ITEM 1. BUSINESS GENERAL
Electric Fuel Corporation ("EFC" or the "Company") is engaged in the design, development and commercialization of an innovative, advanced zinc-air battery. To date, the main application for the Company's technology has been a system for powering zero emission electric vehicles. In part, because the market for electric vehicles has not demonstrated previously anticipated levels of growth in 1997, the Company began a strategic shift to actively expand its activities in non-electric vehicle applications for its zinc-air battery technology. The Company intends to establish its proprietary zinc-air batteries as the industry leader in the markets for portable electronic devices, electric vehicles, safety products and defense applications.
The Company's high-energy, high-power zinc-air battery is composed of a zinc-anode and an air (oxygen reduction) cathode. During discharge, oxygen from the air is electrochemically reduced to hydroxide ions at the cathode, and zinc at the anode is consumed by conversion to zinc oxide. While zinc-air technology has been in use for over a century, the Company has developed unique technology that provides its batteries with enhanced performance in both power and energy at a low manufacturing cost.
To fully utilize its zinc-air battery technology for a wide selection of applications, at the end of 1997 the Company created three market related business units: Electric Vehicles, Consumer Batteries, and Defense and Safety Products.
The Electric Vehicle division is continuing to focus on fleet applications of the zinc-air battery system with its partners in the United States, Europe and Asia. Pursuant to a Memorandum of Understanding, the division is also continuing development of a transit bus in cooperation with the Center for Sustainable Technology ("CST") in Las Vegas, Nevada, for the US transit market, and of new vehicle applications including an electric scooter battery for the Far East market.
The Consumer Batteries division has been formed to pursue the increasing market interest in a primary single use battery as a substitute for the current heavier, more expensive, rechargeable batteries. Applications are expected to include batteries for cellular telephones, camcorders, laptop computers and other portable consumer electronic devices.
The Defense and Safety Products division has been formed to continue to expand the development of other advanced uses of the battery technology, including a high-power zinc-oxygen battery for torpedoes and other military applications and an advanced portable zinc-air battery for the US Army. This division also oversees the Company's water-activated survivor locator light products for the airline and marine markets and is pursuing further development of the safety products business.
The Company was incorporated in Delaware in 1990. Unless the context requires otherwise, all references to the "Company" refer collectively to the Company and its wholly-owned subsidiary incorporated under the laws of Israel, Electric Fuel (E.F.L.) Limited ("EFL"), Electric Fuel GmbH, a German wholly- owned subsidiary of EFL and other subsidiaries of EFC and EFL. EFC's executive offices are located at 885 Third Avenue, New York, New York 10022, and its telephone number at its executive offices is (212) 230-2172.
The Company's R&D activities are primarily carried out by EFL at its facilities in Jerusalem and Beit Shemesh, Israel. The Company's facility in Bremen, Germany primarily facilitates the activities of the electric vehicle division in Europe. In May 1997, the Company opened a battery research and development facility in Auburn, Alabama. The Auburn facility is located in a newly constructed building near Auburn University. The facility builds and tests prototype cells and batteries.
BUSINESS STRATEGY
Consistent with the formation of its three divisions, the Company is focusing its efforts on commercializing its technology in three main areas: electric vehicles, consumer electronics and defense and safety products.
The Company's strategy is to market its Electric Fuel System for electric vehicles (the "Electric Fuel Electric Vehicle System") initially to large commercial and mass transit fleet operators. The Company believes that environmental concerns, recently enacted and proposed legislation create significant incentives for fleet operators to use electric vehicles, and that the Electric Fuel Electric Vehicle System is particularly suitable for fleet operations. Governmental action continues in the United States, and the Company believes this will create incentives for fleet operators and primarily bus and mass transit operators to introduce electric vehicles into their fleets. In the Far East, proposed legislation affecting scooters creates a significant market for electric scooters. The Company intends to strengthen existing and to develop new networks of strategic alliances with fleet operators, companies engaged in energy production and transportation, automobile manufacturers and others in order to establish the infrastructure necessary for further development and commercialization of the Electric Fuel Electric Vehicle System.
For its consumer battery technology, the Company intends to manufacture cells and assemble batteries, and work with strategic partners on marketing, sales and distribution. Strategic partners for cell phone batteries may include cell phone manufacturers, battery producers and assemblers, cellular phone service providers and consumer goods distributors.
