U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2003
COMMISSION FILE NUMBER 1-13463
BIO-KEY INTERNATIONAL, INC.
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(NAME OF SMALL BUSINESS ISSUER IN ITS CHARTER)
MINNESOTA 41-1741861
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(State or other jurisdiction of (IRS Employer Identification Number)
Incorporation of organization)
1285 CORPORATE CENTER DRIVE, SUITE #175, EAGAN, MN 55121
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(Address of Principal Executive Offices) (Zip Code)
(651) 687-0414
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ISSUER'S TELEPHONE NUMBER, INCLUDING AREA CODE.
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
TITLE OF EACH CLASS NAME OF EXCHANGE ON WHICH REGISTERED
Common Stock, $0.01 par value per share None
SECURITIES REGISTERED UNDER SECTION 12(g) OF THE EXCHANGE ACT
None
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the preceding 12 months (or for
such shorter period that the registrant was required to file such reports), and
(2) has been subject to such filing requirements for the past 90 days. Yes _X_
No___
Check if there is no disclosure of delinquent filers in response to
Item 405 of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of registrants knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this form 10-KSB. ___
State issuer's revenues for its most recent fiscal year: $524,101
The aggregate market value of the voting common equity held by
non-affiliates of the registrant based on the closing sale price of the
registrant' common stock as reported on the OTC Bulletin Board on March 23, 2004
was $37,386,486. The information provided shall in no way be construed as an
admission that any person whose holdings are excluded from the figure is an
affiliate or that any person whose holdings are included in the figure is not an
affiliate, and any such admission is hereby disclaimed. The information provided
is solely for the record keeping purposes of the Securities and Exchange
Commission.
As of March 23, 2004, 24,578,614 shares of the registrant's common
stock were outstanding.
Transitional Small Business Disclosure Formats (check one):
Yes ___ No _X_
DOCUMENTS INCORPORATED BY REFERENCE
None.
PART I
PRIVATE SECURITIES LITIGATION REFORM ACT
The information contained in this Annual Report on Form 10-KSB and in
other public statements by the Company and Company officers or directors
includes or may contain certain forward-looking statements. The words "may,"
"will," "expect," "anticipate," "believe," "continue," "estimate," "project,"
"intend," and similar expressions used in this Report are intended to identify
forward-looking statements within the meaning of Section 27A of the U.S.
Securities Act of 1933 and Section 21E of the U.S. Securities Exchange Act of
1934. You should not place undue reliance on these forward-looking statements,
which speak only as of the date made. We undertake no obligation to publicly
release the result of any revision of these forward-looking statements to
reflect events or circumstances after the date they are made or to reflect the
occurrence of unanticipated events. You should also know that such statements
are not guarantees of future performance and are subject to risks, uncertainties
and assumptions including, but not limited to those set forth herein under the
caption "RISK Factors" in Item I of this Report. Should any of these or any
other risks or uncertainties materialize, or should any of our assumptions prove
incorrect, actual results may differ materially from those included within the
forward-looking statements.
ITEM 1. DESCRIPTION OF BUSINESS
OVERVIEW
BIO-key, International, Inc., formerly known as SAC Technologies, Inc.
(the "Company", "BIO-key" ,"we or "us"), was formed in 1993 and is in the
business of developing and marketing proprietary biometric technology and
software solutions. Biometric technology, the science of analyzing specific
human characteristics which are unique to each individual in order to identify a
specific person from a broader population, is an emerging technology.
Fingerprint analysis is an accurate and reliable method to distinguish one
individual from another and is viewed as less intrusive than many other
biometric identification methods. As a result, fingerprint analysis has gained
the most widespread use for biometric identification. Biometric technology
represents a novel and accurate approach to identity verification and
authentication which is now being used in limited applications and is gaining
acceptance in the government, commercial and consumer markets.
We have pioneered the development of high performance automated finger
identification technology that can be used without the aid of non-automated
methods of identification such as a personal identification number (PIN),
password, token, smart card, ID card, credit card, passport, drivers license or
other form of possession based or knowledge based identification.
Our advanced BIO-key(TM) identification technology improves both the
accuracy and speed of finger-based biometrics and is the only finger
identification algorithm that has been certified by the International Computer
Security Association. Our proprietary biometric technology scans a person's
fingerprint and identifies a person, typically within a few seconds, without the
use of any other identifying data. We believe our fingerprint identification
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technology will have a broad range of possible applications relating to
information security and access control, including:
o Securing Internet sites and electronic transactions
o Securing access to logical networks and applications
o Securing access to buildings and restricted areas
o Securing mobile devices such as cell phones and PDA's
Our current business plan is to:
o License our core technology "VST" to original equipment
manufacturers, systems integrators and application developers
to develop products and applications which utilize our core
technology.
o License WEB-keyTM, our web-based biometric authentication
solution.
o Provide for "device independent" finger identification
matching for virtually any application utilizing the latest
advances in scanning technology
We actively market and sell our technology principally to biometric
system integrators and value added resellers focused on the security and logical
access markets. A number of our customers have begun to deploy our technology on
a run-time basis which is generating recurring quarterly revenues. After years
of technology and product development, we have evolved from a development stage
company to a revenue generating company.
MARKET OVERVIEW
Recent concerns relating to Homeland Security and the need for
identification of individuals has resulted in an increased interest in
biometrics. Biometric based solutions currently compete with more traditional
security methods such as keys, cards, personal identification numbers and
security personnel, as well as competing biometric technologies including voice,
face, iris and hand geometry. The market for business-to-business and
business-to-consumer transactions is substantial and continues to grow. Such
transactions are subject to fraud resulting in unauthorized individuals gaining
access to confidential information. Identity theft is one of the most pressing
issues facing corporations today. We believe our biometric technology provides a
more reliable method for confirming the identity of persons in local or remote
locations than existing traditional methods.
Biometric technology is becoming an acceptable approach to physical and
logical security. Acceptance of biometrics as an alternative to traditional
security methods depends upon a number of factors including:
o The reliability of biometric solutions
o Public perception regarding privacy concerns
o Costs involved in adopting and integrating biometric solutions
Commercial markets have been slow to accept biometrics as a viable alternative
to current security methods. As a result, the primary competition for biometric
technology has been the
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traditional security methods described above. With respect to competing
biometrics, each has its strength and weaknesses and none has emerged as a
market leader. Fingerprint identification is generally viewed as inexpensive and
non-intrusive. Iris scanning is viewed as accurate, but also as inconvenient to
use and expensive. Facial recognition has recently received substantial
attention, however, it suffers from accuracy limitations. In summary, the market
for biometric technology is evolving.
TECHNOLOGY
We have developed proprietary fingerprint identification technology
consisting of:
o VST(TM) (Vector Segment Technology), our patent pending core
algorithm which creates a mathematical representation of a
fingerprint based on its particular characteristics.
o Software which translates and standardizes the image of the
fingerprint for computer analysis ("Biometric Solution").
o SDK (Developers Tool Kit), a biometric application development
tool which facilitates integration of our technology for
vertical market applications.
Utilizing these technologies, we continue to develop identification
products and software solutions which are designed to assure that only
individuals comprising an approved fingerprint in an online or embedded database
are allowed access to an application through real time authentication.
Vector Segment Technology. Our information technology security
solutions are built around our patent pending VST(TM) (Vector Segment
Technology) which processes features of a live fingerprint. These features are
reduced to a mathematical representation unique to the individual. When a person
seeking access to a computer network or restricted area places his or her finger
on a reader, a new mathematical representation is generated which is compared to
an on-line database to determine whether it matches any mathematical
representation on file. If there is a match, the person is identified and given
access to the application, computer network, Web Site or restricted area. This
can be accomplished without the use of a key, password, user-Id, card, PIN or
token. The actual fingerprint is not typically stored in the database for
commercial applications. For a more complete description of VST, see "CURRENT
OFFERINGS" below.
De-coupling of Technologies. Over the years we have modified our core
Vector Segment Technology by de-coupling the core identification algorithm from
the reader technology. Our finger identification technology is hardware
independent and can be integrated with virtually any finger reading devise.
Enrollments or capture of an individual's biometric identification can be done
on one type of scanner and looked-up or identified for a match on another type
of scanner. This capability is unique in the biometric market and allows our
software to be used and integrated with almost any finger scanning hardware.
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Identification Verses Verification Technology. We believe our Vector
Segment Technology is superior to similar technologies utilized by our
competitors. Unlike many of the biometric technologies currently available, our
technology identifies the fingerprint of an unknown person by searching a
database to determine whether the current scanned mathematical representation
matches any previously stored mathematical representation. Most of our
fingerprint competitors simply verify that the fingerprint image of a known
person matches a previously stored copy or model of that individual's
fingerprint. By their very nature, such verification systems require an
additional item of data such as a PIN or access card to initially identify the
user. Verification systems do not eliminate the need for cumbersome access
cards, keys or PIN numbers and the administrative costs associated with the
distribution and replacement of such data. By contrast, our identification
technology typically does not require any identifying data other than a person's
fingerprint. We believe this provides us with a meaningful competitive advantage
in the marketplace.
CURRENT OFFERINGS
The following is a description of the status of each of our current
offerings.
VST (Vector Segment Technology) SDK (Systems Developer Kit). Our SDK is
a means of delivering our patent-pending finger identification algorithm, called
Vector Segment Technology (VST), as an integrated software into existing and new
applications. The VST SDK is a software kit licensed to original equipment
manufacturers, systems integrators and application developers for the purpose of
permitting them to develop biometric applications for distribution to their
respective customers.
The VST SDK improves both the accuracy and speed of fingerprint-based
security systems. Traditional fingerprint analysis classifies fingerprints by
mapping their MINUTIAE REFERENCE POINTS--distinct features in specific
locations. Most automated fingerprint identification systems create a template
of these minutiae reference points and uses it as the basis for comparison and
verification. However, strictly minutiae-based templates cannot achieve a high
level of differentiation, making them unsuitable for real-time identification
applications. To achieve rapid verification, they often compromise on detail,
supplementing the fingerprint template with a user ID or password. This enables
quick one-to-one matching, but not true identification. VST transcends the
conflict between differentiation and speed by mapping the fingerprint in an
entirely new way. Instead of focusing on minutiae point coordinates, VST also
analyzes the vector segment relationships in the entire fingerprint pattern. The
result is a highly informative representation of the finger packaged as a
mathematical model.
Unlike other algorithms, VST processes hundreds of data relationships
for each element in the finger model. Because this data is concisely expressed,
VST makes it possible to rapidly identify people based on their finger alone,
without a user ID, password or smart card. This allows for the true
identification of users, not just verifying the identity of a known user. No
security system can achieve total security as long as a user's identifying data
can be stolen or duplicated. Whereas a user ID, a password or even a scanned
fingerprint image can be stolen, the mathematical model produced by VST can not.
Once a finger is scanned and converted to a
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VST mathematical model, the scanned image is destroyed. All that remains is a
mathematical model that cannot be decoded to obtain the original fingerprint
image.
WEB-key(TM). WEB-key is a biometric identification/authentication
software solution designed to secure Web based applications through the use of a
Web based browser plug-in and a server side plug-in. WEB-key is designed to
provide security and identification assuring that a remote user is in fact who
they say they are without the need of other identifying data. WEB-key protects
personal information such as credit card information, addresses, account numbers
and other private data by only disseminating such information upon the
authorization of the owner of such information as determined by such person's
fingerprint.
WEB-key is an Internet ready three-tiered Internet application
architecture software security solution. We license WEB-key(TM) as an integrated
solution of our VST algorithm for securing e-commerce, e-business, and web-based
transaction applications. All WEB-key communication is triple-encrypted to
prevent secure information from being intercepted over the Internet. Using
WEB-key's browser plug-in, users enroll finger identification at a WEB-key
enabled Web site from their own PC. After enrollment, WEB-key requests finger
identification every time a user begins a secure session. WEB-key's interface
guides users through the few steps necessary to gain an accurate finger
identification. The entire identification process takes less time than typing a
user ID and password.
The Web based server authentication application is an integrated
solution involving the distribution of readers and the licensing of client and
server based software to provide for reliable and cost effective user
authentication in connection with the processing of transactions over the
Internet. This solution is intended to secure other Internet applications such
as restricting access to specific Web pages, specific information contained on a
Web-site or specific applications. We believe we have the opportunity to be the
first supplier of a reliable electronic identification and authorization
solution which operates effectively without the aid of a personal identification
number or password supplied by the user.
Architecture. WEB-key provides an easy-to-use and secure method for
granting users access via the Internet to proprietary information residing on
remote servers.
WEB-key consists of three basic components:
o finger print scanner
o Vector Segment Technology processing software tightly and
securely integrated with a web browser
o identification database residing on a web server
The user simply logs-on a computer or application residing on a
computer using their fingerprint. WEB-key processes a raster scan image which is
enhanced using WEB-key software integrated into the web browser. The image
enhancing employs a variety of proprietary techniques to improve accuracy and
protect against spoofing. The WEB-key software then converts the enhanced image
into a unique mathematical representation of the fingerprint using Vector
Segment Technology. An encrypted print model is generated for transmission
across the Internet to the central WEB-key registry. The WEB-key web server
de-encrypts the
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mathematical model which operates as an index key for searching the database for
a match. The web server matches the Vector Segment Technology BIO-key against a
database of registered users to obtain a match. If a match is found, the user is
allowed access to the protected content on a connected web server.
WEB-key provides a reliable and secure user authentication solution.
WEB-key takes advantage of new security features in Microsoft's Internet
Explorer versions 5.5 SP2 and 6.0, in addition to 1024 bit enhanced encryption
capabilities integrated with public/private key pairs. WEB-key has also been
integrated with Oracle9iRAC and 10g which offers advanced speed, scalability,
and reliance to WEB-key's database tier. Additional tools and software based on
VST technology are under development.
We do not currently manufacture any hardware and do not intend to in
the future. We rely on OEMs, systems integrators and other licensees of our
software to supply the necessary hardware, including optical readers. We have
relationships with hardware manufacturers which enable us to supply readers as
an integrated solution when necessary. Our technology includes proprietary open
architecture communication software which allows virtually any reader to be
integrated with our technology. Our software has been integrated with readers
manufactured by Polaroid, Authentec, Ethentica, CrossMatch, ST Micro, Secugen,
Fujitsu, TesTec, Silex, StarTek, Targus, and other independent manufactures.
POTENTIAL MARKET
The growth of electronic fingerprint identification will be driven by
the need for secure access to private applications and proprietary databases
residing on both private and public network infrastructures. The scope of these
opportunities include:
o corporations that increasingly rely upon the exchange and
distribution of proprietary information among staff using
intranet or other private networks
o business-to-business e-commerce among trading partners which
share confidential information on a secure basis
o business-to-consumer e-commerce where the e-commerce service
provider wants to restrict access to paying subscribers
o Government Regulations such as HIPPA and Gram Leach Bliley
which are forcing the sucure management of user identities
o Application software providers that require secure access to
applications such as Single Sign On, HR, ERP, Point of Sale,
Check Cashing, and Medical Records
Although electronic commerce has many benefits, the geographical
separation of buyers from sellers creates a significant problem arising from the
opportunity for fraud. Firewall and encryption software address important
aspects of security but do not address the fraud problem inherent in the
potential anonymity of a remote user. Corporate intranets are an equally
attractive and compelling market. Corporations increasingly rely upon intranet
infrastructure for the dissemination of proprietary business data throughout an
organization. Since access rights to
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different classes of data vary among employees, password identification and
authorization is integral to all corporate networks.
The current solution to these issues is the association of passwords
and PIN numbers with individuals. This solution requires employees or users to
remember or retain a growing number of keys cards, passwords and PIN numbers and
employers or Internet companies to periodically change passwords and PIN numbers
to maintain their integrity. Since such information can be stolen or shared,
they provide no assurance that the user is actually who they claim to be.
WEB-key has been designed to address each of these concerns. We believe that
augmenting or replaceing traditional passwords presents a substantial market
opportunity. Our technology could virtually replace and eliminate the need for
passwords and the associated administrative costs while providing a higher
assurance of identity security and user convenience. Government,
aviation/transportation and enterprise security present significant additional
opportunities.
MARKETING AND DISTRIBUTION
Our marketing and distribution efforts consist of:
o Developing strategic alliances with technology leaders such as
Oracle, Netegrity, Hewlitt Packard, Autodesk and others
o Promoting biometric technology and our offerings through
industry trade shows, public speaking engagements, press
activities and partner marketing programs
o Directing licensing efforts to, among others, original
equipment manufacturers ("OEMs"), application developers and
system integrators.
o Building a reseller, integrator, partner network and a direct
sales team
Direct Selling Efforts. Our current selling efforts are conducted
primarily through our expanded direct sales organization. Our sales team
consists of our vice president of sales, three area sales directors, a business
integration manager to support sales efforts with partners, ISV's, OEM's and the
indirect channel, and a senior sales support representative to support all
direct and indirect sales campaigns.
Strategic Alliances and Partnerships. We attend and actively
participate in various product conferences and conventions in the technology and
security industries to generate market awareness of biometric technology
generally, and our offerings specifically. During the past year, we have
strengthened our alliance with Oracle having been recognized as Certified
Partner in the Oracle Partner Network. We support the Oracle e-business suite of
applications and provide the biometric enabler for the Oracle Single Sign on
product. We are a development partner with Oracle which provides the underlying
database used for true user identification and "on demand" alias checking. As a
development partner, we participate in Oracle Trade Shows such as Oracle Open
World and Oracle Apps World.
We have formed alliances with other industry leaders. We are a Premier
Partner of Netegrity, a leader in the identity management, whose
[LOGON/IDENTITY] technology is used by over 800 corporate accounts with over 2.5
million users. We have developed a biometric
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interface allowing users of Netegrity to enhance the traditional methods of user
identification, which we intend to aggressively market through the Netegrity
Partner and Integrator Network. We are also working with Choicepoint, a leader
in civil identification and background checks, to thwart identity theft in the
commercial marketplace. One solution being deployed is a check cashing
application where individuals would use fingerprint biometrics to truly verify
that they are the individual carrying the credentials and authorized to conduct
the transaction. Other solutions utilizing the strength of Choicepoint products
and services are currently being developed.
Public and Private Sector. The events of September 11th have heightened
the need for securing data dissemination throughout and between government
agencies and automating the positive identification of personnel. We believe our
finger identification technology coupled with the capabilities of our alliance
partners are the most advanced solutions capable of meeting these needs. In this
regard, we were recently awarded a contract to ensure the secure access,
transmission and retrieval of critical government and public sector information.
