UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-QSB
x QUARTERLY REPORT UNDER SECTION 13 OR
15(d) OF
THE
SECURITIES EXCHANGE ACT OF 1934
For the
Quarterly Period Ended June 30, 2008
¨ TRANSITION REPORT UNDER SECTION 13
OR 15(d) OF THE EXCHANGE ACT
For the
Transition Period From
To
Commission
file number 002-90539
APPLIED
DNA SCIENCES, INC.
(Name of
small business issuer 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 o
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).
Yes o
No x
The
number of shares of Common Stock, $0.001 par value, outstanding on August 13,
2008, was 200,391,959 shares.
Transitional
Small Business Disclosure Format (Check one)
Yes o
No x
APPLIED
DNA SCIENCES, INC
QUARTERLY
REPORT ON FORM 10-QSB FOR THE
QUARTERLY
PERIOD ENDING JUNE 30,2008
Table of Contents
| ITEM 1. FINANCIAL STATEMENTS (UNAUDITED) |
2
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| Condensed Consolidated Balance Sheets as of June 30, 2008 and September 30, 2007 |
2
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3
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4
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5
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30
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49
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50
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52
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52
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52
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52
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53
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| SIGNATURES |
55
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-i-
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CONDENSED
CONSOLIDATED BALANCE SHEETS
|
||||||||
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(unaudited)
|
||||||||
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June
30,
|
September
30,
|
|||||||
|
2008
|
2007
|
|||||||
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ASSETS
|
||||||||
|
Current
assets:
|
||||||||
|
Cash
|
$ | 585,152 | $ | 25,185 | ||||
|
Accounts
Receivable
|
89,483 | - | ||||||
|
Prepaid
expenses
|
114,583 | 101,000 | ||||||
|
Restricted
cash
|
- | 399,920 | ||||||
|
Total
current assets
|
789,218 | 526,105 | ||||||
|
Property,
plant and equipment-net of accumulated depreciation of $129,641 and
$82,825, respectively
|
81,221 | 105,537 | ||||||
|
Other
assets:
|
||||||||
|
Deposits
|
8,322 | 13,822 | ||||||
|
Capitalized
finance costs-net of accumulated amortization of $329,584 and 7,997,
respectively
|
225,416 | 29,503 | ||||||
|
Intangible
assets:
|
||||||||
|
Patients,
net of accumulated amortization of $30,388 and $25,445, respectively (Note
B)
|
3,868 | 8,812 | ||||||
|
Intellectual
property, net of accumulated amortization and write off of $7,975,735 and
$7,702,891, respectively (Note B)
|
1,455,165 | 1,728,009 | ||||||
|
Total
Assets
|
$ | 2,563,210 | $ | 2,411,788 | ||||
|
LIABILITIES
AND DEFICIENCY IN STOCKHOLDERS' EQUITY
|
||||||||
|
Current
liabilities:
|
||||||||
|
Accounts
payable and accrued liabilities
|
$ | 12,778,317 | $ | 13,215,975 | ||||
|
Convertible
notes payable, net of unamortized discount (Note D)
|
3,168,920 | 740,405 | ||||||
|
Other
current liabilities
|
- | 399,920 | ||||||
|
Deferred
revenue
|
60,000 | - | ||||||
|
Total
current liabilities
|
16,007,237 | 14,356,300 | ||||||
|
Commitments
and contingencies (Note H)
|
||||||||
|
Deficiency
in Stockholders' Equity- (Note F)
|
||||||||
|
Preferred
stock, par value $0.0001 per share; 10,000,000 shares authorized; 60,000
issued and outstanding
|
6 | 6 | ||||||
|
Common
stock, par value $0.001 per share; 410,000,000 shares authorized;
197,104,480 and 180,281,661 issued and
outstanding
as of June 30, 2008 and September 30, 2007, respectively
|
197,104 | 180,281 | ||||||
|
Additional
paid in capital
|
131,919,396 | 128,448,584 | ||||||
|
Accumulated
deficit
|
(145,560,533 | ) | (140,573,383 | ) | ||||
|
Total
deficiency in stockholders' equity
|
(13,444,027 | ) | (11,944,512 | ) | ||||
|
Total
liabilities and Deficiency in Stockholders' Equity
|
$ | 2,563,210 | $ | 2,411,788 | ||||
|
See
the accompanying notes to the unaudited condensed consolidated financial
statements
|
||||||||
2
|
CONDENSED CONSOLIDATED
STATEMENTS OF LOSSES
|
|||||||||||||||||||
|
(unaudited)
|
|||||||||||||||||||
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For
the Three Months Ended June 30,
|
For
the Nine Months Ended June 30,
|
||||||||||||||||||
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2008
|
2007
|
2008
|
2007
|
||||||||||||||||
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Sales
|
$ | 252,691 | $ | - | $ | 583,595 | $ | - | |||||||||||
|
Cost
of sales
|
(50,489 | ) | - | (124,493 | ) | - | |||||||||||||
|
Gross
Profit
|
202,202 | - | 459,102 | - | |||||||||||||||
|
Operating
expenses:
|
|||||||||||||||||||
|
Selling,
general and administrative
|
951,828 | 1,968,642 | 3,365,880 | 6,012,028 | |||||||||||||||
|
Research
and development
|
19,816 | 25,504 | 112,042 | 94,289 | |||||||||||||||
|
Depreciation
and amortization
|
109,555 | 108,357 | 324,603 | 324,594 | |||||||||||||||
|
Total
operating expenses
|
1,081,199 | 2,102,503 | 3,802,525 | 6,430,911 | |||||||||||||||
|
NET
LOSS FROM OPERATIONS
|
(878,997 | ) | (2,102,503 | ) | (3,343,423 | ) | (6,430,911 | ) | |||||||||||
|
Net
gain in revaluation of debt derivative and warrant
liabilities
|
- | 4,431,421 | - | 142,131 | |||||||||||||||
|
Other
income
|
- | - | - | 977 | |||||||||||||||
|
Interest
expense-net
|
(649,722 | ) | (520,963 | ) | (1,643,727 | ) | (1,945,702 | ) | |||||||||||
|
Net
(loss)/income before provision for income taxes
|
(1,528,719 | ) | 1,807,954 | (4,987,150 | ) | (8,233,506 | ) | ||||||||||||
|
Income
taxes (benefit)
|
- | - | - | - | |||||||||||||||
|
NET
(LOSS) INCOME
|
$ | 1,528,719 | ) | $ | 1,807,954 | $ | (4,987,150 | ) | $ | (8,233,506 | ) | ||||||||
|
Net
income (loss) per share-basic
|
$ | 0.01 | ) | $ | 0.01 | $ | (0.03 | ) | $ | (0.07 | ) | ||||||||
|
Net
loss per share- assuming fully diluted - Note A
|
$ | (0.02 | ) | ||||||||||||||||
|
Weighted
average shares outstanding-
|
|||||||||||||||||||
|
Basic
|
192,749,058 | 132,310,413 | 188,818,049 | 124,844,409 | |||||||||||||||
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Fully
diluted
|
170,056,948 | ||||||||||||||||||
|
See
the accompanying notes to the unaudited condensed consolidated financial
statements
|
|||||||||||||||||||
3
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CONDENSED
CONSOLIDATED STATEMENT OF CASH FLOWS
|
||||||||
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(unaudited)
|
||||||||
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Nine
Months Ended June 30,
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||||||||
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2008
|
2007
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Cash
flows from operating activities:
|
||||||||
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Net
loss
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$ | (4,987,150 | ) | $ | (8,233,506 | ) | ||
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Adjustments
to reconcile net loss to net used in operating activities:
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||||||||
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Depreciation
and amortization
|
324,603 | 324,594 | ||||||
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Income
attributable to repricing of warrants and debt derivatives
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- | (142,131 | ) | |||||
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Amortization
of capitalized financing costs
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321,587 | 1,005,975 | ||||||
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Amortization
of debt discount attributable to convertible debentures
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1,375,876 | 1,590,612 | ||||||
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Common
stock issued in exchange for services rendered
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1,040,000 | - | ||||||
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Change
in assets and liabilities:
|
||||||||
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Decrease
(increase) in accounts receivable
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(89,483 | ) | 9,631 | |||||
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Decrease
(increase) in prepaid expenses and deposits
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(8,083 | ) | (32,208 | ) | ||||
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Decrease
(increase) in other assets
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- | 8,419 | ||||||
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Increase
(decrease) in accounts payable and accrued liabilities
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(387,383 | ) | 3,811,641 | |||||
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Increase
(decrease) in deferred revenue
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60,000 | - | ||||||
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Net
cash used in operating activities
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(2,350,033 | ) | (1,656,973 | ) | ||||
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Cash
flows from investing activities:
|
||||||||
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Decrease
in restricted cash held in escrow
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399,920 | - | ||||||
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Acquisition
of property and equipment, net
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(22,500 | ) | (11,039 | ) | ||||
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Net
cash provided by (used in) investing activities
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377,420 | (11,039 | ) | |||||
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Cash
flows from financing activities:
|
||||||||
|
Proceeds
from issuance of convertible notes
|
2,532,580 | 477,500 | ||||||
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Net
cash provided by financing activities
|
2,532,580 | 477,500 | ||||||
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Net
increase in cash and cash equivalents
|
559,967 | (1,190,512 | ) | |||||
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Cash
and cash equivalents at beginning of period
|
25,185 | 1,225,304 | ||||||
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Cash
and cash equivalents at end of period
|
$ | 585,152 | $ | 34,792 | ||||
|
Supplemental
Disclosures of Cash Flow Information:
|
||||||||
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Cash
paid during period for interest
|
- | - | ||||||
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Cash
paid during period for taxes
|
- | - | ||||||
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Non-cash
transactions:
|
||||||||
|
Common
stock issued for services
|
$ | 1,040,000 | - | |||||
|
Common
stock issued in exchange for previously incurred debt
|
$ | 600,275 | $ | 4,361,200 | ||||
|
See
the accompanying notes to the unaudited condensed consolidated financial
statements
|
||||||||
4
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
General
The
accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with the instructions to Form 10-QSB, 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, 2008 are not
necessarily indicative of the results that may be expected for the fiscal year
ending September 30, 2008. The unaudited condensed consolidated financial
statements should be read in conjunction with the consolidated September 30,
2007 financial statements and footnotes thereto included in the Company's SEC
Form 10-KSB.
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. During the year ended
September 30, 2007, the Company transitioned from a development stage enterprise
to an operating company. The Company is principally devoted to developing DNA
embedded biotechnology security solutions in the United States. To date, the
Company has generated minimum sales revenues from its services and products; it
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, 2008, the Company has accumulated losses of
$145,560,533.
The
consolidated financial statements include the accounts of the Company, and its
wholly-owned subsidiaries Applied DNA Operations Management, Inc., APDN
(B.V.I.), Inc. and Applied DNA Sciences Europe Limited. Significant
inter-company transactions have been eliminated in consolidation.
Estimates
The
preparation of the financial statement in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect certain reported amounts and disclosures. Accordingly, actual
results could differ from those estimates.
Revenue
Recognition
Revenues
are derived from research, development, qualification and production testing for
certain commercial products. Revenue from fixed price testing contracts is
generally recorded upon completion of the contracts, which are generally
short-term, or upon completion of identifiable contractual tasks. At the time
the Company enters into a contract that includes multiple tasks, the Company
estimates the amount of actual labor and other costs that will be required to
complete each task based on historical experience. Revenues are recognized which
provide for a profit margin relative to the testing performed. Revenue relative
to each task and from contracts which are time and materials based is recorded
as effort is expended. Billings in excess of amounts earned are deferred. Any
anticipated losses on contracts are charged to income when identified. To the
extent management does not accurately forecast the level of effort required to
complete a contract, or individual tasks within a contract, and the Company is
unable to negotiate additional billings with a customer for cost over-runs, the
Company may incur losses on individual contracts. All selling, general and
administrative costs are treated as period costs and expensed as
incurred.
5
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
A — SUMMARY OF ACCOUNTING POLICIES (continued)
Revenue
Recognition (continued)
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) collectability 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 collectability 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, 2008 the Company
‘s deferred revenue was $60,000.
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.
Cash
Equivalents
For the
purpose of the accompanying financial statements, all highly liquid investments
with a maturity of three months or less are considered to be cash
equivalents.
Income
Taxes
The
Company has adopted Financial Accounting Standard No. 109 (SFAS 109) which
requires the recognition of deferred tax liabilities and assets for the expected
future tax consequences of events that have been included in the financial
statement or tax returns. Under this method, deferred tax liabilities and assets
are determined based on the difference between financial statements and tax
basis of assets and liabilities using enacted tax rates in effect for the year
in which the differences are expected to reverse. Temporary
differences between taxable income reported for financial reporting purposes and
income tax purposes are insignificant.
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,
2008 and September 30, 2007 property and equipment consist of:
|
June
30,
2008 |
September
30, 2007
|
|||||||
|
Computer
equipment
|
$ | 27,404 | $ | 27,404 | ||||
|
Lab
equipment
|
77,473 | 54,973 | ||||||
|
Furniture
|
105,985 | 105,985 | ||||||
| 210,862 | 188,362 | |||||||
|
Accumulated
Depreciation
|
(129,641 | ) | (82,825 | ) | ||||
|
Net
|
$ | 81,221 | $ | 105,537 | ||||
6
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
A — SUMMARY OF ACCOUNTING POLICIES (continued)
Net
income (loss) per share
The
following reconciliation of net income and share amounts used in the computation
of income (loss) per share for the three months ended June 30,
2007:
|
Three
Months Ended
June 30, 2007
|
||||
|
Net
income used in computing basic net income per share
|
$ | 1,807,954 | ||
|
Impact
of assumed assumptions:
|
||||
|
Fair
value of warrants relating to convertible debt charged to interest
expense
|
- | |||
|
Impact
of equity classified as liability:
|
||||
|
Gain
on warrant liability marked to fair value
|
(4,431,421 | ) | ||
|
Net
loss in computing diluted net loss per share:
|
$ | (2,623,467 | ) | |
The
Company has adopted Statement of Financial Accounting Standard No. 128,
"Earnings Per Share," specifying the computation, presentation and disclosure
requirements of earnings per share information. The weighted average shares
outstanding used in the basic net income per share computations for the three
months ended June 30, 2007 was 132,310,413. In determining the number of shares
used in computing diluted loss per share, the Company added approximately
37,746,535 for the three months ended June 30, 2007. Basic earnings per
share have been calculated based upon the weighted average number of common
shares outstanding. Stock options and warrants have been excluded as
common stock equivalents in the diluted earnings per share because they are
either antidilutive, or their effect is not material. Fully diluted shares
outstanding were 254,201,883 and 162,590,944 for the nine months ended June 30,
2008 and 2007, respectively.
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, 2006 and
for the subsequent periods. The Company issued employee unvested employee
options as stock-based compensation during the year ended September 30, 2006 and
therefore has no unrecognized stock compensation related liabilities ended
September 30, 2006. For the year ended September 30, 2007, the Company did not
issue any stock based compensation.
7
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
A — SUMMARY OF ACCOUNTING POLICIES (continued)
On
January 1, 2006, we adopted the fair value recognition provisions of Financial
Accounting Standards Board ("FASB") Statement of Financial Accounting Standards
("SFAS") No. 123, Accounting for Stock Based Compensation, to account for
compensation costs under our stock option plans. We previously utilized the
intrinsic value method under Accounting Principles Board Opinion No. 25,
Accounting for Stock Issued to Employees (as amended) ("APB 25"). Under the
intrinsic value method prescribed by APB 25, no compensation costs were
recognized for our employee stock options because the option exercise price
equaled the market price on the date of the grant. Prior to January 1, 2006 we
only disclosed the pro forma effects on net income and earnings per share as if
the fair value recognition provisions of SFAS 123(R) had been
utilized.