The Company expects that defense products will be developed for, and sold by, prime contractors or directly to military and defense agencies. The Company will continue to seek new applications for its technology in defense projects.
For its safety products, the Company intends to continue to work with large distributors which specialize in this market. The Company is investigating several new applications for its water activated battery technology, including for use in marine life jackets.
THE ELECTRIC VEHICLE DIVISION
The Electric Vehicle division focuses on fleet applications of the zinc-air battery system with its partners in the United States, Europe and Asia.
THE COMPANY'S ELECTRIC FUEL ELECTRIC VEHICLE SYSTEM - ---------------------------------------------------
The Electric Fuel zinc-air energy system consists of an in-vehicle, zinc- air battery composed of a series of zinc-anode cassettes; a battery exchange unit for fast vehicle turn-around; an automated battery refueling system for mechanically replacing, rather than electrically recharging, depleted fuel cassettes; and a regeneration system for recycling the depleted fuel cassettes. With its proprietary air cathode and zinc anode, the zinc-air battery delivers a combination of high energy density and high power density, which together power electric vehicles with speed, acceleration, and range like those of conventional vehicles.
The Electric Fuel zinc-air battery system for powering electric vehicles offers significant advantages over other electric vehicle batteries, making it ideal for fleet and mass transit operators. Fleet operators require a long operating range, large payload capacity, operating flexibility, all weather performance, fast vehicle turnaround, and competitive life-cycle costs. Electric Fuel powered full-size vehicles, capable of long-range, high-speed travel, fill the needs of the transit operators, in all weather conditions, with cost effective fast refueling. An all-electric, full-size bus, powered by the Electric Fuel system can provide transit authorities a full day's range for both heavy duty city and suburban routes in all weather conditions.
In field trials with major European entities, the Company is demonstrating the commercial viability of the battery system by regularly driving 300 to 400 km in actual drive cycles. In 1996, an Mercedes-Benz MB410 van powered by the Electric Fuel zinc-air battery crossed the Alps and traveled from Chambray, France over the Moncenisio Pass and continued to the Edison zinc-air regeneration plant in Turin, Italy. The 152 mile (244 km) drive included a 93 mile (150 km) continuous climb over mountainous terrain in which the vehicle climbed over 4950 feet (1500 meters) to reach the summit at 6874 feet (2083 meters), using only 65% of the battery's capacity. In November 1997, the Company powered a Mercedes-Benz MB410 van from central London to Central Paris on a single charge, a distance of 272 miles (439 km), not including the transport through the English Channel Tunnel.
MAJOR PROGRAMS AND STRATEGIC PARTNERSHIPS - -----------------------------------------
The Company has formed several strategic partnerships and is engaged in demonstration programs in various locations with respect to the Electric Fuel Electric Vehicle System.
Germany - The Deutsche Post - ---------------------------
In a field test managed by the German postal service, the Electric Fuel Electric Vehicle System is being tested by the Deutsche Post in vehicles powered by the Electric Fuel battery in Bremen, Germany (the "Field Test"). The Field Test is managed by Deutsche Post to conduct a representative operating test of the Electric Fuel Electric Vehicle System. Only vehicles powered by the Electric Fuel Electric Vehicle System are being tested. In addition to Deutsche Post, participants in the Field Test currently include Vattenfall AB, the largest utility in Sweden, the Swedish postal service, as well as German industrial suppliers Mercedes-Benz AG, and Webasto AG Fahrzeugtechnik, an automotive parts manufacturer ("Webasto"). A consortium of South African companies led by ESKOM, the South African utility company, has also joined the Field Test as an Associate Partner and is considering a demonstration project in South Africa. To date, over 40,000 kilometers have been logged on electric vehicles in the Field Test.
