,845,039 relating to our December 2004
$1.465 million convertible notes and $19,303,175 relating to our
January/February 2005 $7.371 million convertible notes) and charged to
operations as interest expense. Upon the registration statement being declared
effective, the fair value of the warrants on that date will be reclassified as
equity. The Company initially valued the warrants using the Black-Scholes
pricing model with the following assumptions: (1) a dividend yield of 0%; (2) an
expected volatility of 152.59%, (3) a risk-free interest rate of 3.67%, and (4)
an expected life of 5 years.
In accordance with SFAS 133 "Accounting for Derivative Instruments and Hedging
Activities", the Company revalued the warrants with underlying shares subject to
registration rights as of June 30, 2005 using the Black-Scholes option pricing
model. Assumptions regarding the life, the expected dividend yield and
volatility were left unchanged but the Company applied a risk free interest rate
of 3.72%, a volatility of 144.18% and a deemed fair value of common stock of
$0.60, which was the closing price of the Company's common stock on June 30,
2005. The difference of $5,679,175 between the fair value of the warrants as of
June 30, 2005 and the previous valuation as of March 31, 2005 has been recorded
as a gain on revaluation of warrant liability and included in the restated
consolidated financial statements.
(g) The net effect of the change of selling, general and administrative expense
for the nine months ended June 30, 2005 is summarized below:
Selling, general and
administrative for the nine
months ended June 30, 2005
Per previously reported $ 22,236,607
Correction of valuation of non financing
warrants issued to non employees, net of
cancellation of warrants having a fair value
of $ 849,047 of as described in (d) above 1,997,324
Correction of subscription for common stock as
described in (d) above (100,000)
Accrual of penalties as described in (a) above 54,951
-----------
Per restatement $24,188,882
-51-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(UNAUDITED)
NOTE J - RESTATEMENT OF JUNE 30 2005 QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
(h) In conjunction with raising capital through the issuance of convertible
promissory notes, the Company issued warrants with registration rights for the
underlying shares. As the contract must be settled by the delivery of registered
shares and the delivery of the registered shares is not controlled by the
Company, pursuant to EITF 00-19, "Accounting for Derivative Financial
Instruments Indexed to, and Potentially Settled in, a Company's Own Stock", the
Company recorded the net value of the warrants at the date of issuance as a
warrant liability of $23,148,214 ($3,845,039 relating to our December 2004
$1.465 million convertible notes and $19,303,175 relating to our
January/February 2005 $7.371 million convertible notes) and charged to
operations as interest expense. Upon the registration statement being declared
effective, the fair value of the warrants on that date will be reclassified as
equity. The Company initially valued the warrants using the Black-Scholes
pricing model with the following assumptions: (1) a dividend yield of 0%; (2) an
expected volatility of 152.59%, (3) a risk-free interest rate of 3.67%, and (4)
an expected life of 5 years.
In accordance with SFAS 133 "Accounting for Derivative Instruments and Hedging
Activities", the Company revalued the warrants with underlying shares subject to
registration rights as of June 30, 2005 using the Black-Scholes option pricing
model. Assumptions regarding the life, the expected dividend yield and
volatility were left unchanged but the Company applied a risk free interest rate
of 3.72%, a volatility of 144.18% and a deemed fair value of common stock of
$0.60, which was the closing price of the Company's common stock on June 30,
2005. The difference of $16,454,928 between the fair value of the warrants as of
June 30, 2005 and the (initial) previous valuation, inclusive of warrants
reclassified from equity to warrant liability of $3,108,851 has been recorded as
a gain on revaluation of warrant liability and included in the restated
consolidated financial statements (see (b) above).
(i) The following table summarizes the change in selling, general and
administrative expenses from September 16, 2002 (date of inception) through June
30, 2005:
Selling, general and
administrative from September
16, 2002 (date of inception
through June 30, 2005
Per previously reported $43,296,679
Correction of valuation of non financing
warrants issued to non employees, net of
cancellations as described in (d) above 1,997,324
Correction of subscription for common stock as
described in (d) above (100,000)
Accrual of penalties as described in (a) above 54,951
Reclassification of research and development
costs (238,535)
Per restatement $45,010,419
A breakdown of the various changing elements of the Statement of Cash Flow for
the nine months ended June 30, 2005 is displayed below:
-52-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(UNAUDITED)
NOTE J - RESTATEMENT OF JUNE 30 2005 QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
Cash flows from operating activities Component
Classification
Reference
Net income (loss) $ (31,819,266) $ $
Initial warrant valuation as described in (f) above $ $ (23,148,214) (1) $
Income attributable to repricing of warrants as
described in (h) above $ $ 16,454,929 (2) $
Adjustment for warrants issued to non employees as
described in (d) above $ $ (1,997,324) (3) $
Accrual of penalties as described in (a) above $ $ (54,951) (4) $
Correction of common stock subscription as described
in (d) above $ $ 100,000 (5) $
$ $ (1) Rounding $
Net income (loss) restated $ $ (8,645,561) $(40,464,827)
Adjustments to reconcile to net used in operating
activities $ $ $
Depreciation and amortization $ 15,187 $ $ 15,187
Warrants issued to consultants $ 1,243,744 $ 1,997,324 (3) $ 3,241,068
Income attributable to repricing of warrants and debt
derivatives $ $ (16,454,929) (2) $(16,454,929)
Financing costs attributable to issuance of warrants $ $ 23,148,214 (1) $ 23,148,214
Amortization of beneficial conversion feature
-convertible notes $ 8,836,000 $ $ 8,836,000
Fair value of common stock issued to related party in
excess of debt $ $ $
Reclassification of fair value of common stock issued
in excess of debt as described in Note C $ $ 1,365,000 (6) $
Fair value of common stock issued to related party in
excess of debt $ - $ 1365,000 $ 1,365,000
Common stock issued in exchange for services $ 12,471,727 $ $
Correction of common stock subscription as described
in (d) above $ $ (100,000) (5) $
Reclassification of fair value of common stock issued
in excess of debt as described in Note C $ $ (1,365,000) (6) $
Correct net common stock canceled-previously issued
for services rendered $ $ (460,800) (7) $
Correct classification of common stock issued for
services rendered classified in error under
financing activities $ $ 2,850,275 (8) $
Common stock issued for services rendered-restated $ $ 924,475 $ 13,396,202
Common stock canceled-previously issued for services
rendered $ (642,098) $ $
Correct net common stock canceled-previously issued
for services rendered $ $ 460,800 (7) $
Common stock canceled-previously issued for services
rendered-restated $ $ 460,800 $ (181,298)
Change in assets and liabilities: $ $ $
Payments of security deposits $ - $ $
Reclassification of security deposit to operating
activities $ $ (33,291) (9) $
Payments of security deposits $ - $ (33,291) $ (33,291)
Decrease in due related parties $ (20,631) $ $ (20,631)
Increase (decrease) in accounts payable and accrued
liabilities $ (983,197) $ $ (833,465)
Accrual of penalties as described in (a) above $ $ 54,951 (4) $
Reclassification of changes in accrued expenses due
related parties $ $ 94,781 (10) $
Increase (decrease) in accounts payable and accrued
liabilities-restated $ $ 149,732 $ (833,465)
Net cash used in operating activities $ (10,898,534) $ 2,911,764 $(7,986,770)
Cash flows from investing activities: $ $ $
Payments for patent filing $ (4,347) $ $ (4,347)
Payments of security deposits $ (33,291) $ 33,291 (9) $
Capital expenditures $ - $ $
Net cash used in investing activities $ (37,638) $ 33,291 $ (4,347)
Cash flows from financing activities $ $ $
Proceeds from sales of common stock, net $ 8,141,055 $ $ -
Correct classification of common stock issued for
services rendered classified in error under
financing activities $ $ (2,850,275) (8) $
Reclassification of changes in accrued expenses due
related parties $ $ (94,781) (10) $
-53-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(UNAUDITED)
NOTE J - RESTATEMENT OF JUNE 30 2005 QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
Reclassification of proceeds form convertible notes$ $ (5,195,999) (11) $
Proceeds from sales of common stock, net $ $ (8,141,055) $ -
Proceeds from subscription of common stock $ 2,340,000 $ (2,340,000) (11) $ -
Proceeds from notes converted to stock $ 1,575,000 $ (1,575,000) (11) $ -
Proceeds from issuance of convertible notes $ - $ 9,079,000 (11) $ 9,079,000
Proceeds from exercise of options and warrants $ 70,750 $ 32,000 (11) $ 102,750
Net cash provided by financing activities $ 12,126,805 $ (2,945,055) $ 9,181,750
Net increase in cash and cash equivalents $ 1,190,633 $ $ 1,190,633
Cash and cash equivalents at beginning of period $ 1,832 $ $ 1,832
Cash and cash equivalents at end of period $ 1,192,465 $ $ 1,192,465
A breakdown of the various changing elements of the Statement of Cash Flow for
the period September 16, 2002 (date of inception) through June 30, 2005 is
displayed below:
Cash flows from operating activities
Net income (loss) $ (54,634,300) $ $
Initial warrant valuation as described in (f)
above $ $ (23,148,214) (1) $
Income attributable to repricing of warrants as
described in (h) above $ $ 16,454,929 (2) $
Adjustment for warrants issued to non employees
as described in (d) above $ $ (1,997,324) (3) $
Accrual of penalties as described in (a) above $ $ (54,951) (4) $
Correction of common stock subscription as
described in (d) above $ $ 100,000 (5) $
$ $ (1) Rounding $
Net income (loss) restated $ $ (8,645,561) $ (63,279,861)
Adjustments to reconcile to net used in
operating activities $ $ $
Depreciation and amortization $ 18,348 $ $ 18,348
Organization costs $ 88,500 $ $ 88,500
Preferred shares issued in exchange for services $ 1,500,000 $ $ 1,500,000
Warrants issued to consultants $ 3,263,606 $ 1,997,324 (3) $ 5,260,930
Income attributable to repricing of warrants and
debt derivatives $ $ (16,454,929) (2) $ (16,454,929)
Financing costs attributable to issuance of
warrants $ $ 23,148,214 (1) $ 23,148,214
Amortization of beneficial conversion feature
-convertible notes $ 10,461,000 $ $ 10,461,000
Fair value of common stock issued to related