In
adopting SFAS No. 123(R), the Company elected to use the modified prospective
method to account for the transition from the intrinsic value method to the fair
value recognition method. Under the modified prospective method, compensation
cost is recognized from the adoption date forward for all new stock options
granted and for any outstanding unvested awards as if the fair value method had
been applied to those awards as of the date of the grant. In the nine month
period ended June 30, 2008, the Company granted employee stock
options. For information on the employee stock options granted on
June 17, 2008, please see “Note G – Stock Options and Warrants – Amendment to
the 2005 Incentive Stock Plan and Recent Equity Award Grants”
below.
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 high 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, 2008, allowance for doubtful
receivable was $0.
Research
and Development
The
Company accounts for research and development costs in accordance with the
Financial Accounting Standards Board's Statement of Financial Accounting
Standards No. 2 ("SFAS 2"), "Accounting for Research and Development Costs.
Under SFAS 2, all research and development costs must be charged to expense as
incurred. Accordingly, internal research and development costs are expensed as
incurred. Third-party research and development costs are expensed
when the contracted work has been performed or as milestone results have been
achieved. Company-sponsored research and development costs related to both
present and future products are expensed in the period incurred. The
Company incurred research and development expenses of $19,816 and $112,042 for
the three and nine month periods ended June 30, 2008, respectively,
and $25,504 and $94,289 for the three and nine month periods ended
June 30, 2007, respectively.
Reclassifications
Certain
reclassifications have been made in prior year's financial statements to conform
to classifications used in the current year.
Advertising
The
Company follows the policy of charging the costs of advertising to expense as
incurred. The Company charged to operations $35,643 and $47,007 for
the three and nine month periods ended June 30, 2008, respectively, and $-0- and
$12,568 as advertising costs for the three and nine month periods ended June 30,
2007.
Intangible
Assets
The
Company amortized its intangible assets using the straight-line method over
their estimated period of benefit. The estimated useful life for
patents is five years while intellectual property uses a seven year useful
life.
8
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
A — SUMMARY OF ACCOUNTING POLICIES (continued)
We
periodically evaluate the recoverability of intangible assets and take into
account events or circumstances that warrant revised estimates of useful lives
or that indicate that impairment exists. All of our intangible assets
are subject to amortization.
Restricted
cash / other current liabilities
Restricted
cash is comprised of funds deposited into an escrow account pending consummation
of the placement of convertible debt as of December 31, 2007. The related
obligation is recorded as other current liabilities until
consummation.
Derivative
Financial Instruments
The
Company's derivative financial instruments consisted of embedded derivatives
related to the 10% secured convertible promissory notes issued in
2006. These embedded derivatives included certain conversion
features, variable interest features, call options and default provisions. The
accounting treatment of derivative financial instruments required that the
Company record the derivatives and related warrants at their fair values as of
the inception date of the note (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 was required to classify all other
non-employee stock options and warrants as derivative liabilities and mark them
to market at each reporting date. Any change in fair value was
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 recorded a non-operating, non-cash charge. If the fair value
of the derivatives is lower at the subsequent balance sheet date, the Company
recorded 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 were classified as long-term
liabilities.
In
December 2006, the FASB issued FSP EITF 00-19-2, Accounting for Registration
Payment Arrangements (“FSP 00-19-2”) which addresses accounting for
registration payment arrangements. FSP 00-19-2 specifies that the contingent
obligation to make future payments or otherwise transfer consideration under a
registration payment arrangement, whether issued as a separate agreement or
included as a provision of a financial instrument or other agreement, should be
separately recognized and measured in accordance with FASB Statement No. 5,
Accounting for Contingencies. FSP 00-19-2 further clarifies that a financial
instrument subject to a registration payment arrangement should be accounted for
in accordance with other applicable generally accepted accounting principles
without regard to the contingent obligation to transfer consideration pursuant
to the registration payment arrangement. For registration payment arrangements
and financial instruments subject to those arrangements that were entered into
prior to the issuance of EITF 00-19-2, this guidance shall be effective for
financial statements issued for fiscal years beginning after December 15, 2006
and interim periods within those fiscal years.
In
September 2007, the Company exchanged common stock for the remaining Secured
Convertible Promissory Notes that contained embedded derivatives such as certain
conversion features, variable interest features, call options and default
provisions as described above. As a result, the Company reclassified the warrant
liabilities recorded in conjunction with the convertible promissory notes to
equity as of the conversion date of the related debt. Additionally,
the Company has an accumulative accrual of $12,023,888 in liquidating damages in
relationship to the previously outstanding convertible promissory notes and
related warrants.
9
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
A — SUMMARY OF ACCOUNTING POLICIES (continued)
New
Accounting Pronouncements
In
December 2006, the FASB issued FSP EITF 00-19-2, “Accounting for Registration Payment
Arrangements” (“FSP 00-19 -2”) which addresses accounting for
registration payment arrangements. FSP 00-19 -2 specifies that the contingent
obligation to make future payments or otherwise transfer consideration under a
registration payment arrangement, whether issued as a separate agreement or
included as a provision of a financial instrument or other agreement, should be
separately recognized and measured in accordance with SFAS No. 5, “Accounting
for Contingencies”. FSP 00-19 -2 further clarifies that a financial instrument
subject to a registration payment arrangement should be accounted for in
accordance with other applicable generally accepted accounting principles
without regard to the contingent obligation to transfer consideration pursuant
to the registration payment arrangement. For registration payment arrangements
and financial instruments subject to those arrangements that were entered into
prior to the issuance of EITF 00-19-2, this guidance shall be effective for
financial statements issued for fiscal years beginning after December 15, 2006
and interim periods within those fiscal years. The Company adopted FSP 00-19-2 in the preparation of
the financial statements.
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities - Including an Amendment of FASB Statement No. 115” (“SFAS No. 159”). SFAS No. 159 permits entities to choose to measure many financial instruments and certain other items at fair value. Most of the provisions of SFAS No. 159 apply only to entities that elect the fair value option. However, the amendment to SFAS No. 115 “Accounting for Certain Investments in Debt and Equity Securities” applies to all entities with available-for-sale and trading securities. SFAS No. 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007. Early adoption is permitted as of the beginning of a fiscal year that begins on or before November 15, 2007, provided the entity also elects to apply the provision of SFAS No. 157, “Fair Value Measurements”. The adoption of SFAS No. 159 did not have a material impact on our consolidated financial position, results of operations or cash flows.
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities - Including an Amendment of FASB Statement No. 115” (“SFAS No. 159”). SFAS No. 159 permits entities to choose to measure many financial instruments and certain other items at fair value. Most of the provisions of SFAS No. 159 apply only to entities that elect the fair value option. However, the amendment to SFAS No. 115 “Accounting for Certain Investments in Debt and Equity Securities” applies to all entities with available-for-sale and trading securities. SFAS No. 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007. Early adoption is permitted as of the beginning of a fiscal year that begins on or before November 15, 2007, provided the entity also elects to apply the provision of SFAS No. 157, “Fair Value Measurements”. The adoption of SFAS No. 159 did not have a material impact on our consolidated financial position, results of operations or cash flows.
In
December 2007, the FASB issued SFAS No. 141(R), "Business Combinations"
("SFAS No. 141(R)"), which establishes principles and requirements for how
an acquirer recognizes and measures in its financial statements the identifiable
assets acquired, the liabilities assumed, and any noncontrolling interest in an
acquiree, including the recognition and measurement of goodwill acquired in a
business combination. SFAS No. 141R is effective as of the beginning of the
first fiscal year beginning on or after December 15, 2008. Earlier adoption
is prohibited and the Company is currently evaluating the effect, if any, that
the adoption will have on its consolidated financial position, results of
operations or cash flows.
In
December 2007, the FASB issued SFAS No. 160, "Noncontrolling Interest in
Consolidated Financial Statements, an amendment of ARB No. 51”
(“SFAS No. 160”), which will change the accounting and reporting for
minority interests, which will be recharacterized as noncontrolling interests
and classified as a component of equity within the consolidated balance sheets.
SFAS No. 160 is effective as of the beginning of the first fiscal year beginning
on or after December 15, 2008. Earlier adoption is prohibited and the
Company is currently evaluating the effect, if any that the adoption will have
on its consolidated financial position, results of operations or cash
flows.
In
June 2007, the Accounting Standards Executive Committee issued Statement of
Position 07-1, “Clarification of the Scope of the Audit and Accounting Guide
Investment Companies and Accounting by Parent Companies and Equity Method
Investors for Investments in Investment Companies” (“SOP 07-1”). SOP 07-1
provides guidance for determining whether an entity is within the scope of the
AICPA Audit and Accounting Guide Investment Companies (the “Audit Guide”). SOP
07-1 was originally determined to be effective for fiscal years beginning on or
after December 15, 2007; however, on February 6, 2008, FASB issued a
final Staff Position indefinitely deferring the effective date and prohibiting
early adoption of SOP 07-1 while addressing implementation issues.
10
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
A — SUMMARY OF ACCOUNTING POLICIES (continued)
In June
2007, the FASB ratified the consensus in EITF Issue No. 07-3, “Accounting
for Nonrefundable Advance Payments for Goods or Services to be Used in Future
Research and Development Activities” (EITF 07-3), which requires that
nonrefundable advance payments for goods or services that will be used or
rendered for future research and development (R&D) activities be deferred
and amortized over the period that the goods are delivered or the related
services are performed, subject to an assessment of recoverability.
EITF 07-3 will be effective for fiscal years beginning after
December 15, 2007. The Company does not expect that the adoption of
EITF 07-3 will have a material impact on our consolidated financial
position, results of operations or cash flows.
In
December 2007, the FASB ratified the consensus in EITF Issue No. 07-1,
“Accounting for Collaborative Arrangements” (EITF 07-1). EITF 07-1
defines collaborative arrangements and requires collaborators to present the
result of activities for which they act as the principal on a gross basis and
report any payments received from (made to) the other collaborators based on
other applicable authoritative accounting literature, and in the absence of
other applicable authoritative literature, on a reasonable, rational and
consistent accounting policy is to be elected. EITF 07-1 also provides for
disclosures regarding the nature and purpose of the arrangement, the entity’s
rights and obligations, the accounting policy for the arrangement and the income
statement classification and amounts arising from the agreement. EITF 07-1
will be effective for fiscal years beginning after December 15, 2008, which
will be the Company’s September 30, 2010, and will be applied as a change in
accounting principle retrospectively for all collaborative arrangements existing
as of the effective date. The Company has not yet evaluated the potential impact
of adopting EITF 07-1 on our consolidated financial position, results of
operations or cash flows.
In March
2008, the FASB issued SFAS No. 161, “Disclosures about Derivative
Instruments and Hedging Activities - an amendment to FASB Statement No.
133” (“SFAS No. 161”). SFAS No. 161 is
intended to improve financial standards for derivative instruments and hedging
activities by requiring enhanced disclosures to enable investors to better
understand their effects on an entity's financial position, financial
performance, and cash flows. Entities are required to provide
enhanced disclosures about: (a) how and why an entity uses derivative
instruments; (b) how derivative instruments and related hedged items are
accounted for under SFAS No. 133 and its related interpretations; and (c) how
derivative instruments and related hedged items affect an entity’s financial
position, financial performance, and cash flows. It is effective for
financial statements issued for fiscal years beginning after November 15, 2008,
with early adoption encouraged. The Company is currently evaluating
the impact, if any, that SFAS No. 161 will have on our consolidated financial
position, results of operations or cash flows.
In April
2008, the FASB issued FSP No. FAS 142-3,“Determination of the Useful Life of
Intangible Assets”. This FSP amends the factors that should be considered
in developing renewal or extension assumptions used to determine the useful life
of a recognized intangible asset under SFAS No. 142,“Goodwill and Other Intangible
Assets”. The Company is required to adopt FSP 142-3 on
September 1, 2009; earlier adoption is prohibited. The guidance in
FSP 142-3 for determining the useful life of a recognized intangible asset shall
be applied prospectively to intangible assets acquired after adoption, and the
disclosure requirements shall be applied prospectively to all intangible assets
recognized as of, and subsequent to, adoption. The Company is
currently evaluating the impact of FSP 142-3 on our consolidated financial
position, results of operations or cash flows.
In May
2008, the FASB issued SFAS No. 162, "The Hierarchy of Generally Accepted
Accounting Principles" ("SFAS No. 162"). SFAS No.
162 identifies the sources of accounting principles and the framework for
selecting the principles used in the preparation of financial statements of
nongovernmental entities that are presented in conformity with generally
accepted accounting principles (the GAAP hierarchy). SFAS No.
162 will become effective 60 days following the SEC's approval of the
Public Company Accounting Oversight Board amendments to
AU Section 411, "The Meaning of Present Fairly in Conformity With
Generally Accepted Accounting Principles." The Company does not
expect the adoption of SFAS No. 162 to have a material effect on our
consolidated financial position, results of operations or cash
flows.
11
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
A — SUMMARY OF ACCOUNTING POLICIES (continued)
In May
2008, the FASB issued FSP Accounting Principles Board ("APB") 14-1 "Accounting for Convertible Debt
Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash
Settlement) " ("FSP APB 14-1"). FSP APB 14-1
requires the issuer of certain convertible debt instruments that may be settled
in cash (or other assets) on conversion to separately account for the liability
(debt) and equity (conversion option) components of the instrument in a manner
that reflects the issuer's non-convertible debt borrowing rate. FSP
APB 14-1 is effective for fiscal years beginning after December 15,
2008 on a retroactive basis. The Company is currently evaluating the
potential impact, if any, of the adoption of FSP APB 14-1 on our
consolidated financial position, results of operations or cash
flows.
Other
recent accounting pronouncements issued by the FASB (including its Emerging
Issues Task Force), the AICPA, and the SEC did not, or are not believed by
management to, have a material impact on the Company’s present or future
consolidated financial statements.
NOTE
B - ACQUISITION OF INTANGIBLE ASSETS
The
Company has adopted SFAS No. 142, Goodwill and Other Intangible Assets, whereby
the Company periodically tests 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.
The
identifiable intangible assets acquired and their carrying value at June 30,
2008 is:
|
Trade
secrets and developed technologies (Weighted average life of 7
years)
|
$
|
9,430,900
|
||
|
Patents
(Weighted average life of 5 years )
|
34,257
|
|||
|
Total
Amortized identifiable intangible assets-Gross carrying
value:
|
$
|
9,465,157
|
||
|
Less:
|
||||
|
Accumulated
Amortization
|
(2,351,113
|
)
|
||
|
Impairment
(See below)
|
(5,655,011
|
)
|
||
|
Net:
|
$
|
1,459,033
|
||
|
Residual
value:
|
$
|
0
|
||
During
the year ended September 30, 2006 the Company management performed an evaluation
of its intangible assets (intellectual property) for purposes of determining the
implied fair value of the assets at September 30, 2006. The test indicated that
the recorded remaining book value of its intellectual property exceeded its fair
value for the year ended September 30, 2006, as determined by discounted cash
flows. As a result, upon completion of the assessment, management
recorded a non-cash impairment charge of $5,655,011, net of tax, or $0.05 per
share during the year ended September 30, 2006 to reduce the carrying value of
the patents to $2,091,800. Considerable management judgment is necessary to
estimate the fair value. Accordingly, actual results could vary
significantly from management’s estimates.
Total
amortization expense charged to operations for the three and nine month periods
ended June 30, 2008 was $93,482 and $277,787, respectively, and $92,661 and
$277,983 for the three and nine month periods ended June 30, 2007,
respectively.