In December 1997, the Company and Deutsche Post agreed to extend the Field Test through May 1998. Deutsche Post, subject to the satisfaction of certain conditions, has also agreed to fund the additional operating costs for this period. Deutsche Post has stated that it will decide in June 1998, on the basis of its own requirements and at its discretion, whether it deems the Field Test successful, and whether or not it intends to accept it for use in its fleet. The Company believes that acceptance of the Electric Fuel Electric Vehicle System by Deutsche Post for its fleet is a key factor with respect to the Company's efforts to commercialize the Electric Fuel Electric Vehicle System in Europe. There can be no assurance, however, that Deutsche Post will deem the Field Test to have been successful and, even if they do, they may not accept the Electric Fuel Electric Vehicle System as a powering system for a substantial portion of its fleet.
Germany -- Krupp UHDE - ---------------------
The Company has a three year agreement, terminating February 1999, with Krupp UHDE under which both companies will cooperate in the joint development and marketing of Electric Fuel regeneration plants during the term of the Field Test. Additionally, the Company and Krupp UHDE have entered into an agreement which provides for a cooperative marketing arrangement for commercial Electric Fuel regeneration plants in Germany, Austria, Switzerland, Belgium, Luxembourg and The Netherlands. This cooperation agreement is for an exclusive basis until five years after the completion of the Field Test and will terminate in the year 2011. Pursuant to this agreement, the Company is entitled to receive fees on a per transaction basis based on Krupp UHDE's revenues related to the sale of regeneration plants as well as recurring fees from the purchasers of these plants.
Italy -- Edison - ----------------
In May 1993, the Company entered into an exclusive license agreement (pursuant to the exercise of an option granted in 1991) with Edison, Italy's leading private operator in the field of electric energy production. Pursuant to this license, which terminates in 2008, Edison is authorized to manufacture, use and sell Electric Fuel Vehicle batteries, Refueling Systems, Regeneration Systems and related services based on the Company's technology in Italy, France, Spain and Portugal. The license also grants Edison non-exclusive license rights for the sale of Electric Fuel battery systems and related services to Deutsche Post and Deutsche Telekom, if the Company has first sold in excess of an aggregate of 250 batteries to those customers.
As part of the license agreement, Edison agreed to cooperate in a development program which will cover a maximum of four years commencing in December 1996. During this four-year period, Edison will purchase from the Company batteries and related components and services in an amount up to $4.0 million, but not less than 600 million Italian lira (approximately $341,000) per year. In October 1996, the Company agreed to offset the $4.0 million obligation by an amount equal to the amount of certain prior payments made by Edison to the Company of approximately $2.0 million with respect to the purchase of products and services from the Company in connection with Edison's activities
to date. Edison's present commitment has therefore been reduced to $2.0 million. After the earlier of (x) the end of the four-year period or (y) Edison selling at least 150 battery systems in any consecutive four-month period, the cooperation described above will terminate and Edison will be obligated to purchase from the Company no less than 35% of all battery cells required by it for manufacturing battery systems and no less than 20% of the refueling systems it requires so long as the Company is able to provide these products at prices competitive with Edison's internal costs of producing these products itself. There can, however, be no assurance that the Company will be able to produce such components in a manner that will make such sales profitable to the Company. The license expires in the year 2008, and Edison is under no obligation to exploit the Company's technology.
Through December 31, 1997, the Company had reported revenues from Edison of $7.2 million for a licensing fee, the supply of prototype batteries and other system components, a refueling system and a pilot 10 kg/hour regeneration plant. In accordance with the license agreement, Edison has agreed to pay the Company royalties on net sales of products and services incorporating the Company's technology, after those sales exceed $10 million, at the following rates: 5% on net sales over $10 million up to $100 million; 4% on net sales over $100 million up to $125 million; 3% on net sales over $125 million up to $150 million; and 2% on net sales over $150 million.
Sweden -- Vattenfall - --------------------
Contemporaneously with the Field Test in Bremen, Vattenfall AB and the Swedish postal service, Posten Distribution AB, have been operating two of the Field Test vehicles in Sweden. For this purpose, Vattenfall has contracted with the Company to purchase Electric Fuel Vehicle batteries, identical to those being used in the Field Test. The Company has agreed to provide refueling and regeneration services to Vattenfall from the 100 kg/hour regeneration plant in Bremen.