We are also working with the National Sheriff's Association and the Pegasus
Research Foundation to provide biometric authentication for secure sharing of
critical data to Sheriff's offices and first responders across the country. We
expect the initial rollout to grow from the initial 220 Sheriff's locations.
Licensing. We target both Internet infrastructure companies and large
portal providers as licensees of our WEB-Key solution. On the Internet
infrastructure side, we seek to partner with Internet server manufacturers,
providers of database and data warehouse engine software, horizontally
positioned application engines, firewall solution providers and peripheral
equipment manufacturers. On the portal side, we are targeting financial service
providers such as credit and debit card authorization and issuing institutions,
Internet retailers, business-to-business application service providers (ASPs)
and corporate intranets. During 2003, we commenced a direct selling effort of
WEB-key and VST and entered into license agreements with OEMs and system
integrators to develop applications for distribution to their respective
customers. We expect to continue to generate revenue during the remainder of
2004 from existing and new customer relationships.
We are also addressing the security needs of application providers in
the following vertical markets:
o Government: Northup Grumann has deployed a pilot within the
Department of Defense to cross credential visitors and
contractors to certain military bases using our technology.
o Education: Educational Biometrics has incorporated our
technology to enable school children to pay for school lunch
programs and checkout library books using their fingerprints.
VST technology enabled Educational Biometrics to easily enroll
these children and reduce the time students spend in lunch
line and administrative costs of managing passwords and
collecting payments.
o Healthcare: Biometric Technologies, a licensee in South
Africa, is utilizing our technology to minimize fraud for
health service providers.
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The integration of our biometric solution to truly identify
individuals presenting insurance cards will reduce losses due
to identity fraud.
o Financial: We are working with several partners focusing on
financial applications such as check cashing, point of sale
systems and employee trusted identification cards, as well as
customer facing applications over the internet.
COMPETITION
The markets for our products and technologies are developing and are
characterized by intense competition and rapid technological change. No
assurance can be given that our competitors will not develop new or enhanced
technologies that will offer superior price, performance or function features or
render our products or technologies obsolete.
In addition to existing commonplace methods of restricting access to
facilities such as pass cards, PIN numbers, passwords, locks and keys, there are
numerous companies involved in the development, manufacture and marketing of
fingerprint biometrics products to government, law enforcement and prison
markets. These companies include, but are not limited to, PRINTRAK
International, IDENTIX, and Bioscript
Most current automated fingerprint identification product sales have
been for government and law enforcement applications, which are typically priced
higher than our products and licensing arrangements. Although most companies
targeting consumer application markets have completed the development of their
products, biometric products and technologies have not been widely accepted in
the commercial markets. Most companies competing for commercial opportunities
are in the business of selling scanning devices and tie their algorithm to a
specific device. We have created a "device independent" algorithm that provides
for flexibility in choosing the correct device, optical or tactile sense to fit
the application served.
With current non-biometric technologies, the user must typically
possess a key, card, or bit of information such as a PIN number or password.
These systems are easily defeated by obtaining possession of the key, card, or
password, or by counterfeiting the key or card. The Company's biometric
technology is intended to replace such systems and substantially reduce the
related security breaches. Although biometric based "verification" systems can
identify a person and prevent unauthorized persons from entering into a
restricted area, such systems do not eliminate the need for PIN numbers, cards,
keys or tokens. By contrast, our identification technology typically does not
require the use of any such additional identifier other than the person's
fingerprint and "identifies" rather than "verifies" the subject. We believe that
such end-user convenience creates a meaningful competitive advantage for the
Company. There can be no assurance, however, that our competitors will not
develop similar or superior "identification" technology, which could have a
material adverse effect on our financial condition and results of operation. We
will also be competing for market share with other biometric technologies
including hand geometry, iris scanning, retinal scanning, and signature
verification, as well as existing lock/security/card technology.
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INTELLECTUAL PROPERTY RIGHTS
Our technology consists of knowledge and information relating to
computer software and methods, which is used to create an automated process of
capturing, processing, analysis and matching of a fingerprint for authorization
purposes. Matching can be performed against existing databases or individual
samples. We have patent application claims on our algorithm technologies, called
Vector Segment Technology, our authentication solutions security framework,
called WEB-key, our trusted device communication methodologies, and our secure
template processes. There can be no assurance that any patents will be issued,
or that, if issued, we will have the resources to protect any such issued patent
infringement. Although we believe that its technology does not infringe upon
patents held by others, no assurance can be given that such infringements do not
exist.
Our technology consists of software. We take measures to ensure
copyright and license protection for our software releases prior to
distribution. Where possible, the software is licensed in an attempt to ensure
that only licensed and activated software functions to its full potential. This
provides a mechanism to combat cloning of products.
We believe we have developed common law trademark rights in the terms
SACman(tm), SACcat(tm), SACremote(tm), BIO-key(tm), True User
Identification(tm), and WEB-key and have filed federal trademark applications.
We do not claim any additional trademarks.
RESEARCH AND DEVELOPMENT
During fiscal years ended December 31, 2002 and 2003, we spent
approximately $1,085,000 and approximately $1,037,000, respectively, on research
and development. Our limited customer base did not directly bear these costs,
which were principally funded through outside sources of equity and debt
financing.
Although we believe that our identification technology is one of the
most advanced and discriminating fingerprint technologies available on the
market today, the markets in which we compete are characterized by rapid
technological change and evolving standards. In order to maintain our position
in the market, we will continue to upgrade and refine our existing technologies.
During 2004, our research and development effort will be focused on the
continued evolution of our Web based authentication solution, furthering the VST
algorithm, SDK and Web-key. Our goal is to provide a full identification
solution enabling the identification of individuals with a single finger scan,
to a population of 1,000,000 prints on a standard Oracle platform in less than
five seconds.
GOVERNMENT REGULATION
We are not currently subject to direct regulation by any government
agency, other than regulations generally applicable to businesses. However, in
the event of any international sales, we would likely be subject to various
domestic and foreign laws regulating such exports and export activities.
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ENVIRONMENTAL REGULATION
As of the date of this Report, we have not incurred any material
expenses relating to the compliance with federal, state or local environmental
laws and do not expect to incur any material expenses in the foreseeable future.
EMPLOYEES AND CONSULTANTS
We currently employ sixteen (16) individuals on a full-time basis;
seven (7) in engineering, research and development, three (3) in finance and
administration and six (6) in sales and marketing. We also utilize four (4)
consultants who provide engineering and technical services and two (2) who
provide financial consulting services. We anticipate retaining additional sales
and marketing personnel within the next twelve (12) months to execute our
business plan.
RISK FACTORS
The following material risk factors, among others, may affect the
Company's financial condition and results of operations.
BUSINESS AND FINANCIAL RISKS
BASED ON OUR LACK OF SIGNIFICANT REVENUE SINCE INCEPTION, RECURRING
LOSSES FROM OPERATIONS AND A STOCKHOLDERS' DEFICIT, OUR AUDITORS HAVE INCLUDED
AN EXPLANATORY PARAGRAPH IN THEIR OPINION AS TO THE SUBSTANTIAL DOUBT ABOUT OUR
ABILITY TO CONTINUE AS A GOING CONCERN.
We have met our working capital requirements through financing
transactions involving the public or private placement of our securities. We do
not expect our current working capital to support our operations through
December 2004 and we are in need of substantial additional capital to fund
operations. Since our inception, we have not generated any significant revenue
and have experienced substantial losses, including approximately $3,826,000
during 2003. We also have a stockholders' deficit as of December 31, 2003. As a
result of these factors, our independent auditors have included an explanatory
paragraph in their opinion for the year ended December 31, 2003 as to the
substantial doubt about our ability to continue as a going concern. Our
financial statements have been prepared in accordance with accounting principals
generally accepted in the United States, which contemplate that we will continue
to operate as a going concern. Our financial statements do not contain any
adjustments that might result if we are unable to continue as a going concern.
SINCE OUR FORMATION, WE HAVE GENERATED MINIMAL REVENUE AND HAVE
SUSTAINED SUBSTANTIAL OPERATING LOSSES. WE EXPECT TO CONTINUE TO HAVE NEGATIVE
CASH FLOW FOR THE IMMEDIATE FUTURE WHICH WILL REQUIRE US TO RAISE ADDITIONAL
CAPITAL TO CONTINUE OPERATIONS.
We were formed in 1993 and have yet to generate any significant
revenue. From inception through December 31, 2003, we have accumulated a deficit
of approximately $27,676,000 and negative cash flow from operations of
approximately $19,038,000. As of
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December 31, 2003, we had positive working capital of approximately $1,085,000,
but a stockholders' deficit of approximately $9,136,000. Since our inception, we
have focused almost exclusively on developing our core technology and have not
generated any significant revenue. In order to generate revenue, we have
developed a direct sales force and anticipate the need to retain additional
sales, marketing and technical support personnel and incur substantial expenses.
We can not assure you that we will be able to secure these necessary resources,
that a significant market for our technology will develop or that we will be
able to achieve our targeted revenue. For these reasons, we anticipate that our
negative cash flow will continue.
WE NEED SUBSTANTIAL ADDITIONAL FINANCING TO EXECUTE OUR BUSINESS PLAN
WHICH MAY NOT BE AVAILABLE. IF WE ARE UNABLE TO RAISE ADDITIONAL CAPITAL OR
GENERATE SIGNIFICANT REVENUE, WE MAY NOT BE ABLE TO CONTINUE OPERATIONS BEYOND
2004.
We need substantial additional capital to expand our marketing and
sales efforts. Our current resources are insufficient to fund operations beyond
2004. We believe we need an additional $3,600,000 to support operations for the
next 12 months and an additional $5,000,000 to $8,000,000 to execute our
business plan to substantially increase revenue. For these reasons, we are
currently seeking to obtain additional financing through the issuance of debt or
equity securities on a negotiated private placement basis with institutional and
accredited investors. We have not and cannot assure you that we will ever be
able to secure any such financing on terms acceptable to us. If we cannot obtain
such financing or generate such revenues, we will not be able to execute our
business plan or continue operations.
OUR TECHNOLOGY HAS YET TO GAIN WIDESPREAD MARKET ACCEPTANCE AND WE DO
NOT KNOW HOW LARGE OF A MARKET WILL DEVELOP FOR OUR TECHNOLOGY.
Biometric technology has received only limited market acceptance,
particularly in the private sector. Our technology represents a novel security
solution and we have not generated any significant sales. Although recent
security concerns relating to identification of individuals has increased
interest in biometrics generally, it remains an undeveloped, evolving market.
Biometric based solutions compete with more traditional security methods
including keys, cards, personal identification numbers and security personnel.
Acceptance of biometrics as an alternative to such traditional methods depends
upon a number of factors including:
o the reliability of biometric solutions
o public perception regarding privacy concerns
o costs involved in adopting and integrating biometric solutions
For these reasons, we are uncertain whether our technology will gain
widespread acceptance in any commercial markets or that demand will be
sufficient to create a market large enough to produce significant revenue or
earnings. Our future success depends upon business customers adopting biometrics
generally, and our solution specifically.
BIOMETRIC TECHNOLOGY IS A NEW APPROACH TO INTERNET SECURITY WHICH MUST
BE ACCEPTED IN ORDER FOR OUR WEB-KEY(TM) SOLUTION TO GENERATE SIGNIFICANT
REVENUE.
12
Our Web-key(TM) authentication initiative represents a new approach to
Internet security which has been adopted on a limited basis by companies which
distribute goods, content or software applications over the Internet. The
implementation of our WEB-Key(TM) solution requires the distribution and use of
a finger scanning device and integration of database and server side software.
Although we believe our solution provides a higher level of security for
information transmitted over the Internet than existing traditional methods,
unless business and consumer markets embrace the use of a scanning device and
believe the benefits of increased accuracy outweigh implementation costs, our
solution will not gain market acceptance.
OUR SOFTWARE MAY CONTAIN DEFECTS WHICH WILL MAKE IT MORE DIFFICULT FOR
US TO ESTABLISH AND MAINTAIN CUSTOMERS.
Although we have completed the development of our core technology, it
has only been used by a limited number of business customers. Despite extensive
testing during development, our software may contain undetected design faults
and software errors, or "bugs" that are discovered only after it has been
installed and used by customers. Any such default or error in new or existing
software or applications could cause delays in delivering our technology or
require design modifications. These could adversely affect our competitive
position and cause us to lose potential customers or opportunities. Since our
technology is intended to be utilized to secure physical and electronic access,
the effect of any such bugs or delays will likely have a detrimental impact on
us. In addition, given that biometric technology generally, and our technology
specifically, has yet to gain widespread acceptance in the market, any delays
would likely have a more detrimental impact on our business than if we were a
more established company.
While we have commenced a significant sales and marketing effort, we
have only developed a limited distribution channel and may not have the
resources or ability to sustain these efforts or generate any meaningful sales.
IN ORDER TO GENERATE REVENUE, WE ARE DEPENDENT UPON INDEPENDENT
ORIGINAL EQUIPMENT MANUFACTURERS, SYSTEM INTEGRATORS AND APPLICATION DEVELOPERS
WHICH WE DO NOT CONTROL. AS A RESULT, IT MAY BE MORE DIFFICULT TO GENERATE
SALES.
We market our technology through licensing arrangements with:
o Original equipment manufacturers, system integrators and
application developers which develop and market products and
applications which can then be sold to end users
o Companies which distribute goods, services or software
applications over the Internet
As a technology licensing company, our success will depend upon the
ability of these manufacturers and developers to effectively integrate our
technology into products and services which they market and sell. We have no
control over these licensees and can not assure you that they have the
financial, marketing or technical resources to successfully develop and
distribute
13
products or applications acceptable to end users or generate any meaningful
revenue for us. These third parties may also offer the products of our
competitors to end users.
WE FACE INTENSE COMPETITION AND MAY NOT HAVE THE FINANCIAL AND HUMAN
RESOURCES NECESSARY TO KEEP UP WITH RAPID TECHNOLOGICAL CHANGES WHICH MAY RESULT
IN OUR TECHNOLOGY BECOMING OBSOLETE.
The Internet, facility access control and information security markets
are subject to rapid technological change and intense competition. We compete
with both established biometric companies and a significant number of startup
enterprises as well as providers of more traditional methods of access control.
Most of our competitors have substantially greater financial and marketing
resources than we do and may independently develop superior technologies which
may result in our technology becoming less competitive or obsolete. We may not
be able to keep pace with this change. If we are unable to develop new
applications or enhance our existing technology in a timely manner in response
to technological changes, we will be unable to compete in our chosen markets. In
addition, if one or more other biometric technologies such as voice, face, iris,
hand geometry or blood vessel recognition is widely adopted, it would
significantly reduce the potential market for our fingerprint identification
technology.
WE DEPEND ON OUR CHAIRMAN OF THE BOARD AND CHIEF EXECUTIVE OFFICER AND
NEED ADDITIONAL MARKETING AND TECHNICAL PERSONNEL TO SUCCESSFULLY MARKET OUR
TECHNOLOGY. WE CAN NOT ASSURE YOU THAT WE WILL BE ABLE TO RETAIN OR ATTRACT SUCH
PERSONS.
A loss of our current Chairman of the Board of Directors or Chief
Executive Officer could severely and negatively impact our operations. We have
an employment contract with Michael W. DePasquale, our Chief Executive Officer.
Although the contract does not prevent him from resigning, it does contain
confidentiality and non-compete clauses which are intended to prevent him from
working for a competitor within one year after leaving our Company. We continue
to retain additional employees with expertise in developing, marketing and
selling software solutions. In order to successfully market our technology, we
will need to retain additional engineering, technical support and marketing
personnel. The market for such persons remains highly competitive and our
limited financial resources will make it more difficult for us to recruit and
retain qualified persons.
WE CAN NOT ASSURE YOU THAT THE LIMITED INTELLECTUAL PROPERTY PROTECTION
FOR OUR CORE TECHNOLOGY PROVIDES A MEANINGFUL COMPETITIVE ADVANTAGE OR BARRIER
TO ENTRY AGAINST OUR COMPETITORS.
Our success and ability to compete is dependent in part upon
proprietary rights to our technology. We rely primarily on a combination of
patent, copyright and trademark laws, trade secrets and technical measures to
protect our propriety rights. We have filed a patent application relating to
both the optic technology and biometrics solution components of our technology
wherein several claims have been allowed. More recently, we filed a patent
application with respect to our VST(TM) (Vector Segment Technology), the core
algorithm of our biometric identification solution. We can not assure you that
any patents will be issued, or that, if issued, that we will have the resources
to protect any patent from infringement. Although we believe our technology does
not currently infringe upon patents held by others, we can not assure you
14
that such infringements do not exist or will not exist in the future,
particularly as the number of products and competitors in the biometric industry
segment grows.
RISKS RELATED TO OUR COMMON STOCK
WE HAVE ISSUED A SUBSTANTIAL NUMBER OF SECURITIES CONVERTIBLE INTO
SHARES OF OUR COMMON STOCK WHICH WILL RESULT IN SUBSTANTIAL DILUTION TO THE
OWNERSHIP INTERESTS OF OUR EXISTING SHAREHOLDERS.
As of March 23, 2004, 23,351,338 shares of our common stock were
reserved for issuance upon exercise or conversion of the following securities:
o 10,401,731 upon exercise of outstanding stock options and
warrants.
o 799,208 shares upon exercise of options available for future
grant under our existing option plans.
o 2,933,333 shares upon conversion of our secured convertible
notes due October 1, 2005.
o 8,666,666 shares or more upon conversion of our outstanding
shares of series C convertible preferred stock.
o 550,400 or more shares upon conversion of our outstanding
shares of series B convertible preferred stock.
The exercise or conversion of these securities will result in a
significant increase in the number of outstanding shares and substantially
dilute the ownership interests of our existing shareholders.
A SUBSTANTIAL NUMBER OF OUR CONVERTIBLE SECURITIES ARE CONVERTIBLE INTO
SHARES OF COMMON STOCK AT A CONVERSION PRICE OF $.75 PER SHARE. MOST OF THESE
SHARES ARE ELIGIBLE FOR PUBLIC RESALE. THE TRADING PRICE OF OUR COMMON STOCK AND
OUR ABILITY TO RAISE ADDITIONAL FINANCING MAY BE ADVERSELY EFFECTED BY THE
INFLUX INTO THE MARKET OF SUCH A SUBSTANTIAL NUMBER OF SHARES.