12
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
C – ACCOUNTS PAYABLE AND ACCRUED LIABILITIES
Accounts
payable and accrued liabilities at June 30, 2008 are as follows:
|
Accounts
payable
|
$
|
402,748
|
||
|
Accrued
consulting fees
|
82,500
|
|||
|
Accrued
interest payable
|
243,178
|
|||
|
Accrued
penalties relating to registration rights liquidating
damages
|
12,023,888
|
|||
|
Other
accrued expenses
|
26,003
|
|||
|
Total
|
$
|
12,778,317
|
||
Registration
Rights Liquidated Damages
In
private placements in November and December, 2003, December, 2004, and January
and February, 2005, the Company issued secured convertible promissory notes and
warrants to purchase the Company’s common stock. Pursuant to the
terms of a registration rights agreement, the Company agreed to file a
registration statement to be declared effective by the SEC for the common stock
underlying the notes and warrants in order to permit public resale
thereof. The registration rights agreement provided for the payment
of liquidated damages if the stipulated registration deadlines were not
met. The liquidated damages are equal to 3.5% per month of the face
amount of the notes, which equals $367,885, with no
limitations. During the three month period ended June 30, 2008, the
SEC declared effective the Company’s registration statement with respect to the
common stock underlying the notes and warrants. The Company has
accrued $12,023,888 as of June 30, 2008 to account for late effectiveness of the
registration statement.
NOTE
D – PRIVATE PLACEMENT OF CONVERTIBLE NOTES
Convertible
notes payable as of June 30, 2008 are as follows:
|
10%
Secured Convertible Notes Payable, related party, dated July 30, 2007, net
of unamortized debt discount of $4,103 (see below)
|
$
|
195,897
|
||
|
10%
Secured Convertible Notes Payable, dated August 8, 2007, net of
unamortized debt discount of $3,394 (see below)
|
96,606
|
|||
|
10%
Secured Convertible Notes Payable, related party, dated September 28,
2007, net of unamortized debt discount of $44,911 (see
below)
|
255,089
|
|||
|
10%
Secured Convertible Notes Payable, dated October 4, 2007, net of
unamortized debt discount of $76,559 (see below)
|
473,441
|
|||
|
10%
Secured Convertible Notes Payable, dated October 30, 2007, net of
unamortized debt discount of $121,543 (see below)
|
478,457
|
|||
|
10%
Secured Convertible Notes Payable, dated November 29, 2007, net of
unamortized debt discount of $220,857 (see below)
|
779,143
|
|||
|
10%
Secured Convertible Notes Payable dated December 20, 2007, net of
unamortized debt discount of $94,937 (see below)
|
355,063
|
|||
|
10%
Secured Convertible Notes Payable dated January 17, 2008, net of
unamortized debt discount of $115,252 (see below)
|
334,748
|
|||
|
10%
Secured Convertible Notes Payable dated March 4, 2008, net of unamortized
debt discount of $112,230 (see below)
|
137,770
|
|||
|
10%
Secured Convertible Note Payable dated May 7, 2008, net of unamortized
debt discount of $37,294 (see below)
|
62,706
|
|||
|
3,168,920
|
||||
|
Less:
current portion
|
(3,168,920)
|
|||
|
$
|
-
|
13
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
D — PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued)
10%
Secured Convertible Promissory Note dated April 23, 2007
On April
23, 2007, the Company issued a $100,000 related party convertible promissory
note due April 23, 2008 with interest at 10% per annum due upon
maturity. The note is convertible at any time prior to maturity, at
the holder’s option, at $0.50 per share. At maturity, the note,
including any accrued and unpaid interest, is convertible at $0.15 per share.
The Company has granted the noteholder a security interest in all the Company’s
assets.
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 embedded
beneficial conversion feature present in the note. 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
$13,333 of the proceeds, which is equal to the intrinsic value of the embedded
beneficial conversion feature, to additional paid-in capital and a discount
against the note. The debt discount attributed to the beneficial conversion
feature is amortized over the note’s maturity period (one year) as interest
expense.
In
connection with the issuance of the note, the Company issued a non-detachable
warrant granting the holder the right to acquire 200,000 shares of the Company’s
common stock at $0.50 per share. The warrant expires five years from
the issuance. In accordance with Emerging Issues Task Force Issue
00-27, Application of Issue No. 98-5 to Certain Convertible Instruments (“EITF –
0027”), the Company recognized the value attributable to the warrant in the
amount of $40,840 to additional paid in capital and a discount against the
note. The Company valued the warrant in accordance with EITF 00-27
using the Black-Scholes pricing model and the following assumptions: contractual
terms of 5 years, an average risk free interest rate of 4.55%, a dividend yield
of 0%, and volatility of 207.45%. The debt discount attributed to the
value of the warrant issued is amortized over the note’s maturity period (one
year) as interest expense.
The
Company recorded the intrinsic value of the embedded beneficial conversion
feature ($13,333) and warrant ($40,840) to debt discount, aggregating $54,173,
which will be amortized to interest expense over the term of the
note. Amortization of $3,265 and $30,426 was recorded for the three
and nine month periods ended June 30, 2008.
On April
23, 2008, the note and accrued interest of $10,000 automatically converted into
733,334 shares of the Company’s common stock.
10%
Secured Convertible Promissory Notes dated June 27, 2007
On June
27, 2007, the Company issued $150,000 principal amount convertible promissory
notes due June 27, 2007 with interest at 10% per annum due upon
maturity. The notes are convertible at any time prior to maturity, at
the option of the holders, at $0.50 per share. At maturity, the
notes, including any accrued and unpaid interest, are convertible at $0.15 per
share. The Company has granted the noteholders a security interest in all the
Company’s assets.
In
connection with the issuance of the notes, the Company issued warrants granting
the holders the right to acquire 300,000 shares of the Company’s common stock at
$0.50 per share.
14
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
D — PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued)
On June
27, 2008, the notes and accrued interest of $15,000 converted into 1,100,000
shares of the Company’s common stock.
10%
Secured Convertible Promissory Note dated June 30, 2007
On June
30, 2007, the Company issued a $250,000 principal amount related party
convertible promissory note due June 30, 2008 with interest at 10% per annum due
upon maturity. The note is convertible at any time prior to maturity,
at the holder’s option, at $0.50 per share. At maturity, the note,
including any accrued and unpaid interest, is convertible at $0.087732076 per
share, which is equal to a 20% discount to the average volume, weighted average
price of our common stock for the ten trading days prior to
issuance. The Company has granted the noteholder a security interest
in all the Company’s assets.
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 embedded
beneficial conversion feature present in the note. 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
$63,454 of the proceeds, which is equal to the intrinsic value of the embedded
beneficial conversion feature, to additional paid-in capital and a discount
against the note. The debt discount attributed to the beneficial conversion
feature is amortized over the note’s maturity period (one year) as interest
expense.
In
connection with the issuance of the note, the Company issued a non-detachable
warrant granting the holder the right to acquire 500,000 shares of the Company’s
common stock at $0.50 per share. The warrant expires five years from
the issuance. In accordance with Emerging Issues Task Force Issue
00-27, Application of Issue No. 98-5 to Certain Convertible Instruments (“EITF –
0027”), the Company recognized the value attributable to the warrants in the
amount of $38,900 to additional paid in capital and a discount against the
note. The Company valued the warrant in accordance with EITF 00-27
using the Black-Scholes pricing model and the following assumptions: contractual
terms of 5 years, an average risk free interest rate of 4.92%, a dividend yield
of 0%, and volatility of 123.8%. The debt discount attributed to the
value of the warrant issued is amortized over the note’s maturity period (one
year) as interest expense.
The
Company recorded the intrinsic value of the embedded beneficial conversion
feature ($63,454) and warrant ($38,900) to debt discount, aggregating $102,354,
which will be amortized to interest expense over the term of the note.
Amortization of $25,238 and $76,555 was recorded for the three and nine month
periods ended June 30, 2008.
On June
30, 2008, the note and accrued interest of $25,000 automatically converted into
3,134,543 shares of the Company’s common stock.
10%
Secured Convertible Promissory Note dated July 30, 2007
On July
30, 2007, the Company issued a $200,000 principal amount related party
convertible promissory note due July 30, 2008 with interest at 10% per annum due
upon maturity. The note is convertible at any time prior to maturity,
at the holder’s option, at $0.50 per share. At maturity, the note,
including any accrued and unpaid interest, is convertible at $0.102568072 per
share, which is equal to a 20% discount to the average volume, weighted average
price of our common stock for the ten trading days prior to issuance. The
Company has granted the noteholder a security interest in all the Company’s
assets.
15
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
D — PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued)
10%
Secured Convertible Promissory Note dated July 30, 2007 (continued)
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 embedded
beneficial conversion feature present in the note. 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 $33,991 of the proceeds, which is equal to the intrinsic value of the
embedded beneficial conversion feature, to additional paid-in capital and a
discount against the note. The debt discount attributed to the
beneficial conversion feature is amortized over the note’s maturity period (one
year) as interest expense.
In
connection with the issuance of the note, the Company issued a non-detachable
warrant granting the holder the right to acquire 400,000 shares of the Company’s
common stock at $0.50 per share. The warrant expires five years from
the issuance. In accordance with Emerging Issues Task Force Issue
00-27, Application of Issue No. 98-5 to Certain Convertible Instruments (“EITF –
0027”), the Company recognized the value attributable to the warrant in the
amount of $15,920 to additional paid in capital and a discount against the
note. The Company valued the warrant in accordance with EITF 00-27
using the Black-Scholes pricing model and the following assumptions: contractual
terms of 5 years, an average risk free interest rate of 4.64%, a dividend yield
of 0%, and volatility of 72.84%. The debt discount attributed to the
value of the warrant issued is amortized over the note’s maturity period (one
year) as interest expense.
The
Company recorded the intrinsic value of the embedded beneficial conversion
feature ($33,991) and warrant ($15,920) to debt discount, aggregating $49,911,
which will be amortized to interest expense over the term of the
note. Amortization of $12,444 and $37,467
was recorded for the three and nine month periods ended June 30,
2008.
On July
30, 2008, the note and accrued interest of $10,000 automatically converted into
2,144,917 shares of the Company’s common stock.
10%
Secured Convertible Promissory Note dated August 8, 2007
On August
8, 2007, the Company issued a $100,000 principal amount convertible promissory
note due August 8, 2008 with interest at 10% per annum due upon
maturity. The note is convertible at any time prior to maturity, at
the holder’s option, at $0.50 per share. At maturity, the note,
including any accrued and unpaid interest, is convertible at $0.096274883 per
share, which is equal to a 20% discount to the average volume, weighted average
price of our common stock for the ten trading days prior to
issuance. The Company has granted the noteholder a security interest
in all the Company’s assets.
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 embedded
beneficial conversion feature present in the note. 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 $24,643 of the proceeds, which is equal to the intrinsic value of the
embedded beneficial conversion feature, to additional paid-in capital and a
discount against the note. The debt discount attributed to the
beneficial conversion feature is amortized over the note’s maturity period (one
year) as interest expense.
16
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
D — PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued)
10%
Secured Convertible Promissory Note dated August 8, 2007
(continued)
In
connection with the issuance of the note, the Company issued a non-detachable
warrant granting the holder the right to acquire 200,000 shares of the Company’s
common stock at $0.50 per share. The warrant expires five years from
the issuance. In accordance with Emerging Issues Task Force Issue
00-27, Application of Issue No. 98-5 to Certain Convertible Instruments (“EITF –
0027”), the Company recognized the value attributable to the warrant in the
amount of $7,960 to additional paid in capital and a discount against the
note. The Company valued the warrant in accordance with EITF 00-27
using the Black-Scholes pricing model and the following assumptions: contractual
terms of 5 years, an average risk free interest rate of 4.69%, a dividend yield
of 0%, and volatility of 92.71%. The debt discount attributed to the value of
the warrant issued is amortized over the note’s maturity period (one year) as
interest expense.
The
Company recorded the intrinsic value of the embedded beneficial conversion
feature ($24,643) and warrant ($7,960) to debt discount, aggregating $32,603,
which will be amortized to interest expense over the term of the
note. Amortization of $8,128 and $24,475
was recorded for the three and nine month periods ended June 30,
2008.
On August
8, 2008, the note and accrued interest of $10,000 automatically converted into
1,142,562 shares of the Company’s common stock.
10%
Secured Convertible Promissory Note dated September 28, 2007
On
September 28, 2007, the Company issued a $300,000 principal amount related party
convertible promissory note due September 28, 2008 with interest at 10% per
annum due upon maturity. The note is convertible at any time prior to
maturity, at the holder’s option, at $0.50 per share. At maturity,
the note, including any accrued and unpaid interest, is convertible at
$0.066429851 per share, which is equal to a 30% discount to the average volume,
weighted average price of our common stock for the ten trading days prior to
issuance. The Company has granted the noteholder a security interest in all the
Company’s assets.
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 embedded
beneficial conversion feature present in the note. 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
$151,604 of the proceeds, which is equal to the intrinsic value of the embedded
beneficial conversion feature, to additional paid-in capital and a discount
against the note. The debt discount attributed to the beneficial conversion
feature is amortized over the note’s maturity period (one year) as interest
expense.
In
connection with the issuance of the note, the Company issued a non-detachable
warrant granting the holder the right to acquire 600,000 shares of the Company’s
common stock at $0.50 per share. The warrant expires five years from
the issuance. In accordance with Emerging Issues Task Force Issue
00-27, Application of Issue No. 98-5 to Certain Convertible Instruments (“EITF –
0027”), the Company recognized the value attributable to the warrants in the
amount of $32,580 to additional paid in capital and a discount against the
note. The Company valued the warrant in accordance with EITF 00-27
using the Black-Scholes pricing model and the following assumptions: contractual
terms of 5 years, an average risk free interest rate of 4.23%, a dividend yield
of 0%, and volatility of 102.39%. The debt discount attributed to the
value of the warrant issued is amortized over the note’s maturity period (one
year) as interest expense.
The
Company recorded the intrinsic value of the embedded beneficial conversion
feature ($151,604) and warrant ($32,580) to debt discount, aggregating $184,184,
which will be amortized to interest expense over the term of the
note. Amortization of $45,920 and $138,264 was recorded for the three
and nine month periods ended June 30, 2008.
17
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
D — PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued)
10%
Secured Convertible Promissory Notes dated October 4, 2007
On
October 4, 2007, the Company issued $500,000 principal amount convertible
promissory notes due October 4, 2008 with interest at 10% per annum due upon
maturity. The notes are convertible at any time prior to maturity, at
the option of the holders, into shares of our common stock at a price equal to
the greater of (i) 50% of the average price of our common stock for the ten
trading days prior to the date of the notice of conversion or (ii) at
$0.069328632 per share, which is equal to a 30% discount to the average volume,
weighted average price of our common stock for the ten trading days prior to
issuance. At maturity, the notes, including any accrued and unpaid
interest, are convertible at $0.069328632 per share.
In
addition, on October 4, 2007, the Company issued a $50,000 principal amount
convertible promissory note due October 4, 2008 with interest at 10% per annum
due upon maturity. The note is convertible at any time prior to
maturity, at the holder’s option, into shares of our common stock at a price
equal to the greater of (i) 50% of the average price of our common stock for the
ten trading days prior to the date of the notice of conversion or (ii) at
$0.079232722 per share, which is equal to a 20% discount to the average volume,
weighted average price of our common stock for the ten trading days prior to
issuance. At maturity, the note, including any accrued and unpaid
interest, is convertible at $0.079232722 per share. The Company has
granted the noteholder a security interest in all the Company’s
assets.
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 embedded
beneficial conversion feature present in the 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
$234,308 of the proceeds, which is equal to the intrinsic value of the embedded
beneficial conversion feature, to additional paid-in capital and a discount
against the notes. The debt discount attributed to the beneficial conversion
feature is amortized over the notes’ maturity period (one year) as interest
expense.
In
connection with the issuance of the notes, the Company issued non-detachable
warrants granting the holders the right to acquire 1,100,000 shares of the
Company’s common stock at $0.50 per share. The warrants expire five
years from the issuance. In accordance with Emerging Issues Task
Force Issue 00-27, Application of Issue No. 98-5 to Certain Convertible
Instruments (“EITF – 0027”), the Company recognized the value attributable to
the warrants in the amount of $59,840 to additional paid in capital and a
discount against the notes. The Company valued the warrants in
accordance with EITF 00-27 using the Black-Scholes pricing model and the
following assumptions: contractual terms of 5 years, an average risk free
interest rate of 4.22%, a dividend yield of 0%, and volatility of 103.81%. The
debt discount attributed to the value of the warrants issued is amortized over
the notes’ maturity period (one year) as interest expense.