party in excess of debt $ $ $
Reclassification of fair value of common stock
issued in excess of debt as described in
Note C $ $ 1,365,000 (6) $
Fair value of common stock issued to related
party in excess of debt $ - $ 1,365,000 $ 1,365,000
Common stock issued in exchange for services $ 24,819,459 $ $
Correction of common stock subscription as
described in (d) above $ $ (100,000) (5) $
Reclassification of fair value of common stock
issued in excess of debt as described in
Note C $ $ (1,365,000) (6) $
Correct net common stock canceled-previously
issued for services rendered $ $ (460,800) (7) $
Correct classification of common stock issued
for services rendered classified in error
under financing activities $ $ 2,900,275 (8) $
Common stock issued for services
rendered-restated $ $ 974,475 $ 25,793,934
Common stock canceled-previously issued for
services rendered $ (927,673) $ $
Correct net common stock canceled-previously
issued for services rendered $ $ 460,800 (7) $
Common stock canceled-previously issued for
services rendered-restated $ $ 460,800 $ (466,873)
Change in assets and liabilities: $ $ $
Payments of security deposits $ - $ $
Reclassification of security deposit to
operating activities $ $ (56,850) (9) $
Payments of security deposits $ - $ (56,850) $ (56,850)
Decrease in other assets $ (13,890) $ $ (13,890)
Decrease in due related parties $ (132,065) $ $ (132,065)
Increase (decrease) in accounts payable and
accrued liabilities $ 822,512 $ $ (833,465)
Accrual of penalties as described in (a) above $ $ 54,951 (4) $
-54-
APPLIED DNA SCIENCES, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL INFORMATION
JUNE 30, 2006
(UNAUDITED)
NOTE J - RESTATEMENT OF JUNE 30 2005 QUARTERLY FINANCIAL STATEMENTS (CONTINUED)
Reclassification of changes in accrued expenses
due related parties $ $ 44,781 (10) $
Increase (decrease) in accounts payable and
accrued liabilities-restated $ $ 99,732 $ 922,244
Net cash used in operating activities $ (14,470,373) $ 2,888,205 $ (11,582,168)
Cash flows from investing activities: $ $ $
Payments for patent filing $ (25,698) $ $ (25,698)
Payments of security deposits $ (56,850) $ 56,850 (9) $
Capital expenditures $ (29,507) $ $ (29,507)
Net cash used in investing activities $ (112,055) $ 56,850 $ (55,205)
Cash flows from financing activities $ $ $
Proceeds from sales of common stock, net $ 8,573,055 $ $ -
Correct classification of common stock issued
for services rendered classified in error
under financing activities $ $ (2,900,275) (8) $
Reclassification of changes in accrued expenses
due related parties $ $ (44,781) (10) $
Reclassification of proceeds form convertible
notes $ $ (5,195,999) (11) $
Proceeds from sales of common stock, net $ $ (8,141,055) $ 432,000
Proceeds from subscription of common stock $ 2,465,000 $ (2,465,000) (11) $ -
Proceeds from notes converted to stock $ 1,575,000 $ (1,575,000) (11) $ -
Proceeds from issuance of convertible notes $ - $ 9,204,000 (11) $ 9,204,000
Proceeds from exercise of options and warrants $ 311,750 $ 32,000 (11) $ 343,750
Net cash provided by financing activities $ 15,774,893 $ (2,945,055) $ 12,829,838
Net increase in cash and cash equivalents $ 1,192,465 $ $ 1,192,465
Cash and cash equivalents at beginning of period $ $ $
Cash and cash equivalents at end of period $ 1,192,465 $ $ 1,192,465
-55-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
The following discussion should be read in conjunction with our
Consolidated Financial Statements and Notes thereto, included elsewhere within
this report. The quarterly report contains forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933 as amended, and Section 21E
of the Securities Exchange Act of 1934, as amended, including statements using
terminology such as "can", "may", "believe", "designated to", "will", "expect",
"plan", "anticipate", "estimate", "potential" or "continue", or the negative
thereof or other comparable terminology regarding beliefs, plans, expectations
or intentions regarding the future. You should read statements that contain
these words carefully because they:
o discuss our future expectations;
o contain projections of our future results of operations or of our
financial condition; and
o state other "forward-looking" information.
We believe it is important to communicate our expectations. However,
forward looking statements involve risks and uncertainties and our actual
results and the timing of certain events could differ materially from those
discussed in forward-looking statements as a result of certain factors,
including those set forth under "Risk Factors," "Business" and elsewhere in this
prospectus. All forward-looking statements and risk factors included in this
document are made as of the date hereof, based on information available to us as
of the date thereof, and we assume no obligations to update any forward-looking
statement or risk factor, unless we are required to do so by law.
PLAN OF OPERATIONS
Sales and Marketing
We believe our revenues will come from three sources:
o direct sales to manufacturers, distributors, and/or retailers;
o sales through our OEM relationships; and
o authentication (laboratory) services.
We employ a multi-tier sales and marketing strategy involving our marketing and
sales staff working together with high-level contacts in target industries and
our OEM base. We are attempting to develop strategic alliances and marketing
partners by setting up alliances with Biowell Technology, Inc.'s ("Biowell")
technology partners, granting licenses to existing anti-counterfeit suppliers
and partner with industry leaders for intellectual property development.
We are cognizant that no technology exists today to enable someone in the street
to ascertain, at the point of purchase, whether an expensive product, or a
child's foodstuff, or pharmaceutical product is genuine, worth the money being
paid and safe to use or ingest. No brand owner is able to rapidly determine
whether a product is real of fake. Many multi-billion dollar brands have no
technology to protect against counterfeiting, to detect its occurrence and to
interdict or prosecute the counterfeiter. No company has the capability to
determine with forensic certainty that it is subject to attack. Such companies
remain seriously exposed to product liability, loss of consumer confidence and
loss of revenues. Governments have no rapid detection system to determine at the
point of entry, inspection or seizure whether products are real or fake. A major
thrust of our marketing efforts is to work with consumer groups, media,
corporate officers, government departments, customs, insurers and others to
bring home the message that, in a world of criminality and terrorism, no-one is
safe.
Business Strategy and Approach
We have established integrated business operations addressing and servicing the
needs of the global security marketplace on the part of corporations and
governments for; anti-counterfeiting, fraud prevention, product authentication,
brand protection, supply chain management and protection.
Intellectual Property Development, Product Operations & Partnerships
We have proprietary DNA security technology, and develop security solutions that
protect corporate and intellectual property from counterfeiting, fraud, piracy
and product diversion using botanical DNA as an
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encrypted/code molecule that can be embedded in inks, paper, substrates,liquids,
textiles, thread, plastics,holograms and microchips.
We produce security solutions customized to our customer's needs. We market and
sell DNA anti-counterfeit and fraud prevention solutions that integrate into,
and layer with, existing security solutions. These DNA security features are
integrated at the original equipment manufacturer level with ink, paper,
liquids, thread and hologram producers, who in turn sell/supply finished
security products such as primary and secondary product packaging for
pharmaceuticals, beauty products, textiles, currency, passports, ID cards, etc.
We have strict protocols for specifying, integrating, testing, shipping and
confirming the presence of DNA in any given product.
We plan to develop new product lines that will address specific new challenges
in the security marketplace, and bring these advances to target industries,
customers and countries.
Additionally, we will identify strategic partnerships and co-marketing ventures,
and licensees to work with us to develop, market and sell our biotechnological
security products. This will include sub-licensing the technology to key
partners in specific sectors with an established base of customers. These
partners will be able to enhance their product lines and client services by
adding our technology to the existing security matrix in their products,
providing an enhanced solution to deter fraud and counterfeiting.
Management Strategy
We anticipate a period of rapid change as we begin commercialization of the
products now available subsequent signing of our licenses with Biowell, (b) the
establishment of our prototyping labs at the State University of New York at
Stony Brook ("Stony Brook University"), and (c) the availability of products
that have recently been commercialized in Asia by Biowell.
We have organized our resources to manage our commercialization effectively,
optimizing the delivery of new prototypes for customers, and managing
outsourcing especially through our OEMs. Our Chief Executive Officer is
responsible for the strategic direction, coordinating with our overseas
technology partner Biowell, scientific development, operations and corporate
governance, business development and sales, including relations with US and
foreign government agencies, developing business relationships with target
corporations and OEM's, and securing revenues. Our Controller and acting Chief
Financial Officer cover overall financial management, financial reporting,
corporate administration and investors relations. Our marketing department
develops strategic awareness of our technologies across target industry sectors,
their associated media and lobbying companies and liaises with regulatory bodies
(EPA, FDA, etc) and industry associations (CTFA, PHARMA, etc). Our Chairman
oversees the operations of Biowell, including the development of all Asian
territorial sales that are subject to royalty payments due to us. Both our
Chairman and our Strategic Technology Development Officer manage the development
of core DNA sciences for current and future applications. Our Strategic
Technology Development Officer is principally engaged in the productization of
DNA markers for specific industry applications, and for liaison with
corresponding scientists from our principal OEM partners, e.g., petroleum
markers, chemical markers, markers for precious stones, DNA-encrypted inks, DNA
markers for the pharmaceutical industry, etc.