Our outstanding convertible preferred stock and notes are convertible
into 12,150,399 shares of common stock at a per share conversion price of $.75
which is substantially less than the current trading price of our shares.
Although many of the shares issuable upon conversion of our convertible
securities are eligible for public resale under Securities Exchange Commission
Rule 144, we have agreed to file a registration statement to cover the public
resale of all of these shares. This significant increase in the number of shares
available for public sale may have a negative impact on the trading price of our
shares and substantially dilute the ownership interests of our existing
shareholders. In the event that our stock trades below $.75 per share, in order
to raise additional financing we would likely be required to issue additional
shares of common stock or securities convertible into common stock at a purchase
or conversion price, as applicable, of less than $.75 per share. Any issuance of
shares at a purchase price of less than $.75 per share would reduce the
conversion price of our series C preferred shares to such lower price. This
would require us to issue additional shares upon conversion of our series C
preferred shares and further dilute the ownership interests of our existing
shareholders. To the extent these factors are viewed negatively by the market,
it may provide an incentive for persons
15
to execute short sales of our common stock that could adversely affect the
trading price of our common stock.
APPLICABLE SEC RULES GOVERNING THE TRADING OF "PENNY STOCKS" LIMITS THE
TRADING AND LIQUIDITY OF OUR COMMON STOCK WHICH MAY AFFECT THE TRADING PRICE OF
OUR COMMON STOCK.
Our common stock currently trades on the OTC Bulletin Board. Since our
common stock continues to trade below $5.00 per share, our common stock is
considered a "penny stock" and is subject to SEC rules and regulations which
impose limitations upon the manner in which our shares can be publicly traded.
These regulations require the delivery, prior to any transaction involving a
penny stock, of a disclosure schedule explaining the penny stock market and the
associated risks. Under these regulations, certain brokers who recommend such
securities to persons other than established customers or certain accredited
investors must make a special written suitability determination regarding such a
purchaser and receive such purchaser's written agreement to a transaction prior
to sale. These regulations have the effect of limiting the trading activity of
our common stock and reducing the liquidity of an investment in our common
stock.
WE DO NOT INTEND TO PAY DIVIDENDS IN THE FORESEEABLE FUTURE.
We have never declared or paid a dividend on our common stock. In
addition, the terms of our outstanding series C preferred shares preclude us
from declaring or paying a dividend on our common stock unless a dividend is
also declared or paid, as applicable, on our series C preferred shares. We
intend to retain earnings, if any, for use in the operation and expansion of our
business and, therefore, do not anticipate paying any dividends on our common
stock in the foreseeable future.
THE TRADING PRICE OF OUR COMMON STOCK MAY BE VOLATILE.
The trading price of our shares has from time to time fluctuated widely
and in the future may be subject to similar fluctuations. The trading price may
be affected by a number of factors including the risk factors set forth in this
Report as well as our operating results, financial condition, announcements of
innovations or new products by us or our competitors, general conditions in the
biometrics and access control industries, and other events or factors. Although
we believe that approximately 15 registered broker dealers currently make a
market in our common stock, we can not assure you that any of these firms will
continue to serve as market makers or have the financial capability to stabilize
or support our common stock. A reduction in the number of market makers or the
financial capability of any of these market makers could also result in a
decrease in the trading volume of and price of our shares. In recent years broad
stock market indices, in general, and the securities of technology companies, in
particular, have experienced substantial price fluctuations. Such broad market
fluctuations may adversely affect the future-trading price of our common stock.
16
MINNESOTA ANTI-TAKEOVER LAW AND CERTAIN PROVISIONS OF OUR ARTICLES OF
INCORPORATION MAY DISCOURAGE ATTEMPTS TO EFFECT A CHANGE IN CONTROL OF OUR
COMPANY, WHICH MAY ADVERSELY AFFECT THE VALUE OF OUR COMMON STOCK.
We are governed by the provisions of Section 302A.673 of the Minnesota
Business Corporation Act ("MBCA"). In general, the law prohibits a public
Minnesota corporation from engaging in a "business combination" (with an
"interested shareholder") for a period of four years after the date of the
transaction in which the person became an interested shareholder, unless the
business combination is approved in a prescribed manner. "Business Combination"
includes mergers, share exchanges, asset sales, plan or proposal of liquidation
or dissolution, recapitalization, issuance and transfers of shares in excess of
5% or more of the Company's shares. "Interested Shareholder" means any person
who owns directly or indirectly 10% or more of a public corporation's
outstanding voting stock or an affiliate or associate of a public corporation
which owns, or within four years did own, 10% or more of the public
corporation's outstanding voting stock. These provisions regarding certain
business combinations under the MBCA could have the effect of delaying,
deferring, or preventing a change in control of the company or the removal of
existing management. We have no control over, and therefore cannot predict, what
effect these impediments to the ability of third parties to acquire control of
us might have on the market price of our common stock. In addition, we are
authorized to issue 5,000,000 shares of preferred stock which may be issued by
our Board of Directors on such terms and with such rights, preferences and
designations as the Board may determine. Depending upon the rights, preferences
and designations assigned to it, issuance of shares of preferred stock could
delay, deter or prevent a change in control of our company to the detriment of
our shareholders.
ITEM 2. DESCRIPTION OF PROPERTY
We do not own any real estate. We conduct operations from leased
premises in Eagan, Minnesota. We lease approximately 6,000 square feet of space
at 1285 Corporate Center Drive, Suite No. 175 under a four-year lease, which
terminates on August 31, 2007 and currently provides for monthly rent of $2,842.
We believe that its current facility is adequate for the foreseeable future.
ITEM 3. LEGAL PROCEEDINGS
We are is not a party to any material pending legal proceeding nor are
we aware of any proceeding contemplated by any governmental authority involving
the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
17
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock currently trades on the OTC Bulletin Board under the
symbol "BKYI". The following table sets forth the range of high and low bid
prices per share of our common stock for each of the calendar quarters
identified below as reported by the OTC Bulletin Board. These quotations
represent inter-dealer prices, without retail mark-up, markdown or commission,
and may not represent actual transactions.
2003: HIGH LOW
---- ---- ---
Quarter ended December 31, 2003 $1.40 $.53
Quarter ended September 30, 2003 .59 .38
Quarter ended June 30, 2003 .64 .30
Quarter ended March 31, 2003 .73 .35
2002: HIGH LOW
---- ---- ---
Quarter ended December 31, 2002 $.74 $.33
Quarter ended September 30, 2002 .50 .26
Quarter ended June 30, 2002 .75 .38
Quarter ended March 31, 2002 1.20 .61
The last price of our common stock as reported on the OTC Bulletin
Board on March 23, 2004 was $1.55 per share.
HOLDERS
As of March 23, 2004 the number of stockholders of record of our common
stock was 175. Based on broker inquiry conducted in connection with the
distribution of proxy solicitation materials in connection with the Company's
special meeting of shareholders in 2002, we believe that there are approximately
1,900 beneficial owners of its common stock.
DIVIDENDS
We have not paid any cash dividends to date, and have no intention of
paying any cash dividends on our common stock in the foreseeable future. The
terms of our outstanding series C preferred shares preclude us from declaring or
paying a dividend on our common stock unless a dividend is also declared or
paid, as applicable, on our series C preferred shares. The declaration and
payment of dividends is also subject to the discretion of our Board of Directors
and certain limitations imposed under the Minnesota Business Corporation Act.
The timing, amount and form of dividends, if any, will depend on, among other
things, our results of operations, financial condition, cash requirements and
other factors deemed relevant by our Board of Directors.
18
RECENT SALES OF UNREGISTERED SECURITIES.
1. On October 31, 2003, we issued a Secured 7% Convertible Promissory
Note in the principal amount of up to $2,500,000 to The Shaar Fund Ltd. Upon
closing, we received cash proceeds of $600,000. The Purchase Agreement provides
for incremental monthly advances in the amount of $200,000 conditioned upon us
satisfying certain covenants. The Note was recently amended and currently
provides for the principal and accrued interest due under the Note to be
converted at the option of the holder into either common stock at a conversion
price of $.75 per share or series C convertible preferred stock at a conversion
price of $100 per share. The Note and accrued interest is due and payable on
October 1, 2005. The Note was issued to one accredited investor in a private
placement transaction exempt from the registration requirements of the
Securities Act of 1933, as amended, pursuant to Section 4(2) thereunder, without
payment of underwriting discounts or commissions to any person.
2. Between December 11, 2003 and March 2, 2004, we issued an aggregate
of 4,120,345 shares of common stock upon conversion of $2,538,938 principal
amount and $551,321 of accrued interest due under our Secured Convertible Note
dated November 26, 2001. The shares were issued in a private placement
transaction exempt from the registration requirements of the Securities Act of
1933, as amended, pursuant to Section 4(2) thereunder without payment of
underwriting discounts or commission to any person.
3. On March 3, 2004, we issued 65,000 shares of series C convertible
preferred stock to The Shaar Fund Ltd. in exchange for the cancellation of
$5,736,232 principal amount of outstanding convertible promissory notes and
$758,302 of accrued interest due therunder. The series C convertible preferred
are convertible at the option of the holder into common stock at a conversion
price of $.75 per share, subject to certain anti-dilution adjustments. The
securities were issued to one accredited investor in a private placement
transaction exempt from the registration requirements of the Securities Act of
1933, as amended, pursuant to Section 4(2) thereunder, without payment of
underwriting discounts or commissions to any person.
SERIES C CONVERTIBLE PREFERRED STOCK
In March 2004, we designated 100,000 shares of preferred stock as
Series C Convertible Preferred Stock (the "Series C Shares") of which 65,000 are
issued and outstanding. The Series C Shares accrue a cumulative annual dividend
of 7% on the $100 face amount of such shares payable June 15 and December 15
each year in shares of common stock. In the event of a liquidation, dissolution
or winding up of the Company, the Series C shares have a liquidation
19
preference of $100 per share (plus all accrued and unpaid dividends thereon)
prior to any payment or distribution to holders of our common stock. The Series
C Shares are convertible into common stock at a conversion price of $.75 per
share. The conversion price is subject to proportional adjustment in the event
of stock splits, stock dividends or reclassifications. Subject to certain
exceptions, in the event we issue additional shares of common stock at a
purchase price less than the conversion price of the Series C Shares, the
conversion price shall be lowered to such lesser price. In the event that the
trading price of our common stock is less than $1.00 per share for thirty (30)
consecutive trading days at any time after March 3, 2007, we will be required to
redeem the Series C Shares by payment of $100 per share plus all accrued and
unpaid dividends due thereon. We are required to obtain the consent of the
holders of a majority of the Series C Shares in order to, among other things,
issue any shares of preferred stock that are equal to or have a preference over
the Series C shares or other securities of the Company other than options,
warrants or common stock.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS AND PLAN OF OPERATION
This Management's Discussion and Analysis and Plan of Operation and
other parts of this Report contain forward-looking statements that involve risks
and uncertainties. All forward-looking statements included in this Report are
based on information available to us on the date hereof, and we assume no
obligation to update any such forward-looking statements. Our actual results
could differ materially from those anticipated in these forward-looking
statements as a result of a number of factors, including those set forth in the
section captioned "RISK FACTORS" in Item 1 and elsewhere in this Report. The
following should be read in conjunction with our audited financial statements
included elsewhere herein.
OVERVIEW
We develop and market proprietary fingerprint identification biometric
technology and software solutions. We pioneered the development of automated,
finger identification technology that can be used without the aid of
non-automated methods of identification such as a personal identification,
password, token, smart card, ID card, credit card, passport, drivers license or
other form of possession or knowledge based identification. This advanced
BIO-key(TM) identification technology improves both the accuracy and speed of
finger-based biometrics and is the only finger identification algorithm that has
been certified by the International Computer Security Association (ICSA).
Since our inception in 1993, we have spent substantial time and effort
in completing the development of what we believe is the most discriminating and
effective finger biometric technology available. During the past two years, our
focus has shifted to marketing and selling this technology. We have built a
direct sale force of professionals with substantial experience in selling
technology solutions to government and corporate customers. We expect to
continue to add additional qualified personnel in 2004.
During 2003, we entered into a number of licensing and development
agreements and generated approximately $524,000 of revenue. Certain of these
arrangements have resulted in
20
our technology being used in commercial applications on a run time basis and we
are beginning to generate recurring revenue. We will continue to focus a
substantial amount of resources on our sales and marketing efforts and expect
revenues to increase substantially during 2004. Our primary objective in 2004 is
to generate revenue and increase the recognition, use and acceptance of our
technology in the market. To accomplish this, all sales efforts are focused on
moving evaluation and development relationships to run time license arrangements
as quickly as possible. We continue to see increases in qualified leads
resulting in evaluation licenses and run time licenses. Our biggest challenge is
obtaining financial and human resources to pursue and follow up on all
opportunities available to us.
Although recent security concerns relating to the identification of
individuals has increased interest in biometrics generally, it has yet to gain
widespread commercial acceptance. We continue to see increasing acceptance of
biometric technology and believe the market for our technology is large enough
for us to become a successful revenue generating company. Continued concerns
regarding security and increased corporate spending on technology are key
external conditions which may affect our ability to execute our business plan.
Based on available cash resources, existing funding obligations and
projected revenue, we believe our existing financial resources will be
sufficient to sustain operations for the foreseeable future. Due to, among other
factors, our history of losses and limited revenue, our independent auditors
have included an explanatory paragraph in their opinion for the year ended
December 31, 2003 as to the substantial doubt about our ability to continue as a
going concern. Our long-term viability and growth will depend upon the
successful commercialization of our technologies and our ability to obtain
adequate financing, among other matters, as to which there can be no assurances.
RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 2003 AS COMPARED TO YEAR ENDED DECEMBER 31, 2002:
REVENUES
We generated revenues of approximately $524,000 during 2003 as compared
to approximately $155,000 during 2002. Our 2003 revenues consisted of
approximately $411,000 from license fees and approximately $113,000 from
products and services as compared to approximately $131,000 from license fees
and approximately $24,000 from sales of products and services during 2002. We
expect 90% of our future revenues to be generated from license fees and the
balance from product sales. We expect revenues to continued to increase during
2004, as we enter into new licensing arrangements and our existing arrangements
lead to recurring run time licenses.
COSTS AND OTHER EXPENSES
Selling, general and administrative expenses. Selling, general and
administrative expenses increased approximately $192,000 to approximately
$2,118,000 during 2003 as
21
compared to approximately $1,926,000 in 2002. Of the increase, approximately
$182,000 was related to increased sales and marketing activity, approximately
$137,000 was related to an increase in general administrative costs,
approximately $266,000 was related to an increase in costs for administrative
personnel, and approximately $76,000 was related to an increase in professional
services. These amounts were offset by a decrease in marketing consulting costs
of approximately $469,000 in 2003. Although we continue to closely monitor
expenses, we expect marketing, sales and technical support expenses to increase
in 2004 as we continue to focus on generating revenue and supporting our growing
customer base. Accordingly, we expect selling, general and administrative
expenses to increase during 2004.
Research and Development. Research, development and engineering
expenses decreased approximately $47,000 to approximately $1,037,000 in 2003 as
compared to approximately $1,084,000 in 2002. Of the decrease, approximately
$58,000 was related to a decrease in general development expense, and
approximately $44,000 was related to a decrease for services of outside
programming sub-contractors. This was offset by an approximate $55,000 increase
in personnel costs. Having completed the development of our core technology,
research and development expenses in 2004 will consist of enhancing existing
software and reacting to customer feedback. We expect research and development
costs to stabilize during 2004.
Interest Expense. Interest expense decreased approximately $53,000 to
approximately $1,110,000 in 2003 as compared to approximately $1,163,000 in
2002. The decrease was due to a net decrease during 2003 of the amortization of
discounts applicable to convertible debt issued during 2001 arising from the
warrants issued with such convertible debt and the beneficial conversion
features of such debt. We recently converted $6.5 million of long term debt and
accrued interest into convertible preferred stock. Unless we are required to
raise any necessary financing through issuance of debt securities, we expect
interest expenses to decrease substantially in 2004.
YEAR ENDED DECEMBER 31, 2002 AS COMPARED TO YEAR ENDED DECEMBER 31, 2001:
REVENUES
The Company generated revenues of $155,399 during 2002 consisting of
$128,860 from license fees and $26,539 from sales of products and services. The
Company expects to continue to generate revenue during 2003, primarily from
licensing fees. The Company did not generate any revenue during 2001.
COSTS AND OTHER EXPENSES
Selling, general and administrative expenses. Selling, general and
administrative expenses increased $607,863 to $1,926,328 during 2002 as compared
to $1,318,465 in 2001. Of the increase, $392,425 was related to sales and
marketing costs associated with the implementation of the Company's revised
business plan, $549,773 was related to the engagement of a marketing consultant,
$110,552 was related to the engagement of a investor relations firm, and
$129,755 was related to professional services associated with debt
22
restructuring and the filing of a registration statement. These amounts were
offset by $536,625 related to a decrease in penalties incurred in 2001 for
failing to file a registration statement covering the public sale of common
shares issuable upon conversion of the Company's Series A Convertible Preferred
Stock, $13,435 related to a decrease in costs for administrative personnel, and
$24,582 related to a decrease in general administrative costs. Although the
Company continues to closely monitor expenses to reduce overhead, it expects
marketing expenses to increase as it continues to focus on generating revenue
and does not expect to further materially reduce general and administrative
expenses during 2003.
Research and Development. Research, development and engineering
expenses increased $136,581 to $1,084,513 in 2002 as compared to $947,932 in
2001. Of the increase, $227,265 was related to an increase in personnel costs
and $58,846 was related to a increase in general development expense. This was
offset by $149,530 related to a decrease for services of outside programming
sub-contractors. The Company expects research and development costs to increase
during 2003.
Interest Expense. Interest expense increased $845,308 to $1,162,935 in
2002 as compared to $317,627 in 2001. The increase was due to a net increase in
indebtedness of approximately $1,514,000 during 2002 and the amortization of
discounts applicable to convertible debt issued during 2001 arising from the
warrants issued with such convertible debt and the beneficial conversion
features of such debt.
NET OPERATING LOSS CARRYFORWARDS
As of December 31, 2003, we had federal net operating loss
carryforwards of approximately $24,504,000. The carryforwards expire between
2011 and 2023. Such net operating carryforwards may be limited in the future in
the event of a change in ownership of the Company as defined in the Internal
Revenue Code.