The
Company recorded the intrinsic value of the embedded beneficial conversion
feature ($234,308) and warrants ($59,840) to debt discount, aggregating
$294,148, which will be amortized to interest expense over the term of the
notes. Amortization of $73,336 and $217,589 was recorded for the
three and nine month periods ended June 30, 2008.
10%
Secured Convertible Promissory Notes dated October 30, 2007
On
October 30, 2007, the Company issued $550,000 principal amount convertible
promissory notes due October 30, 2008 with interest at 10% per annum due upon
maturity. The notes are convertible at any time prior to maturity, at
the option of the holders, into shares of our common stock at a price equal to
the greater of (i) 50% of the average price of our common stock for the ten
trading days prior to the date of the notice of conversion or (ii) at
$0.104750019 per share, which is equal to a 30% discount to the average volume,
weighted average price of our common stock for the ten trading days prior to
issuance. At maturity, the notes, including any accrued and unpaid
interest, are convertible at $0.104750019 per share.
18
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
D — PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued)
10%
Secured Convertible Promissory Notes dated October 30, 2007
(continued)
In
addition, on October 30, 2007, the Company issued two $50,000 principal amount
convertible promissory notes due October 30, 2008 with interest at 10% per annum
due upon maturity. The notes are convertible at any time prior to
maturity, at the option of the holder, into shares of our common stock at a
price equal to the greater of (i) 50% of the average price of our common stock
for the ten trading days prior to the date of the notice of conversion or (ii)
at $0.119714308 per share, which is equal to a 20% discount to the average
volume, weighted average price of our common stock for the ten trading days
prior to issuance. At maturity, the notes, including any accrued and
unpaid interest, are convertible at $0.119714308 per share. The
Company has granted the noteholders a security interest in all the Company’s
assets.
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 embedded
beneficial conversion feature present in the 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
$271,838 of the proceeds, which is equal to the intrinsic value of the embedded
beneficial conversion feature, to additional paid-in capital and a discount
against the notes. The debt discount attributed to the beneficial conversion
feature is amortized over the notes’ maturity period (one year) as interest
expense.
In
connection with the issuance of the notes, the Company issued non-detachable
warrants granting the holders the right to acquire 1,300,000 shares of the
Company’s common stock at $0.50 per share. The warrants expire five
years from the issuance. In accordance with Emerging Issues Task
Force Issue 00-27, Application of Issue No. 98-5 to Certain Convertible
Instruments (“EITF – 0027”), the Company recognized the value attributable to
the warrants in the amount of $126,100 to additional paid in capital and a
discount against the notes. The Company valued the warrants in
accordance with EITF 00-27 using the Black-Scholes pricing model and the
following assumptions: contractual terms of 5 years, an average risk free
interest rate of 3.85%, a dividend yield of 0%, and volatility of
108.66%. The debt discount attributed to the value of the warrants
issued is amortized over the notes’ maturity period (one year) as interest
expense.
On
November 19, 2007, a noteholder elected to convert a $50,000 principal amount
promissory note and accrued interest of $274 into 479,942 shares of the
Company’s common stock.
The
Company recorded the intrinsic value of the embedded beneficial conversion
feature ($271,838) and warrants ($126,100) to debt discount, aggregating
$397,938, which will be amortized to interest expense over the term of the
notes. Amortization of $91,409 and $276,394 was recorded for the
three and nine month periods ended June 30, 2008 inclusive of the write off of
the unamortized debt discount relating to the converted note described
above.
10%
Secured Convertible Promissory Notes dated November 29, 2007
On
November 29, 2007, the Company issued $1,000,000 principal amount convertible
promissory notes due November 29, 2008 with interest at 10% per annum due upon
maturity. The notes are convertible at any time prior to maturity, at
the option of the holders, into shares of our common stock at a price equal to
the greater of (i) 50% of the average price of our common stock for the ten
trading days prior to the date of the notice of conversion or (ii) at
$0.094431519, which is equal to a 30% discount to the average volume, weighted
average price of our common stock for the ten trading days prior to issuance per
share. At maturity, the notes, including any accrued and unpaid
interest, are convertible at $0.094431519 per share. The Company has granted the
noteholders a security interest in all the Company’s assets.
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 embedded
beneficial conversion feature present in the 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
$376,659 of the proceeds, which is equal to the intrinsic value of the embedded
beneficial conversion feature, to additional paid-in capital and a discount
against the notes. The debt discount attributed to the beneficial conversion
feature is amortized over the notes’ maturity period (one year) as interest
expense.
19
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
D — PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued)
10%
Secured Convertible Promissory Notes dated November 29, 2007
(continued)
In
connection with the issuance of the notes the Company issued non-detachable
warrants granting the holders the right to acquire 2,000,000 shares of the
Company’s common stock at $0.50 per share. The warrants expire five
years from the issuance. In accordance with Emerging Issues Task
Force Issue 00-27, Application of Issue No. 98-5 to Certain Convertible
Instruments (“EITF – 0027”), the Company recognized the value attributable to
the warrants in the amount of $157,200 to additional paid in capital and a
discount against the notes. The Company valued the warrants in
accordance with EITF 00-27 using the Black-Scholes pricing model and the
following assumptions: contractual terms of 5 years, an average risk free
interest rate of 3.42%, a dividend yield of 0%, and volatility of
106.15%. The debt discount attributed to the value of the warrants
issued is amortized over the notes’ maturity period (one year) as interest
expense.
The
Company recorded the intrinsic value of the embedded beneficial conversion
feature ($376,659) and warrants ($157,200) to debt discount, aggregating
$533,859, which will be amortized to interest expense over the term of the
notes. Amortization of $133,099 and $313,002 was recorded for the three and nine
month periods ended June 30, 2008.
10%
Secured Convertible Promissory Notes dated December 20, 2007
On
December 20, 2007, the Company issued $450,000 principal amount convertible
promissory notes due December 20, 2008 with interest at 10% per annum due upon
maturity. The notes are convertible at any time prior to maturity, at
the option of the holders, into shares of our common stock at a price equal to
the greater of (i) 50% of the average price of our common stock for the ten
trading days prior to the date of the notice of conversion or (ii) at
$0.074766323 per share, which is equal to a 30% discount to the average volume,
weighted average price of our common stock for the ten trading days prior to
issuance. At maturity, the notes, including any accrued and unpaid
interest, are convertible at $0.074766323 per share. The Company has granted the
noteholders a security interest in all the Company’s assets.
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 embedded
beneficial conversion feature present in the 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
$151,875 of the proceeds, which is equal to the intrinsic value of the embedded
beneficial conversion feature, to additional paid-in capital and a discount
against the notes. The debt discount attributed to the beneficial conversion
feature is amortized over the notes’ maturity period (one year) as interest
expense.
In
connection with the issuance of the notes, the Company issued non-detachable
warrants granting the holders the right to acquire 900,000 shares of the
Company’s common stock at $0.50 per share. The warrants expire five
years from the issuance. In accordance with Emerging Issues Task
Force Issue 00-27, Application of Issue No. 98-5 to Certain Convertible
Instruments (“EITF – 0027”), the Company recognized the value attributable to
the warrants in the amount of $49,590 to additional paid in capital and a
discount against the notes. The Company valued the warrants in
accordance with EITF 00-27 using the Black-Scholes pricing model and the
following assumptions: contractual terms of 5 years, an average risk free
interest rate of 3.45%, a dividend yield of 0%, and volatility of 104.51%. The
debt discount attributed to the value of the warrants issued is amortized over
the notes’ maturity period (one year) as interest expense.
20
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
D — PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued)
10%
Secured Convertible Promissory Notes dated December 20, 2007
(continued)
The
Company recorded the intrinsic value of the embedded beneficial conversion
feature ($151,875) and warrants ($49,590) to debt discount, aggregating
$201,465, which will be amortized to interest expense over the term of the
notes. Amortization of $50,228 and $106,528 was recorded for the
three and nine month periods ended June 30, 2008.
10%
Secured Convertible Promissory Notes dated January 17, 2008
On
January 17, 2008, the Company issued $450,000 principal amount convertible
promissory notes due January 17, 2009 with interest at 10% per annum due upon
maturity. The note is convertible at any time prior to maturity, at
the holder’s option, into shares of our common stock at a price equal to the
greater of (i) 50% of the average price of our common stock for the ten trading
days prior to the date of the notice of conversion or (ii) at $0.073512803 per
share, which is equal to a 30% discount to the average volume, weighted average
price of our common stock for the ten trading days prior to
issuance. At maturity, the note, including any accrued and unpaid
interest, is convertible at $0.073512803 per share. The Company has granted the
noteholders a security interest in all the Company’s assets.
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 embedded
beneficial conversion feature present in the 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
$162,095 of the proceeds, which is equal to the intrinsic value of the embedded
beneficial conversion feature, to additional paid-in capital and a discount
against the notes. The debt discount attributed to the beneficial conversion
feature is amortized over the notes’ maturity period (one year) as interest
expense.
In
connection with the placement of the notes the Company issued non-detachable
warrants granting the holders the right to acquire 900,000 shares of the
Company’s common stock at $0.50 per share. The warrants expire five
years from the issuance. In accordance with Emerging Issues Task
Force Issue 00-27, Application of Issue No. 98-5 to Certain Convertible
Instruments (“EITF – 0027”), the Company recognized the value attributable to
the warrants in the amount of $48,240 to additional paid in capital and a
discount against the notes. The Company valued the warrants in
accordance with EITF 00-27 using the Black-Scholes pricing model and the
following assumptions: contractual terms of 5 years, an average risk free
interest rate of 2.90%, a dividend yield of 0%, and volatility of
102.72%. The debt discount attributed to the value of the warrants
issued is amortized over the notes’ maturity period (one year) as interest
expense.
The
Company recorded the intrinsic value of the embedded beneficial conversion
feature ($162,095) and warrants ($48,240) to debt discount, aggregating
$210,335, which will be amortized to interest expense over the term of the
notes. Amortization of $52,440 and $95,083 was recorded for the three
and nine month periods ended June 30, 2008.
10%
Secured Convertible Promissory Notes dated March 4, 2008
On March
4, 2008, the Company issued $250,000 principal amount convertible promissory
notes due March 4, 2009 with interest at 10% per annum due upon
maturity. The notes are convertible at any time prior to maturity, at
the holder option of the holders, into shares of our common stock at a price
equal to the greater of (i) 50% of the average price of our common stock for the
ten trading days prior to the date of the notice of conversion or (ii) at
$0.125875423 per share, which is equal to a 30% discount to the average volume,
weighted average price of our common stock for the ten trading days prior to
issuance. At maturity, the notes, including any accrued and unpaid
interest, are convertible at $0.125875423 per share. The Company has
granted the noteholders a security interest in all the Company’s
assets.
21
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
D — PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued)
10%
Secured Convertible Promissory Notes dated March 4, 2008
(continued)
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 embedded
beneficial conversion feature present in the 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
$107,496 of the proceeds, which is equal to the intrinsic value of the embedded
beneficial conversion feature, to additional paid-in capital and a discount
against the notes. The debt discount attributed to the beneficial conversion
feature is amortized over the notes’ maturity period (one year) as interest
expense.
In
connection with the placement of the notes the Company issued non-detachable
warrants granting the holders the right to acquire 500,000 shares of the
Company’s common stock at $0.50 per share. The warrants expire five
years from the issuance. In accordance with Emerging Issues Task
Force Issue 00-27, Application of Issue No. 98-5 to Certain Convertible
Instruments (“EITF – 0027”), the Company recognized the value attributable to
the warrants in the amount of $58,350 to additional paid in capital and a
discount against the notes. The Company valued the warrants in
accordance with EITF 00-27 using the Black-Scholes pricing model and the
following assumptions: contractual terms of 5 years, an average risk free
interest rate of 2.53%, a dividend yield of 0%, and volatility of 106.37%. The
debt discount attributed to the value of the warrants issued is amortized over
the notes’ maturity period (one year) as interest expense.
The
Company recorded the intrinsic value of the embedded beneficial conversion
feature ($107,496) and warrants ($58,350) to debt discount, aggregating
$165,846, which will be amortized to interest expense over the term of the
notes. Amortization of $41,348 and $53,616 was recorded for the three and nine
month periods ended June 30, 2008.
10%
Secured Convertible Promissory Note dated May 7, 2008
On May 7,
2008, the Company issued a $100,000 convertible promissory note due May 7, 2009
with interest at 10% per annum due upon maturity. The note is
convertible at any time prior to maturity, at the holder’s option, into shares
of our common stock at a price equal to the greater of (i) 50% of the average
price of our common stock for the ten trading days prior to the date of the
notice of conversion or (ii) at $0.079849085 per share, which is equal to a 30%
discount to the average volume, weighted average price of our common stock for
the ten trading days prior to issuance. At maturity, the note,
including any accrued and unpaid interest, is convertible at $0.079849085 per
share. The Company has granted the noteholder a security interest in all the
Company’s assets.
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 embedded
beneficial conversion feature present in the note. 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
$37,760 of the proceeds, which is equal to the intrinsic value of the embedded
beneficial conversion feature, to additional paid-in capital and a discount
against the note. The debt discount attributed to the beneficial conversion
feature is amortized over the note’s maturity period (one year) as interest
expense.
22
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
D — PRIVATE PLACEMENT OF CONVERTIBLE NOTES (continued
10%
Secured Convertible Promissory Notes dated May 7, 2008 (continued)
In
connection with the placement of the note the Company issued non-detachable
warrants granting the holders the right to acquire 200,000 shares of the
Company’s common stock at $0.50 per share. The warrants expire five
years from the issuance. In accordance with Emerging Issues Task
Force Issue 00-27, Application of Issue No. 98-5 to Certain Convertible
Instruments (“EITF – 0027”), the Company recognized the value attributable to
the warrants in the amount of $6,010 to additional paid in capital and a
discount against the note. The Company valued the warrants in
accordance with EITF 00-27 using the Black-Scholes pricing model and the
following assumptions: contractual terms of 5 years, an average risk free
interest rate of 3.09%, a dividend yield of 0%, and volatility of 101.74%. The
debt discount attributed to the value of the warrants issued is amortized over
the note’s maturity period (one year) as interest expense.
The
Company recorded the intrinsic value of the embedded beneficial conversion
feature ($37,760) and warrants ($6,010) to debt discount, aggregating $43,770,
which will be amortized to interest expense over the term of the Notes.
Amortization of $6,476 was recorded for the three and nine month periods ended
June 30, 2008.
NOTE
E - RELATED PARTY TRANSACTIONS
The
Company’s current and former officers and shareholders have advanced funds to
the Company for travel related and working capital purposes. No
formal repayment terms or arrangements existed. There were no advances due at
June 30, 2008.
During
the years ended September 30, 2007 and 2006, the Company’s Chief Executive
Officer, or entities controlled by the Company’s Chief Executive Officer, had
advanced funds to the Company in the form of convertible promissory notes for
working capital purposes (see Note D).
During
the three and nine month periods ended June 30, 2008, the Company had sales of
$87,943 and $156,461 (or 34.8% and 26.8% of total sales), respectively, to an
entity whereby the Company’s Chief Executive Officer is the
President.
NOTE
F - CAPITAL STOCK
The
Company is authorized to issue 410,000,000 shares of common stock, with a $0.001
par value per share as the result of a shareholder meeting conducted on May 16,
2007. Prior to the May 16, 2007 share increase, the Company was
authorized to issue 250,000,000 shares of common stock with a $0.001 par value
per share. In addition, the Company is authorized to issue 10,000,000 shares of
preferred stock with a $0.0001 par value per share. The preferred
stock is convertible at the option of the holder into common stock at the rate
of twenty-five (25) shares of common for every one share of preferred at the
option of the holder.