Consultant & Enforcement Operations
As nations are threatened by terrorism and corporations try to prevent corporate
fraud, counterfeiting, product diversion and industrial espionage, the need for
secure anti-counterfeiting and identification systems increases. Our technology
can provide important and cost-effective support for local, state, and federal
governments as well as corporations doing business with highly sensitive
information or products susceptible to counterfeit. Our anti-counterfeiting
technology can be used for the following types of identification and important
government documents:
o Passports
o Green cards
o Visas
o Driver's licenses
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o Social Security cards
o Student visas
o Military ID's
o Other important Identity cards and official documents
We intend to work in collaboration with Biowell and other security organizations
in order to continue to market and sell new product lines derived from, but not
limited to, DNA technology. Improving prototyping and detection capabilities is
an ongoing commitment and is currently underway in the Biowell labs and will
continue in the U.S. at our new facilities established at the Long Island High
Technology Incubator (LIHTI) at Stony Brook University. We are also looking for
opportunities to collaborate with universities to develop a new line of
detection technologies that will provide faster and more convenient ways to
authenticate DNA. We are continuously attempting to incorporate our DNA markers
with various products for new applications. We believe that we will obtain
commercial revenues for these efforts within 12-24 months, although no
assurances can be given that we will ever generate such revenues. Our
prototyping laboratory will customize "off-the-shelf" products for new customers
on a case-by-case basis. These new products are typically newly configured
labels, inks or packing elements. We have identified several options for remote
detection and faster detection methodologies.
We will consult with our clients on a total security service offering; how to
protect their brands, intellectual property, products and physical security
access and how to reduce risk exposure, product liability exposure and product
recall liabilities. We plan to offer worldwide DNA analysis services supporting
the authentication of products and the detection, interdiction, deterrence and
prosecution of counterfeiters and related crimes, through our subcontractors,
sub-licensees and security industry collaborative partners.
International Sub-License Operations
Developing Technology - We have an in-depth understanding of DNA microchip
design and applications. We will jointly develop DNA-holograms and
DNA-Hologram-RFID devices, DNA-inks, DNA-dyes and DNA-security labels with
leading original equipment manufacturers in these specialist fields.
We will utilize our existing relationships and develop new ones to introduce our
anti-counterfeiting technology to generate business. Each industry has unique
requirements and needs for their anti-counterfeit solutions, and we believe our
DNA technology will provide maximum security technologies. For example, our
smart packaging solutions with DNA security markers in ink, paper and holograms
has widespread application in packaging for pharmaceuticals, cosmetics,
automotive markets, passports, ID's and currency. Our proprietary technology
offers immediate and affordable detection and security for their brands and
products.
Strong Technology Alliances - Our technology can also provide advanced security
dimensions to:
o Electronics security: access and physical/plant security (biometric
security cards enhanced with DNA)
o Security Holograms (DNA enhanced)
o Security papers and printing
o Holograms (DNA holograms)
o Other security-related products and systems
Law Enforcement Expertise - The resources of our collaborative partners in the
security industry include former federal law enforcement, security, and
intelligence officers who provide us with extensive contacts and hands-on
experience in:
o Intellectual property investigation
o Counter-intelligence
o Personal security services
o Anti-counterfeit technologies
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o Secure communications and data management
Critical Accounting Policies
Financial Reporting Release No. 60, published by the SEC, recommends
that all companies include a discussion of critical accounting policies used in
the preparation of their financial statements. While all these significant
accounting policies impact our financial condition and results of operations, we
view certain of these policies as critical. Policies determined to be critical
are those policies that have the most significant impact on our consolidated
financial statements and require management to use a greater degree of judgment
and estimates. Actual results may differ from those estimates.
We believe that given current facts and circumstances, it is unlikely
that applying any other reasonable judgments or estimate methodologies would
cause a material effect on our consolidated results of operations, financial
position or liquidity for the periods presented in this report.
The accounting policies identified as critical are as follows:
o Equity issued with registration rights
o Warrant liability
o Fair value of intangible assets
Equity Issued with Registration Rights
In connection with placement of our convertible notes and warrants to
certain investors during the fiscal quarter ended March 31, 2005, we granted
certain registration rights that provide for liquidated damages in the event of
failure to timely perform under the agreements. Although these notes and
warrants do not provide for net-cash settlement, the existence of liquidated
damages provides for a defacto net-cash settlement option. Therefore, the common
stock underlying the notes and warrants subject to such liquidated damages does
not meet the tests required for shareholders' equity classification, and
accordingly has been reflected between liabilities and equity in the
accompanying consolidated balance sheet until such time as the conditions are
eliminated.
Warrant Liability
In connection with the placement of certain debt instruments during the
fiscal quarter ended June 30, 2005, as described above, we issued freestanding
warrants. Although the terms of the warrants do not provide for net-cash
settlement, in certain circumstances, physical or net-share settlement is deemed
to not be within our control and, accordingly, we are required to account for
these freestanding warrants as a derivative financial instrument liability,
rather than as shareholders' equity.
The warrant liability is initially measured and recorded at its fair
value, and is then re-valued at each reporting date, with changes in the fair
value reported as non-cash charges or credits to earnings. For warrant-based
derivative financial instruments, the Black-Scholes option pricing model is used
to value the warrant liability.
The classification of derivative instruments, including whether such
instruments should be recorded as liabilities or as equity, is re-assessed at
the end of each reporting period. Derivative instrument liabilities are
classified in the balance sheet as current or non-current based on whether or
not net-cash settlement of the derivative instrument could be required within 12
months of the balance sheet date.
We do not use derivative instruments to hedge exposures to cash flow,
market, or foreign currency risks.
Fair Value of Intangible Assets
We have adopted SFAS No. 142, Goodwill and Other Intangible Assets,
whereby we periodically test our intangible assets for impairment. On an annual
basis, and when there is reason to suspect that their values have been
diminished or impaired, these assets are tested for impairment, and write-downs
will be included in results from operations.
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On July 12, 2005, we acquired certain intellectual properties from
Biowell through an Asset Purchase Agreement in exchange for 36 million shares of
our restricted common stock having an aggregate fair value at the date of
issuance of $24.12 million. The value of the acquired intangible assets was
$9,430,900, with the balance of the purchase price, or $14,689,100, charged to
operations as a cost of the transaction.
Use of Estimates
In preparing financial statements in conformity with accounting
principles generally accepted in the United States of America, management is
required to make estimates and assumptions that affect the reported amounts of
assets and liabilities and the disclosure of contingent assets and liabilities
at the date of the financial statements and revenue and expenses during the
reporting period. The most significant estimates relate to the estimation of
percentage of completion on uncompleted contracts, valuation of inventory,
allowance for doubtful accounts and estimated life of customer lists. Actual
results could differ from those estimates.
Revenues
From our inception on September 16, 2002, we did not generate material
revenues from operations. We have, however, generated $0.019 million in sales of
our products for the three months ended June 30, 2006. Our cost of sales for the
same period was $0.016 million netting us a gross profit of $0.003 million. We
believe we will not generate material revenues from operations in the current
fiscal year as we transition from a development stage enterprise to an active
growth stage company, although no assurances can be given that we will generate
any additional revenues from operations.
Costs and Expenses
Selling, General and Administrative
Selling, general and administrative expenses for the for the three
month period ended June 30, 2006 compared to same period in 2005 decreased
$284,664 or 15% to $1.581 million from $1.865 million. For the nine months ended
June 30, 2006, selling, general and administrative expenses decreased $19.798
million or 82% to $4.391 million from $24.189 million in the prior period. These
deceases are due to non-recurring financing and related costs incurred in the
prior year.
Research and Development
Research and development expenses for the three months ended June 30,
2006 decreased $88,870 or 100% to $-0- from $88,870 the same period in 2005. For
the nine months ended June 30, 2006, research and development expenses deceased
$270,682 million or 78.3% to $75,276 from $345,958 million for the same period
in 2005. Prior year's costs were primarily due to startup of collaboration with
The Center for Biotechnology at Stony Brook University.
Depreciation and Amortization
In the three month period ended June 30, 2006, depreciation and
amortization increased $333,664 for the period compared to the same period in
2005 from $3,160 to $336,824. For the nine month period ended June 30, 2006,
depreciation and amortization increased $1.006 million to $1.021 million from
the same period last year of $15,187. In the year ended September 30, 2005, we
capitalized $9.431 million related to an intellectual property asset
acquisition. As a result, we recorded amortization expense totaling $1,010,454
for the nine month period ended June 30, 2006 compared to no intangible asset
amortization in the nine months ended June 30, 2005. We estimate a seven year
useful life that commenced during the fourth fiscal quarter of 2005.
Total Operating Expenses
Total operating expenses during the three and nine months ended June
30, 2006 decreased to $1.918 million from $1.915 million and $5.488 million from
$24.550 million, respectively as a result of the combination of factors listed
above.
Other income/loss
Gain on revaluation of warrant and debt derivative liability the three
month period ended June 30, 2006 deceased $2.185 million to $3.494 million from
$5.679 million for the same period last year. For the
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nine month period ended June 30, 2006, the gain on revaluation of warrant and
debt derivative liability decreased 2.204 million to $14.251 from $16.455 the
prior same period.
Interest Expenses
Interest expense for the three month period ended June 30, 2006
increased $805,270 to $826,827 from $21,557 for the same period in 2005. For the
nine month period ended June 30, 2006; interest decreased $29.200 million to
$3.177 million from $32.373 million in same period 2005. The increase in three
months ended June 30, 2006 is a result of additional financing costs incurred in
the current period. The decease in the current nine month period ended June 30,
2006 is a result of a net reduction finance related costs incurred the prior
period in 2005 as compared to the current period.
Net Income (loss)
Net income for the three month period month period ended June 30, 2006
decreased $2.939 million to $0.761 million from $3.701 million for the same
period last year. For the nine months ended June 30, 2006, net income increased
$46.072 to a net income of $5.607 million from a same period prior year loss of
$40.465.These changes are a result of the combination of factors described
above.
Liquidity and Capital Resources
Our liquidity needs originate from working capital requirements,
indebtedness payments and research and development expenditure funding.
Historically, we have financed our operations through the sale of equity and
convertible debt as well as borrowings from various credit sources.