LIQUIDITY AND CAPITAL RESOURCES
Net cash used in operating activities during 2003 was approximately
$2,857,000, and was principally due to operating losses. The operating losses
were primarily funded by proceeds from the sale of secured convertible notes,
and cash on hand at December 31, 2002.
Net cash provided by financing activities in 2003 was approximately
$3,948,000, which consisted of the issuance of approximately $3,886,000
principal amount of long term notes and short term advances to The Shaar Fund
Ltd. (the "Investor") between January and November 2003, and approximately
$62,000 upon exercise of options and warrants.
Working capital increased approximately $8,384,000 during 2003 to
approximately $1,085,000 on December 31, 2003 as compared to a deficit of
approximately $7,299,000 on December 31, 2002. This increase is principally due
to extending the maturity date of approximately $9,300,000 principal amount of
current maturities of long term obligations and approximately $1,131,000 of
accrued interest until October 1, 2005.
23
On October 31, 2003, we entered into an amendment to the January 27,
2003 note purchase agreement with the Investor to provide up to $2,500,000 of
additional financing pursuant to the terms of a secured promissory note (the
"Secured Note"). Of this amount, $600,000 was advanced at closing, $1,600,000
was funded between December 3, 2003, and February 26, 2004 with the balance to
be funded in incremental monthly installments between March and October 2004.
The Secured Note is due October 1, 2005, is secured by substantially all of our
assets including our intellectual property, accrues interest at the rate of 7%
per annum payable on maturity, and may be prepaid without penalty. The principal
amount and accrued interest is convertible at the option of the Investor into
either shares of common stock at a conversion price of $.75 per share or shares
of series C preferred stock at a conversion price of $100 per share. In the
event we complete a private placement of our equity securities resulting in
gross proceeds in excess of $5,000,000 on or before June 30, 2004, the principal
and accrued interest shall at the option of the Investor, be either converted
into such equity securities at a conversion price equal to he sale price of such
securities or repaid in cash.
Under the note purchase agreement, the Investor agreed to provide up to
$2,500,000 of additional financing in incremental monthly installments during
the 12 month period commencing November 1, 2003 of which $2,200,000 has been
advanced. Any such funding will be provided pursuant to the Secured Note on the
terms described above. The Investor's obligation to provide this financing is
conditioned upon:
o Our being in compliance with all material obligations under
the note purchase agreement between the parties and the Note.
o The continued truth and accuracy of all of our the
representations and warranties set forth in the note purchase
agreement.
o The average closing bid price of our common stock during the
calendar month preceding the advance exceeding $1.00 per
share.
Provided the forgoing conditions are satisfied, funds are advanced on the first
day of each month upon our written request.
Pursuant to a recapitalization transaction in March, 2004, all existing
promissory notes payable to the Investor other than the Secured Note, together
with all accrued and unpaid interest due thereon (approximately $6,500,000) were
cancelled and converted into 65,000 shares of series C convertible preferred
stock. Series C Shares are convertible into common stock at a conversion price
of $.75 per share. In the event that the trading price of our common stock is
less than $1.00 per share for thirty (30) consecutive days at any time after
March 3, 2007, we will be required to redeem the Series C Shares at a redemption
price of $100 per share plus all accrued and unpaid dividends due thereon.
We have agreed to file a registration statement covering the public
resale of the shares of common stock issuable upon conversion of the Secured
Note and Series C shares.
24
We do not expect any material capital expenditures during the next
twelve months. Our proposed acquisition of Public Safety Group, Inc.,
contemplates that approximately $500,000 of the purchase price will be payable
in cash. As of the date of this Report, no agreement has been executed.
Accordingly, there can be no assurance that the transaction will be completed.
Since January 7, 1993 (date of inception), our capital needs have been
principally met through proceeds from the sale of equity and debt securities.
We do not currently maintain a line of credit or term loan with any
commercial bank or other financial institution.
As of March 15, 2004, we had cash resources of approximately $900,000.
Pursuant to our agreement with the Investor, $300,000 of additional financing is
available to us upon fulfillment of the conditions described above. Although the
Investor has, in the past, provided financing to us notwithstanding that all of
the conditions have not been satisfied, there can be no assurance that it will
continue to do so. We currently require approximately $400,000 per month to
conduct operations. During 2003, we entered into license agreements, generated
approximately $524,000 of revenue and expect to continue to generate increasing
revenue from existing and new relationships during 2004. Anticipated revenues
are expected to defray operating expenses and reduce the need for additional
financing, but are not expected to be sufficient for us to significantly expand
operations. Based on available cash resources and the existing funding
obligations, we will need to generate approximately $3,600,000 from operations
to maintain operations at current levels for the next twelve (12) months. We
believe our current cash resources and anticipated cash flow from operations
will enable us to maintain operations at current levels for the foreseeable
future. Ideally, we need approximately $5,000,000 to $8,000,000 of additional
funding to execute our plan to substantially grow operations and revenue. The
additional financing is required to conduct the sales, marketing and technical
support necessary to generate and serve a significant customer base.
In addition to generating revenue, we are seeking to obtain additional
financing through the issuance of additional equity securities on a negotiated
private placement basis to institutional and accredited investors. As of the
date of the Report, we have not reached a definitive agreement with any
potential investor regarding the specific terms of an investment. No assurance
can be given that any form of additional financing will be available on terms
acceptable to us, that adequate financing will be obtained to meet its needs, or
that such financing would not be dilutive to existing stockholders. If available
financing is insufficient or unavailable or we fail to generate any meaningful
revenue, we may be required to further reduce operating expenses, suspend
operations, seek a merger or acquisition candidate or ultimately liquidate our
assets.
ITEM 7. FINANCIAL STATEMENTS
See Financial Statements appearing at pages 42-65.
25
ITEM 8A. CONTROLS AND PROCEDURES
An evaluation of the effectiveness of our "disclosure controls and
procedures" (as such term is defined in Rules 13a-15(e) or 15d-15(e) of the
Securities Exchange Act of 1934, as amended (the "Exchange Act")) was carried
out by us under the supervision and with the participation of our Chief
Executive Officer ("CEO") and Chief Financial Officer ("CFO"). Based upon that
evaluation, our CEO and CFO concluded that, as of the end of the period covered
by this Annual Report, our disclosure controls and procedures were effective to
provide reasonable assurance that information we are required to disclose in
reports that we file or submit under the Exchange Act is recorded, processed,
summarized and reported within the time periods specified in the Securities and
Exchange Commission rules and forms. There has been no change in our internal
control over financial reporting identified in connection with that evaluation
that occurred during our most recent fiscal quarter that has materially
affected, or is reasonably likely to materially affect, our internal control
over financial reporting.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
WITH SECTION 16(A) OF THE EXCHANGE ACT
The following sets forth certain information about each director and
executive officer of the Company.
----------------------------------------------------------------------------------------
NAME AGE POSITIONS HELD
----------------------------------------------------------------------------------------
----------------------------------------------------------------------------------------
Thomas J. Colatosti 56 Chairman of the Board of Directors
----------------------------------------------------------------------------------------
Michael W. DePasquale 49 Chief Executive Office and Director
----------------------------------------------------------------------------------------
Gary E. Wendt 62 Chief Financial Officer, Secretary and Director
----------------------------------------------------------------------------------------
Charles P. Romeo 62 Director
----------------------------------------------------------------------------------------
Jeffrey J. May 44 Director
----------------------------------------------------------------------------------------
Randy Fodero 45 Vice President of Sales and Marketing
----------------------------------------------------------------------------------------
The following is a brief summary of the business experience of each of
the above-named individuals:
THOMAS J. COLATOSTI has served as a Director of the Company since
September 2002 and as Chairman of the Board since January 3, 2003. Mr. Colatosti
currently serves as the Chief Executive Officer of American Security Ventures, a
Lexington, Massachusetts based consulting firm he founded which specializes in
providing strategic management consulting services to emerging and developing
companies in the homeland security industry. From 1997 through June 2002, Mr.
Colatosti served as the Chief Executive Officer of Viisage Technology, Inc., a
publicly traded biometric technology company focusing on biometric
face-recognition
26
technology and delivering highly secure identification documents and systems.
Between 1995 and 1997, Mr. Colatosti served as President and Chief Executive
Officer of CIS Corporation, a higher education industry leader that designed and
implemented integrated and flexible systems solutions to manage entire
university administrative operations. Prior to CIS, Mr. Colatosti had a 20-year
career with Digital Equipment Corporation. His most recent responsibility was
Vice President and General Manager, Northeast Area, where he was responsible for
a business unit with annual revenues of more than $1.2 billion and 3,000 people.
Mr. Colatosti is an active industry security spokesperson testifying before
Congressional Committees and advising the White House and other Federal security
agencies on homeland security issues. Mr. Colatosti earned a Bachelor of Science
degree in Management and Finance as well as a Masters degree in Business
Administration from Suffolk University.
MICHAEL W. DEPASQUALE has served as the Chief Executive Officer and a
Director of the Company since January 3, 2003. Mr. DePasquale brings more than
20 years of executive management, sales and marketing experience to the Company.
Prior to joining the Company, Mr. DePasquale served as the President and Chief
Executive Officer of Prism eSolutions, Inc., a Pennsylvania based provider of
professional consulting services and online solutions for ISO-9001/14000
certification for customers in manufacturing, healthcare and government markets,
since February 2001. From December 1999 through December 2000, Mr. DePasquale
served as Group Vice President for WRC Media, a New York based distributor of
supplemental education products and software. From January 1996 until December
1999, Mr. DePasquale served as Senior Vice President of Jostens Learning Corp.,
a California based provider of multi media curriculum. Prior to Jostes, Mr.
DePasquale held sales and marketing management positions with McGraw-Hill and
Digital Equipment Corporation. Mr. DePasquale earned a Bachelor of Science
degree from the New Jersey Institute of Technology.
GARY E. WENDT has served as the Chief Financial Officer and a Director
of the Company since its inception in 1993. Mr. Wendt has primary responsibility
for the Company's financial reports and administers accounting operations. From
1993 to 1994, Mr. Wendt was Treasurer and Chief Financial Officer of Esprit
Technologies, Inc., a computer manufacturer which produced high speed PCs
marketed primarily to government and industry in the Midwestern United States.
Mr. Wendt attended Metropolitan State University, North Hennepin Community
College, and the Academy of Accountancy where he was certified in public
accounting.
JEFFREY J. MAY has served as a Director of the Company since October
29, 2001. Since 1997, Mr. May has served as the President of Gideons Point
Capital, a Tonka Bay Minnesota based financial consulting firm and angel
investor focusing on assisting and investing in start-up technology companies.
In 1983, Mr. May co-founded Advantek, Inc., a manufacturer of equipment and
materials which facilitate the automatic handling of semi-conductors and other
electrical components which was sold in 1993. Mr. May continued to serve as a
director and Vice-President of Operations of Advantek until 1997, at which time
it had over 600 employees and sales in excess of $100 million. Mr. May earned a
Bachelor of Science degree in Electrical Engineering from the University of
Minnesota in 1983.
CHARLES P. ROMEO has served as a director of the Company since January
29, 2003. Since September 2002, Mr. Romeo has served as the President and Chief
Executive
27
Officer of FreedomBridge Technologies, Inc., a Rhode Island based consulting
firm to technology companies in the homeland security industry specializing in
implementing direct and channel selling programs, strategic alliances and
partnerships in the law enforcement market. Prior to founding FreeedomBridge,
Mr. Romeo had a 33 year sales and marketing management career with Digital
Equipment Corporation, Compaq Computer Corporation and Hewlett Packard. During
his career, Mr. Romeo served as Vice President of Service Sales for a $500
million business unit, and Director of Public Sector Sales, a $275 million
division of Hewlett Packard. Mr. Romeo authored The Sales Manager's
Troubleshooter, Prentice Hall 1998, which was named as one of the "top 10 must
reads" by Sales and Marketing Magazine. Mr. Romeo earned a Bachelor of Science
degree in Mathematics and Economics from the University of Massachusetts and an
Executive MBA from Babson College.
RANDY FODERO has served as the Vice President of Sales and Marketing
since July 18, 2003 and as a member of the Company's sales organization since
March 2003. Mr. Fodero brings more than 20 years of successful executive and
sales management experience to the Company. Prior to joining the Company, Mr.
Fodero served as director of Global Accounts from Veritas Software from February
2002 until January 2003. Between 1999 and February 2002, Mr. Fodero served in
executive sales capacities with both companies in the enterprise software
industry, including Agile Software. From 1998 to 1999, Mr. Fodero served as
Regional Vice President of Sales for Memco Software, a leading provider of
information security software to Fortune 1000 companies, where he was
instrumental in increasing sales and enhancing shareholder value in connection
with the sale of Memco to Platinum Technology. From 1990 through 1998, Mr.
Fodero served as Vice President of Sales of AT&T CommVault Systems, where he
grew sales from startup to over $36 million and participated in a management
buyout.
DIRECTORS' TERMS OF OFFICE
Gary Wendt was elected as a director at the Company's 1998 Annual
Meeting of Shareholders to hold office for a term of one (1) year until his
successor is duly elected and qualified. Michael W. DePasquale and Jeffrey J.
May were appointed by the Board of Directors to fill vacancies created by the
resignations or death of directors and to serve until the next annual meeting of
shareholders until their successors are duly elected and qualified. Thomas J.
Colatosti and Charles P. Romeo were appointed by the Board of Directors to serve
until the next annual meeting of shareholders until their successors are duly
elected and qualified.
BOARD OF DIRECTORS AND AUDIT COMMITTEE FINANCIAL EXPERT
All directors hold office until the next annual meeting of shareholders
and the election and qualification of their successors. Officers are elected
annually by the Board of Directors and serve at the discretion of the Board.
Our full Board of Directors acts as our audit committee. We have
determined that Gary Wendt who also serves as our Chief Financial Officer, is an
"audit committee financial expert," as that term is defined in Item 401(e) of
Regulation S-B promulgated under the Securities Act of 1934. Mr. Wendt is not
considered to be "independent" as that term is defined in Item 7(b)(3)(iv) of
Schedule 14A under the Securities Exchange Act of 1934.
28
DIRECTORS COMPENSATION
Directors who are also officers of the Company receive no additional
compensation for serving on the Board of Directors, other than reimbursement of
reasonable expenses incurred in attending meetings. The Company's 1996 stock
incentive plan provides for the grant of options to purchase 50,000 shares of
common stock to each non-employee director upon first being elected or appointed
to the Board of Directors. Since 2001, the Company has executed a policy of
granting options to purchase 200,000 shares of common stock to each non-employee
director upon first being elected or appointed to the Board of Directors. In
December 2003, we adopted a policy of issuing options to purchase 50,000 shares
of common stock to each non-employee director on an annual basis.
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16(a) of the U.S. Securities and Exchange Act of 1934, as
amended (the "Exchange Act"), requires the Company's officers and directors and
persons who own more than ten percent (10%) of the Company's Common Stock to
file with the Securities and Exchange Commission ("SEC") initial reports of
ownership and reports of changes in ownership of the Company's Common Stock.
Such officers, directors and ten percent (10%) stockholders are also required by
applicable SEC rules to furnish the Company with copies of all forms filed with
the SEC pursuant to Section 16(a) of the Exchange Act. Based solely on its
review of the copies of such forms received by it, or written representations
from such persons that no other reports were required for such persons, the
Company believes that during the fiscal year ended December 31, 2003, all
Section 16(a) filing requirements applicable to the Company's officers,
directors and ten percent (10%) stockholders were satisfied in a timely fashion
except that Mr. Colatosti did not timely file a Form 4 in connection with his
open market purchase of 5,000 shares of common stock deemed to be executed on
August 22, 2003.
CODE OF ETHICS
We have adopted a Code of Ethics that applies to our principal
executive officer, principal financial officer, principal accounting officer or
controller, or persons performing similar functions. Our Code of Ethics is
designed to deter wrongdoing and promote: (i) honest and ethical conduct,
including the ethical handling of actual or apparent conflicts of interest
between personal and professional relationships; (ii) full, fair, accurate,
timely and understandable disclosure in reports and documents that we file with,
or submit to, the SEC and in our other public communications; (iii) compliance
with applicable governmental laws, rules and regulations; (iv) the prompt
internal reporting of violations of the code to an appropriate person or persons
identified in the code; and (v) accountability for adherence to the code.
A copy of the our Code of Ethics is available on our website at
www.bio-key.com.
---------------
29
ITEM 10. EXECUTIVE COMPENSATION
The following table sets forth a summary of the compensation paid to or
accrued by our chief executive officer and all of our other executive officers
as of December 31, 2003 whose compensation exceeded $100,000 in 2003 (the "named
executive officers") for each of the fiscal years ended December 31, 2001, 2002
and 2003:
SUMMARY COMPENSATION TABLE
NAME AND PRINCIPAL FISCAL SECURITIES UNDERLYING
POSITION YEAR SALARY($) BONUS ($) OPTIONS (#)
-------- ---- --------- --------- -----------
Michael W. DePasquale (1) 2003 148,943 25,000 1,080,000
Chief Executive Officer
Randy Fodero (2) 2003 111,837 -- 600,000
Vice President Sales
And Marketing
(1) Mr. DePasquale became employed as our Chief Executive Officer on
January 3, 2003.
(2) Mr. Fodero became an executive officer of the Company on July 18, 2003.
OPTION GRANTS IN YEAR ENDED DECEMBER 31, 2003
The following table sets forth all options granted during the year
ended December 31, 2003 to each of the named executive officers.
NUMBER OF SECURITIES PERCENT OF TOTAL OPTIONS EXERCISE
UNDERLYING GRANTED TO EMPLOYEES IN PRICE
NAME OPTIONS GRANTED FISCAL YEAR $/SHARE EXPIRATION DATE
---- --------------- ----------- ------- ---------------
Michael W. DePasquale 580,000 (1) 23.8% $ 0.53 01/02/2010
Michael W. DePasquale 500,000 (2) 20.5% $ 1.32 12/10/2010
Randy Fodero 300,000 (3) 12.3% $ 0.39 03/09/2006
Randy Fodero 300,000 (4) 12.3% $ 1.32 12/10/2010
(1) Options vested in eight (8) quarterly installments commencing April 1,
2003.
(2) Options vest in two (2) equal annual installments on January 3, 2004
and 2005.
(3) Options vest in eleven (11) quarterly installments commencing June 10,
2003.
(4) Options vest in three (3) equal annual installments on January 3, 2005,
2006 and 2007.