Preferred
and Common Stock Transactions During the Three Months Ended June 30,
2008:
During
the three months ended June 30, 2008, the Company issued 4,967,877 shares of
common stock in exchange for convertible notes and accrued
interest.
23
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
G - 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
|
Weighted
|
Exercisable
|
||||||||||||||||||||
|
Remaining
|
Average
|
Weighted
|
Weighted
|
|||||||||||||||||||
|
Exercise
|
Number
|
Contractual
|
Exercise
|
Average
|
Average
|
|||||||||||||||||
|
Prices
|
Outstanding
|
Life
(Years)
|
Price
|
Exercisable
|
Exercise
Price
|
|||||||||||||||||
|
$0.09
|
16,400,000
|
3.17
|
$
|
0.09
|
16,400,000
|
$
|
0.09
|
|||||||||||||||
|
$0.10
|
105,464
|
1.04
|
$
|
0.10
|
105,464
|
$
|
0.10
|
|||||||||||||||
|
$0.20
|
5,000
|
0.38
|
$
|
0.20
|
5,000
|
$
|
0.20
|
|||||||||||||||
|
$0.50
|
25,550,000
|
3.24
|
$
|
0.50
|
25,550,000
|
$
|
0.50
|
|||||||||||||||
|
$0.60
|
8,226,000
|
1.02
|
$
|
0.60
|
8,226,000
|
$
|
0.60
|
|||||||||||||||
|
$0.70
|
200,000
|
0.53
|
$
|
0.70
|
200,000
|
$
|
0.70
|
|||||||||||||||
|
$0.75
|
14,797,000
|
1.60
|
$
|
0.75
|
14,797,000
|
$
|
0.75
|
|||||||||||||||
|
65,283,464
|
65,283,464
|
|||||||||||||||||||||
Transactions
involving warrants are summarized as follows:
|
Weighted
Average
|
||||||||
|
Number
of
|
Price
Per
|
|||||||
|
Shares
|
Share
|
|||||||
|
Balance,
September 30, 2006
|
72,369,464
|
0.48
|
||||||
|
Granted
|
11,200,000
|
0.18
|
||||||
|
Exercised
|
-
|
-
|
||||||
|
Canceled
or expired
|
(1,135,000
|
)
|
(0.70
|
)
|
||||
|
Outstanding
at September 30, 2007
|
82,434,464
|
0.43
|
||||||
|
Granted
|
6,900,000
|
0.50
|
||||||
|
Exercised
|
(2,500,000)
|
(0.09)
|
||||||
|
Canceled
or expired
|
(21,551,000
|
)
|
(0.39
|
)
|
||||
|
Balance,
June 30, 2008
|
65,283,464
|
$
|
0.47
|
|||||
Employee
Stock Options
The
following table summarizes the changes in options outstanding and the related
prices for the shares of the Company's common stock issued to employees of the
Company under a non-qualified employee stock option plan:
24
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
G - STOCK OPTIONS AND WARRANTS (continued)
|
Options
Outstanding
|
Options
Exercisable
|
|||||||||||||||||||||
|
Exercise
Prices
|
Number
Outstanding
|
Weighted
Average
Remaining
Contractual
Life
(Years)
|
Weighted
Average
Exercise
Price
|
Number
Exercisable
|
Weighted
Average
Exercise
Price
|
|||||||||||||||||
|
$
|
0.68
|
3,660,000
|
3.25
|
$
|
0.68
|
3,660,000
|
$
|
0.68
|
||||||||||||||
|
0.09
|
2,000,000
|
3.41
|
0.09
|
2,000,000
|
0.09
|
|||||||||||||||||
|
5,660,000
|
5,660,000
|
0.47
|
||||||||||||||||||||
Transactions
involving stock options issued to employees are summarized as
follows:
|
Number
of
Shares
|
Weighted
Average
Exercise
Price Per
Share
|
|||||||
|
Outstanding
at October 1, 2006
|
5,660,000
|
$
|
0.47
|
|||||
|
Granted
|
-
|
-
|
||||||
|
Exercised
|
-
|
-
|
||||||
|
Cancelled
or expired
|
-
|
-
|
||||||
|
Outstanding
at September 30, 2007
|
5,660,000
|
$
|
0.47
|
|||||
|
Granted
|
-
|
-
|
||||||
|
Exercised
|
-
|
-
|
||||||
|
Canceled
or expired
|
-
|
-
|
||||||
|
Outstanding
at June 30, 2008
|
5,660,000
|
$
|
0.47
|
|||||
Amendment
to the 2005 Incentive Stock Plan and Recent Equity Award Grants
On June
17, 2008, the Board of Directors adopted an amendment to the 2005 Incentive
Stock Plan that will increase the total number of shares of common stock
issuable pursuant to the 2005 Incentive Stock Plan from a total of 20,000,000
shares to a total of 100,000,000 shares, which is subject to approval by our
stockholders at the 2008 annual meeting of stockholders. In
connection with the share increase amendment, the Board of Directors granted
options to purchase a total of 37,750,000 shares to certain key employees and
non-employee directors under the 2005 Incentive Stock Plan, including
17,000,000, 5,000,000 and 7,000,000 to James A. Hayward, Kurt H. Jensen and
Ming-Hwa Liang, respectively, and 500,000 to each of Yacov Shamash and Sanford
R. Simon. The options granted to our key employees and non-employee
directors vested with respect to 25% of the underlying shares on the date of
grant and the remaining will vest ratably each anniversary thereafter until
fully vested on the third anniversary of the date of grant.
The
effectiveness of the share increase amendment and the exercise of these stock
options by the key employees and non-employee directors are subject to approval
by our stockholders at the 2008 annual meeting of stockholders.
25
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
H- COMMITMENTS AND CONTINGENCIES
Operating
Lease Commitments
The
Company leases office space under operating lease in Stony Brook, New York for
its corporate use from an entity controlled by significant former shareholder,
expiring in October 2008. In November 2005, the Company vacated the Los Angeles
facility to relocated to the new Stony Brook New York address. Total lease
rental expense for the three and nine month periods ended on June 30,
2008 was $20,387 and $57,808, respectively.
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.
Litigation
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 or liquidity.
On April
23, 2008, a consultant filed a complaint related to a claim for breach of
contract. In March 2005, the Company entered into a consulting
agreement which provided for, among other things, a payment of $6,000 per month
for a period of 24 months, or an aggregate of $144,000. In addition,
the consulting agreement provided for the issuance of a five-year warrant to
purchase 250,000 shares of the Company’s common stock with an exercise price of
$.75. The consultant asserts that the Company owes it 17 payments of
$6,000, or an aggregate of $102,000, plus accrued interest thereon, and a
warrant to purchase 250,000 shares of our common stock. This matter
is in the early stages. We intend to vigorously defend against the
claims asserted against us. Management believes the ultimate outcome of
this matter will not ahve a material adverse effect on the Company's
consolidated financial position, results of operations or
liquidity.
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
In
connection with the private placement of our convertible promissory notes and
warrants to certain investors during the fiscal quarters ended December 31,
2003, December 31, 2004, March 31, 2005, March 31, 2006 and June 30, 2006,
pursuant to a registration rights agreement the Company agreed to file a
registration statement to register the common stock issuable upon the conversion
of the promissory notes and the exercise of the warrants and to have the
registration statement declared effective by the SEC. The
registration rights agreement provided for the payment of liquidated damages if
a registration statement was not declared effective by the SEC within 120 days
of the private placement of the convertible promissory notes. The
liquidated damages are equal to 3.5% per month of the aggregate proceeds, with
no limitations. The liquidated damages may be paid in cash or our
common stock, at our option. Although the promissory 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 issuable upon the conversion of the promissory notes and the
exercise of the warrants subject to the liquidated damages provisions of the
registration rights agreement does not meet the tests required for shareholders’
equity classification in the past, and accordingly has been reflected between
liabilities and equity in our previous consolidated balance sheet.
26
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
H- COMMITMENTS AND CONTINGENCIES (continued)
As of
September 30, 2007, the Company did not have a registration statement declared
effective relating to the common stock issuable upon the conversion of the
promissory notes and the exercise of the warrants. In accordance with
EITF 00-19-2, the Company evaluated the likelihood of having the registration
statement declared effective by the SEC. As of September 30, 2007,
the Company determined it was probable that it will be required to remit
payments to these investors because of our failure to have the registration
statement declared effective and the Company estimated that the obligation to
make additional payments would continue for nine months from September 30, 2007,
at which time the Company estimated that the registration statement would have
been declared effective. Although the Company was unable to estimate
the exact amount of time needed to have the registration statement declared
effective, it believed that an additional nine months would be required to
complete the SEC’s comment and review process and have the registration
statement declared effective. In accordance with SFAS No. 5,
Accounting For Contingencies, the Company accrued nine months of additional
liquidated damages, or $3,310,965, as a charge to operations during the year
ended September 30, 2007.
As a
result of not having our registration statement declared effective, the Company
recorded an aggregate liability of $11,750,941 as of September 30, 2007 and an
increase of $7,725,585 as compared to September 30, 2006, in order to account
for the potential liquidated damages accruing until the registration statement
is declared effective by the SEC. This increase, which was charged to
operations as a selling, general and administrative expense, in fiscal 2007, is
comprised of $8,439,976 of current and prior years’ stipulated contractual
obligations, plus the additional accrual of $3,310,965 described previously to
account for the potential liquidated damages until the expected effectiveness of
the registration statement is achieved.
In
developing the best estimate for the accrual of additional liquidating damages,
the Company took into account a number of factors and information, including,
but not limited to, the following:
|
·
|
advice
of legal counsel and other advisors;
|
|
|
·
|
its
experience in addressing comments raised by the SEC in past registration
statements;
|
|
|
·
|
the
limited number of matters needed to be addressed by the Company to achieve
effectiveness;
|
|
|
·
|
its
limited resources in connection with responding to SEC comments;
and
|
|
|
·
|
the
intent to achieve effectiveness of the registration statement as soon as
practicable.
|
Estimates
of potential future damages are based on our assumptions and projections and
actual results and outcomes could differ significantly.
In
September 2007, the Company issued common stock upon conversion of the final
convertible promissory note that contained embedded derivatives, such as certain
conversion features, variable interest features, call options and default
provisions.
At June
30, 2008, the Company has an accumulative accrual of $12,023,888 of liquidated
damages in connection with certain previously outstanding convertible promissory
notes and related warrants, which is included in accounts payable and accrued
liabilities. Any increases to the accrued liabilities will be charged
to operations as a selling, general and administrative expense. Any
decreases will be included in other income (expenses). During the three month
period ended June 30, 2008, the SEC declared effective the Company's
registration statement (see Note C).
27
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(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,
and engaged 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. The members
of our management who effectuated the stock issuances that are being examined in
the investigation no longer work for us. 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
NOTE
I - GOING CONCERN
The
accompanying unaudited condensed consolidated financial statements have been
prepared on a going concern basis, which contemplates the realization of assets
and the satisfaction of liabilities in the normal course of business. As shown
in the accompanying unaudited condensed consolidated financial statements during
the nine month period ended June 30, 2008, the Company incurred a loss of
$4,987,150. These factors among others may indicate that the Company will be
unable to continue as a going concern for a reasonable period of
time.
The
Company's existence is dependent upon management's ability to develop profitable
operations. Management is devoting substantially all of its efforts to
developing DNA embedded biotechnology security solutions in the United States
and Europe and there can be no assurance that the Company's efforts will be
successful and no assurance can be given that management's actions will result
in profitable operations or the resolution of its liquidity problems. The
accompanying statements do not include any adjustments that might result should
the Company be unable to continue as a going concern.
In order
to improve the Company's liquidity, the Company's management is actively
pursuing additional equity financing through discussions with investment bankers
and private investors. There can be no assurance the Company will be successful
in its effort to secure additional equity financing.
28
APPLIED
DNA SCIENCES, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2008
(unaudited)
NOTE
J – SUBSEQUENT EVENTS
On August
8, 2008, the Company issued 1,142,562 shares of common stock upon the automatic
conversion of a secured convertible promissory note.
In July
2008, the Company issued an aggregate of $150,000 10% secured convertible
promissory notes with an automatic conversion one year from issuance at a
weighted average conversion price of $0.054948300, which is equal to a 30%
discount to the average volume, weighted average price of our common stock for
the ten trading days prior to issuance. Additionally, the notes are
convertible into shares of the Company’s common stock at any time, at the option
of the noteholder, prior to the automatic conversion date, at the greater of (i)
50% of the average price of the Company’s common stock for the ten trading days
prior to the date of the notice of conversion and (ii) the automatic conversion
price.
In
connection with the issuance of the notes, the Company issued warrants to
purchase 300,000 shares of its common stock for cash or on a cashless basis at
$0.50 per share exercisable over four years with certain redemption
features.
Additionally,
in conjunction with the private placement of the above described notes, the
Company paid an aggregate of $22,500 to its exclusive placement
agent.
29
The
following discussion should be read in conjunction with our Consolidated
Financial Statements and Notes thereto, included elsewhere within this
report. This quarterly report contains forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933, as amended (the
“Securities Act”) and Section 21E of the Exchange Act of 1934, as amended (the
“Exchange Act”), 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:
|
●
|
discuss
our future expectations;
|
|
●
|
contain
projections of our future results of operations or of our financial
condition; and
|
|
●
|
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
report. 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.
Introduction
We
provide botanical DNA encryption, embedment and authentication solutions that
can help protect companies, governments and consumers from counterfeiting,
fraud, piracy, product diversion, identity theft, and unauthorized intrusion
into physical locations and databases. Our SigNature Program provides
a secure, accurate and cost-effective means for our customers to incorporate our
SigNature DNA Markers in, and then quickly and reliably authenticate and
identify, a broad range of items such as artwork and collectibles, fine wine,
consumer products, digital media, financial instruments, identity cards and
other official documents. Having the ability to reliably authenticate
and identify counterfeit versions of such items enables companies and
governments to detect, deter, interdict and prosecute counterfeiting enterprises
and individuals.
Our
SigNature Program enables our customers to cost-effectively:
|
●
|
give
assurance to manufacturers, suppliers, distributors, retailers and
end-users that their products are authentic and can be forensically
authenticated;
|
|
●
|
integrate
our SigNature DNA Markers with existing security solutions such as
barcodes, radio frequency identification (RFID) tags, holograms,
microchips and other securities measures;
and
|
|
●
|
add
value to the “bottom-line” by helping to diminish product diversion and
counterfeiting.
|
Counterfeit
and diverted products continue to pose a significant and growing problem with
consumer packaged goods, especially for prestige and established brands
worldwide. Piracy, identity theft and forged documents and items are
also highly prevalent in vertical markets such as digital media, fine art,
luxury goods, and alcoholic beverages. Key aspects of our strategy
include:
|
●
|
continuing
to improve and customize our solution to meet our current and potential
customers’ needs;
|
|
●
|
continuing
to develop and enhance our existing DNA marker authentication
technologies;
|
|
●
|
expanding
our customer base both domestically and abroad by targeting high volume
markets; and
|
|
●
|
augmenting
our competitive position through strategic acquisitions and
alliances.
|
We have
also begun to develop and manufacture DermalRx, an ingredient for use in skin
care products, which allows for exfoliation without the irritation or
inflammation associated with chemical peeling.
30
Plan
of Operations
General
We expect
to generate revenues principally from sales of our SigNature
Program. We are currently attempting to develop business in six
target markets: art and collectibles, fine wine, consumer products, digital
recording media, pharmaceuticals, and homeland security driven
programs. We intend to pursue both domestic and international sales
opportunities in each of these vertical markets.
We
believe that our existing capital resources will enable us to fund our
operations until approximately November 2008. We believe we may 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.
Product
Research and Development
We
anticipate spending approximately $50,000 for product 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 anticipate spending approximately $100,000 on the
acquisition of leasehold improvements during the next 12 months. We
believe our current leased space is adequate to manage our growth, if any, over
the next 2 to 3 years.