In fiscal 2005, we completed two private placements of convertible debt
and associated warrants. In December, 2004 we issued and sold $1.465 million in
aggregate principal amount of promissory notes, convertible at $0.50 per share,
and associated warrants to purchase up to 2,930,000 shares of our common stock,
exercisable at $0.75 per share for three years from their date of issuance, to
13 investors (the "December 2004 Placement"). Each promissory note was
automatically convertible into shares of our common stock at a price of $0.50
per share upon the closing of a subsequent private placement by us for at least
$1 million. In January and February of 2005, we issued and sold $7.371 million
in aggregate principal amount of 10% Secured Convertible Promissory Notes,
convertible at $0.50 per share, and associated warrants to purchase up to
14,742,000 shares of our common stock, exercisable at $0.75 per share until five
years from their date of issuance, to 61 investors (the "January and February
2005 Placement"). Upon the closing of the January and February 2005 Offering,
the notes issued in the December 2005 Placement automatically converted into an
aggregate of 2,930,000 shares of our common stock, and upon the filing of this
registration statement on February 15, 2005, the notes issued in the January and
February 2005 Placement automatically converted into an aggregate of 14,742,000
shares of our common stock. Additional private placements in fiscal 2005 raised
$243,000. We also received proceeds of $60,000 from the exercise of a warrant to
purchase 100,000 shares of our common stock in fiscal 2005. The $9.135 million
in gross proceeds from these private placements and warrant exercises were used
to fund commissions, fees and expenses associated with the placements,
consultants and public reporting costs, salaries and wages, royalties, research
and development, facility costs as well as general working capital needs. Since
the conversion price of the notes issued in the December 2005 Placement and the
January and February 2005 Placement was less than the market price of our common
stock at the time these notes were issued, we recognized a charge relating to
the beneficial conversion feature of these notes during the quarter in which
they are issued.
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In the nine month period ended June 30, 2006, we completed three
additional private placements of convertible debt and associated warrants. On
November 3, 2005, we issued and sold a promissory note in the principal amount
of $550,000 to Allied International Fund, Inc. ("Allied"). Allied in turn
financed a portion of the making of this loan by borrowing $450,000 from certain
persons, including $100,000 from James A. Hayward, a director and our Chief
Executive Officer. The terms of the promissory note provided that we issue upon
the funding of the note warrants to purchase 5,000,000 shares of our common
stock at an exercise price of $0.50 per share to certain persons designated by
Allied. On November 9, 2005, we issued nine warrants to Allied and eight other
persons to purchase an aggregate of 5,500,000 shares of our common stock at an
exercise price of $0.50 per share. These warrants included a warrant to purchase
1,100,000 shares that was issued to James A. Hayward, a director and our Chief
Executive Officer. We paid $55,000 in cash to VC Arjent, Ltd. for its services
as the placement agent with respect to this placement. All principal and accrued
but unpaid interest under the promissory note was paid in full shortly after the
closing of and from the proceeds of a private placement we completed on March 8,
2006. On March 8, 2006, we issued and sold an aggregate of 30 units consisting
of (i) a $50,000 principal amount secured convertible promissory note bearing
interest at 10% per annum and convertible at $0.50 per share, and (ii) a warrant
to purchase 100,000 shares of our common stock at an exercise price of $0.50 per
share, for aggregate gross proceeds of $1.5 million. The units were sold
pursuant to subscription agreements by and between each of the purchasers and
Applied DNA Operations Management, Inc., a Nevada corporation and our wholly
owned subsidiary (our "Subsidiary"). The $2.050 million in gross proceeds from
these first two offerings were held by our Subsidiary for our benefit and used
to fund commissions, fees and expenses associated with the placements, to repay
the outstanding promissory note described above plus accrued interest
thereunder, to fund financing fees, consultants and public reporting costs,
salaries and wages, research and development, facility costs as well as and
general working capital needs. On March 24, 2006, we commenced an offering (the
"Offshore Offering") of up to 140 units, at a price of $50,000 per unit, for a
maximum offering of $7 million for sale to "accredited investors" who are not
"U.S. persons." The units being sold as part of the Offshore Offering consist of
(i) a $50,000 principal amount secured convertible promissory note, and (ii) a
warrant to purchase 100,000 shares of our common stock at a price of $0.50 per
share. On May 2, 2006, we closed on the first tranche of the Offshore Offering
in which we sold 20 units for aggregate gross proceeds of $1,000,000. We paid
Arjent Limited $375,000 in commissions, fees and expenses from these gross
proceeds. On June 15, 2006, we completed the second tranche of the Offshore
Offering in which we sold 59 units for aggregate gross proceeds of $2,950,000.
We paid Arjent Limited $442,500 in commissions, fees and expenses from these
gross proceeds. Additionally, we are obligated to issue 2,400,000 shares of our
Company's common stock to Arjent at $0.001 per share; substantially less than
the market price of $0.20 at the time of the obligation.
On March 29, 2006 and April 13, 2006, we borrowed $200,000 in the
aggregate, at a rate of 7.5% per annum, from BioCogent, Ltd., a New York
corporation ("BioCogent") whose President and Chief Executive Officer and sole
stockholder is James A. Hayward, one of our directors and our Chief Executive
Officer. These loans are due and payable upon the earlier to occur of (1) the
close of business on June 30, 2006, or (2) the closing of the issuance and sale
of our securities for gross proceeds of at least $250,000. The proceeds from the
loans were used for general corporate purposes. The note issued on March 29,
2006 was repaid with interest in May, 2006. The note issued on April 13, 2006
was repaid with interest in June, 2006.
Substantially all of the real property used in our business is leased
under operating lease agreements.
As of June 30, 2006, we had a working capital deficit of $2,982,927.
For the nine months ended June 30, 2006, we generated a net cash flow deficit
from operating activities of $2,306,666 consisting primarily of year to date
income of $5.043 million net with a non cash gain on repricing of warrants and
debt derivatives of $14.251 million.. Non cash equity adjustments totaling a net
$1,611,008 included $606,850 in expensed warrants issued in connection with the
November, 2005 financing, $710,200 in net stock issued for consulting services,
$773,958 in penalty stock issued pursuant to the registration rights agreement
from the private placement in January and February, 2005, and $480,000 in
cancelled shares for services previously rendered. Finally, non cash
depreciation and amortization including amortization of capitalized financing
costs totaled $1,268,437 while net assets and liabilities decreased by $1.606
million. Cash used in investing activities totaled $35,851 primarily for
increased furniture and equipment acquired. Cash provided by financing
activities for the nine months ended June 30, 2006resulted from the financing
discussed above of $4.243 million.
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As of June 30, 2006, we had $3,306,371 in outstanding notes
payable. Please see Note C in our unaudited financial statements for the terms
of such notes payable. We expect capital expenditures to total less than
$200,000 during the 2006 fiscal year. Our primary investments will be in
laboratory equipment to support prototyping and our authentication services.
We have raised capital to meet our working capital needs in the past,
and will likely require additional financing within the next 9 months in order
to meet our current and projected cash flow deficits from operations and
development. We have sufficient funds to conduct our operations for several
months, but not for 9 months or longer. We presently do not have any available
credit, bank financing or other readily available external sources of liquidity.
Financing transactions may include the issuance of equity or debt securities,
obtaining credit facilities, or other financing mechanisms. However, the trading
price of our common stock, a downturn in the U.S. or global stock and debt
markets and other reasons could make it more difficult to obtain financing
through the issuance of equity securities or borrowing. Further, if we issue
additional equity or convertible debt securities, stockholders may experience
additional dilution or the new equity securities may have rights, preferences or
privileges senior to those of existing holders of our common stock. If
additional financing is not available or is not available on acceptable terms,
this could have a material adverse effect on our business, results of operations
liquidity and financial condition.
Our registered independent certified public accountants have stated in
their report dated October 21, 2005, that we have incurred operating losses in
the last two years, and that we are dependent upon management's ability to
develop profitable operations. These factors among others may raise substantial
doubt about our ability to continue as a going concern.
In connection with the January and February 2005 Placement, we granted
the investors registration rights. Pursuant to the registration rights
agreement, if we did not file the registration statement by February 15, 2005,
or if we did not have the registration statement declared effective on or before
June 15, 2005, we are obligated to pay liquidated damages in the amount of 3.5%
per month of the face amount of the notes, which equals $257,985, until the
registration statement is declared effective. At our option, these liquidated
damages can be paid in cash or restricted shares of our common stock. Thus far
we have decided to pay the liquidated damages in common stock, although any
future payments of liquidated damages may, at our option, be made in cash. If we
decide to pay the liquidated damages in cash, we would be required to use our
limited working capital and potentially raise additional funds. If we decide to
pay the liquidated damages in shares of common stock, the number of shares
issued would depend on our stock price at the time that payment is due. Based on
the closing market prices of $0.66, $0.58, $0.70, $0.49, $0.32 and $0.20 for our
common stock on July 15, 2005, August 15, 2005, September 15, 2005, October 17,
2005, November 15, 2005 and December 15, 2005, respectively, we issued a total
of 3,807,375 shares of common stock in liquidated damages from August, 2005 to
January, 2006. The issuance of shares upon payment of liquidated damages will
have the effect of further diluting the proportionate equity interest and voting
power of holders of our common stock.. Liquidated damages in the form of common
stock were paid for the period from June 15, 2005 to December 15, 2005. We
believe that we have no enforceable obligation to pay further liquidated damages
since the shares we agreed to register for resale are eligible for resale under
Rule 144 of the Securities Act of 1933, as amended, and such continuing
liquidated damages are grossly inconsistent with actual damages to the
purchasers of the notes and warrants. However, we are seeking to confirm this
position by obtaining the waiver and release of the holders of these securities
of further liquidated damages. If these persons do not waive and release and
successfully bring a claim against us with respect to such liquidated damages,
it could result in a significant decrease in our liquidity or assets, which
could result in the reduction or termination of our business. As of June 30,
2006 we have accrued $1,547,910 in penalties representing the further liquidated
damages associated with our failure to file the registration statement by the
deadline and have included this amount in accounts payable and accrued expenses.