30
AGGREGATED OPTION EXERCISES IN THE YEAR ENDED
DECEMBER 31, 2003 AND FISCAL YEAR-END OPTION VALUE
The following table sets forth for each named executive officer,
information regarding stock options exercised by such officer during the year
ended December 31, 2003, together with the number and value of stock options
held at December 31, 2003, each on an aggregated basis.
==================================================================================================
--------------------------------------------------------------------------------------------------
NUMBER OF VALUE OF UNEXERCISED
UNEXERCISED IN-THE-MONEY
NUMBER OF OPTIONS AT OPTIONS AT FISCAL
SHARES FISCAL YEAR-END YEAR-END
ACQUIRED ON VALUE EXERCISABLE/ EXERCISABLE/
NAME EXERCISE REALIZED UNEXERCISABLE(#) UNEXERCISABLE($)(1)
--------------------------------------------------------------------------------------------------
Michael W. DePasquale -- -- 217,500/862,500 143,550/239,250
--------------------------------------------------------------------------------------------------
Randy Fodero -- -- 81,816/518,184 65,452/174,547
--------------------------------------------------------------------------------------------------
(1) The last sales price of the Company's Common Stock as reported on the
OTC Bulletin Board on December 31, 2003 was $1.19.
EMPLOYMENT AGREEMENTS
MICHAEL W. DEPASQUALE. On January 3, 2003, the Company entered into a
two-year employment agreement with Michael W. DePasquale to serve as the Chief
Executive Officer of the Company at an annual base salary of $150,000 subject to
adjustment by the Board of Directors. The employment agreement provided for a
quarterly performance bonus during 2003 of $37,500 per calendar quarter payable
upon the Company achieving gross revenue of: $300,000, $400,000, $650,000 and
$900,000 during the first, second, third and fourth calendar quarters of 2003,
respectively. The employment agreement also provides for an annual bonus of
options to purchase up to 500,000 shares of Company common stock payable at the
discretion of the Board of Directors.
The base salary has been adjusted to $216,000 for 2004. The quarterly
performance bonus benchmarks for 2004 have also been adjusted to provide for
payment of the $37,500 quarterly bonus upon achieving gross revenue of:
$500,000, $750,000, $1,000,000 and $1,250,000 during the first, second, third
and fourth calendar quarters of 2004, respectively. Additional performance
bonuses of $50,000 upon achieving annual gross revenue of at least $4,000,000
and $50,000 upon the Company reporting operating profit during 2004 have also
been included for 2004.
The employment agreement contains standard and customary
confidentiality, non-solicitation and "work made for hire" provisions as well as
a covenant not to compete which prohibits Mr. DePasquale from doing business
with any current or prospective customer of the
31
Company or engaging in a business competitive with that of the Company during
the term of his employment and for the one year period thereafter. The agreement
may be terminated by the Company at any time with or without cause. In the event
of termination without cause, Mr. DePasquale shall continue to be paid his then
current base salary for the greater of six months from the date of such
termination or the number of months remaining until the end of the term of the
employment agreement.
CHANGE IN CONTROL PROVISIONS
The Company's 1996 Stock Option Plan (as amended to date, the "1996
Plan") and 1999 Stock Option Plan (the "1999 Plan" and together with the 1996
Plan, the "Plans")) provide for the acceleration of the vesting of unvested
options upon a "Change in Control" of the Company. A Change in Control is
defined in the Plans to include (i) a sale or transfer of substantially all of
the Company's assets; (ii) the dissolution or liquidation of the Company; (iii)
a merger or consolidation to which the Company is a party and after which the
prior shareholders of the Company hold less than 50% of the combined voting
power of the surviving corporation's outstanding securities; (iv) the incumbent
directors cease to constitute at least a majority of the Board of Directors; or
(v) a change in control of the Company which would otherwise be reportable under
Section 13 or 15(d) of the Exchange Act.
In the event of a "Change In Control" both Plans provide for the
immediate vesting of all options issued thereunder. The 1999 Plan provides for
the Company to deliver written notice to each optionee under the 1999 Plan
fifteen (15) days prior to the occurrence of a Change In Control during which
all options issued under the 1999 Plan may be exercised. Thereafter, all options
issued under the 1999 Plan which are neither assumed or substituted in
connection with such transaction, automatically expire unless otherwise
determined by the Board. The 1996 Plan provides for all options to remain
exercisable for the remainder of their respective terms and permits the Company
to make a cash payment to any or all optionees equal to the difference between
the exercise price of any or all such options and the fair market value of the
Company's common stock immediately prior to the Change In Control.
Options issued to executive officers outside of the Plans contain
change in control provisions substantially similar to those contained in the
1999 Plan.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth, as of March 23, 2004, information with
respect to the securities holdings of all persons which the Company, pursuant to
filings with the Securities and Exchange Commission, has reason to believe may
be deemed the beneficial owners of more than five percent (5%) of the Company's
outstanding common stock. The following table also sets forth, as of such date,
the beneficial ownership of the Company's common stock by all officers and
directors, individually and as a group.
32
AMOUNT AND NATURE
OF BENEFICIAL PERCENTAGE
NAME AND ADDRESS OF BENEFICIAL OWNER OWNERSHIP(1) OF CLASS(1)
------------------------------------ ------------ -----------
Thomas J. Colatosti 805,000 (2) 3.2%
188 East Emerson Road
Lexington, MA 02420
Michael W. DePasquale 617,500 (3) 2.5%
Gary Wendt 578,730 (4) 2.4%
Jeffrey May 250,000 (5) 1.0%
Charles P. Romeo
29 Ginger Court 112,500 (6) *
North Kingstown, RI 02852
Randy Fodero 152,388 (7) *
Richard T. Fiskum 1,237,500 5.1%
28690 660th Avenue
Litchfield, MN 55355
Kingdon Capital Management, LLC 1,400,000 5.7%
152 West 57th Street
50th Floor
New York, NY 10019
All officers and directors as a group
(6) persons 2,516,118 9.5%
---------------------
Unless otherwise indicated, the address of the beneficial owners is the
Company's principal executive offices at 1285 Corporate Center Drive, Suite No.
175, Eagan, MN 55121
*Less than 1%
(1) The securities "beneficially owned" by an individual are determined in
accordance with the definition of "beneficial ownership" set forth in the
regulations promulgated under the Securities Exchange Act of 1934 and,
accordingly, may include securities owned by or for, among others, the spouse
and/or minor children of an individual and any other relative who has the same
home as such individual, as well as, other securities as to which the individual
has or shares voting or investment power or which each person has the right to
acquire within 60 days through the exercise of options or otherwise. Beneficial
ownership may be disclaimed as to
33
certain of the securities. This table has been prepared based on 24,578,614
shares of common stock outstanding as of March 23, 2004.
(2) Includes 300,000 shares assumable upon exercise of options and 500,000
shares issuable upon conversion of convertible promissory notes. Does not
include 250,000 shares issuable upon exercise of options subject to vesting.
(3) Includes 612,500 shares issuable upon exercise of options. Does not include
467,500 shares issuable upon exercise of options subject to vesting.
(4) Includes 173,380 shares issuable upon exercise of options.
(5) Consists of shares issuable upon exercise of options.
(6) Consists of shares issuable upon exercise of options. Does not include
137,500 shares issuable upon exercise of options subject to vesting.
(7) Includes 109,088 shares issuable upon exercise of options. Also includes
20,500 shares owned by Mr. Fodero's minor children. Mr. Fodero disclaims
beneficial ownership of those shares. Does not include 490,912 shares issuable
upon exercise of options subject to vesting.
The following table sets forth, as of December 31, 2003, information
with respect to securities authorized for issuance under equity compensation
plans.
-----------------------------------------------------------------------------------------------------
EQUITY COMPENSATION PLAN INFORMATION
-----------------------------------------------------------------------------------------------------
NUMBER OF
SECURITIES
REMAINING
AVAILABLE FOR
NUMBER OF WEIGHTED- FUTURE ISSUANCE
SECURITIES TO BE AVERAGE UNDER EQUITY
ISSUED UPON EXERCISE COMPENSATION
EXERCISE OF PRICE OF PLANS
OUTSTANDING OUTSTANDING (EXCLUDING
OPTIONS, OPTIONS, SECURITIES
WARRANTS AND WARRANTS AND REFLECTED IN
RIGHTS RIGHTS) COLUMN (A))
(A) (B (C)
-----------------------------------------------------------------------------------------------------
Equity compensation plans approved by
security holders 487,380 $0.5155 169,620
-----------------------------------------------------------------------------------------------------
Equity compensation plans not approved
by security holders 5,640,601 $0.8022 629,588
-----------------------------------------------------------------------------------------------------
Total 6,127,981 $0.7794 799,208
-----------------------------------------------------------------------------------------------------
34
The Company's 1999 Stock Option Plan (the "1999 Plan") was adopted by
the Board of Directors of the Company on or about August 31, 1999. The material
terms of the 1999 Plan are summarized below.
The 1999 Plan is currently administered by the Board of Directors of
the Company (the "Plan Administrator"). The Plan Administrator is authorized to
construe the 1999 Plan and any option issued under the 1999 Plan, select the
persons to whom options may be granted, and determine the number of shares to be
covered by any option, the exercise price, vesting schedule and other material
terms of such option.
The 1999 Plan provides for the issuance of options to purchase up to
2,000,000 shares of common stock to officers, employees, directors and
consultants of the Company at exercise prices not less than 85% of the last sale
price of the Company's common stock as reported on the OTC Bulletin Board on the
date of grant. Options have terms of not more than 10 years from the date of
grant, are subject to vesting as determined by the Plan Administrator and are
not transferable without the permission of the Company except by will or the
laws of descent and distribution or pursuant to a domestic relations order.
Options terminate three (3) months after termination of employment or other
association with the Company or one (1) year after termination due to
disability, death or retirement. In the event that termination of employment or
association is for a cause, as that term is defined in the 1999 Plan, options
terminate immediately upon such termination. The Plan Administrator has the
discretion to extend options for up to three years from the date of termination
or disassociation with the Company.
The 1999 Plan provides for the immediate vesting of all options in the
event of a "Change In Control" of the Company. In the event of a Change In
Control, the Company is required to deliver written notice to each optionee
under the 1999 Plan fifteen (15) days prior to the occurrence of a Change in
Control, during which time all options issued under 1999 Plan may be exercised.
Thereafter, all options issued under the 1999 Plan which are neither assumed or
substituted in connection with such transaction, automatically expire, unless
otherwise determined by the Board. Under the 1999 Plan, a "Change In Control" is
defined to include (i) a sale or transfer of substantially all of the Company's
assets; (ii) the dissolution or liquidation of the Company; (iii) a merger or
consolidation to which the Company is a party and after which the prior
shareholders of the Company hold less than 50% of the combined voting power of
the surviving corporation's outstanding securities; (iv) the incumbent directors
cease to constitute at least a majority of the Board of Directors; or (v) a
change in control of the Company which would otherwise be reportable under
Section 13 or 15(d) of the Exchange Act.
As of December 31, 2003, there were outstanding options under the 1999
Plan to purchase 1,176,669 shares of common stock, and options to purchase an
aggregate of 629,588 shares were available for future grants.
In addition to options issued under the 1999 Plan, the Company has
issued options and warrants to employees, officers, directors and consultants to
purchase an aggregate of 4,951,312 shares of common stock. The terms of these
options are substantially similar to the provisions of the 1999 Plan and options
issued thereunder.
35
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
EMPLOYMENT ARRANGEMENTS
The Company has an employment agreement with Michael W. DePasquale. See
"EXECUTIVE COMPENSATION - EMPLOYMENT AGREEMENTS."
OPTIONS GRANTED TO EXECUTIVE OFFICERS AND DIRECTORS
During 2002, the Company issued options to purchase 200,000 shares of
common stock to Thomas J. Colatosti upon his appointment as a director of the
Company. During 2003, the Company issued options to purchase an aggregate of
2,180,000 shares of common stock to its officers and directors. The options were
issued at exercise prices equal to the last sales price of the Company's common
stock as reported on the OTC Bulletin Board on the date of grant, have terms of
three (3) to seven (7) years, and vest over a one to three year period.
CONSULTING ARRANGEMENT WITH THOMAS J. COLATOSTI
In connection with his appointment to the Board of Directors in
September 2002, the Company entered into a consulting arrangement with Thomas J.
Colatosti. Under the arrangement, the Company paid Mr. Colatosti $4,000 per
month through December 2003 and issued him options to purchase 150,000 shares of
common stock at an exercise price of $.33 per share, the closing price of the
Company's common stock on the date of grant. In December 2003, a committee of
independent directors renewed this arrangement through December 31, 2004. The
committee also issued options to Mr. Colatosti to purchase 150,000 shares of
common stock at an exercise price of $1.32 per share, the closing price of the
Company's common stock on the date of grant, for serving as Chairman. Mr.
Colatosti has substantial experience in the biometric industry and in addition
to his role as the Chairman of the Board of Directors of the Company, provides
extensive service to the Company in the areas of strategic planning and
corporate finance.
In March 2004, Mr. Colatosti entered into a three year consulting
arrangement with the Shaar Fund Ltd., a principal creditor of the Company. Under
the terms of the arrangement, The Shaar Fund transferred $375,000 principal
amount of our secured convertible notes due October 1, 2005 to Mr. Colatosti. As
a result, we are indebted to Mr. Colatosti in the principal amount of $375.000.
CONSULTING AGREEMENT WITH JEFFRY R. BROWN
In connection with Jeffry R. Brown's resignation as the Chief Executive
Officer and Chairman of the Board of Directors of the Company on December 31,
2002, the Company and Mr. Brown entered into a consulting agreement effective as
of January 15, 2003. The consulting agreement terminated September 30, 2003, and
provided for the payment of monthly consulting fees in the amount of $12,000,
continued participation in the Company's health and benefit plans, and the
reimbursement of out-of-pocket expenses in consideration of Mr. Brown providing
strategic management and consulting services to the Company. During the previous
two fiscal years, Mr. Brown was the chief architect of the Company's strategic
plan and the principal
36
person involved in establishing and developing relationships with the Company's
alliance partners, potential customers and other industry contacts which were
important to the continued execution of the Company's business plan. In
recognition of his continued service to the Company, the termination date of
options to purchase 400,000 shares of common stock at $.20 per share previously
issued to Mr. Brown was extended from March 31, 2003 until December 31, 2003.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this Report. Portions
of Item 13 are submitted as separate sections of this Report:
(1) Financial statements filed as part of this Report:
Report of Independent Certified Public Accountants
Balance Sheets at December 31, 2002 and 2003
Statements of Operations - Years ended December 31,
2003, 2002 and 2001
Statement of Stockholders' Deficit - Years ended
December 31, 2003, 2002 and 2001
Statements of Cash Flows - Years ended December 31,
2003, 2002 and 2001
Notes to Financial Statements - December 31, 2003,
2002 and 2001
(2) The following exhibits are filed as part of this
Report:
-------------------- -------------------------------------------- -----------------------------------------------
Exhibit No. Exhibit Method of Filing
-------------------- -------------------------------------------- -----------------------------------------------
3.1 Amended and Restated Articles of Incorporated by reference to Exhibit 3.1 to
Incorporation the Registrant's Registration Statement on
SB-2, File No. 333-16451 filed February 14,
1997 (the "Registration Statement")
-------------------- -------------------------------------------- -----------------------------------------------
3.2 Amended and Restated Bylaws Incorporated by reference to Exhibit 3.2 to
the Registration Statement
-------------------- -------------------------------------------- -----------------------------------------------
3.3 Certificate of Amendment to Amended and Incorporated by reference to Exhibit 3.3 to
Restated Articles of Incorporation the Registrant's Report on Form 10-QSB for
the quarter ended March 31, 1999
-------------------- -------------------------------------------- -----------------------------------------------
3.4 Certificate of Designation of Series A 9% Incorporated by reference to Exhibit 3.4 to
Convertible Preferred Stock the Registrant's Current Report on Form 8-K
dated July 8, 1999
-------------------- -------------------------------------------- -----------------------------------------------
37
-------------------- -------------------------------------------- -----------------------------------------------
Exhibit No. Exhibit Method of Filing
-------------------- -------------------------------------------- -----------------------------------------------
3.5 Amended and Restated Certificate of Incorporated by reference to Exhibit 3.5 to
Designation of Series A 9% Convertible the Registrant's Annual Report on Form 10-KSB
Preferred Stock for the fiscal year ended December 31, 1999
(the "1999 10-KSB")
-------------------- -------------------------------------------- -----------------------------------------------
3.6 Certificate of Designation of Series B 9% Incorporated by reference to Exhibit 3.6 to
Convertible Preferred Stock the Registrants Current Report on Form 8-K
dated November 26, 2001 (the "November 20,
2001 8-K")
-------------------- -------------------------------------------- -----------------------------------------------
3.7 Amendment to the Amended and Restated Incorporated by reference to Exhibit 3.7 to
Articles of Incorporation filed February the Registrant's Registration Statement on
28, 2002 Form SB-2 filed March 27, 2002
-------------------- -------------------------------------------- -----------------------------------------------
3.8 Certificate of Designation of Series C Filed herewith
Convertible Preferred Stock
-------------------- -------------------------------------------- -----------------------------------------------
4.1 Specimen of Common Stock Certificate Incorporated by reference to Exhibit 4.1 to
the Registration Statement
-------------------- -------------------------------------------- -----------------------------------------------
10.1 SAC Technologies, Inc. 1996 Stock Option Incorporated by reference to Exhibit 10.1 to
Plan the Registration Statement
-------------------- -------------------------------------------- -----------------------------------------------
10.2 Intentionally omitted Intentionally omitted
-------------------- -------------------------------------------- -----------------------------------------------
10.3 Amendment No. 1 to the SAC Technologies, Incorporated by reference to Exhibit 10.3 to
Inc. 1996 Stock Option Plan the 1999 10-KSB
-------------------- -------------------------------------------- -----------------------------------------------
10.4 SAC Technologies, Inc. 1999 Stock Option Incorporated by reference to Exhibit 10.4 to
Plan the 1999 10-KSB
-------------------- -------------------------------------------- -----------------------------------------------
10.5 Warrant issued to The Shaar Fund Incorporated by reference to Exhibit 10.5 to
the Registrants Current Report on Form 8-K
dated November 26, 2001 (the "November 20,
2001 8-K")
-------------------- -------------------------------------------- -----------------------------------------------
10.6 Security Interest Provisions Incorporated by reference to Exhibit 10.6 to
the November 20, 2001 8-K
-------------------- -------------------------------------------- -----------------------------------------------
10.7 Employment Agreement by and between the Incorporated by reference to Exhibit 10.7 to
Registrant and Mira LaCous dated November the November 20, 2001 8-K
20, 2001
-------------------- -------------------------------------------- -----------------------------------------------
10.8 Option to Purchase 140,000 Shares of Incorporated by reference to Exhibit 10.8 to
Common Stock issued to Mira LaCous the November 20, 2001 8-K
-------------------- -------------------------------------------- -----------------------------------------------
10.9 Option to Purchase 150,000 Shares of Incorporated by reference to Exhibit 10.9 to
Common Stock issued to Thomas J. Colatosti. the Registrants Annual Report on Form 10-KSB
for the fiscal year ended December 31, 2003
(the "2003 10-KSB")
-------------------- -------------------------------------------- -----------------------------------------------
10.10 Non-Qualified Stock Option Agreement under Incorporated by reference to Exhibit 10.10 to
the Registrant's 1999 Stock Incentive Plan the 2003 10-KSB
to Purchase 200,000 Shares of Common Stock
issued to Thomas J. Colatosti
-------------------- -------------------------------------------- -----------------------------------------------
38
-------------------- -------------------------------------------- -----------------------------------------------
Exhibit No. Exhibit Method of Filing
-------------------- -------------------------------------------- -----------------------------------------------
10.11 Employment Agreement by and between the Incorporated by reference to Exhibit 10.11 to
Registrant and Michael W. DePasquale dated the 2003 10-KSB
January 3, 2003
-------------------- -------------------------------------------- -----------------------------------------------
10.12 Option to Purchase 580,000 Shares of Incorporated by reference to Exhibit 10.12 to
Common Stock issued to Michael W. the 2003 10-KSB
DePasquale
-------------------- -------------------------------------------- -----------------------------------------------
10.13 Note Purchase Agreement dated January 27, Incorporated by reference to Exhibit 10.13 to
2003 the 2003 10-KSB
-------------------- -------------------------------------------- -----------------------------------------------
10.14 Secured Convertible Promissory Due June Incorporated by reference to Exhibit 10.14 to
30, 2004 the 2003 10-KSB
-------------------- -------------------------------------------- -----------------------------------------------
10.15 Option to Purchase 200,000 Shares of Incorporated by reference to Exhibit 10.15 to
Common Stock issued to Charles P. Romeo the 2003 10-KSB
-------------------- -------------------------------------------- -----------------------------------------------
10.16 Amendment No. 1 to Note Purchase Agreement Filed herewith
dated October 31, 2003 by and between the
Registrant and The Shaar Fund Ltd.