Number
of Employees
We
currently have seven employees and three part-time employees. The
company expects to increase its staffing dedicated to sales, product
prototyping, manufacturing of DNA markers and forensic authentication
services. Expenses related to travel, marketing, salaries, and
general overhead will be increased as necessary to support our growth in
revenue. 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 costs for personnel.
Critical
Accounting Policies
Financial
Reporting Release No. 60, published by the Securities and Exchange Commission
(“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:
|
●
|
Equity
issued with registration rights ;
|
|
●
|
Revenue
recognition;
|
|
●
|
Allowance
for doubtful accounts;
|
|
●
|
Warrant
liability; and
|
|
●
|
Fair
value of intangible assets.
|
31
Equity
Issued with Registration Rights
In
connection with the private placement of our convertible promissory notes and
warrants to certain investors during the fiscal quarters ended December 31,
2003, December 31, 2004, March 31, 2005, March 31, 2006 and June 30, 2006,
pursuant to a registration rights agreement we agreed to file a registration
statement to register the common stock issuable upon the conversion of the
promissory notes and the exercise of the warrants and to have the registration
statement declared effective by the SEC. The registration rights
agreement provided for the payment of liquidated damages if a registration
statement was not declared effective by the SEC within 120 days of the private
placement of the convertible promissory notes. The liquidated damages
are equal to 3.5% per month of the aggregate proceeds, with no
limitations. The liquidated damages may be paid in cash or our common
stock, at our option. Although the promissory 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 issuable upon the conversion of the promissory notes and the
exercise of the warrants subject to the liquidated damages provisions of the
registration rights agreement does not meet the tests required for shareholders’
equity classification in the past, and accordingly has been reflected between
liabilities and equity in our previous consolidated balance sheet.
As of
September 30, 2007, we did not have a registration statement declared effective
relating to the common stock issuable upon the conversion of the promissory
notes and the exercise of the warrants. In accordance with EITF
00-19-2, we evaluated the likelihood of having the registration statement
declared effective by the SEC. As of September 30, 2007, we
determined it was probable that we will be required to remit payments to these
investors because of our failure to have the registration statement declared
effective and we estimated that the obligation to make additional payments would
continue for nine months from September 30, 2007, at which time we estimated
that the registration statement would have been declared
effective. Although we were unable to estimate the exact amount of
time needed to have the registration statement declared effective, we believed
that an additional nine months would be required to complete the SEC’s comment
and review process and have the registration statement declared
effective. In accordance with SFAS No. 5, Accounting For
Contingencies, we accrued nine months of additional liquidated damages, or
$3,310,965, as a charge to operations during the year ended September 30,
2007.
As a
result of not having our registration statement declared effective, we recorded
an aggregate liability of $11,750,941 as of September 30, 2007 and an increase
of $7,725,585 as compared to September 30, 2006, in order to account for the
potential liquidated damages accruing until the registration statement is
declared effective by the SEC. This increase, which was charged to
operations as a selling, general and administrative expense, in fiscal 2007, is
comprised of $8,439,976 of current and prior years’ stipulated contractual
obligations, plus the additional accrual of $3,310,965 described previously to
account for the potential liquidated damages until the expected effectiveness of
the registration statement is achieved.
In
developing the best estimate for the accrual of additional liquidating damages,
we took into account a number of factors and information, including, but not
limited to, the following:
|
●
|
advice
of our legal counsel and other
advisors;
|
|
●
|
our
experience in addressing comments raised by the SEC in past registration
statements;
|
|
●
|
the
limited number of matters needed to be addressed by the Company to achieve
effectiveness;
|
|
●
|
our
limited resources in connection with responding to SEC comments;
and
|
|
●
|
the
intent to achieve effectiveness of the registration statement as soon as
practicable.;
|
Estimates
of potential future damages are based on our assumptions and projections and
actual results and outcomes could differ significantly.
In
September 2007, we issued common stock upon conversion of the final convertible
promissory note that contained embedded derivatives, such as certain conversion
features, variable interest features, call options and default
provisions.
At June
30, 2008, we have an accumulative accrual of $12,023,888 of liquidated damages
in connection with certain previously outstanding convertible promissory notes
and related warrants, which is included in accounts payable and accrued
liabilities. Any increases to the accrued liabilities will be charged
to operations as a selling, general and administrative expense. Any
decreases will be included in other income (expenses).
32
Revenue
Recognition
Revenues
are derived from rendering professional, scientific and technical services to
our customers in connection with authentication of raw materials used in certain
commercial products, such as cotton. In addition, we sell our
products, including Signature DNA Markers and DermalRx, to customers in the
biotechnology, personal care and consumer products industries.
Our
contracts for services have different terms and depending on the scope,
deliverables and complexity of the engagement, we are frequently required to
make judgments and estimates with respect to recognizing revenues.
We
examine each contract and consider the appropriate revenue recognition in
accordance with SAB 104 and Emerging Issue Task Force, or EITF, 00-21, Revenue
Recognition with Multiple Deliverables, or EITF 00-21. Revenue from
fixed price single task consulting contracts is generally recorded upon
completion of the contracts, which are generally short-term, or upon completion
of identifiable contractual tasks. We consider amounts to be earned
once evidence of an arrangement has been obtained, services are delivered, fees
are fixed or determinable, and collectibility is reasonably
assured.
At the
time we enter into a contract that includes multiple tasks, we estimate the
amount of actual labor and other costs that will be required to complete each
task based on historical experience. Since we have limited operating
history, we have based our estimates of labor and other costs upon the following
factors:
|
●
|
results
of previous services rendered in connection with providing potential
customers with a proof of concept in connection with the specific
application of our products and
services
|
|
●
|
time
records of personnel and contractors assigned to the identifiable
contractual tasks; and
|
|
●
|
specific
identification of other direct costs (e.g. supplies, materials etc.)
consumed in connection with completing the identifiable
tasks.
|
We
believe these estimates are reasonable, reliable and dependable as they are
based on our expertise in extracting DNA, applying our SigNature DNA Marker to
various products as well as recovering our SigNature DNA Marker after it has
been applied.
Revenues
from the achievement of contractual milestones, if deemed substantive, are
recognized as revenue when the milestones are achieved, and milestone payments
are due and collectible. Revenue relative to each task and from
contracts which are time and materials based is recorded as effort is
expended. Billings in excess of amounts earned are
deferred. Any anticipated losses on contracts are charged to income
when identified. Milestones are based upon contractually agreed upon
terms between us and our customers. To the extent we do not accurately forecast
the level of effort required to complete a contract, or individual tasks within
a contract, and we are unable to negotiate additional billings with a customer
for cost over-runs, we may incur losses on individual contracts. All
selling, general and administrative costs are treated as period costs and
expensed as incurred.
While
each contract is different, we generally provide the following general
deliverables:
|
●
|
written
or oral reports as to the authenticity of the
product;
|
|
●
|
written
or oral reports as to the presence of our SigNature DNA
Marker;
|
|
●
|
written
or oral reports as to the status of a particular feasibility study;
and
|
|
●
|
delivery
of our Signature DNA Markers.
|
Since our
transition to an operating company in fiscal 2007, we have earned and received
$705,515 in payments from various contracts and purchase orders with an average
gross profit margin of $557,949.
Allowance
for Uncollectible Receivables
The
Company maintains an allowance for doubtful accounts for estimated losses
resulting from the inability of customers to make required payments. The Company
uses a combination of write-off history, aging analysis and any specific known
troubled accounts in determining the allowance. If the financial condition of
customers were to deteriorate, resulting in an impairment of their ability to
make payments, additional allowances could be required.
Warrant
Liability
In
connection with the placement of certain debt instruments, 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
were required to account for these freestanding warrants as a derivative
financial instrument liability, rather than as shareholders’
equity.
33
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.
In
December 2006, the FASB issued FSP EITF 00-19-2, Accounting for Registration
Payment Arrangements ("FSP 00-19-2") which addresses accounting for registration
payment arrangements. FSP 00-19-2 specifies that the contingent
obligation to make future payments or otherwise transfer consideration under a
registration payment arrangement, whether issued as a separate agreement or
included as a provision of a financial instrument or other agreement, should be
separately recognized and measured in accordance with FASB Statement No. 5,
Accounting for Contingencies. FSP 00-19-2 further clarifies that a
financial instrument subject to a registration payment arrangement should be
accounted for in accordance with other applicable generally accepted accounting
principles without regard to the contingent obligation to transfer consideration
pursuant to the registration payment arrangement. For registration
payment arrangements and financial instruments subject to those arrangements
that were entered into prior to the issuance of EITF 00-19-2, this
guidance shall be effective for financial statements issued for fiscal years
beginning after December 15, 2006 and interim periods within those fiscal
years.
As
described above, as of September 30, 2007, we exchanged common stock for the
previously issued Convertible Promissory Notes that contained certain embedded
derivative financial instruments. As a result, the Company
reclassified the warrant liabilities recorded in conjunction with the
convertible promissory notes to equity as of the conversion date of the
remaining note. We do not use derivative instruments to hedge
exposures to cash flow, market, or foreign currency risks.
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. During the years ended
September 30, 2007 and 2006, our management performed an evaluation of the
Company’s intangible assets (intellectual property) for purposes of determining
the implied fair value of the assets at September 30, 2007 and 2006,
respectively. The test indicated that the recorded remaining book
value of its intellectual property exceeded its fair value for the year ended
September 30, 2006, as determined by discounted cash flows. As a
result, upon completion of the assessment, management recorded a non-cash
impairment charge of $5,655,011, net of tax, or $0.05 per share during the year
ended September 30, 2006 to reduce the carrying value of the patents to
$2,091,800. Considerable management judgment is necessary to estimate
the fair value. Accordingly, actual results could vary significantly
from management’s estimates.
The
identifiable intangible assets acquired and their carrying value at June 30,
2008 are:
|
Trade
secrets and developed technologies (Weighted average life of 7
years)
|
$
|
9,430,900
|
||
|
Patents
(Weighted average life of 5 years )
|
34,257
|
|||
|
Total
Amortized identifiable intangible assets-Gross carrying
value:
|
$
|
9,465,157
|
||
|
Less:
|
||||
|
Accumulated
Amortization
|
(2,351,113
|
)
|
||
|
Impairment
(See below)
|
(5,655,011
|
)
|
||
|
Net:
|
$
|
1,459,033
|
||
|
Residual
value:
|
$
|
0
|
||
Total
amortization expense charged to operations for the three and nine month periods
ended June 30, 2008 was $93,482 and $277,787, respectively, and, $92,661 and
$277,983 for the three and nine month periods ended June 30, 2007,
respectively.
34
Estimated
amortization expense as of June 30, 2008 is as follows:
|
2008
|
$ | 93,483 | ||
|
2009
|
365,124 | |||
|
2010
|
363,791 | |||
|
2011
|
363,791 | |||
|
2012
and thereafter
|
272,844 | |||
|
Total
|
$ | 1,459,033 |
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.
Three
Months Ended June 30, 2008 Compared With Three Months Ended June 30,
2007
Revenues
During
the year ended September 30, 2007, we transitioned from a development stage
enterprise to an operating company. For the three months ended June
30, 2008, we generated $252,691 in revenues from operations and our cost of
sales for the three months ended June 30, 2008 was $50,489, netting us a gross
profit of $202,202. For the three months ended June 30, 2007, we had
no revenues or cost of sales.
Costs
and Expenses
Selling,
General and Administrative
Selling,
general and administrative expenses decreased from $1,968,642 for the three
months ended June 30, 2007 to $951,828 for the three months ended June 30,
2008. The decrease of $1,016,814, or 52%, is primarily attributable
to a decrease in cost incurred in connection with professional
services.
Research
and Development
In the
nine months ended June 30, 2008, research and development expenses increased by
$17,753 to $112,042 from $94,289 for the same period in 2007.
Depreciation
and Amortization
Depreciation
and amortization expenses for the nine months ended June 30, 2008 did not change
materially from the same period in 2007, an increase of $9 to $324,603 to
$324,594.
Total
Operating Expenses
Total
operating expenses decreased to $1,081,199 from $2,102,503, or a decrease of
$1,021,304 primarily attributable to a decrease in costs incurred in connection
with professional services.
Other
Income/Loss
Gain on
reevaluation of debt derivative and warrant liability decreased by $4,431,421
from a gain of $4,431,421 for the three months ended June 30, 2007 to $0 for the
three months ended June 30, 2008. In September 2007, we exchanged
common stock for the remaining Secured Convertible Promissory Notes that
contained embedded derivatives. As a result, we reclassified the
warrant liabilities recorded in conjunction with the convertible promissory
notes to equity as of the conversion date of the related debt.
Interest
Expenses
Interest
expense for the three months ended June 30, 2008 increased by $128,759 to
$649,722 from $520,963 in the same period of 2007. The increase in
interest expense was due to an increase in outstanding debt.
35
Net
Income (loss)
Net loss
for the three months ended June 30, 2008 increased to $1,528,719 from a net
income of $1,807,954 in the prior period primarily attributable to the gain in
change in warrant liability in 2007
Nine
Months Ended June 30, 2008 Compared With Nine Months Ended June 30,
2007
Revenues
For the
nine months ended June 30, 2008, we generated $583,595 in revenues from
operations and our cost of sales for the nine months ended June 30, 2008 was
$124,493, netting us a gross profit of $459,102. For the nine months
ended June 30, 2007, we had no revenues or cost of sales.
Costs
and Expenses
Selling,
General and Administrative
Selling,
general and administrative expenses decreased from $6,012,028 for the nine
months ended June 30, 2007 to $3,365,880 for the nine months ended June 30,
2008. The decrease of $2,646,148, or 44%, is primarily attributable to a
decrease in cost incurred in connection with professional services.
Depreciation
Depreciation
expenses for the nine months ended June 30, 2008 did not change materially from
the same period in 2007 (an increase of $9).
Research
and Development
In the
nine months ended June 30, 2008, research expenses increased by $17,753
from $94,289 to $112,042 for the period compared to the same period in
2007.
Total
Operating Expenses
Total
operating expenses decreased to $3,802,525 from $6,430,911, or a decrease of
$2,628,386 primarily attributable to a decrease in costs incurred in connection
with professional services.
Other
Income/Loss
Gain on
reevaluation of debt derivative and warrant liability decreased by $142,131 from
a gain of $142,131 for the nine months ended June 30, 2007 to $0 for the nine
months ended June 30, 2008. In September 2007, we exchanged common
stock for the remaining Secured Convertible Promissory Notes that contained
embedded derivatives. As a result, we reclassified the warrant liabilities
recorded in conjunction with the convertible promissory notes to equity as of
the conversion date of the related debt.
Interest
Expenses
Interest
expense for the nine months ended June 30, 2008 decreased by $301,975 to
$1,643,727 from $1,945,702 in the same period of 2007. The decrease
in interest expense was due to the lower year to date debt as compared to
2007.
Net
Income (loss)
Net loss
for the nine months ended June 30, 2008 decreased to $4,987,150 from a net loss
of $8,233,506 in the prior period primarily attributable to reduced professional
and other related fees from 2007.
Liquidity
and Capital Resources
Our
liquidity needs consist of our 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.
Substantially
all of the real property used in our business is leased under operating lease
agreements.
As of
June 30, 2008, we had a working capital deficit of approximately
$15,218,019. For the nine month period ended June 30, 2008, we
generated a net cash flow deficit from operating activities of $2,350,033
consisting primarily of year to date losses of $4,987,150. Non-cash
adjustments included $2,022,066 in depreciation and amortization charges and
common stock issued for services provided of
$1,040,000. Additionally, we had a net increase in current assets of
$97,566 and a net decrease in current liabilities of $327,383. Cash
provided in investing activities totaled $377,420, which was utilized for
acquisition of property and equipment of $22,500 and reduction in cash held in
escrow of $399,920. We met our cash flow needs by issuance of
convertible notes of $2,532,580, net, for the three months ended June 30,
2008.