Matters Voluntarily Reported to the SEC and Securities Act Violations
During the months of March, May, July and August 2005, we issued a
total of 8,550,000 shares of our common stock to certain employees and
consultants pursuant to the 2005 Incentive Stock Plan. We engaged our outside
counsel to conduct an investigation of the circumstances surrounding the
issuance of these shares. On April 26, 2006, we voluntarily reported the
findings from this investigation to the SEC, and agreed to provide the SEC with
further information arising from the investigation. We believe that the issuance
of 8,000,000 shares to employees in July 2005 was effectuated by both our former
President and our former Chief Financial Officer/Chief Operating Officer without
approval of our board of directors. These former officers
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received a total of 3,000,000 of these shares. In addition, it appears that the
8,000,000 shares issued in July 2005, as well as an additional 550,000 shares
issued to employees and consultants in March, May and August 2005, were
improperly issued without a restrictive legend stating that the shares could not
be resold legally except in compliance with the Securities Act of 1933, as
amended. The Company's investigation is continuing. The members of the
Company's management who effectuated the stock issuances that are being examined
in the investigation no longer work for the Company. The Company believes it may
incur significant costs and expenses in connection with this investigation.
Further, these shares were not registered under the Securities Act of 1933, or
the securities laws of any state, and we believe that certain of these shares
may have been sold on the open market, though we have been unable to determine
the magnitude of such sales. In addition, if violations of securities laws
occurred in connection with the resale of certain of these shares, the employees
and consultants or persons who purchased shares from them may have rights to
have their purchase rescinded or other claims against us for violation of
securities laws, which could harm our business, results of operations, and
financial condition.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements.
Product Research and Development
As a result of the recent financings, we anticipate expending $200,000
of available cash towards research and development activities during the next
twelve (12) months.
Acquisition of Plant and Equipment and Other Assets
We do not anticipate the sale of any material property, plant or
equipment during the next 12 months. We do not anticipate the acquisition of any
material property, plant or equipment during the next 12 months.
Number of Employees
From our inception through the period ended June 30, 2006, we have
mainly relied on the services of outside consultants for services. We currently
have five employees. In order for us to attract and retain quality personnel, we
anticipate we will have to offer competitive salaries to future employees. We
anticipate that it may become desirable to add additional full and or part time
employees to discharge certain critical functions during the next 12 months.
This projected increase in personnel is dependent upon our ability to generate
revenues and obtain sources of financing. There is no guarantee that we will be
successful in raising the funds required or generating revenues sufficient to
fund the projected increase in the number of employees. As we continue to
expand, we will incur additional cost for personnel.
Going Concern
The financial statements included in this filing have been prepared in
conformity with generally accepted accounting principles that contemplate our
continuance of as a going concern. Our cash position may be inadequate to pay
all of the costs associated with testing, production and marketing of products.
Management intends to use borrowings and security sales to mitigate the effects
of its cash position, however no assurance can be given that debt or equity
financing, if and when required will be available. The financial statements do
not include any adjustments relating to the recoverability and classification of
recorded assets and classification of liabilities that might be necessary should
we be unable to continue existence.
Trends, Risks and Uncertainties
We have sought to identify what we believe to be the most significant
risks to our business, but we cannot predict whether, or to what extent, any of
such risks may be realized nor can we guarantee that we have identified all
possible risks that might arise. Investors should carefully consider all of such
risk factors before making an investment decision with respect to our common
stock.
RISK FACTORS
Much of the information included in this quarterly report includes or
is based upon estimates, projections or other "forward-looking statements". Such
forward-looking statements include any projections or estimates made by us and
our management in connection with our business operations. While these
forward-looking statements, and any assumptions upon which they are based, are
made in good faith and reflect our
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current judgment regarding the direction of our business, actual results will
almost always vary, sometimes materially, from any estimates, predictions,
projections, assumptions or other future performance suggested herein.
Such estimates, projections or other "forward-looking statements"
involve various risks and uncertainties as outlined below. We caution the reader
that important factors in some cases have affected and, in the future, could
materially affect actual results and cause actual results to differ materially
from the results expressed in any such estimates, projections or other
"forward-looking statements".
Our common shares are considered speculative. Prospective investors
should consider carefully the risk factors set out below.
RISKS RELATING TO OUR BUSINESS
We have a Short Operating History, a Relatively New Business Model, and Have Not
Produced Significant Revenues. This Makes it Difficult to Evaluate Our Future
Prospects and Increases the Risk That We Will Not Be Successful.
We have a short operating history with our current business model,
which involves the marketing, sale and distribution of embedded-DNA security
products based on technologies that we acquired in July 12, 2005 from, and that
are manufactured for us by, Biowell Technology, Inc. We first derived revenue
from this model in the second calendar quarter of 2006, which was insignificant.
Prior to the July 12, 2005 acquisition, our operations consisted principally of
providing marketing and business development services to Biowell Technology,
Inc. As a result, we have very limited operating history for you to evaluate in
assessing our future prospects. We are in the process of transitioning from a
developmental stage to a early-stage growth enterprise. Our operations since
inception have not produced significant revenues, and may not produce
significant revenues in the near term, or at all, which may harm our ability to
obtain additional financing and may require us to reduce or discontinue our
operations. If we create revenues in the future, prior to our introduction of
any new products, we will derive all such revenues from the sale of embedded-DNA
security products, which is an immature industry. You must consider our business
and prospects in light of the risks and difficulties we will encounter as an
early-stage company in a new and rapidly evolving industry. We may not be able
to successfully address these risks and difficulties, which could significantly
harm our business, operating results, and financial condition.
We Have a History Of Losses Which May Continue, and Which May Harm Our Ability
to Obtain Financing and Continue Our Operations.
We generated a net income of $5,606,849 for the nine-month period ended
June 30, 2006, $64,824,755 loss for the fiscal year ended September 30, 2005,
and $19,358,259 loss for the fiscal year ended September 30, 2004. These net
losses have principally been the result of the various costs associated with our
selling, general and administrative expenses as we commenced operations,
acquired, developed and validated technologies and began marketing activities,
and our interest, warrant and derivative expenses relating to notes and warrants
we issued to obtain financing. Our operations are subject to the risks and
competition inherent in a company moving from the development stage to a new
growth enterprise. We may not generate sufficient revenues from operations to
achieve or sustain profitability on a quarterly, annual or any other basis in
the future. Our revenues and profits, if any, will depend upon various factors,
including whether our existing products or any new products we develop will
achieve any level of market acceptance. If we continue to incur losses, our
accumulated deficit will continue to increase, which might significantly impair
our ability to obtain additional financing. As a result, our business, results
of operations and financial condition would be significantly harmed, and we may
be required to reduce or terminate our operations.
If We Are Unable to Obtain Additional Funding Our Business Operations Will be
Harmed or Discontinued, and If We Do Obtain Additional Financing Our
Shareholders May Suffer Substantial Dilution.
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We believe that our existing capital resources will enable us to fund
our operations until approximately April, 2007. We believe we will be required
to seek additional capital to sustain or expand our prototype and sample
manufacturing, and sales and marketing activities, and to otherwise continue our
business operations beyond that date. We have no commitments for any future
funding, and may not be able to obtain additional financing or grants on terms
acceptable to us, if at all, in the future. If we are unable to obtain
additional capital this would restrict our ability to grow and may require us to
curtail or discontinue our business operations. Additionally, while a reduction
in our business operations may prolong our ability to operate, that reduction
would harm our ability to implement our business strategy. If we can obtain any
equity financing, it may involve substantial dilution to our then existing
shareholders.
Our Independent Auditors Have Expressed Substantial Doubt About Our Ability to
Continue As a Going Concern, Which May Hinder Our Ability to Obtain Future
Financing.
In their report dated October 21, 2005, our independent auditors stated
that our financial statements for the year ended September 30, 2005 were
prepared assuming that we would continue as a going concern, and that they have
substantial doubt about our ability to continue as a going concern. Our
auditors' doubts are based on our incurring net losses of $89,924,553 during the
period from September 16, 2002 (date of inception) to September 30, 2005. We
continue to experience net operating losses. Our ability to continue as a going
concern is subject to our ability to generate a profit and/or obtain necessary
funding from outside sources, including by the sale of our securities, obtaining
loans from financial institutions, or obtaining grants from various
organizations or governments, where possible. Our continued net operating losses
and our auditors' doubts increase the difficulty of our meeting such goals and
our efforts to continue as a going concern may not prove successful.
If Our Existing Products are not Accepted by Potential Customers or We Fail to
Introduce New Products, Our Business, Results of Operations and Financial
Condition Will be Harmed.
There has been limited or no market acceptance of our embedded-DNA security
products to date. Some of the factors that will affect whether we achieve market
acceptance of our products include:
o availability, quality and price relative to competitive products;
o customers' opinions of the products' utility;
o ease of use;
o consistency with prior practices;
o scientists' opinions of the products' usefulness;
o citation of the product in published research; and
o general trends in anti-counterfeit and security products' research.
The expenses or losses associated with the continued lack of market acceptance
of our products will harm our business, operating results and financial
condition.
Rapid technological changes and frequent new product introductions are
typical for the markets we serve. Our future success may depend in part on
continuous, timely development and introduction of new products that address
evolving market requirements. We believe successful new product introductions
may provide a significant competitive advantage because customers invest their
time in selecting and learning to use new products, and are often reluctant to
switch products. To the extent we fail to introduce new and innovative products,
we may lose any market share we then have to our competitors, which will be
difficult or impossible to regain. Any inability, for technological or other
reasons, to successfully develop and introduce new products could reduce our
growth rate or damage our business. We may experience delays in the development
and introduction of products. We may not keep pace with the rapid rate of change
in anti-counterfeiting and security products' research, and any new products
acquired or developed by us may not meet the requirements of the marketplace or
achieve market acceptance.
We Need to Expand Our Sales, Marketing and Support Organizations and Our
Distribution Arrangements to Increase Market Acceptance of Our Products.