In April 1997, the Company completed a rights agreement with Vattenfall, under which Vattenfall exercised its right for a license to establish and operate the Electric Fuel infrastructure for the territory of Sweden, Denmark, Norway, Finland and St. Petersburg, Russia. While a definitive license agreement has not yet been signed, the rights agreement covers the main elements of the license agreement and the future development of the Electric Fuel Electric Vehicle System in the Scandinavian market. If executed, the agreement would run for 25 years and allow Vattenfall, for payment of royalties and certain other considerations to Electric Fuel, the exclusive right to commercialize the Electric Fuel Electric Vehicle System. Vattenfall would then have the exclusive right to own and operate regeneration plants, to run and operate refueling and battery exchange stations and to distribute Electric Fuel batteries in the above described territory. Execution of the definitive license agreement will be decided upon by Vattenfall only after completion of the Field Test in May 1998.
Israel -- Israel Electric Corporation - -------------------------------------
During the fourth quarter of 1996, the Company and the Israel Electric Corporation ("IEC") entered into an agreement (the "IEC Agreement") pursuant to which the Company and IEC agreed to cooperate with respect to a demonstration program for and marketing of the Electric Fuel Electric Vehicle System in Israel. Pursuant to the IEC Agreement, IEC was also granted the exclusive license for sales of Electric Fuel and the provision for zinc-air battery refueling and regeneration services in Israel, Egypt, Jordan, Lebanon, Syria and the Palestinian Authority. In addition, IEC has agreed to pay to the Company royalties based on a percentage of revenues related to the license after June 30, 1999. The IEC Agreement also provides a right of first refusal to IEC with respect to similar licenses covering Saudi, Arabia, Iraq, Iran and the United Arab Emirates. The IEC Agreement may be terminated by either party for breach and by IEC, in any event, upon 60 days notice to the Company. IEC has paid the Company $960,000 in connection with the IEC Agreement. IEC will be test driving one Mercedes-Benz MB410 van in Israel during 1998.
The Netherlands - ---------------
Electric Fuel, pursuant to a Memorandum of Understanding, is working on a program for the Province of Gelderland, the largest province in Holland, to utilize the Electric Fuel Electric Vehicle System in passenger van "train- taxis", cabs which transport people between train stations and their final destinations. The program is managed by KEMA,
an international consulting and management organization which specializes in electric energy systems. Other project partners include electric utility companies NUON of Holland and Vattenfall of Sweden. One Mercedes-Benz Vito passenger van was converted to an electric drivetrain and was presented at the World Sustainable Energy Trade Fair in Amsterdam in May 1997, where the Company exhibited its technology. This vehicle is currently undergoing final modifications at Mercedes-Benz to accept Electric Fuel batteries.
THE UNITED STATES - -----------------
Electric Power Research Institute - ---------------------------------
In 1997, the Company and the Electric Power Research Institute, the research and development organization for the electricity industry, signed a memorandum of understanding for a phased program to collaborate in the development and commercial introduction of the Electric Fuel technology in North America. In accordance with the memorandum of understanding, a preliminary study was performed by EPRI in cooperation with Electric Fuel to establish principal markets for the Electric Fuel vehicle battery system. EPRI is now conducting an assessment of fleet market acceptability of the Electric Fuel zinc-air batteries. EPRI is also conducting a program to investigate the economic feasibility of establishing a zinc regeneration infrastructure in specific US geographic regions, assess the environmental impact of the technology and its infrastructure, verify performance of the zinc-air battery system in a certified laboratory and test the performance of the battery under actual use conditions in the United States.
New York Power Authority - ------------------------
The Company and the New York Power Authority signed a memorandum of understanding in 1997 for a joint program to introduce the Electric Fuel zinc- air battery system in the New York City area, concentrating at first on buses for mass transit. Under the program, Electric Fuel and the New York Power Authority have stated their intent to work together to secure local partners drawn from the private and public sectors who are interested in participating in the demonstration project. These include local business fleet operators, transit operators, environmental and government organizations.
The Company and the New York Power Authority have also stated their intention to jointly undertake feasibility studies to determine the technical and financial viability of moving forward with a full-scale commercial operation to include construction of a zinc regeneration facility in New York City.
Center for Sustainable Technology - ---------------------------------
The Company and the Center for Sustainable Technology, L.L.C., have signed a memorandum of understanding to establish the first US-based Electric Fuel battery bus demonstration site in Las Vegas.