We expect
capital expenditures to be less than $200,000 in fiscal 2008. Our primary
investments will be in laboratory equipment to support prototyping and our
authentication services.
36
Debt
and Equity Financing Transactions
Fiscal
2006
In fiscal
2006, we completed three 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 Dr. Hayward, a director,
our President and 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 Dr.
Hayward, a director, our President and 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 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
consisted 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, on July 10, 2006 we
issued 2.4 million shares of our common stock to Arjent Limited at $0.001 per
share as partial consideration for its services in connection with the Offshore
Offering.
Fiscal
2007
In fiscal
2007, we issued sold an aggregate principal amount of $850,000 in secured
convertible promissory notes bearing interest at 10% per annum and warrants to
purchase an aggregate of 1,700,000 shares of our common stock to Dr. James A.
Hayward, a director, the Chairman of the Board of Directors, our President and
Chief Executive Officer, as follows:
|
●
|
On
April 23, 2007, we issued and sold a $100,000 principal amount secured
promissory note bearing interest at a rate of 10% per annum and a warrant
to purchase 200,000 shares of our common stock. The promissory
note and accrued but unpaid interest thereon converted on April 22, 2008
at a conversion price of $0.15 into 733,334 shares of our common
stock. The warrant is exercisable for a four-year period
commencing on April 23, 2008, and expiring on April 22, 2012, at a price
of $0.50 per share. The warrant may be redeemed at our option
at a redemption price of $0.001 upon the earlier of (i) April 22, 2010,
and (ii) the date our common stock has traded on The Over the Counter
Bulletin Board at or above $1.00 per share for 20 consecutive trading
days.
|
37
|
●
|
On
June 30, 2007, we issued and sold a $250,000 principal amount secured
promissory note bearing interest at a rate of 10% per annum and a warrant
to purchase 500,000 shares of our common stock. The promissory
note and accrued but unpaid interest thereon converted on June 30, 2008 at
a conversion price of $0.087732076 per share, which is equal to a 20%
discount to the average volume, weighted average price of our common stock
for the ten trading days prior to issuance, into 3,134,543 shares of our
common stock. The warrant is exercisable for a four-year period
commencing on June 30, 2008, and expiring on June 29, 2012, at a price of
$0.50 per share.
|
|
●
|
On
July 30, 2007, we issued and sold a $200,000 principal amount secured
promissory note bearing interest at a rate of 10% per annum and a warrant
to purchase 400,000 shares of our common stock. The promissory
note and accrued but unpaid interest thereon converted on July 30, 2008 at
a conversion price of $0.102568072 per share, which is equal to a 20%
discount to the average volume, weighted average price of our common stock
for the ten trading days prior to issuance, into 2,144,917 shares of our
common stock. The warrant is exercisable for a four-year period
commencing on July 30, 2008, and expiring on July 29, 2012, at a price of
$0.50 per share.
|
|
●
|
On
September 28, 2007, we issued and sold a $300,000 principal amount secured
promissory note bearing interest at a rate of 10% per annum and a warrant
to purchase 600,000 shares of our common stock. The promissory
note and accrued but unpaid interest thereon are convertible into shares
of our common stock at a price of $0.50 per share by the holder of the
promissory note at any time from September 28, 2007 through September 27,
2008, and shall automatically convert on September 28, 2008 at a
conversion price of $0.066429851 per share, which is equal to a 20%
discount to the average volume, weighted average price of our common stock
for the ten trading days prior to issuance. The warrant is
exercisable for a four-year period commencing on September 28, 2008, and
expiring on September 27, 2012, at a price of $0.50 per
share.
|
In
addition, on June 27, 2007, we completed a private placement offering of
convertible debt and associated warrants in which we issued and sold to certain
investors an aggregate of 3 units of our securities, each unit consisting of (i)
a $50,000 Principal Amount of 10% Secured Convertible Promissory Note and (ii)
warrants to purchase 100,000 shares of our common stock. The notes and accrued
but unpaid interest thereon converted at $0.15 per share on June 27, 2008 into
an aggregate of 1,100,000 shares of our common stock. The warrants
are exercisable for a four year period commencing on June 27, 2008, and expiring
on June 26, 2012, at a price of $0.50 per share. On August 8, 2007,
we issued and sold a $100,000 principal amount secured promissory note bearing
interest at a rate of 10% per annum and a warrant to purchase 200,000 shares of
our common stock to an “accredited investor,” as defined in regulations
promulgated under the Securities Act. The promissory note and accrued
but unpaid interest thereon converted on August 8, 2008 at a conversion price of
$0.096274883 per share, which is equal to a 20% discount to the average volume,
weighted average price of our common stock for the ten trading days prior to
issuance, into 1,142,562 shares of our common stock. The warrant is
exercisable for a four-year period commencing on August 8, 2008, and expiring on
August 7, 2012, at a price of $0.50 per share.
Fiscal
2008
In the
nine months ended June 30, 2008, we sold an aggregate of thirty-four and a half
units at a price of $100,000 per unit for sale to “accredited investors,” as
defined in regulations promulgated under the Securities Act, for aggregate gross
proceeds of $3,450,000. Each unit consists of (i) a $100,000
Principal Amount 10% Secured Convertible Promissory Note and (ii) a warrant to
purchase 200,000 shares of our common stock. The promissory notes and
accrued but unpaid interest thereon automatically convert one year after
issuance at a conversion price equal to a discount to the average volume,
weighted average price of our common stock for the ten trading days prior to
issuance, and are convertible into shares of our common stock at the option of
the holder at any time prior to such automatic conversion at a price equal to
the greater of (i) 50% of the average price of our common stock for the ten
trading days prior to the date of the notice of conversion and (ii) the
automatic conversion price. In addition, any time prior to
conversion, we have the irrevocable right to repay the unpaid principal and
accrued but unpaid interest under the notes on three days notice. The
promissory notes bear interest at the rate of 10% per annum and are due and
payable in full on the one year anniversary of their issuance. The
warrants are exercisable for cash or on a cashless basis for a period of four
years commencing one year after issuance at a price of $0.50 per
share. Each warrant may be redeemed at our option at a redemption
price of $0.01 upon the earlier of (i) three years after the issuance, and (ii)
the date our common stock has traded on The Over the Counter Bulletin Board at
or above $1.00 per share for 20 consecutive trading days.
38
From July
1, 2008 through August 14, 2008, we sold one and a half units at a price of
$100,000 per unit for sale to “accredited investors,” as defined in regulations
promulgated under the Securities Act, for aggregate gross proceeds of
$150,000. Each unit consists of (i) a $100,000 Principal Amount 10%
Secured Convertible Promissory Note and (ii) a warrant to purchase 200,000
shares of our common stock. The promissory notes and accrued but
unpaid interest thereon automatically convert one year after issuance at a
conversion price equal to a discount to the average volume, weighted average
price of our common stock for the ten trading days prior to issuance, and are
convertible into shares of our common stock at the option of the holder at any
time prior to such automatic conversion at a price equal to the greater of (i)
50% of the average price of our common stock for the ten trading days prior to
the date of the notice of conversion and (ii) the automatic conversion
price. In addition, any time prior to conversion, we have the
irrevocable right to repay the unpaid principal and accrued but unpaid interest
under the notes on three days notice. The promissory notes bear
interest at the rate of 10% per annum and are due and payable in full on the one
year anniversary of their issuance. The warrants are exercisable for
cash or on a cashless basis for a period of four years commencing one year after
issuance at a price of $0.50 per share. Each warrant may be redeemed
at our option at a redemption price of $0.01 upon the earlier of (i) three years
after the issuance, and (ii) the date our common stock has traded on The Over
the Counter Bulletin Board at or above $1.00 per share for 20 consecutive
trading days.
We claim
an exemption from the registration requirements of the Securities Act for the
private placement of the units described above pursuant to Section 4(2) of the
Securities Act because each of the units was made in a sale by the issuer not
involving a public offering.
We
presently do not have any available credit, bank financing or other external
sources of liquidity. Due to our brief history and historical operating losses,
our operations have not been a source of liquidity. We will need to obtain
additional capital in order to expand operations and become profitable. We
intend to pursue the building of a re-seller network outside the United States,
and if successful, the re-seller agreements would constitute a source of
liquidity and capital over time. In order to obtain capital, we may need to sell
additional shares of our common stock or borrow funds from private lenders.
There can be no assurance that we will be successful in obtaining additional
funding and execution of re-seller agreements outside the Unites
States.
We
currently require additional financing in order to meet our current and
projected cash flow deficits from operations and development. We have
sufficient funds to conduct our operations for approximately three
months. 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 January 14, 2008, 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.
39
Off-Balance
Sheet Arrangements
We do not
have any off-balance sheet arrangements.
Inflation
The
effect of inflation on our revenue and operating results was not
significant.
Going
Concern
The
accompanying unaudited condensed consolidated financial statements included in
this filing have been prepared in conformity with generally accepted accounting
principles that contemplate our continuance as a going concern. Our
auditors, in their report dated January 14, 2008, have expressed substantial
doubt about our ability to continue as going concern. Our cash
position may be inadequate to pay all of the costs associated with the testing,
production and marketing of our products. Management intends to use
borrowings and the sale of equity or convertible debt 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 accompanying
unaudited condensed consolidated 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.
40
RISK
FACTORS
Because
of the following factors, as well as other variables affecting our operating
results and financial condition, past financial performance may not be a
reliable indicator of future performance, and historical trends should not be
used to anticipate results or trends in future periods.
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 botanical DNA encryption, embedment and authentication
products and services, which are based on technologies that we acquired in July 12, 2005 from Biowell Technology, Inc. (“Biowell”). 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. As a result, we have a very limited operating history for you to evaluate in assessing our future prospects. In fiscal 2007 we transitioned from a developmental stage
to an operating company. 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 botanical DNA encryption, encapsulation, embedment and authentication products and services, 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.
products and services, which are based on technologies that we acquired in July 12, 2005 from Biowell Technology, Inc. (“Biowell”). 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. As a result, we have a very limited operating history for you to evaluate in assessing our future prospects. In fiscal 2007 we transitioned from a developmental stage
to an operating company. 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 botanical DNA encryption, encapsulation, embedment and authentication products and services, 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 incurred net losses of $13.3 million
for the year ended September 30, 2007 and $2.4 million for the year ended
September 30, 2006. For the nine months ended June 30, 2008, we incurred a net loss of $4,987,150. 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, began marketing activities, and our interest expense on
notes and warrants we issued to obtain financing. Our operations are subject to the risks
and competition inherent in a company that moved from the development stage to an
operating company. 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 and
services or any new products and services 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 financing our business operations will be
harmed or discontinued, and if we do obtain additional financing our
shareholders may suffer substantial dilution.
We believe that our existing capital resources will enable us to fund our operations until approximately November 2008. 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.
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.
41
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 January 14, 2008, our independent auditors stated that our
financial statements for the year ended September 30, 2007 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 $13.3 million for the year ended September 30, 2007. 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 and services are not accepted by potential customers or we
fail to introduce new products and services, our business, results of operations
and financial condition will be harmed.
There has
been limited or no market acceptance of our botanical DNA encryption,
encapsulation, embedment and authentication products and services to
date. Some of the factors that will affect whether we achieve market
acceptance of our solutions include:
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availability,
quality and price relative to competitive
solutions;
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customers’
opinions of the solutions’ utility;
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ease
of use;
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consistency
with prior practices;
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scientists’
opinions of the solutions’
usefulness;
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citation
of the solutions in published research;
and
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general
trends in anti-counterfeit and security solutions’
research.
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The expenses or losses associated with the continued lack of market acceptance of our solutions will harm our business, operating results and financial condition.
The
expenses or losses associated with the continued lack of market acceptance of
our solutions 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.
If
we are unable to retain the services of Drs. 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. James
A. Hayward, one of our directors, our President and Chief Executive Officer; and
Dr. Benjamin Liang, our Secretary and Strategic Technology Development
Officer. We do not have employment agreements with Drs. Hayward or
Liang. Loss of the services of Drs. Hayward or Liang could
significantly harm our business, results of operations and financial
condition. We do not maintain key-man insurance on the lives of Drs.
Hayward or Liang.
The
markets for our SigNature program are very competitive, and we may be unable to
continue to compete effectively in this industry in the future.
The
principal markets for our SigNature Program are intensely
competitive. We compete with many existing suppliers and new
competitors continue to enter the market. Many of our competitors,
both in the United States and elsewhere, are major pharmaceutical, chemical and
biotechnology companies, or have strategic alliances with such 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 existing products. Some of our
competitors that operate in the anti-counterfeiting and fraud prevention markets
include: Authentix, Collectors Universe Inc., Data Dot Technology, Digimarc
Corp., DNA Technologies, Inc., ID Global, Informium AG, Inksure Technologies,
Kodak, L-1 Identity Solutions, Manakoa, OpSec Security Group, SmartWater
Technology, Inc., Sun Chemical Corp, and Tracetag.
42
We expect
this competition to continue and intensify in the future. Competition
in our markets is primarily driven by:
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product
performance, features and
liability;
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price;
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timing
of product introductions;
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ability
to develop, maintain and protect proprietary products and
technologies;
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sales
and distribution capabilities;
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technical
support and service;
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brand
loyalty;
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applications
support; and
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breadth
of product line.
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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.
We
need to expand our sales, marketing and support organizations and our
distribution arrangements to increase market acceptance of our products and
services.
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 prototypes, samples and some of our own products, we currently do
not own or operate any significant manufacturing facilities and depend upon
independent third parties for the manufacture of some of our products to our
specifications. The inability of a manufacturer to ship orders of
such 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.
43
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.
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:
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operations
and financial systems;
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procedures
and controls; and
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training
and management of our employees.
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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:
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difficulties
in staffing, managing and integrating international operations due to
language, cultural or other
differences;
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different
or conflicting regulatory or legal
requirements;
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foreign
currency fluctuations; and
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diversion
of significant time and attention of our
management.
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44
Failure
to attract and retain qualified scientific, production and managerial personnel
could harm our business.
Recruiting
and retaining qualified scientific and production personnel to perform and
manage prototype, sample, and product manufacturing and business development
personnel to conduct business development are critical to our
success. 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. 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, we may not be able to continue to
successfully attract qualified personnel. The failure to attract and
retain these personnel or, alternatively, to develop this expertise internally
would 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.
Our intellectual property
rights are valuable, and any inability to protect them could reduce the value of
our products, services and brand.
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.
45
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. Though we have product liability
insurance coverage which we believe is adequate, we may not be able to 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 material revenue and the losses our business has
incurred for the period from our inception to June 30, 2008, this could result
in a significant decrease in our liquidity or assets, which could result in the
reduction or termination of our business.
We
were obligated to pay liquidated damages as a result of our failure to have our
registration statement declared effective prior to June 15, 2005, and any
payment of liquidated damages will either result in depletion of our limited
working capital or issuance of shares of common stock which would cause dilution
to our existing shareholders.
Pursuant
to the terms of a registration rights agreement with respect to common stock
underlying convertible notes and warrants we issued in private placements in
November and December, 2003, December, 2004, and January and February, 2005, if
we did not have a registration statement registering the shares underlying these
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 $367,885, until the registration
statement is declared effective. At our option, these liquidated
damages can be paid in cash or unregistered shares of our common
stock. To date we have decided to pay certain of these 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 3,807,375 shares of common stock in liquidated damages from August, 2005 to
January, 2006 to persons who invested in the January and February, 2005 private
placements. The issuance of shares upon any payment by us of further
liquidated damages will have the effect of further diluting the proportionate
equity interest and voting power of holders of our common stock, including
investors in this offering.