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We currently have few sales, marketing, customer service and support
personnel and will need to increase our staff to generate a greater volume of
sales and to support any new customers or the expanding needs of existing
customers. The employment market for sales, marketing, customer service and
support personnel in our industry is very competitive, and we may not be able to
hire the kind and number of sales, marketing, customer service and support
personnel we are targeting. Our inability to hire qualified sales, marketing,
customer service and support personnel may harm our business, operating results
and financial condition. We do not currently have any arrangements with any
distributors and we may not be able to enter into arrangements with qualified
distributors on acceptable terms or at all. If we are not able to develop
greater distribution capacity, we may not be able to generate sufficient revenue
to support our operations.
A Manufacturer's Inability or Willingness to Produce Our Goods on Time and to
Our Specifications Could Result in Lost Revenue and Net Losses.
Though we manufacture our own prototypes and samples, we do not own or
operate any manufacturing facilities and depend upon independent third parties
for the manufacture of all of our products to our specifications. The inability
of a manufacturer to ship orders of our products in a timely manner or to meet
our quality standards could cause us to miss the delivery date requirements of
our customers for those items, which could result in cancellation of orders,
refusal to accept deliveries or a reduction in purchase prices, any of which
could harm our business by resulting in decreased revenues or net losses upon
sales of products, if any sales could be made.
If We Need to Replace Manufacturers, Our Expenses Could Increase, Resulting in
Smaller Profit Margins.
We compete with other companies for the production capacity of our
manufacturers and import quota capacity. Some of these competitors have greater
financial and other resources than we have, and thus may have an advantage in
the competition for production and import quota capacity. If we experience a
significant increase in demand, or if our existing manufacturers must be
replaced, we will need to establish new relationships with another or multiple
manufacturers. We cannot assure you that this additional third party
manufacturing capacity will be available when required on terms that are
acceptable to us or terms similar to those we have with our existing
manufacturers, either from a production standpoint or a financial standpoint. We
do not have long-term contracts with our manufacturers, and our manufacturers do
not produce our products exclusively. Should we be forced to replace our
manufacturers, we may experience an adverse financial impact, or an adverse
operational impact, such as being forced to pay increased costs for such
replacement manufacturing or delays upon distribution and delivery of our
products to our customers, which could cause us to lose customers or lose
revenues because of late shipments.
If a Manufacturer Fails to Use Acceptable Labor Practices, We Might Have Delays
in Shipments or Face Joint Liability for Violations, Resulting in Decreased
Revenue and Increased Expenses.
While we require our independent manufacturers to operate in compliance
with applicable laws and regulations, we have no control over their ultimate
actions. While our internal and vendor operating guidelines promote ethical
business practices and our staff and buying agents periodically visit and
monitor the operations of our independent manufacturers, we do not control these
manufacturers or their labor practices. The violation of labor or other laws by
our independent manufacturers, or by one of our licensing partners, or the
divergence of an independent manufacturer's or licensing partner's labor
practices from those generally accepted as ethical in the United States, could
interrupt, or otherwise disrupt the shipment of finished products to us or
damage our reputation. Any of these, in turn, could have a material adverse
effect on our financial condition and results of operations, such as the loss of
potential revenue and incurring additional expenses.
Failure to License New Technologies Could Impair Sales of Our Existing Products
or Any New Product Development We Undertake in the Future.
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To generate broad product lines, it is advantageous to sometimes
license technologies from third parties rather than depend exclusively on the
development efforts of our own employees. As a result, we believe our ability to
license new technologies from third parties is and will continue to be important
to our ability to offer new products. In addition, from time to time we are
notified or become aware of patents held by third parties that are related to
technologies we are selling or may sell in the future. After a review of these
patents, we may decide to seek a license for these technologies from these third
parties. There can be no assurance that we will be able to successfully identify
new technologies developed by others. Even if we are able to identify new
technologies of interest, we may not be able to negotiate a license on favorable
terms, or at all. If we lose the rights to patented technology, we may need to
discontinue selling certain products or redesign our products, and we may lose a
competitive advantage. Potential competitors could license technologies that we
fail to license and potentially erode our market share for certain products.
Intellectual property licenses would typically subject us to various
commercialization, sublicensing, minimum payment, and other obligations. If we
fail to comply with these requirements, we could lose important rights under a
license. In addition, certain rights granted under the license could be lost for
reasons beyond our control, and we may not receive significant indemnification
from a licensor against third party claims of intellectual property
infringement.
Our Failure To Manage Our Growth In Operations and Acquisitions of New Product
Lines and New Businesses Could Harm our Business.
Any growth in our operations, if any, will place a significant strain on our
current management resources. To manage such growth, we would need to improve
our:
o operations and financial systems;
o procedures and controls; and
o training and management of our employees.
Our future growth, if any, may be attributable to acquisitions of new
product lines and new businesses. Future acquisitions, if successfully
consummated, would likely create increased working capital requirements, which
would likely precede by several months any material contribution of an
acquisition to our net income. Our failure to manage growth or future
acquisitions successfully could seriously harm our operating results. Also,
acquisition costs could cause our quarterly operating results to vary
significantly. Furthermore, our stockholders would be diluted if we financed the
acquisitions by incurring convertible debt or issuing securities.
Although we currently only have operations within the United States, if
we were to acquire an international operation; we would face additional risks,
including:
o difficulties in staffing, managing and integrating international
operations due to language, cultural or other differences;
o different or conflicting regulatory or legal requirements;
o foreign currency fluctuations; and
o diversion of significant time and attention of our management.
If We Are Unable to Retain the Services of Messrs. Sheu, Hayward or Liang,
We May Not Be Able to Continue Our Operations.
Our success depends to a significant extent upon the continued service
of Dr. Jun-Jei Sheu,the Chairman of our Board of Directors; Dr. James A.Hayward,
our Chief Executive Officer; and Dr. Benjamin Liang, our Secretary and
Strategic Technology Development Officer. We do not have employment agreements
with Drs. Sheu, Hayward or Liang. Loss of the services of Drs. Sheu, Hayward
or Liang could significantly harm our business, results of operations and
financial condition. We do not maintain key-man insurance on the life of Drs.
Sheu, Hayward or Liang.
Failure to Attract and Retain Qualified Scientific, Production and Managerial
Personnel Could Harm Our Business.
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Recruiting and retaining qualified scientific and production personnel
to manage and perform prototype, sample, and product manufacturing is critical
to our success. Because the industry in which we compete is very competitive, we
face significant challenges attracting and retaining a qualified personnel base.
Although we believe we have been and will be able to attract and retain these
personnel, there is no assurance that we will be able to continue to
successfully attract qualified personnel. In addition, our desired growth and
expansion into areas and activities requiring additional expertise, such as
clinical testing, government approvals, production, and marketing will require
the addition of new management personnel and the development of additional
expertise by existing management personnel. The failure to attract and retain
these personnel or, alternatively, to develop this expertise internally would
adversely harm our business since our ability to conduct business development
and manufacturing will be reduced or eliminated, resulting in lower revenues. We
generally do not enter into employment agreements requiring our employees to
continue in our employment for any period of time.
The DNA Security Technology Industry is Very Competitive, and We may be Unable
to Continue to Compete Effectively in this Industry in the Future.
We are engaged in a segment of the DNA security technology industry
that is highly competitive. We compete with many other suppliers and new
competitors continue to enter the market. Many of our competitors, both in the
United States and elsewhere, also work with major pharmaceutical, chemical and
biotechnology companies, and many of them have substantially greater capital
resources, marketing experience, research and development staff, and facilities
than we do. Any of these companies could succeed in developing products that are
more effective than the products that we have or may develop and may be more
successful than us in producing and marketing their products. Some of our
competitors in the anti-counterfeiting and fraud protection space that we are
aware of include: Authentix, InkSure, DNA Technologies, Inc., Art Guard
International, Theft Protection Systems, Tracetag and November AG. Although it
is difficult to determine the total size of the markets in which we operate and
other market data because companies are secretive about what security methods
they utilize and how much they spend on such measures, we have determined that
approximate annual sales by some of our competitors have been as follows:
InkSure - $1 million
DNA Technologies, Inc. - $22.6 million
November AG - $5.8 million
We expect this competition to continue and intensify in the future. Competition
our markets is primarily driven by:
o product performance, features and liability;
o price;
o timing of product introductions;
o ability to develop, maintain and protect proprietary products and
technologies;
o sales and distribution capabilities;
o technical support and service;
o brand loyalty;
o applications support; and
o breadth of product line.
If a competitor develops superior technology or cost-effective alternatives to
our products, our business, financial condition and results of operations could
be significantly harmed.
Our Intellectual Property Rights Are Valuable, and Any Inability to Protect Them
Could Reduce the Value of Our Products, Services and Brand.
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Our patents, trademarks, trade secrets, copyrights and all of our other
intellectual property rights are important assets for us. There are events that
are outside of our control that pose a threat to our intellectual property
rights as well as to our products and services. For example, effective
intellectual property protection may not be available in every country in which
our products and services are distributed. The efforts we have taken to protect
our proprietary rights may not be sufficient or effective. Any significant
impairment of our intellectual property rights could harm our business or our
ability to compete. Protecting our intellectual property rights is costly and
time consuming. Any increase in the unauthorized use of our intellectual
property could make it more expensive to do business and harm our operating
results. Although we seek to obtain patent protection for our innovations, it is
possible we may not be able to protect some of these innovations. Given the
costs of obtaining patent protection, we may choose not to protect certain
innovations that later turn out to be important. There is always the possibility
that the scope of the protection gained from one of our issued patents will be
insufficient or deemed invalid or unenforceable. We also seek to maintain
certain intellectual property as trade secrets. The secrecy could be compromised
by third parties, or intentionally or accidentally by our employees, which would
cause us to lose the competitive advantage resulting from these trade secrets.
Intellectual Property Litigation Could Harm Our Business.