-------------------- -------------------------------------------- -----------------------------------------------
10.17 Securities Exchange Agreement dated March Filed herewith
3, 2004 by and between the Registrant and
The Shaar Fund Ltd.
-------------------- -------------------------------------------- -----------------------------------------------
10.18 Registration Rights Agreement dated March Filed herewith
3, 2004 by and between the Registrant and
The Shaar Fund Ltd.
-------------------- -------------------------------------------- -----------------------------------------------
10.19 Secured Convertible Promissory Note due Filed herewith
October 31, 2005 in the principal amount
of up to $2,125,000
-------------------- -------------------------------------------- -----------------------------------------------
10.20 Secured Convertible Promissory Note due Filed herewith
October 31, 2005 in the principal amount
of $375,000
-------------------- -------------------------------------------- -----------------------------------------------
10.21 Option to Purchase 500,000 Shares of Filed herewith
Common Stock issued to Michael W.
DePasquale
-------------------- -------------------------------------------- -----------------------------------------------
10.22 Option to Purchase 150,000 Shares of Filed herewith
Common Stock issued to Thomas J. Colatosti
-------------------- -------------------------------------------- -----------------------------------------------
39
-------------------- -------------------------------------------- -----------------------------------------------
Exhibit No. Exhibit Method of Filing
-------------------- -------------------------------------------- -----------------------------------------------
10.23 Option to Purchase 50,000 Shares of Common Filed herewith
Stock issued to Thomas J. Colatosti
-------------------- -------------------------------------------- -----------------------------------------------
10.24 Option to Purchase 50,000 Shares of Common Filed herewith
Stock issued to Jeff May
-------------------- -------------------------------------------- -----------------------------------------------
10.25 Option to Purchase 50,000 Shares of Common Filed herewith
Stock issued to Charles Romeo
-------------------- -------------------------------------------- -----------------------------------------------
10.26 Option to Purchase 300,000 Shares of Filed herewith
Common Stock issued to Randy Fodero
-------------------- -------------------------------------------- -----------------------------------------------
23.1 Consent of Divine, Scherzer & Brody, Ltd. Filed herewith
-------------------- -------------------------------------------- -----------------------------------------------
31.1 Certificate of CEO of Registrant required Filed herewith
by Rule 13a-14(a) under the Securities
Exchange Act of 1934, as amended
-------------------- -------------------------------------------- -----------------------------------------------
31.2 Certificate of CFO of Registrant required Filed herewith
by Rule 13a-14(a) under the Securities
Exchange Act of 1934, as amended
-------------------- -------------------------------------------- -----------------------------------------------
32.1 Certificate of CEO of Registrant required Filed herewith
by Rule 13a-14(b) under the Securities
Exchange Act of 1934, as amended
-------------------- -------------------------------------------- -----------------------------------------------
32.2 Certificate of CFO of Registrant required Filed herewith
by Rule 13a-14(b) under the Securities
Exchange Act of 1934, as amended
-------------------- -------------------------------------------- -----------------------------------------------
(b) Reports on Form 8-K.
During the quarter ended December 31, 2003, the Company filed the
following report in SEC Form 8-K:
1. Form 8-K dated October 28, 2003 providing information pursuant to
Item 12 regarding results for the fiscal quarter ended September 30, 2003.
40
ITEM 14. PRINCIPAL ACCOUNTANTS FEES AND SERVICES
The following table presents fees for professional audit services by
Divine, Scherzer & Brody, Ltd for the audit of the Company's annual financial
statements for 2003 and 2002, and fees billed for other services rendered by
Divine, Scherzer & Brody, Ltd.
2003 2002
---- ----
Audit Fees: 95,622 92,877
Audit-Related Fees: -- --
Tax Fees: 1,846 2,812
All Other Fees: -- --
---------------------------------------
Total Fees 97,468 95,689
=======================================
AUDIT FEES consist of fees billed for professional services rendered for the
audit of our financial statements and review of the interim financial statements
included in quarterly reports and services that are normally provided by Divine,
Scherzer & Brody, Ltd in connection with statutory and regulatory filings or
engagements.
AUDIT-RELATED FEES consist of fees billed for assurance and related services
that are reasonably related to the performance of the audit or review of the
Company's consolidated financial statements and are not reported under "Audit
Fees."
TAX FEES consists of fees billed for professional services for tax compliance,
tax advice and tax planning. These services include assistance regarding federal
and state tax compliance, tax audit defense, customs and duties, and mergers and
acquisitions.
AUDIT COMMITTEE PRE-APPROVAL PROCEDURES
Our Board of Directors serves as our audit committee. Our Board of
Directors approves the engagement of our independent auditor, to render audit
and non-audit services before they are engaged. All of the services performed by
Divine, Scherzer & Brody, Ltd for us were pre-approved by our Board of
Directors.
41
ITEM 7 - FINANCIAL STATEMENTS
The following financial statements of BIO-key International, Inc. are included
herein at the indicated page numbers:
Page No.
--------
Report of Independent Certified Public Accountants 43
Balance Sheets at December 31, 2003 and 2002 44
Statements of Operations - Years ended December 31, 2003,
2002 and 2001 45
Statement of Stockholders' Deficit - Years ended December 31,
2003, 2002 and 2001 46
Statements of Cash Flows - Years ended December 31, 2003, 2002
and 2001 47
Notes to the Financial Statements - December 31, 2003, 2002 and 2001 48
42
Report of Independent Certified Public Accountants
--------------------------------------------------
Board of Directors and Stockholders
BIO-key International, Inc.
We have audited the accompanying balance sheets of BIO-key International, Inc.
as of December 31, 2003 and 2002 and the related statements of operations,
stockholders' deficit and cash flows for each of the three years in the three
year period ended December 31, 2003. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of BIO-key International, Inc. as
of December 31, 2003 and 2002, and the results of its operations and its cash
flows for each of the three years in the three year period ended December 31,
2003, in conformity with accounting principles generally accepted in the United
States.
The accompanying financial statements have been prepared in conformity with
accounting principles generally accepted in the United States, which contemplate
continuation of the Company as a going concern. However, as discussed in Note A
to the financial statements, the Company has not generated significant revenues
since inception, has suffered recurring losses from operations and has a
stockholders' deficit. These aforementioned issues, among others, raise
substantial doubt about the Company's ability to continue as a going concern.
The financial statements do not include any adjustments that might result from
this uncertainty. Management's plans in regard to these matters are also
discussed in Note A.
/s/ Divine, Scherzer & Brody, Ltd.
Minneapolis, Minnesota
March 25, 2004
---------------
43
BIO-key International, Inc.
BALANCE SHEETS
ASSETS
December 31,
----------------------------
2003 2002
------------ ------------
CURRENT ASSETS
Cash and cash equivalents $ 1,012,790 $ 16,748
Accounts receivable 409,803 67,998
Inventory 65,857 --
Prepaid expenses 165,929 50,897
------------ ------------
Total current assets 1,654,379 135,643
EQUIPMENT, FURNITURE AND FIXTURES - at cost, less
accumulated depreciation 60,157 --
OTHER ASSETS 150,206 121,991
------------ ------------
$ 1,864,742 $ 257,634
============ ============
LIABILITIES AND STOCKHOLDERS' DEFICIT
CURRENT LIABILITIES
Current maturities of long-term obligations $ -- $ 6,507,286
Advances from stockholder 34,030 --
Accounts payable 351,742 354,694
Accrued liabilities 173,736 572,701
Deferred revenue 10,000 --
------------ ------------
Total current liabilities 569,508 7,434,681
LONG-TERM OBLIGATIONS, net of discount, less current maturities 10,431,223 --
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' DEFICIT
Preferred stock - authorized, 5,000,000 shares of $.01 par value
(liquidation preference of $100 per share)
Series B 9% convertible issued and outstanding, 4,180
and 18,430 shares, respectively 42 184
Common stock - authorized, 60,000,000 shares of $.01 par value; issued
and outstanding 21,222,889 and 14,377,406 shares, respectively 212,229 143,774
Additional contributed capital 18,327,992 16,284,399
Accumulated deficit (27,676,252) (23,605,404)
------------ ------------
(9,135,989) (7,177,047)
------------ ------------
$ 1,864,742 $ 257,634
============ ============
The accompanying notes are an integral part of these statements.
44
BIO-key International, Inc.
STATEMENTS OF OPERATIONS
Years ended December 31,
--------------------------------------------
2003 2002 2001
------------ ------------ ------------
Revenues
Product sales $ 102,007 $ 3,154 $ --
License fees 411,400 131,460 --
Technical support and other services 10,694 20,785 --
------------ ------------ ------------
524,101 155,399 --
Costs and other expenses
Cost of product sales 87,387 2,720 --
Cost of technical support and other services 1,694 -- --
Selling, general and administrative 2,118,122 1,926,328 1,318,465
Research, development and engineering 1,037,330 1,084,513 947,932
------------ ------------ ------------
3,244,533 3,013,561 2,266,397
------------ ------------ ------------
Operating loss (2,720,432) (2,858,162) (2,266,397)
Other income (deductions)
Interest expense (1,109,786) (1,162,935) (317,627)
Sundry 4,145 1,123 --
------------ ------------ ------------
(1,105,641) (1,161,812) (317,627)
------------ ------------ ------------
Loss before extraordinary gain (3,826,073) (4,019,974) (2,584,024)
Extraordinary gain - troubled payable reduction -- -- 300,250
------------ ------------ ------------
NET LOSS $ (3,826,073) $ (4,019,974) $ (2,283,774)
============ ============ ============
Basic and diluted loss to common stockholders
Net loss $ (3,826,073) $ (4,019,974) $ (2,283,774)
Convertible preferred stock dividends and accretion (136,755) (164,965) (550,478)
------------ ------------ ------------
Loss applicable to common stockholders $ (3,962,828) $ (4,184,939) $ (2,834,252)
============ ============ ============
Basic and diluted loss per common share
Loss before extraordinary gain $ (.22) $ (.31) $ (.24)
Extraordinary gain -- -- .03
------------ ------------ ------------
Net loss (.22) (.31) (.21)
Convertible preferred stock dividend and accretion (.01) (.01) (.05)
------------ ------------ ------------
Loss applicable per common share $ (.23) $ (.32) $ (.26)
============ ============ ============
Weighted average number of shares 17,543,586 13,227,735 10,962,859
============ ============ ============
The accompanying notes are an integral part of these statements.
45
BIO-key International, Inc.
STATEMENT OF STOCKHOLDERS' DEFICIT
Series A Series B
9% Convertible 9% Convertible
Preferred Stock Preferred Stock Common Stock Additional
--------------- --------------- ------------------- contributed Accumulated
Shares Amount Shares Amount Shares Amount capital deficit Total
------- ------ ------- ------ --------- -------- ----------- ------------ ------------
Balance as of December 31, 2000 19,875 $ 199 -- $-- 9,966,724 $ 99,667 $13,133,600 $(16,519,778) $ (3,286,312)
Conversion of Series A
preferred stock and
cumulative dividends
in arrears into common
stock (1,431) (14) -- -- 670,445 6,704 18,232 (24,922) --
Issuance of Series B
preferred stock in
exchange for Series A
preferred stock and
dividends in arrears,
less offering costs of
$40,500 (18,444) (185) 21,430 214 -- -- 240,520 (281,049) (40,500)
Accretion of preferred
stock beneficial
conversion feature -- -- -- -- -- -- 451,000 (451,000) --
Conversion of notes and
accrued interest into
common stock -- -- -- -- 1,891,300 18,914 494,887 -- 513,801
Fair value of beneficial
conversion feature on
debenture -- -- -- -- -- -- 113,000 -- 113,000
Options and warrants
issued for services and
other -- -- -- -- -- -- 1,086,786 -- 1,086,786
Net loss -- -- -- -- -- -- -- (2,283,774) (2,283,774)
------- ----- ------- ----- ---------- -------- ----------- ------------ ------------
Balance as of December 31, 2001 -- -- 21,430 214 12,528,469 125,285 15,538,025 (19,560,523) (3,896,999)
Conversion of series B
preferred stock and
cumulative dividends
in arrears into common
stock -- -- (3,000) (30) 1,045,739 10,457 14,480 (24,907) --
Conversion of note and
accrued interest into
common stock -- -- -- -- 803,198 8,032 314,360 -- 322,392
Options and warrants
issued for services and
other -- -- -- -- -- -- 417,534 -- 417,534
Net loss -- -- -- -- -- -- -- (4,019,974) (4,019,974)
------- ----- ------- ----- ---------- -------- ----------- ------------ ------------
Balance as of December 31, 2002 -- -- 18,430 184 14,377,406 143,774 16,284,399 (23,605,404) (7,177,047)
Conversion of series B
preferred stock and
cumulative dividends
in arrears into common
stock -- -- (14,250) (142) 4,239,206 42,392 202,525 (244,775) --
Conversion of note,
debenture and accrued
interest into common
stock -- -- -- -- 2,097,953 20,980 1,552,486 -- 1,573,466
Exercise of options into
common stock -- -- -- -- 308,324 3,083 58,582 -- 61,665
Options and warrants
issued for services and
other -- -- -- -- -- -- 156,000 -- 156,000
Common stock issued in
exchange for services
and other -- -- -- -- 200,000 2,000 74,000 -- 76,000
Net loss -- -- -- -- -- -- -- (3,826,073) (3,826,073)
------- ----- ------- ----- ---------- -------- ----------- ------------ ------------
Balance as of December 31, 2003 -- $ -- 4,180 $ 42 21,222,889 $212,229 $18,327,992 $(27,676,252) $ (9,135,989)
======= ===== ======= ===== ========== ======== =========== ============ ============
The accompanying notes are an integral part of this statement.
46
BIO-key International, Inc.
STATEMENTS OF CASH FLOWS
Years ended December 31,
-----------------------------------------
2003 2002 2001
----------- ----------- -----------
Cash flows from operating activities
Net loss $(3,826,073) $(4,019,974) $(2,283,774)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation 6,386 -- 31,942
Amortization
Deferred financing costs -- -- 11,524
Discounts on convertible debt related to
warrants and beneficial conversion
features 415,634 662,048 60,863
Non-cash interest 1,131,053 -- --
Options and warrants issued for services and other 156,000 385,534 70,786
Common stock issued for services and other 76,000 -- --
Change in assets and liabilities:
Accounts receivable (341,805) (67,998) 9,118
Inventories (65,857) -- --
Prepaid expenses and other (115,032) 155,737 (184,889)
Accounts payable (2,951) 116,198 (89,902)
Accrued liabilities (300,500) 503,518 448,607
Unearned Income 10,000 -- --
----------- ----------- -----------
Net cash used in operating activities (2,857,145) (2,264,937) (1,925,725)
Cash flows from investing activities
Capital expenditures (66,543) -- --
Other (28,215) 1,615 (2,635)
----------- ----------- -----------
Net cash provided by (used in)
investing activities (94,758) 1,615 (2,635)
Cash flows from financing activities
Net borrowings under short-term borrowing agreements -- -- 1,370,000
Issuance of convertible bridge notes -- 1,830,000 --
Issuance of long-term obligations 3,852,250 -- 1,065,000
Net advance from stockholder 34,030 -- --
Financing costs -- (64,900) (40,500)
Exercise of stock options and warrants -- -- --
Sale of common stock 61,665 -- --
----------- ----------- -----------
Net cash provided by financing activities 3,947,945 1,765,100 2,394,500
----------- ----------- -----------
NET INCREASE (DECREASE) IN CASH 996,042 (498,222) 466,140
Cash and cash equivalents, beginning of year 16,748 514,970 48,830
----------- ----------- -----------
Cash and cash equivalents, end of year $ 1,012,790 $ 16,748 $ 514,970
=========== =========== ===========
The accompanying notes are an integral part of these statements.
47
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE A - THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Change in name of Company
-------------------------
In February 2002, the Company's shareholders approved the change in the
Company's name from SAC Technologies, Inc. to BIO-key International,
Inc.