Subject to receiving funding from the U.S. Department of Transportation, it is anticipated that the joint project will include outfitting, operating and maintaining a zinc-air powered bus in Nevada to demonstrate the practical applications of the Electric Fuel Electric Vehicle System in transit buses, and demonstrate the superior performance and convenience of the Electric Fuel Electric Vehicle System.
The Center for Sustainable Technology and the Company plan to develop engineering requirements for a model zinc regeneration facility to refuel a fleet of electric vehicles. Electric Fuel and the Center for Sustainable Technology intend to form strategic alliances with both public and private organizations in Nevada to support this phase of the project. There can be no assurance, however, that such funding will be obtained.
JAPAN -- TOMEN CORPORATION - --------------------------
The Company and Tomen Corporation have signed a cooperation agreement to introduce the Electric Fuel Electric Vehicle System in Japan and other locations in the Far East. Under the first phase of the agreement, the Company and Tomen will determine feasibility of advancing the zinc-air technology in Japan, including pursuing a demonstration
project and researching the potential market requirements. Tomen is acting as Electric Fuel's exclusive marketing representative with industry, governmental and quasi-governmental organizations, and is researching the legal and regulatory requirements in Japan to commercialize the zinc-air technology.
The Company and Tomen are also working to form strategic alliances with public and private organizations to support the program and advance the commercialization of the zinc-air battery.
COMPETITION - -----------
The Company believes that its products must be available at a price that is competitive with alternative technologies, particularly those intended for use in zero or low-emission vehicles. Besides other battery technologies, these include "hybrid systems", which combine internal combustion engine, diesel engine, battery technologies, use of hydrogen, and regular or low pollution fuels such as gasoline, diesel, compressed natural gas, liquified natural gas, ethanol and methanol. Other alternative technologies presently use costly components, including use of fuel cells, supercapacitors, flywheels and catalytic removal of pollutants. These various technologies are at differing stages of development and any one of them, or a new technology, may prove to be more cost effective, or otherwise more readily acceptable by consumers, than the Electric Fuel Electric Vehicle System. In addition, the California Air Resource Board has expressed concerns to the Company about the infrastructure requirements of the Electric Fuel Electric Vehicle System as compared to battery technologies which use electrical recharging.
The competition to develop electric vehicle battery systems and to obtain funding for the development of electric vehicle battery systems is, and is expected to remain, intense. The Company's technology competes with other battery technologies as well as with different zinc-air batteries and with advanced vehicle propulsion systems. The competition consists of development stage companies as well as major international companies, and consortia including such companies, including automobile manufacturers, battery manufacturers, and energy production and transportation companies, many of which have financial, technical, marketing, sales, manufacturing, distribution and other resources significantly greater than those of the Company.
There are many entities, including governmental, quasi-governmental, non- profit and private organizations, involved in advancing research and development of electric vehicle and low emission vehicle technologies.
In addition, several consortia have been formed to fund research on electric vehicle battery technologies which compete with the Company's battery technology, including the United States Advanced Battery Consortium ("USABC"), an organization that has funded to date a total of $260 million, which is financed by the United States Department of Energy, General Motors Corporation, Ford Motor Company, Chrysler Corporation, and the Electric Power Research Institute; the Advanced Lead-Acid Battery Consortium, funded by North American lead manufacturers; and the New Energy Development Organization, a Japanese consortium funded by the Japanese government and certain Japanese battery manufacturers. The Company believes that competing zinc-air battery technologies are at a much earlier stage of development, not just in terms of size and number of cells, modules and demonstrations in electric vehicles, but also in terms of the scale of development effort.
The Company believes that the Electric Fuel Electric Vehicle System exhibits a combination of performance characteristics superior to those of other electric vehicle battery technologies that are currently commercially available or, to the Company's knowledge, currently under development. Electric vehicle performance requirements that are likely to be established by fleet operators will include vehicle range, load capacity, speed and acceleration characteristics, refueling/recharging time and operating cost per mile.
An area of increased development has been that of fuel cell powered vehicles, spearheaded by the Ballard Corp.'s solid polymer electrolyte hydrogen- air fuel cell program. The Company considers that intrinsic problems of this system, covering costs of the precious metal catalysts and other cell components such as the polymer membrane, as well as the development of a safe and compact method of storing the hydrogen fuel (or successfully generating it via a reformer from a conventional alternative liquid fuel), could delay implementation of this system for several years. Significant investments
in this technology have been made by major automobile companies (i.e., Mercedes- Benz, Ford, General Motors, and Chrysler Corp.)