Litigation regarding patents and other intellectual property rights is
extensive in the biotechnology industry. In the event of an intellectual
property dispute, we may be forced to litigate. This litigation could involve
proceedings instituted by the U.S. Patent and Trademark Office or the
International Trade Commission, as well as proceedings brought directly by
affected third parties. Intellectual property litigation can be extremely
expensive, and these expenses, as well as the consequences should we not
prevail, could seriously harm our business.
If a third party claims an intellectual property right to technology we
use, we might need to discontinue an important product or product line, alter
our products and processes, pay license fees or cease our affected business
activities. Although we might under these circumstances attempt to obtain a
license to this intellectual property, we may not be able to do so on favorable
terms, or at all. Furthermore, a third party may claim that we are using
inventions covered by the third party's patent rights and may go to court to
stop us from engaging in our normal operations and activities, including making
or selling our product candidates. These lawsuits are costly and could affect
our results of operations and divert the attention of managerial and technical
personnel. A court may decide that we are infringing the third party's patents
and would order us to stop the activities covered by the patents. In addition, a
court may order us to pay the other party damages for having violated the other
party's patents. The biotechnology industry has produced a proliferation of
patents, and it is not always clear to industry participants, including us,
which patents cover various types of products or methods of use. The coverage of
patents is subject to interpretation by the courts, and the interpretation is
not always uniform. If we are sued for patent infringement, we would need to
demonstrate that our products or methods of use either do not infringe the
patent claims of the relevant patent and/or that the patent claims are invalid,
and we may not be able to do this. Proving invalidity, in particular, is
difficult since it requires a showing of clear and convincing evidence to
overcome the presumption of validity enjoyed by issued patents.
Because some patent applications in the United States may be maintained
in secrecy until the patents are issued, because patent applications in the
United States and many foreign jurisdictions are typically not published until
eighteen months after filing, and because publications in the scientific
literature often lag behind actual discoveries, we cannot be certain that others
have not filed patent applications for technology covered by our or our
licensor's issued patents or pending applications or that we or our licensors
were the first to invent the technology. Our competitors may have filed, and may
in the future file, patent applications covering technology similar to ours. Any
such patent application may have priority over our or our licensors' patent
applications and could further require us to obtain rights to issued patents
covering such technologies. If another party has filed a United States patent
application on inventions similar to ours, we may have to participate in an
interference proceeding declared by the United States Patent and Trademark
Office to determine priority of invention in the United States. The costs of
these proceedings could be substantial, and it is possible that such efforts
would be unsuccessful, resulting in a loss of our United States patent position
with respect to such inventions.
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Some of our competitors may be able to sustain the costs of complex
patent litigation more effectively than we can because they have substantially
greater resources. In addition, any uncertainties resulting from the initiation
and continuation of any litigation could have a material adverse effect on our
ability to raise the funds necessary to continue our operations.
Accidents Related to Hazardous Materials Could Adversely Affect Our Business.
Some of our operations require the controlled use of hazardous materials.
Although we believe our safety procedures comply with the standards prescribed
by federal, state, local and foreign regulations, the risk of accidental
contamination of property or injury to individuals from these materials cannot
be completely eliminated. In the event of an accident, we could be liable for
any damages that result, which could seriously damage our business and results
of operations.
Potential Product Liability Claims Could Affect Our Earnings and Financial
Condition.
We face a potential risk of liability claims based on our products and
services, and we have faced such claims in the past. We currently do not have
any product liability coverage but are attempting to obtain coverage which we
will believe to be adequate. We cannot assure, however, that we will be able to
obtain or maintain this insurance at reasonable cost and on reasonable terms. We
also cannot assure that this insurance, if obtained, will be adequate to protect
us against a product liability claim, should one arise. In the event that a
product liability claim is successfully brought against us, it could result in a
significant decrease in our liquidity or assets, which could result in the
reduction or termination of our business.
Litigation Generally Could Affect Our Financial Condition and Results of
Operations.
We generally may be subject to claims made by and required to respond
to litigation brought by customers, former employees, former officers and
directors, former distributors and sales representatives, and vendors and
service providers. We have faced such claims and litigation in the past and we
cannot assure that we will not be subject to claims in the future. In the event
that a claim is successfully brought against us, considering our lack of revenue
and the losses our business has incurred for the period from our inception to
June 30, 2006, this could result in a significant decrease in our liquidity or
assets, which could result in the reduction or termination of our business.
Our Failure to File a Registration Statement Could Affect Our Financial
Condition and Results of Operations.
In June 2005, we engaged Trilogy Capital Partners, Inc. ("Trilogy") and
Joff Pollon ("Pollon") as consultants. In connection with that engagement we
issued to Trilogy a warrant to purchase 7,500,000 shares of our common stock at
a price of $0.55 per share and Joff Pollon ("Pollon") a warrant to purchase
1,500,000 shares of our common stock at a price of $0.55 per share. We also
agreed to file a registration statement with the Securities and Exchange
Commission ("SEC") with respect to the shares underlying such warrants no later
than the earlier to occur of: (i) 15 days following the effectiveness of the
registration statement of which this prospectus forms a part, or (ii) September
15, 2005. As of the date hereof we have not filed a registration statement with
respect to the shares of our common stock underlying such warrants. In the event
that a claim is successfully brought by the holders of such warrants against us
with respect to this matter, it could result in a significant decrease in our
liquidity or assets, which could result in the reduction or termination of our
business.
We are Obligated to Pay Liquidated Damages As a Result of Our Failure to Have
this Registration Statement Declared Effective Prior to June 15, 2005, and any
Payment of Liquidated Damages Will Either Result in Depletion of Our Working
Capital or Issuance of Shares of Common Stock Which Would Cause Dilution to Our
Existing Shareholders.
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Pursuant to the terms of our private placement that closed in January
and February 2005, if we did not have a registration statement registering the
shares underlying the convertible notes and warrants declared effective on or
before June 15, 2005, we are obligated to pay liquidated damages in the amount
of 3.5% per month of the face amount of the notes, which equals $257,985, until
the registration statement is declared effective. At our option, these
liquidated damages can be paid in cash or restricted shares of our common stock.
Thus far we have decided to pay the liquidated damages in common stock, although
any future payments of liquidated damages may, at our option, be made in cash.
If we decide to pay such liquidated damages in cash, we would be required to use
our limited working capital and potentially raise additional funds. If we decide
to pay the liquidated damages in shares of common stock, the number of shares
issued would depend on our stock price at the time that payment is due. Based on
the closing market prices of $0.66, $0.58, $0.70, $0.49, $0.32 and $0.20 for our
common stock on July 15, 2005, August 15, 2005, September 15, 2005, October 17,
2005, November 15, 2005 and December 15, 2005, respectively, we issued a total
of 3,806,240 shares of common stock in liquidated damages from August, 2005 to
January, 2006. The issuance of shares upon payment of liquidated damages will
have the effect of further diluting the proportionate equity interest and voting
power of holders of our common stock.
Liquidated damages in the form of common stock were paid for the period
from June 15, 2005 to December 15, 2005. We believe that we have no enforceable
obligation to pay further liquidated damages since the shares we agreed to
register for resale are eligible for resale under Rule 144 of the Securities Act
of 1933, as amended, and such continuing liquidated damages are grossly
inconsistent with actual damages to the purchasers of the notes and warrants.
However, we are seeking to confirm this position by obtaining the waiver and
release of the holders of these securities of further liquidated damages. If
these persons do not waive and release and successfully bring a claim against us
with respect to such liquidated damages, it could result in a significant
decrease in our liquidity or assets, which could result in the reduction or
termination of our business. As of June 30, 2006 we have accrued $1,547,910 in
penalties representing the further liquidated damages associated with our
failure to file the registration statement by the deadline and have included
this amount in accounts payable and accrued expenses.
Matter Voluntarily Reported to the Securities and Exchange Commission
During the months of March, May, July and August 2005, we issued a
total of 8,550,000 shares of our common stock to certain employees and
consultants pursuant to the 2005 Incentive Stock Plan. We engaged our outside
counsel to conduct an investigation of the circumstances surrounding the
issuance of these shares. On April 26, 2006, we voluntarily reported the
findings from this investigation to the SEC, and agreed to provide the SEC with
further information arising from the investigation. We believe that the issuance
of 8,000,000 shares to employees in July 2005 was effectuated by both our former
President and our former Chief Financial Officer/Chief Operating Officer without
approval of our board of directors. These former officers received a total of
3,000,000 of these shares. In addition, it appears that the 8,000,000 shares
issued in July 2005, as well as an additional 550,000 shares issued to employees
and consultants in March, May and August 2005, were improperly issued without a
restrictive legend stating that the shares could not be resold legally except in
compliance with the Securities Act of 1933, as amended. The Company's
investigation is continuing. The members of the Company's management who
effectuated the stock issuances that are being examined in the investigation no
longer work for the Company. The Company believes it may incur significant costs
and expenses in connection with this investigation. Further, these shares were
not registered under the Securities Act of 1933, or the securities laws of any
state, and we believe that certain of these shares may have been sold on the
open market, though we have been unable to determine the magnitude of such
sales. In addition, if violations of securities laws occurred in connection with
the resale of certain of these shares, the employees and consultants or persons
who purchased shares from them may have rights to have their purchase rescinded
or other claims against us for violation of securities laws, which could harm
our business, results of operations, and financial condition.
There Are a Large Number of Shares Underlying Our Options and Warrants That May
be Available for Future Sale and the Sale of These Shares May Depress the Market
Price of Our Common Stock and Will Cause Immediate and Substantial Dilution to
Our Existing Stockholders.
As of June 30, 2006, we had 118,582,385 shares of common stock issued
and outstanding and outstanding options and warrants to purchase in the
aggregate approximately 57,129,464 shares of common stock. All of the shares
issuable upon exercise of our options and warrants may be sold without
restriction. The sale of these shares may adversely affect the market price of
our common stock. The issuance of shares
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upon exercise of options and warrants will cause immediate and substantial
dilution to the interests of other stockholders since the selling stockholders
may convert and sell the full amount issuable on exercise.