Nature of Business
------------------
BIO-key International, Inc. (the Company) incorporated on January 7,
1993 with operations in Minneapolis, Minnesota. The Company's goal is
to develop and market advanced biometric fingerprint technology
solutions that provide fast, easy and highly secure personal
identification for online access to computers and networks. The
Company's fingerprint identification techniques can be used without the
aid of a personal identification number. The Company's target market
includes Internet application service providers, Internet based
retailers and other operators of private networks, and entities where
security and identification applications are required.
Basis of Presentation
---------------------
Broad commercial acceptance of the Company's technology is critical to
the Company's success and ability to generate revenues. The Company has
had no significant revenues to date, and has accumulated losses during
the past three years of approximately $10,130,000, of which
approximately $3,826,000 was incurred during 2003. As of December 31,
2003, there was a stockholders' deficit of approximately $9,136,000.
The Company is in need of substantial additional capital. The Company
is currently considering various alternatives related to raising
additional capital including continued funding from an investment group
and new funding from other sources. No assurance can be given that any
form of additional funding will be available on terms acceptable to the
Company, that adequate funding will be obtained to meet its needs, or
that such funding would not be dilutive to existing stockholders.
The accompanying financial statements have been prepared in conformity
with accounting principles generally accepted in the United States,
which contemplate continuation of the Company as a going concern. The
matters described in the preceding paragraphs raise substantial doubt
about the Company's ability to continue as a going concern.
Recoverability of a major portion of the recorded asset amounts shown
in the accompanying balance sheet is dependent upon the Company's
ability to obtain additional funding, meet its funding requirements on
a continuing basis, and succeed in its future operations. The
accompanying financial statements do not include any adjustments that
might be necessary should the Company be unable to continue in
existence.
48
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE A - THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
Summary of Significant Accounting Policies
------------------------------------------
A summary of the significant accounting policies consistently applied
in the preparation of the accompanying financial statements follows:
1. Revenue Recognition
-------------------
Revenues from software licensing is recognized in accordance with
Statement of Position (SOP) No. 97-2, Software Revenue Recognition, as
amended by SOP No. 98-9. Accordingly, revenue from software licensing
is recognized when all of the following criteria are met: persuasive
evidence of an arrangement exists, delivery has occurred, the fee is
fixed or determinable, and collectibility is probable.
The Company intends to enter into arrangements with end users for items
which may include software license fees, usage fees and services or
various combinations thereof. For each arrangement, revenues will be
recognized when evidence of an agreement has been documented, the fees
are fixed or determinable, collection of fees is probable, delivery of
the product has occurred and no other significant obligations remain.
Multiple-Element Arrangements: For multiple-element arrangements, each
element of the arrangement will be analyzed and the Company will
allocate a portion of the total fee under the arrangement to the
elements using vendor specific objective evidence of fair value of the
element, regardless of any separate prices stated within the contract
for each element. Vendor specific objective evidence is based on the
price the customer is required to pay when the element is sold
separately (i.e., software license fees charged when consulting or
other services are not provided, hourly rates charged for consulting
services when sold separately from a software license or usage fees).
If vendor specific objective evidence of fair value does not exist for
any undelivered elements, all revenue is deferred and recognized
ratably over the service period if the undelivered element is services,
or until sufficient objective evidence of fair value exists or all
elements have been delivered.
License Revenues: Amounts allocated to license revenues are recognized
at the time of delivery of the software and all other revenue
recognition criteria discussed above have been met.
Service Revenues: Revenues from services are comprised of consulting
and implementation services. Consulting services are generally sold on
a time-and-materials basis and include a range of services including
installation of software and assisting in the design of interfaces to
allow the software to operate in customized environments. Services are
generally separable from other elements under the arrangement since
performance of the services are not essential to the functionality of
any other element of the transaction and are described in the contract
such that the total price of the arrangement would be expected to vary
as the result of the inclusion or exclusion of the services. Revenues
from services are generally recognized as the services are performed.
49
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE A - THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
1. Revenue Recognition - Continued
-------------------------------
Usage Fees: Usage fees are charged on certain applications based on the
customer's volume of use. Usage revenue is recognized based on the
actual level of activity used by the customer or, in the case of
fixed-fee arrangements, ratably over the arranged time period.
Although each sale will be separately negotiated, the Company does not
anticipate offering customers any extended payment terms.
The Company provides customers, free of charge or at a minimal cost,
testing kits which potential licensing customers may use to test
compatibility/acceptance of the Company's technology with the
customer's intended applications.
2. Cash and Cash Equivalents
-------------------------
Cash equivalents consist of certificates of deposit and all other
liquid investments with original maturities of three months or less.
The Company maintains its cash balances in a financial institution in
Nevada. These balances are insured by the Federal Deposit Insurance
Corporation up to $100,000.
3. Accounts Receivable
-------------------
Accounts receivable are carried at original invoice amount less an
estimate made for doubtful receivables based on a review of all
outstanding amounts on a monthly basis. Management determines the
allowance for doubtful accounts by regularly evaluating individual
customer receivables and considering a customer's financial condition,
credit history, and current economic conditions. Accounts receivable
are written off when deemed uncollectible. Recoveries of accounts
receivable previously written off are recorded when received.
4. Equipment, Furniture and Fixtures
---------------------------------
Equipment, furniture and fixtures are stated at cost. Depreciation is
provided for in amounts sufficient to relate the cost of depreciable
assets to operations over their estimated services lives of three and
five years using the straight-line method. Equipment, furniture and
fixtures consisted of the following as of December 31:
2003 2002
-------- --------
Equipment $ 66,543 $206,363
Furniture and fixtures 36,550 36,550
-------- --------
103,093 242,913
Less accumulated depreciation 42,936 242,913
-------- --------
$ 60,157 $ --
======== ========
50
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE A - THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
5. Advertising Expense
-------------------
The Company expenses the costs of advertising as incurred. Advertising
expenses for the years ended December 31, 2003, 2002, and 2001, were
approximately $18,000, $6,000, and $1,000, respectively.
6. Research and Development Expenditures
-------------------------------------
All costs related to development of new products are charged to expense
as incurred. Such costs are required to be expensed until technological
feasibility and proven marketability of the product are established.
7. Basic and Diluted Loss per Common Share
---------------------------------------
Basic and diluted loss per common share for all periods presented is
computed using the weighted average number of common shares
outstanding. Basic weighted average shares outstanding include only
outstanding common shares. Shares reserved for outstanding warrants,
stock options or convertible preferred stock are not considered because
the impact of the incremental shares is antidilutive.
8. Income Taxes
------------
The Company provides for income taxes based on income reported for
financial reporting purposes. Certain charges to earnings differ as to
timing from those deducted for tax purposes; these relate primarily to
net operating loss carryforwards. The tax effect of these differences
is recorded as deferred income taxes.
9. Accounting for Stock-Based Compensation
---------------------------------------
The Company uses the intrinsic value method prescribed by Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees" (APB 25) in accounting for employee stock options. Under the
intrinsic value method, compensation expense is recognized only to the
extent the market price of the common stock exceeds the exercise price
of the stock option at the date of the grant.
In the future, if employees exercise certain nonstatutory stock
options, the Company may realize a tax benefit equal to the tax effect
on the difference between the strike price of the option and the fair
market value of the stock on the day of exercise. Tax benefits
realized, if any, by the Company will be credited to additional paid-in
capital. Similar accounting treatment is also given to any tax benefits
the Company may realize arising from employees making disqualifying
dispositions of incentive stock options.
51
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE A - THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
10. Use of Estimates
----------------
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management
to make estimates and assumptions that affect the reported amounts of
assets and liabilities at the date of the financial statements, the
reported amounts of revenues and expenses during the reporting period,
and disclosure of contingent assets and liabilities. Actual results
could differ from those estimates. Estimates are used for such items as
valuation of deferred income taxes, conversion features of convertible
debentures and preferred stock, and stock options and warrants
outstanding.
NOTE B - PREPAID EXPENSES
Prepaid expenses consisted of the following as of December 31:
2003 2002
-------- -------
Consulting fees $ 90,000 $24,274
Insurance 42,181 26,623
Other 33,748 --
-------- -------
$165,929 $50,897
======== =======
In October 2003, the Company entered into a twelve-month consulting
agreement with a financial advisory services company. The terms of the
consulting agreement require $108,000 to be paid in fees over the term
of the agreement. The consulting fees are amortized to expense over the
term of the agreement, which expires October 31, 2004.
NOTE C - OTHER ASSETS
Other assets consisted of the following as of December 31:
2003 2002
-------- --------
Patents costs $ 68,306 $ 40,091
Offering costs 81,900 81,900
-------- --------
$150,206 $121,991
======== ========
52
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE C - OTHER ASSETS - CONTINUED
In March 2002, the Company engaged an investment banking firm to advise
the Company regarding raising additional capital through the potential
future issuance of the Company's equity, debt or convertible
securities. The firm received a nonrefundable retainer fee of $50,000,
out of pocket costs of $14,900 and has been granted a warrant to
purchase 25,000 shares of the Company's common stock at an exercise
price of $1.00 per share through March 22, 2006. The estimated value of
the warrant is $17,000. These deferred costs shall be offset against
any proceeds received from the sale of additional capital or charged to
operations in the period this engagement terminates.
NOTE D - ACCRUED LIABILITIES
Accrued liabilities consisted of the following as of December 31:
2003 2002
---------- --------
Interest $1,131,053 $537,004
Compensation 167,859 35,555
Other 5,877 142
---------- --------
$1,304,789 $572,701
========== ========
NOTE E - RECAPITALIZATION TRANSACTION
On November 26, 2001, the Company completed a recapitalization
transaction (the Transaction) with an investment group (the Investor).
As a result of the Transaction, the Company converted approximately
$4.6 million of short-term debt and accruals into long-term convertible
notes and debentures, obtained $1.065 million of additional funding and
issued shares of its newly designated Series B 9% convertible preferred
stock in exchange for all of the issued and outstanding shares of its
Series A 9% convertible preferred stock and the cumulative dividends in
arrears due thereon. Additionally, the Investor forgave $300,250 of
previously accrued penalties which has been treated as an extraordinary
gain in 2001 in the accompanying financial statements. Under the terms
of the Transaction, the Investor agreed to provide $1.08 million of
additional funding in incremental monthly installments during the
six-month period commencing March 1, 2002.
53
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE F - LONG-TERM OBLIGATIONS
Long-term obligations consisted of the following as of December 31:
2003 2002
----------- ----------
10% secured convertible note issued in 2001 $ 3,617,920 $4,092,920
Zero interest convertible debenture -- 1,000,000
10% secured convertible notes issued in 2002 1,080,000 1,080,000
7% convertible notes issued in 2002 750,000 750,000
7% secured convertible notes issued in 2003 3,852,250 --
Discounts assigned to fair values of
conversion feature and warrants -- (415,634)
Accrued interest 1,131,053 --
----------- ----------
10,431,223 6,507,286
Less current maturities -- 6,507,286
----------- ----------
$10,431,223 $ --
=========== ==========
A summary of the Company's long-term notes and debentures are as
follows:
o 10% SECURED CONVERTIBLE NOTE ISSUED IN 2001: Prior to the
Transaction, the Company had unsecured short-term notes from
the Investor in the aggregate principal amount of $2,770,000.
The Investor converted this amount and associated accrued
interest of $257,920 together with additional financing of
$1,065,000 into a convertible note in the principal amount of
$4,092,920 (the Convertible Note). During 2003, the Investor
converted $475,000 of this note along with accrued interest of
$98,465 into 764,620 shares of the Company's common stock at
the stipulated per share conversion price of $0.75 per share.
The Convertible Note, as amended, is due October 1, 2005 along
with accrued interest at 10% per annum. The note is
collateralized by substantially all of the Company's assets.
In conjunction with the issuance of the Convertible Note, the
Company issued a warrant to the Investor to purchase 4,000,000
shares of common stock at $1.00 per share through November 26,
2006. The Convertible Note was recorded net of a $1,016,000
discount assigned to the fair value or the warrant. The value
assigned to the warrant was amortized as interest expense over
the twenty-two month life of the Convertible Note. The fair
value assigned to the warrant was estimated on the grant date
using the Black-Scholes pricing model. The assumptions used to
determine the fair value of the grant included the following
assumptions: risk-free interest rate of 3.5%, expected life of
three years, stock price volatility of 175%, and expected
dividends of zero.
54
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE F - LONG-TERM OBLIGATIONS - CONTINUED
o ZERO INTEREST CONVERTIBLE DEBENTURE: During 2000 and 2001, the
Company had accrued penalties under a previous registration
rights agreement with the Investor in the amount of
$1,300,250. In 2001, the Investor agreed to reduce the penalty
by $300,250 and converted the balance into a convertible
debenture in the principal amount of $1,000,000. During 2003,
the Investor converted this debenture into 1,333,333 shares of
the Company's common stock at the stipulated per share
conversion price of $0.75 per share. The $300,250 reduction in
previously accrued penalties has been treated as an
extraordinary gain for 2001 in the accompanying financial
statements.
o 5% CONVERTIBLE NOTE: During 2001, a convertible note in the
principal amount of $539,625 was issued in exchange for the
cancellation of an outstanding 5% debenture in the principal
amount of $418,000 plus accrued interest of $121,625. During
2001 and 2002 this note was converted into shares of the
Company's common stock at the stipulated per share conversion
price equal a 22% discount to the average of the closing price
of the common stock for the five days preceding conversion.
This convertible note was recorded net of a $113,000 discount
assigned to the fair value of the beneficial conversion
feature. This discount was amortized as interest expense when
the debt was converted to common stock.
o 10% SECURED CONVERTIBLE NOTES ISSUED IN 2002: As part of the
Company's November 2001 recapitalization transaction, the
Investor agreed to provide additional financing in incremental
monthly installments during the six-month period commencing
March 1, 2002, subject to certain conditions. As of December
31, 2002, the Company has received $1,080,000 and issued notes
payable to the Investor. The notes, as amended, are due
October 1, 2005 along with accrued interest at 10% per annum.
The notes are convertible into shares of the Company's common
stock at a conversion price of $0.75 per share. The notes are
collateralized by substantially all of the Company's assets.
o 7% CONVERTIBLE NOTES ISSUED IN 2002: As part of an August 2002
bridge note agreement with the Investor, the Investor has
provided a total of $750,000 of additional financing in
incremental monthly installments during the four-month period
commencing August 2002, and issued the corresponding notes
payable to the Investor. The note, as amended, is due October
1, 2005 along with accrued interest at 7% per annum. The
bridge notes are convertible at the option of the Investor
into shares of the Company's common stock at a conversion
price of $0.75 per share or into shares of the Company's
series B preferred stock at a conversion price of $100 per
share. The note is collateralized by substantially all of the
Company's assets.
55
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE F - LONG-TERM OBLIGATIONS - CONTINUED
o 7% SECURED CONVERTIBLE NOTES ISSUED IN 2003: In January 2003,
the Investor agreed to provide up to $2,350,000 of new debt
financing. The agreement was amended in October 2003 to
provide for up to $2,500,000 of additional funding. As of
December 31, 2003, the Company had received advances totaling
$3,852,250. Pursuant to this agreement, the Investor shall
provide the additional monthly borrowings through October
2004, subject to certain conditions. The terms of the notes,
as amended December 31, 2003, require the principal and
accrued interest at 7% to be repaid on October 1, 2005. In the
event that the Company completes a private placement of equity
securities resulting in gross proceeds of at least $5,000,000
on or before June 30, 2004 the principal amount and accrued
interest due under the note is convertible, at the option of
the Investor, into the securities sold in such transaction at
a conversion price equal to the sale price of such securities.
Upon completion of such an equity transaction, the Investor
also has the right to request repayment of the note. The
Investor may, at any time, elect to convert some or all of the
notes into shares of the Company's common stock at a
conversion price of $0.75 per share or into shares of the
Company's series B preferred stock at a conversion price of
$100 per share. The notes are collateralized by substantially
all of the Company's assets. The terms of a Registration
Rights Agreement with the Investor, as amended, require the
Company to file a registration statement with the SEC covering
the resale of any shares of common stock issuable upon any
conversion of these notes. This registration statement shall
be required to be filed sixty days after the date on which the
Investor provides written notice to the Company of its demand
that such a registration be filed.
o ACCRUED INTEREST: As of December 31, 2003, the above listed
long-term obligations were amended to provide, among other
things, that all accrued interest be repaid on October 1,
2005.
Primarily all of the Company's interest expense was related to
obligations due the Investor. The conversion and exercise prices of the
Company's convertible instruments, options and warrants discussed here
and elsewhere were determined by individual negotiation between the
Company and the individual security holder or grantee.
NOTE G - COMMITMENTS AND CONTINGENCIES
Operating Leases
----------------
The Company operates a leased facility in Minnesota under a
non-cancelable operating lease that expires in August 2007. In addition
to base rent, the Company pays for property taxes, maintenance,
insurance, and other occupancy expense applicable to the leased
premises.
56
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE G - COMMITMENTS AND CONTINGENCIES -CONTINUED
Operating Leases - Continued
----------------------------
Minimum rental commitments of non-cancelable operating leases are
approximately as follows:
Year ending December 31,
------------------------
2004 $ 34,110
2005 34,110
2006 34,110
2007 22,740
----------
$ 125,070
==========
Rental expense was approximately $60,000, $63,000 and $70,000 during
2003, 2002, 2001, respectively.
Employment Agreements
---------------------
The Company has employment agreements with two individuals. The
employment agreements contain non-compete clauses that restrict the
employees from competing with the Company following a termination of
employment from the Company. In the event of termination without cause,
as defined, the agreements provide each employee with severance
payments. As of December 31, 2003, the aggregate commitment is
approximately $296,000.
Litigation Settlements
----------------------
During 1999, a former licensor of technology to the Company commenced
litigation claiming breach of contract. The Company filed a
counter-claim. In August 2001, the Company and the plaintiff reached a
settlement whereby both parties release each other from all claims, the
plaintiff agreed to deliver copies of certain software to the Company,
and the Company agreed to pay $50,000 to the plaintiff in various
installments through April 2002. The entire settlement amount was
charged to expense in 2001. The plaintiff has not delivered all of the
specified software. Accordingly, the Company has suspended making its
scheduled payments. The remaining unpaid balance was $25,000 as of
December 31, 2003.
NOTE H - STOCKHOLDERS' EQUITY
Increase in Authorized Shares of Common Stock
---------------------------------------------
In February 2002, the Company's shareholders approved amendments to its
articles of incorporation which increased the number of authorized
shares of common stock from 20,000,000 to 60,000,000.