46
We paid
liquidated damages in the form of common stock only for the period from June 15,
2005 to December 15, 2005, and only to persons who invested in the January and
February, 2005 private placements. We believe that we have no
enforceable obligation to pay liquidated damages to holders of any shares we
agreed to register under the registration rights agreement for periods after the
first anniversary of the date of issuance of such shares, since they were
eligible for resale under Rule 144 of the Securities Act during such periods,
and such liquidated damages are grossly inconsistent with actual damages to such
persons. Nonetheless, as of June 30, 2008 we have accrued
approximately $12.0 million in penalties representing further liquidated damages
associated with our failure to have the registration statement declared
effective 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, as amended. The members of the Company's management who
effectuated the stock issuances no longer work for the Company. These
shares were not registered under the Securities Act, 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. Since our voluntary report of the findings of our internal
investigation to the SEC on April 26, 2006, we have received no communication
from the SEC or any third party with respect to this matter. 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.
Risks
Relating to Our Common Stock:
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
August 13 2008, we had 200,391,959 shares of common stock issued and outstanding
and outstanding options and warrants to purchase 71,243,464 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 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 (the “OTC Bulletin Board”), such
as us, must be reporting issuers under Section 12 or Section 15(d) of the
Securities Exchange Act, 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, 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.
47
We
may not be able to implement section 404 of the Sarbanes Oxley Act of 2002 on a
timely basis.
The SEC,
as directed by Section 404 of the Sarbanes-Oxley Act, adopted rules generally
requiring each public company to include a report of management on the company's
internal controls over financial reporting in its annual report on Form 10-K
that contains an assessment by management of the effectiveness of the company's
internal controls over financial reporting. This requirement will
first apply to our annual report on Form 10-K for the fiscal year ending
September 30, 2008. Under current rules, commencing with our annual
report for the fiscal year ending September 30, 2010 our independent registered
accounting firm must attest to and report on management's assessment of the
effectiveness of our internal controls over financial
reporting.
We have
not yet developed a Section 404 implementation plan. We have in the
past discovered, and may in the future discover, areas of our internal controls
that need improvement. How companies should be implementing these new
requirements including internal control reforms to comply with Section 404's
requirements and how independent auditors will apply these requirements and test
companies' internal controls, is still reasonably
uncertain.
We expect
that we will need to hire and/or engage additional personnel and incur
incremental costs in order to complete the work required by Section
404. We may not be able to complete a Section 404 plan on a timely
basis. Additionally, upon completion of a Section 404 plan, we may
not be able to conclude that our internal controls are effective, or in the
event that we conclude that our internal controls are effective, our independent
accountants may disagree with our assessment and may issue a report that is
qualified. Any failure to implement required new or improved
controls, or difficulties encountered in their implementation, could harm our
operating results or cause us to fail to meet our reporting
obligations.
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:
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●
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that
a broker or dealer approve a person’s account for transactions in penny
stocks; and
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●
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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.
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In order
to approve a person’s account for transactions in penny stocks, the broker or
dealer must:
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obtain
financial information and investment experience objectives of the person;
and
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●
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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.
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The
broker or dealer must also deliver, prior to any transaction in a penny stock, a
disclosure schedule prescribed by the SEC relating to the penny stock market,
which, in highlight form:
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●
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sets
forth the basis on which the broker or dealer made the suitability
determination; and
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that
the broker or dealer received a signed, written agreement from the
investor prior to the transaction.
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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.
48
a) Evaluation of Disclosure Controls
and Procedures: As of June 30, 2008, 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 the
Company's system of disclosure controls and procedures pursuant to the Exchange
Act and Rules 13a-15(e) and 15d-15(e) promulgated thereunder. Based
upon that evaluation, our Chief Executive Officer and Chief Financial Officer
concluded that the disclosure controls and procedures were not effective, as of
the date of their evaluation, for the purposes of recording, processing,
summarizing and timely reporting material information required to be disclosed
in reports filed under the Exchange Act.
As
previously disclosed in our Current Reports on Form 8-K, filed on May 18, 2006
and October 2, 2006, as a result of comments raised by the SEC, we determined
that accounting errors were made in connection with:
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●
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accounting
for and disclosing the fair value of warrants and options to acquire our
common stock issued to non-employees as a current period
expense;
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accounting
for and disclosing the fair value of shares issued to a former Director in
exchange for previously incurred
debt;
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●
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accounting
for and disclosing the fair value of warrants issued to note holders and
consultants having registration rights;
and
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●
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accounting
for and disclosing the revaluation for warrant liabilities as of each
reporting period.
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Based on
the impact of the aforementioned accounting errors, we determined to restate our
consolidated financial statements as of September 30, 2005 and for the year
ended September 30, 2005 and the quarterly unaudited data for the first three
quarters of 2006 and all of 2005.
b) Changes in internal control over
financial reporting: 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.
49
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 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. et al. (Los Angeles Superior Court Case No.
BC345702):
Plaintiff Paul Reep, a former employee,
commenced this action against us on January 10, 2006. Mr. Reep
asserted 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, and unjust
enrichment. The relief sought includes declaratory relief,
unspecified compensatory damages, unpaid salary, unspecified penalties under the
California Labor Code, interest, punitive damages and attorneys’
fees. We successfully moved the court to indefinitely stay all
proceedings in this matter in light of a forum selection clause designating
Nevada state courts as the proper forum. We then agreed with Reep to
consolidate this action with another matter pending in Los Angeles County
Superior Court, captioned Applied DNA Sciences, Inc. v. Paul Reep, Case No.
BC367661. Once this matter was consolidated with our affirmative
lawsuit against Reep, we filed a demurrer to the first amended
complaint. That demurrer resulted in several causes of action being
dismissed. Reep then filed a Second Amended Complaint which asserts
claims for breach of written and oral contracts, fraud, declaratory relief,
violation of California's Labor Code and defamation. We
answered the Second Amended Complaint in November 2007 and denied all of the
material allegations. Since that time, we have deposed Reep on
two occasions and propounded various written discovery. Based on the
information obtained through the discovery process, we moved for summary
judgment regarding all of Reep's remaining claims. The motion for
summary judgment came on for hearing on June 19, 2008 before Judge Solner, and
was granted in its entirety. We are now waiting for the Court to
enter the proposed order that disposes of Reep's claims. We have also
had communications with Reep's counsel whereby the parties have provisionally
agreed for Reep to waive any appellate rights he may have relating to this
lawsuit in exchange for our agreement to dismiss our affirmative lawsuit against
Reep (see below). A written agreement setting forth the final
resolution of both matters is expected to be executed
shortly.
Applied
DNA Sciences, Inc. v. Paul Reep et al. (Los Angeles County Superior Court Case
No. BC 367661):
We filed this action against the
defendants, Paul Reep, Adrian Butash, John Barnett, Chanty Cheang, Jaime
Cardona, Peter Brocklesby, Cheri Lu Brocklesby and Angela Wiggins on or about
March 9, 2007. In this matter, we have asked the court to make a
judicial determination that the defendants were unjustly enriched and breached
fiduciary duties owed to the company. We resolved our claims against
all of the defendants except Reep and Peter and Cheri Lu
Brocklesby. Default was entered against Peter and Cheri Lu Brocklesby
for failing to respond to the complaint, and the company has since submitted
documentation requesting that a default judgment be issued against both of these
individuals. That request is still being considered by the
Court. After the resolution of the claims involving the other
defendants, we agreed with Reep that this case should be consolidated with Paul
Reep v. Applied DNA Sciences, Inc. et al, Los Angeles Superior Court Case No.
BC345702. The trial in the consolidated matter was set for July 22,
2008; however, on June 19, 2008, we prevailed in our motion for summary judgment
in the matter captioned Paul Reep v. Applied DNA Sciences, Inc. et al, Los
Angeles Superior Court Case No. BC345702 (see above). After the
decision granting our motion for summary judgment was announced, we had
communications with Reep's counsel whereby the parties provisionally agreed for
Reep to waive any appellate rights he may have relating to Case No. BC 345702 in
exchange for our agreement to dismiss our affirmative lawsuit against Mr.
Reep. A written agreement setting forth the final resolution of both
matters is expected to be executed shortly. The Court has set a
status conference for August 27, 2008 at 9:00 a.m. in the event this case is not
resolved. We intend to vigorously prosecute our claims against Reep
should the case not be resolved upon the terms provisionally agreed
upon.
Douglas
A. Falkner v. Applied DNA Sciences, Inc./N.C. Industrial Commission File No.
585698:
Plaintiff Douglas Falkner ("Falkner")
filed a worker’s compensation claim in North Carolina for an alleged
work-related neck injury that he alleges occurred on January 14,
2004. Falkner worked as Business Development and Operations Manager
at our sole East Coast office at the time of the alleged
injury. Plaintiff Falkner was the only employee employed by us
in North Carolina at the time of the alleged injury and we have employed no
other employees in North Carolina at any other time. The claim has
been denied and is being defended on several grounds, including the lack of both
personal and subject matter jurisdiction. Specifically, we contend
that we did not employ the requisite minimum number of employees in North
Carolina at the time of the alleged injury and that the company is therefore not
subject to the North Carolina Workers' Compensation Act. The
claim was originally set for hearing in January 2007, but was continued to allow
the parties to engage in further discovery.
50
Douglas
A. Falkner v. Applied DNA Sciences, Inc. (Los Angeles County Superior Court Case
No. BC 386557):
Falkner commenced this action asserting
counts for breach of contract under his employment agreements dated March 10,
2003 and June 16, 2003 and wrongful discharge in violation of public
policy. The relief sought includes unspecified compensatory damages,
unspecified exemplary and punitive damages, and attorneys’ fees. This
matter is in the early stages of discovery. We intend to vigorously
defend against the claims asserted against us.
Intervex,
Inc. v. Applied DNA Sciences, Inc. (Supreme Court of the State of New York Index
No.08-601219):
Intervex, Inc., or Intervex, the
plaintiff, filed a complaint on or about April 23, 2008 related to a claim for
breach of contract. In March 2005, we entered into a consulting
agreement with Intervex, which provided for, among other things, a payment of
$6,000 per month for a period of 24 months, or an aggregate of
$144,000. In addition, the consulting agreement provided for the
issuance by us to Intervex of a five-year warrant to purchase 250,000 shares of
our common stock with an exercise price of $.75. Intervex asserts
that we owe it 17 payments of $6,000, or an aggregate of $102,000, plus accrued
interest thereon, and a warrant to purchase 250,000 shares of our common
stock. We have counterclaimed for compensatory and punitive damages,
restitution, attorneys’ fees and costs, interest and other relief the court
deems proper. This matter is in the early stages of discovery. We
intend to vigorously defend against the claims asserted against
us.
51
Sales
of Unregistered Securities
In the
fiscal quarter ended June 30, 2008, we sold one unit at a price of $100,000 to
an “accredited investor,” as defined in regulations promulgated under the
Securities Act. The unit consists of (i) a $100,000 Principal Amount
10% Secured Convertible Promissory Note and (ii) a warrant to purchase 200,000
shares of our common stock. The promissory note and accrued but
unpaid interest thereon automatically convert one year after issuance at a
conversion price equal to a discount to the average volume, weighted average
price of our common stock for the ten trading days prior to issuance, and are
convertible into shares of our common stock at the option of the holder at any
time prior to such automatic conversion at a price equal to the greater of (i)
50% of the average price of our common stock for the ten trading days prior to
the date of the notice of conversion and (ii) the automatic conversion
price. In addition, any time prior to conversion, we have the
irrevocable right to repay the unpaid principal and accrued but unpaid interest
under the note on three days notice. The promissory note bears
interest at the rate of 10% per annum and is due and payable in full on the one
year anniversary of its issuance. The warrant is exercisable for cash
or on a cashless basis for a period of four years commencing one year after
issuance at a price of $0.50 per share. The warrant may be redeemed
at our option at a redemption price of $0.01 upon the earlier of (i) three years
after the issuance and (ii) the date our common stock has traded on The Over the
Counter Bulletin Board at or above $1.00 per share for 20 consecutive trading
days.
In
conjunction with the private placement of the unit, we paid an aggregate of
$15,000 to the placement agent.
We claim
an exemption from the registration requirements of the Securities Act for the
private placement of the units pursuant to Section 4(2) of the Securities Act
because the unit was sold by the issuer not involving a public
offering.
For
additional information concerning our sales of unregistered securities during
the period covered by this report and subsequent to the period covered by this
report, please refer to Note D and Note J respectively, to our Consolidated
Financial Statements in Part I, Item 1 of this report, which are incorporated
herein by reference.
None.
None.
None.
52
|
Exhibit
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Description
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|
2.1
|
Articles
of Merger of Foreign and Domestic Corporations, filed December 19, 1998
with the Nevada Secretary of State, filed as an exhibit to the annual
report on Form 10-KSB filed with the Commission on December 29, 2003 and
incorporated herein by reference.
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|
3.1
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Articles
of Incorporation of DCC Acquisition Corporation, filed April 20, 1998 with
the Nevada Secretary of State, filed as an exhibit to the annual report on
Form 10-KSB filed with the Commission on December 29, 2003 and
incorporated herein by reference.
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3.2
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Articles
of Amendment of Articles of Incorporation of DCC Acquisition Corp.
changing corporation name to ProHealth Medical Technologies,
Inc.
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3.3
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Certificate
of Designations, Powers, preferences and Rights of the Founders' Series of
Convertible Preferred Stock, filed as an exhibit to the annual report on
Form 10-KSB filed with the Commission on December 29, 2003 and
incorporated herein by reference.
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3.4
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Articles
of Amendment of Articles of Incorporation of Applied DNA Sciences, Inc.
increasing the par value of the company's common stock, filed on December
3, 2003 with the Nevada Secretary of State, filed as an exhibit to the
annual report on Form 10-KSB filed with the Commission on December 29,
2003 and incorporated herein by reference.
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3.5
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Articles
of Amendment of Articles of Incorporation of Applied DNA Sciences, Inc.
increasing the number of authorized shares of the company's common stock,
filed on May 17, 2007 with the Nevada Secretary of State, filed as an
exhibit to Amendment No. 9 to Form SB-2 dated April 21, 2008 to the
Registration Statement on Form S-1 filed with the Commission on April 21,
2008 and incorporated herein by reference.
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3.6
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By-Laws
of Applied DNA Sciences, Inc., filed as an exhibit to the annual report on
Form 10-KSB filed with the Commission on December 29, 2003 and
incorporated herein by reference.
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4.1
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Registration
Rights Agreement, dated January 28, 2005, between the Company and Vertical
Capital Partners, Inc., on behalf of the investors, filed as an exhibit to
the current report on Form 8-K filed with the Commission on January 28,
2005 and incorporated herein by reference.
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10.1
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Amendment
to Engagement Letter, dated December 20, 2007, by and between Applied DNA
Sciences, Inc. and ARjENT Limited, filed as an exhibit to the current
report on Form 8-K filed with the Commission on December 28, 2007 and
incorporated herein by reference
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10.2
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Form
of Subscription Agreement by and among Applied DNA Sciences, Inc. and the
investors named on the signature pages thereto, previously filed as
Exhibit 10.1 to our Current Report on Form 8-K on October 11, 2007 and
incorporated herein by reference.
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10.3
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Form
of 10% Secured Convertible Promissory Note of Applied DNA Sciences, Inc.,
previously filed as Exhibit 10.2 to our Current Report on Form 8-K on
October 11, 2007 and incorporated herein by reference.
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10.4
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Form
of Warrant Agreement of Applied DNA Sciences, Inc., previously filed as
Exhibit 10.3 to our Current Report on Form 8-K on October 11, 2007 and
incorporated herein by reference.
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| 10.5 | Form of Employee Stock Option Agreement under The Applied DNA Sciences, Inc. 2005 Incentive Stock Plan of Applied DNA Sciences, Inc. (filed herewith). |
| 10.6 | Form of Director Stock Option Agreement under The Applied DNA Sciences, Inc. 2005 Incentive Stock Plan of Applied DNA Sciences, Inc. (filed herewith) |
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31.1
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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
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31.2
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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
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53
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32.1
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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)
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32.2
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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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54
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. | ||
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Date: August
14, 2008
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By:
/s/ JAMES A. HAYWARD
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James
A. Hayward
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Chief
Executive Officer
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55