If We Fail to Remain Current on Our Reporting Requirements, We Could be Removed
From the OTC Bulletin Board Which Would Limit the Ability of Broker-Dealers to
Sell Our Securities and the Ability of Stockholders to Sell Their Securities in
the Secondary Market.
Companies trading on The Over The Counter Bulletin Board ("OTC Bulletin
Board"), such as us, must be reporting issuers under Section 12 of the
Securities Exchange Act of 1934, as amended, and must be current in their
reports under Section 13, in order to maintain price quotation privileges on the
OTC Bulletin Board. If we fail to remain current on our reporting requirements,
we could be removed from the OTC Bulletin Board. As a result, the market
liquidity for our securities could be severely adversely affected by limiting
the ability of broker-dealers to sell our securities and the ability of
stockholders to sell their securities in the secondary market. Prior to May 2001
and new management, we were delinquent in our reporting requirements, having
failed to file our quarterly and annual reports for the years ended 1998 - 2000
(except the quarterly reports for the first two quarters of 1999). We have been
current in our reporting requirements for the last six years, however, there can
be no assurance that in the future we will always be current in our reporting
requirements.
Our Common Stock is Subject to the "Penny Stock" Rules of the SEC and the
Trading Market in Our Securities is Limited, Which Makes Transactions in Our
Stock Cumbersome and May Reduce the Value of an Investment in Our Stock.
The SEC has adopted Rule 15g-9 which establishes the definition of a
"penny stock," for the purposes relevant to us, as any equity security that has
a market price of less than $5.00 per share or with an exercise price of less
than $5.00 per share, subject to certain exceptions. For any transaction
involving a penny stock, unless exempt, the rules require:
o that a broker or dealer approve a person's account for transactions in
penny stocks; and
o the broker or dealer receive from the investor a written agreement to
the transaction, setting forth the identity and quantity of the penny
stock to be purchased.
o In order to approve a person's account for transactions in penny
stocks, the broker or dealer must:
o obtain financial information and investment experience objectives of
the person; and
o make a reasonable determination that the transactions in penny stocks
are suitable for that person and the person has sufficient knowledge
and experience in financial matters to be capable of evaluating the
risks of transactions in penny stocks.
The broker or dealer must also deliver, prior to any transaction in a
penny stock, a disclosure schedule prescribed by the Commission relating to the
penny stock market, which, in highlight form:
o sets forth the basis on which the broker or dealer made the suitability
determination; and
o that the broker or dealer received a signed, written agreement from the
investor prior to the transaction.
Generally, brokers may be less willing to execute transactions in
securities subject to the "penny stock" rules. This may make it more difficult
for investors to dispose of our common stock and cause a decline in the market
value of our stock.
Disclosure also has to be made about the risks of investing in penny
stocks in both public offerings and in secondary trading and about the
commissions payable to both the broker-dealer and the registered representative,
current quotations for the securities and the rights and remedies available to
an investor in cases of fraud in penny stock transactions. Finally, monthly
statements have to be sent disclosing recent price information for the penny
stock held in the account and information on the limited market in penny stocks.
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ITEM 3. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
As of June 30, 2006, our management carried out an evaluation, under the
supervision of our Chief Executive Officer and Chief Financial Officer of the
effectiveness of the design and operation of our system of disclosure controls
and procedures pursuant to the Securities and Exchange Act, Rule 13a-15(e) and
15d-15(e) under the Exchange Act). Based on that evaluation, our chief executive
officer and chief financial officer concluded that our disclosure controls and
procedures are not effective to provide reasonable assurance that information we
are required to disclose in reports that we file or submit under the Exchange
Act is recorded, processed, summarized and reported within the time periods
specified in SEC rules and forms, and that such information is not accumulated
and communicated to our management, including our chief executive officer and
chief financial officer, as appropriate, to allow timely decisions regarding
required disclosure. Please see the subsection "Significant Deficiencies In
Disclosure Controls And Procedures Or Internal Controls" below.
Changes in internal controls
Except as described below, there were no changes in internal controls over
financial reporting that occurred during the period covered by this report that
have materially affected, or are reasonably likely to materially effect, our
internal control over financial reporting. As described below, as a result of
our evaluation of our disclosure controls and procedures as of June 30, 2006, we
determined that our controls and procedures are not effective and subsequent to
the period of this report, began to implement changes to our internal controls.
Significant Deficiencies In Disclosure Controls And Procedures Or Internal
Controls
As previously reported, on July 11, 2005, we determined there were errors in
accounting for the valuation of equity consulting service transactions during
the January through March 2005 time period. The valuation resulted in the
overstatement of approximately $2.9 million in services provided. The errors
were discovered in connection with a comment raised by the SEC in their review
and comment on our registration statement on Form SB-2. The SEC requested that
we provided additional disclosure regarding issuances of common stock to
non-employees in exchange for services. Upon reviewing and updating our
disclosure, we discovered our errors. During the quarter ended June 30, 2006, we
implemented the following changes in our internal controls to resolve these
weaknesses and deficiencies:
Establish and maintain a separate binder of all board authorized activities and
a binder with forward looking "budget" of anticipated or contemplated activity
for each of the following:
o shares issued for services;
o shares issued for employees;
o warrant exercises;
o option exercises;
o authorized shares and warrant re-pricing;
o shares issued in exchange for debt; and
o upcoming ESOP grants and exercises;
o require the signature of the principal executive and accounting
officers for all issuances of securities;
o require monthly review of share issuances compared to binders; and
o authorize our transfer agent to handle and track all warrants and ESOP
grants.
We believe that these actions will correct the material deficiencies and
significant weaknesses in our controls and procedures.
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PART II--OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
From time to time, we may become involved in various lawsuits and legal
proceedings which arise in the ordinary course of business. However, litigation
is subject to inherent uncertainties, and an adverse result in these or other
matters may arise from time to time that may harm our business. Except as
described below, we are currently not aware of any such legal proceedings or
claims that we believe will have, individually or in the aggregate, a material
adverse affect on our business, financial condition or operating results.
Paul Reep v. Applied DNA Sciences, Inc., Case No.: BC345702
Plaintiff Paul Reep, a former employee, commenced this action against
us in the Superior Court for the Sate of California for the County of Los
Angeles on January 10, 2006. Paul Reep asserts eight causes of action for breach
of contract, breach of an oral agreement, negligent misrepresentation,
interference with prospective business advantages, defamation, fraud, accounting
and constructive trust, unjust enrichment. The relief sought includes damages
and attorneys' fees. We dispute all of the allegations of this complaint and
intend to vigorously defend this mater. In this matter we have asked the court
to make a judicial determination that an agreement, which we did not authorize
and which is the basis of previously disclosed litigation against us by Paul
Reep, our former employee, and a new action filed by our former employees as set
forth in the subsequent paragraphs is invalid and unenforceable. The court has
stayed all proceedings in this matter pending the resolution of the parallel
federal case, Applied DNA Sciences Inc. v. Reep, et al., discussed below.
Applied DNA Sciences, Inc. v. Paul Reep, Adrian Butash, John Barnett, Chanty
Cheang, Jaime Cardona, and Angela Wiggins, Case No. CV06-2027 RGK We
filed this action against the defendants, Paul Reep, Adrian Butash, John
Barnett, Chanty Cheang, Jaime Cardona, and Angela Wiggins on April 4, 2006, in
the United States District Court for the Central District of California. In this
matter we have asked the court to make a judicial determination that an
agreement, which we did not authorize and which is the basis of previously
disclosed litigation against us by Paul Reep, our former employee, is invalid
and unenforceable. This matter is in its early stages.
Barnett, et al. v. Applied DNA Sciences, et al., Case No.: BC 350904
Plaintiffs John D. Barnett, Jr., Adrian Butash, Jaime A. Cardona,
and Chanty Cheang, our former employees, filed suit against us, Applied DNA
Operations Management, Inc., APDN (B.V.I.), Inc., Peter Brocklesby, James A.
Hayward, and Jun-Jei Sheu in Los Angeles County Superior Court on April 17,
2006. The complaint alleges causes of action for breach of written contract,
breach of oral contract, fraud, violations of the California Labor Code, and
wrongful termination. We dispute all of the allegations of this complaint and
intend to vigorously defend this matter.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
On May 2, 2006, we closed on the first tranche of the Offshore Offering
in which we sold 20 units for aggregate gross proceeds of $1,000,000. On June
15, 2006, we completed the second tranche of the Offshore Offering in which we
sold 59 units for aggregate gross proceeds of $2,950,000. The units being sold
consist of (i) a $50,000 principal amount secured convertible promissory note
and (ii) a warrant to purchase 100,000 shares of our common stock at a price of
$0.50 per share. These issuances are considered exempt under Regulation S of the
Securities Act of 1933.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS
4.1 Form of Subscription Agreement, filed as an exhibit to the current
report on Form 8-K filed with the Commission on May 5, 2006 and
incorporated herein by reference.
4.9 Form of 10% Secured Convertible Promissory Note of Applied DNA
Sciences, Inc., filed as an exhibit to the current report on Form 8-K
filed with the Commission on May 5, 2006 and incorporated herein by
reference.
4.10 Form of Warrant Agreement of Applied DNA Sciences, Inc., filed as an
exhibit to the current report on Form 8-K filed with the Commission on
May 5, 2006 and incorporated herein by reference.
10.4 Form of Registration Rights Agreement of Applied DNA Sciences, Inc.,
filed as an exhibit to the current report on Form 8-K filed with the
Commission on May 5, 2006 and incorporated herein by reference.
31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14 and
Rule 15d-14(a), promulgated under the Securities and Exchange Act of
1934, as amended.
31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14 and
Rule 15d 14(a), promulgated under the Securities and Exchange Act of
1934, as amended.
32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 (Chief Executive
Officer).
32.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 (Chief Financial
Officer).
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
APPLIED DNA SCIENCES, INC.
Date: February 29, 2008 By: /s/ JAMES A. HAYWARD
-----------------------------------------
James A. Hayward
Chief Executive Officer (Principal
Executive Officer)
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