57
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE H - STOCKHOLDERS' EQUITY - CONTINUED
Issuance of Series B 9% Convertible Preferred Stock
---------------------------------------------------
In November 2001, the Company issued 21,430 shares of its newly
authorized Series B 9% convertible preferred stock (the Series B
Preferred Stock) in exchange for all 18,444 outstanding shares of its
Series A 9% convertible preferred stock (the Series A Preferred Stock)
and cumulative dividends in arrears of $281,049 due thereon. In
conjunction with the issuance of the Series B Preferred Stock, all
previously issued shares of Series A Preferred Stock were retired and
canceled and became authorized but unissued shares of preferred stock.
The Series B Preferred Stock accrues dividends of 9% payable
semi-annually on June 15, December 15, and on such date that the
preferred stockholder elects to convert preferred stock to common
stock, in cash, or at the option of the Company, in additional shares
of its common stock. As of December 31, 2003, cumulative dividends in
arrears were approximately $86,000. The Series B shares are redeemable
at the option of the Company, so long as the Company's common stock is
eligible for quotation on the OTC Bulletin Board and the shares
issuable upon conversion are subject to an effective registration
statement. The Series B shares are convertible into shares of the
Company's common stock at a per share conversion price equal to the
lesser of $0.75 or a 22% discount to the average closing price of the
common stock during the five trading days preceding conversion. The
Series B shares have no voting rights.
The fair value assigned to the beneficial conversion feature of the
Series B shares was $451,000. The $451,000 is analogous to a dividend
and was immediately recognized as a return to the preferred stockholder
since the Series B shares are immediately convertible into common
stock.
58
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE H - STOCKHOLDERS' EQUITY - CONTINUED
Warrants
--------
The Company has issued warrants to certain creditors, investors,
underwriters and consultants. A summary of warrant activity is as
follows:
Exercisable at
Expiration December 31,
Outstanding Price per share date 2003
----------- --------------- ---------- --------------
Balance, December 31, 2000 1,515,966 1,381,966
Granted in connection with
10% secured convertible
note payable 4,000,000 $1.00 2006 4,000,000
Granted to consultants 295,932 $0.38-$1.00 2004-2006 295,932
---------- --------------
Balance, December 31, 2001 5,811,898 5,677,898
Granted to consultants 418,000 $0.45-$1.25 2003-2006 418,000
Expired (372,216) $0.84-$3.60 - (372,216)
---------- --------------
Balance, December 31, 2002 5,857,682 5,723,682
Granted to consultants 200,000 $0.49 2006 200,000
Expired (663,000) $0.86-$7.50 -- (529,000)
---------- --------------
Balance, December 31, 2003 5,394,682 5,394,682
========== ==============
Exercised through
December 31, 2003 7,500
===============
The estimated fair value of the warrants granted during 2003, 2002 and
2001 was $67,000, $32,000 and $1,171,000, respectively. The estimated
fair value of the 295,932 warrants granted to consultants in 2001 was
$150,000 of the $1,171,000 total for the year. The fair value of
warrants is estimated as of the grant date using the Black-Scholes
pricing model utilizing the same assumptions described in Note I. The
estimated fair value of warrants granted for goods and services is
being amortized to expense over the terms of the consulting agreements.
59
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE I - STOCK-BASED COMPENSATION
1996 Stock Option Plan
----------------------
During 1996, the Board of Directors and stockholders of the Company
adopted the 1996 Stock Option Plan (the 1996 Plan). Under the 1996
Plan, 750,000 shares of common stock are reserved for issuance to
employees, officers, directors, and consultants of the Company at
exercise prices which may not be below 100% of fair market value for
incentive stock options and 50% for all others. The term of stock
options granted may not exceed ten years. Options issued under the Plan
vest pursuant to the terms of stock option agreements with the
recipients. In the event of a change in control, as defined, all
options outstanding vest immediately. The Plan terminates in May 2006.
1999 Stock Option Plan
----------------------
During 1999, the Board of Directors of the Company adopted the 1999
Stock Option Plan (the 1999 Plan). The 1999 Plan was not presented to
stockholders for approval and thus incentive stock options are not
available under the plan. Under the 1999 Plan, 2,000,000 shares of
common stock are reserved for issuance to employees, officers,
directors, and consultants of the Company at exercise prices which may
not be below 85% of fair market value. The term of nonstatutory stock
options granted may not exceed ten years. Options issued under the Plan
vest pursuant to the terms of stock option agreements with the
recipients. In the event of a change in control, as defined, all
options outstanding vest immediately. The 1999 Plan terminates in
August 2009.
Non-Plan Stock Options
----------------------
Periodically, the Company has granted options outside of the 1996 and
1999 Plans to various employees and consultants. In the event of change
in control, as defined, certain of the non-plan options outstanding
vest immediately.
60
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE I - STOCK-BASED COMPENSATION - CONTINUED
Summary of Option Information
-----------------------------
Information summarizing option activity is as follows:
Number of shares Weighted
--------------------------------------------------- Range of average
1996 1999 Non- exercise exercise
plan plan Plan Total prices price
-------- --------- ---------- ---------- ---------- --------
Balance, December 31, 2000 114,380 616,669 1,481,000 2,212,049 .27 - 6.42 1.28
Granted 276,000 840,000 730,000 1,846,000 .19 - .46 .40
Expired or canceled -- - (230,000) (230,000) .27 - .91 .54
-------- --------- ---------- ----------
Balance, December 31, 2001 390,380 1,456,669 1,981,000 3,828,049 .19 - 6.42 .86
Granted -- 380,000 150,000 530,000 .31 - .45 .35
Expired or canceled -- - (168,000) (168,000) 1.00 1.00
-------- --------- ---------- ----------
Balance, December 31, 2002 390,380 1,836,669 1,963,000 4,190,049 .19 - 6.42 .77
Granted 130,000 150,000 2,460,000 2,740,000 .20 - 1.32 .89
Exercised -- (193,743) (114,581) (308,324) .20 .20
Expired or canceled (33,000) (616,257) (1,040,419) (1,689,676) .19 - 3.00 1.04
-------- --------- ---------- ----------
Balance, December 31, 2003 487,380 1,176,669 3,268,000 4,932,049 .19 - 6.42 .79
======== ========= ========== ==========
Available for future
grants, December 31,
2003 169,620 629,588 NA 799,208
======== ========= ========== ==========
Additional information regarding outstanding options as of December 31,
2003 is as follows:
Shares exercisable under
Shares under outstanding options outstanding options
---------------------------------------------------------------------- ------------------------------
Weighted
Weighted average Weighted
Range of average remaining average
exercise Number exercise life Number exercise
prices of shares price (in years) exercisable price
---------------- ------------- ------------ -------------- ------------- -----------
$ .19 - .50 2,016,000 $ .38 3.9 1,350,905 $ .37
.51 - .97 1,463,049 .67 4.1 988,049 .73
1.00 - 1.32 1,400,000 1.31 6.8 50,000 1.18
3.22 - 6.42 53,000 6.12 3.6 53,000 6.12
61
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE I - STOCK-BASED COMPENSATION - CONTINUED
Summary Option Information - Continued
--------------------------------------
The weighted average fair value of options granted to employees and
directors during 2003, 2002 and 2001 were $0.62, $0.17 and $0.15 per
share, respectively. The fair value of each option grant is estimated
as of the date of the grant using the Black-Scholes option-pricing
model utilizing the same assumptions presented in the proforma
compensation disclosure section below.
Options were granted to consultants and strategic partners during 2003,
2002 and 2001 totaling 5,000, 350,000 and 276,000 shares, respectively.
The estimated fair value of the options granted to consultants and
strategic partners which vested in 2003, 2002 and 2001 were $0,
$100,000 and $1,387,000, respectively.
Proforma Compensation Disclosure
--------------------------------
The Company has adopted Statement of Financial Accounting Standards No.
123 "Accounting for Stock-Based Compensation" (SFAS No. 123) which
encourages, but does not require, a fair-value based method of
accounting for employee stock options. As permitted under SFAS 123, the
Company has continued to account for employee stock options using the
intrinsic value method outlined in APB 25, "Accounting for Stock Issued
to Employees." Accordingly, no compensation expense has been recognized
by the Company for its stock options granted to employees or directors.
If compensation expense for the stock options granted had been
determined based on the fair value at the grant dates consistent with
the method of SFAS No. 123, the Company's proforma net loss and
proforma loss per share would have been as follows:
Years ended December 31,
----------------------------------------
2003 2002 2001
------------ ------------ ------------
Net loss
As reported $(3,826,073) $(4,019,974) $(2,283,774)
Proforma (3,962,073) (4,166,974) (2,480,774)
Loss applicable to common
stockholders
As reported $(3,962,828) $(4,184,939) $(2,834,252)
Proforma (4,098,828) (4,331,939) (3,031,252)
Basic and diluted loss per
common share
As reported $ (.23) $ (.32) $ (.26)
Proforma (.23) (.33) (.28)
62
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE I - STOCK-BASED COMPENSATION - CONTINUED
Proforma Compensation Disclosure - Continued
--------------------------------------------
In determining the proforma compensation cost of the options granted,
the fair value of each grant was estimated on the date of grant using
the Black-Scholes option pricing model. The assumptions used to
determine the fair value of each grant included the following weighted
average assumptions:
2003 2002 2001
---- ---- ----
Risk free interest rate 1.90% 2.54% 3.50%
Expected life of options (in years) 3.00 5.00 3.00
Expected dividends -- -- --
Volatility of stock price 120% 154% 175%
NOTE J - INCOME TAXES
Deferred taxes are due to income tax credits and net operating loss
carryforwards, and to the temporary differences between the carrying
values of certain assets and liabilities for financial reporting and
income tax purposes. Significant components of deferred taxes are as
follows at December 31:
2003 2002
----------- -----------
Current asset:
Accrued compensation $ 20,000 $ 38,000
Non-current asset:
Accrued interest and other 396,000 193,000
Income tax credits 166,000 112,000
Net operating loss carryforwards 9,070,000 7,985,000
Valuation allowances (9,652,000) (8,328,000)
----------- -----------
$ -- $ --
=========== ===========
A valuation allowance equal to the full amount of the deferred tax
asset has been recorded due to the uncertainty of realization of the
deferred tax assets due to operating loss history of the Company. The
valuation allowance could be reduced or eliminated based on future
earnings and future estimates of taxable income. Similarly, income tax
benefits related to stock options exercised have not been recognized in
the financial statements.
The Company has federal and Minnesota net operating loss carryforwards
of approximately $24,504,000 and $12,406,000, respectively, as of
December 31, 2003. These operating losses expire between 2011 and 2023.
Net operating loss carryforwards may be subject to the limitations
under Section 382 of the Internal Revenue Code due to changes in the
equity ownership of the Company.
63
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE K - FAIR VALUES OF FINANCIAL INSTRUMENTS
The Statement of Financial Accounting Standards Board No. 107
"Disclosures about Fair Value of Financial Instruments" (SFAS 107)
requires disclosure of the estimated fair value of an entity's
financial instruments. Such disclosures, which pertain to the Company's
financial instruments, do not purport to represent the aggregate net
fair value of the Company. At December 31, 2003 and 2002, the carrying
value of all material financial instruments, for which it is
practicable to estimate the fair value, approximated fair value because
of the short maturity of those instruments.
NOTE L - SUPPLEMENTARY DISCLOSURES OF CASH FLOW INFORMATION
Years ended December 31,
---------------------------------------------------
2003 2002 2001
----------- -------- ----------
Cash paid for:
Interest $ -- $ -- $ --
Noncash Financing Activities:
Conversion of short-term notes and
penalties into long-term notes 9,300,170 -- 4,567,546
Conversion of convertible notes, bridge
notes, and accrued interest into
common stock 1,573,465 322,392 513,801
Accretion of preferred stock
beneficial conversion feature -- -- 451,000
Issuance of Series B preferred stock in
exchange for Series A preferred
stock and cumulative dividends in
arrears, thereon -- -- 281,049
Issuance of common stock in exchange
for Series A and Series B
preferred stock and cumulative
dividends in arrears, thereon 244,919 24,937 31,626
Issuance of warrants for reduction in
payables -- 32,000 --
NOTE M - RECLASSIFICATIONS
Certain amounts in the 2002 and 2001 financial statements have been
reclassified to conform to the 2003 and 2002 presentation. These
reclassifications had no effect on the previously reported net loss or
stockholders' deficit.
64
BIO-key International, Inc.
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2003, 2002 and 2001
NOTE N - EVENTS OCCURRING SUBSEQUENT TO DECEMBER 31, 2003
In January 2004, the Company provided an employee of the Company a
seven year option to purchase 75,000 shares of the Company's common
stock at an exercise price of $1.10 per share. The option vests in
three annual installments commencing January 4, 2005.
During the first quarter ending March 31, 2004 we issued an aggregate
of 3,355,725 shares of common stock upon conversion of $2,063,938
principal amount and $452,856 of accrued interest due under the 10%
secured convertible note issued in 2001.
In March 2003, at the request of the Investor, the Company issued
Thomas J. Colatosti, the chairman of the Board, a $375,000 note and the
Investor (collectively the Investors) a $2,125,000 note in exchange for
the October 31, 2003, $2,500,000 7% Secured Convertible Promissory Note
due the Investor. The terms of the notes require the principal and
accrued interest at 7% to be repaid on October 1, 2005. In the event
that the Company completes a private placement of equity securities
resulting in gross proceeds of at least $5,000,000 on or before June
30, 2004 the principal amount and accrued interest due under the notes
are convertible, at the option of the Investors, into the securities
sold in such transaction at a conversion price equal to the sale price
of such securities. Upon completion of such an equity transaction, the
Investors also have the right to request repayment of the note. The
Investors may, at any time, elect to convert some or all of the notes
into shares of the Company's common stock at a conversion price of
$0.75 per share or into shares of the Company's series C preferred
stock at a conversion price of $100 per share.
In March 2004, we designated 100,000 shares of preferred stock as
Series C Convertible Preferred Stock (the "Series C Shares"). The
Series C Shares accrue a cumulative annual dividend of 7% on the $100
face amount of such shares payable June 15 and December 15 each year in
shares of common stock. In the event of a liquidation, dissolution or
winding up of the Company, the Series C shares have a liquidation
preference of $100 per share plus all accrued dividends thereon prior
to any payment or distribution to holders of our common stock. The
Series C Shares are convertible into common stock at a conversion price
of $.75 per share. The conversion price is subject to proportional
adjustment in the event of stock splits, stock dividends or
reclassifications. Subject to certain exceptions, in the event we issue
additional shares of common stock at a purchase price less than the
conversion price of the Series C Shares, the conversion price shall be
lowered to such lesser price. In the event that the trading price of
our common stock is less than $1.00 per share for thirty (30)
consecutive trading days at any time after March 3, 2007, we will be
required to redeem the Series C Shares by payment of $100 per share
plus all accrued and unpaid dividends due thereon. We are required to
obtain the consent of the holders of a majority of the Series C Shares
in order to among other things, issue any shares of preferred stock,
rights, options, warrants, or any other securities convertible into
common stock of the Company, other than those issued to employees of
the Company in the ordinary course of their employment or to
consultants or other persons providing services to the Company so long
as such issuances do not exceed 500,000 shares of common stock.
In March 2004, we issued 65,000 shares of series C convertible
preferred stock to the Investor in exchange for the cancellation of
$5,736,232 principal amount of outstanding convertible promissory notes
and $758,302 of accrued interest due therunder. The series C
convertible preferred are convertible at the option of the holder into
common stock at a conversion price of $.75 per share, subject to
certain anti-dilution adjustments.
In February 2004, the Company signed a nonbinding letter of intent to
acquire Public Safety Group, Inc. Terms of the proposed acquisition
include $500,000 down and $3,600,000 in BIO-key's common stock.
65
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
BIO-KEY INTERNATIONAL, INC.
Date: March 25, 2004 /s/ Michael W. DePasquale
---------------------------------------
Michael W. DePasquale
CHIEF EXECUTIVE OFFICER
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in the capacities on the dates indicated.
Signature Title Date
/s/ Thomas J. Colatosti Chairman of the Board of March 25, 2004
---------------------------- Directors
Thomas J. Colatosti
/s/ Gary E. Wendt Chief Financial Officer, March 25, 2004
---------------------------- Principal Accounting Officer
Gary E. Wendt and Director
/s/ Jeffrey J. May Director March 25, 2004
----------------------------
Jeffrey J. May
/s/ Charles P. Romeo Director March 25, 2004
----------------------------
Charles P. Romeo
EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION
3.8 Certificate of Designation of Series C Convertible Preferred
Stock
10.16 Amendment No. 1 to Note Purchase Agreement dated October 31,
2003 by and between the Registrant and The Shaar Fund Ltd.
10.17 Securities Exchange Agreement dated March 3, 2004 by and
between the Registrant and The Shaar Fund Ltd.
10.18 Registration Rights Agreement dated March 3, 2004 by and
between the Registrant and The Shaar Fund Ltd.
10.19 Amended and Restated Secured Convertible Promissory Note due
October 31, 2005 in the principal amount of up to $2,125,000
10.20 Amended and Restated Secured Convertible Promissory Note due
October 31, 2005 in the principal amount of $375,000
10.21 Option to Purchase 500,000 Shares of Common Stock issued to
Michael W. DePasquale
10.22 Option to Purchase 150,000 Shares of Common Stock issued to
Thomas J. Colatosti
10.23 Option to Purchase 50,000 Shares of Common Stock issued to
Thomas J. Colatosti
10.24 Option to Purchase 50,000 Shares of Common Stock issued to
Jeff May
10.25 Option to Purchase 50,000 Shares of Common Stock issued to
Charles Romeo
10.26 Option to Purchase 300,00 Shares of Common Stock issued to
Randy Fodero
23.1 Consent of Divine, Scherzer & Brody, Ltd.
31.1 Certificate of CEO of Registrant required by Rule 13a-14(a)
under the Securities Exchange Act of 1934, as amended
31.2 Certificate of CFO of Registrant required by Rule 13a-14(a)
under the Securities Exchange Act of 1934, as amended
32.1 Certificate of CEO of Registrant required by Rule 13a-14(b)
under the Securities Exchange Act of 1934, as amended
32.2 Certificate of CFO of Registrant required by Rule 13a-14(b)
under the Securities Exchange Act of 1934, as amended