Progress achieved by rival electric vehicle systems may have an adverse effect on acceptance of the Company's electric vehicle battery technology.
MARKETING - ---------
The Company plans to seek to expand its existing strategic alliances in Europe, the United States and in the Far East, benefiting from experience gained in connection with the Field Test and its alliances with the Deutsche Post, Edison, Vattenfall and KEMA. The Company also intends to seek support of government agencies, electric utilities and zinc manufacturers.
CONSUMER BATTERY DIVISION
The Consumer Batteries division is pursuing the increasing market interest in a primary battery as a substitute for the current heavier, more expensive, rechargeable batteries. Applications include batteries for cellular telephones, camcorders, laptop computers and other portable consumer electronic devices.
PRODUCTS - --------
The Company is currently developing a series of primary, prismatic, zinc- air cells for use in battery packs for cell phones. The Company has produced prototype cells for the three most popular models of cell phones -- the Motorola MicroTAC type , Nokia 2100 series and the Ericsson 600. The Company believes these batteries will offer competitive advantages in performance, convenience, price, safety and recycling.
According to Hershel Shostek and Associates, an independent research firm, at the end of 1997 there were over 200 million subscribers for cellular phones worldwide, with projected growth to almost 800 million users by the year 2003. The Company believes that a significant number of these users will purchase primary batteries for their cell phones as an accessory or back-up for their rechargeable batteries. Consumer acceptance of a primary battery for cell phones is expected to increase as more cell phone networks have become digital and cell phones power requirements is decreasing. Based on a digital cellular network with a new generation lower power cell phone, tests have demonstrated that Electric Fuel batteries could provide up to four weeks of power at standby and 15 hours of talk time.
Battery Performance - -------------------
Electric Fuel Batteries deliver a unique combination of high energy density and high power density which provides superior performance in cell phones, camcorders and notebook PCs. The Company believes it can achieve an improvement factor of 3-4 times against any available rechargeable battery made for these products. The Company believes this power feature is the reason many consumers will use a primary (single use) battery.
In Company testing, an Electric Fuel battery for analog cellular phones has exhibited capacity of 2.65Ah, equivalent to over six hours of "talk time" in analog cellphones. This is three times more time than currently available Li- ion battery provides with equal battery pack dimensions. The Electric Fuel battery also weighs one third less than the Li-ion battery. The Company has developed a specification of a battery for a leading notebook computer with a capacity of 110Wh, compared to 30-35Wh for most Li-ion rechargeable batteries for notebook computers.
Convenience - -----------
Electric Fuel Batteries are expected to provide the same kind of convenience for cell phones and notebook PCs that "AA"s provide to "walkman" type cassette/CD players and pagers. A typical user will be able to use a digital cellular telephone for up to four weeks with a single battery. The Company's batteries are expected to be small, lightweight and
available in multiple retail channels. With an expected two year shelf life, the Company's batteries can be kept in a briefcase, purse, desk drawer, glove compartment, etc. and always be fully charged and ready to use.
MARKETING
The Company's objective is to become a leading provider of primary battery cells and batteries for portable electronic devices(PED's), initially for cell phones. To achieve that objective, the Company intends:
(1) to develop a network of strategic alliances with OEMs of these products, as well as companies engaged in the distribution & retailing of these products, battery manufacturers and others;
(2) to initially market battery cells, made by the company, to large OEMs who build and bundle the primary batteries with new product shipments and then distribute batteries to the installed base of consumers through traditional and emerging retail channels;
(3) as costs come down and market acceptance increases, the Company intends to market cells and batteries through various consumer distribution channels and seek strategic relationships with leading consumer battery manufacturers; and
(4) to develop a "power by Electric Fuel" brand name recognition program with OEMs and the battery manufacturers.
The Company's business strategy is based on selling high performance, zinc- air cells and batteries to customers including OEMs such as leading cellular telephone manufacturers worldwide; and carriers and cellular phone providers, as well to private-label battery manufacturers and distributors of cellular products and accessories.
The Company believes that initial penetration of primary batteries into these markets will depend on receiving initial orders for the cells from OEMs. Thereafter, with increasing consumer awareness and demand, consumer product companies can be approached. The Company's primary target is the cell phone market. The Company believes that after some initial success with a primary battery in the cell phone market, camcorders and notebook PCs batteries can be introduced to the market as well.
The Company believes that the market for primary batteries for these devices is not significant today principally because current primary batteries don't provide significant performance or weight advantages to make such a product acceptable to consumers. The Company believes that its primary zinc-air cells, with three or four times more performance combined with lighter weight match the requirements of the marketplace. The Company further believes that consumer acceptance is reasonably assured as most other portable electronics (such as walkman-type cassette players and electronic handheld games) are operated with primary batteries, as do nearly all household items such as cameras, watches and flashlights, etc.
The Company believes that long life, primary batteries for these devices offer significant advantages to both OEMs, service providers and consumers. Consumers will benefit by having additional operating time and features, OEMs will benefit by being able to offer PED's with enhanced features and by selling a frequently purchased, branded product (the batteries). Service providers, especially cellular carriers will benefit by an increase of "minutes of use" by subscribers.
The Company projects two sources of sales for primary batteries for cellular phones: batteries shipped with new handsets and batteries sold into the installed base.
DISTRIBUTION - ------------
The Company does not intend to be directly involved in the distribution of batteries to the consumer. Rather, batteries are expected to be distributed through two channels. The first is distribution of cell phone batteries bundled with new handsets sold by OEMs, in order to reach both new customers and current customers who are purchasing new equipment. The retail end of this channel has traditionally been resellers and specialty outlets. In addition, cellular equipment and service is increasingly becoming available at mass merchants. The second channel of distribution is by third
party distributors who sell to retailers from mass merchants to regional and local supermarkets and convenience stores and specialty retailers (such as airport shops).
Marketing for batteries, both primary and rechargeable has evolved and expanded during the past year. Large battery companies are entering the mass channels of distribution with branded name rechargeable batteries for cell phones & notebook PCs. These companies are targeting the traditional retail channels for alkaline batteries to sell rechargeable batteries for cell phones and notebook PCs. As these retailers begin selling rechargeables for cell phones and notebook PCs, the Company belives there will be a similar opportunity to market a primary battery for cell phones and notebook PCs in these outlets.
COMPETITION - -----------
The Company's batteries will compete with both rechargeable and primary battery packs. Competing rechargeable batteries include nickel-cadmium, nickel- metal-hydride and lithium-ion. Alkaline batteries are making an initial appearance in the market for primary batteries for cellular phones. The companies offering these competing technologies have substantially greater resources than the Company. The Company believes its batteries will offer competitive advantages in performance, convenience, price, safety and recycling.
DEFENSE AND SAFETY DIVISION
The Defense and Safety Products division is continuing to expand the development of other advanced uses of the battery technology, including a high- power zinc-oxygen battery for torpedoes and an advanced portable zinc-air battery for the US Army. This division also oversees the Company's water- activated survivor locator light for the airline and marine applications and will pursue further development of the safety products business. The Company was recently awarded a contract from Israel's Ministry of Defense to develop an advanced zinc-air battery for a propulsion system. The first phase of the contract will run through the end of 1998.
DEFENSE
In recent years, the Company has undertaken a number of funded, defense- related research and development projects related to its zinc-air battery technology. These projects, in the Company's opinion, can expand its future product line while allowing it to exploit the technology synergies between these development projects and the Company's other zinc-air battery development programs.
PROJECTS - --------
In December 1997, the Company was awarded a contract from the US Army's Communications-Electronics Command (CECOM) to develop an advanced primary zinc- air battery. The contract runs from January 1, 1998 through June 30, 1999.
Under the terms of the contract, the Company is required to deliver ten prototype battery packs of at least 400 watt-hours each. CECOM has set 400 watt- hours per kilogram as the minimum specific energy content of the prototype batteries to be delivered under the contract. Electric Fuel was one of three companies selected to perform the development work, along with Rayovac Corp. and Eagle Picher Industries, Inc.
The battery is to be developed initially for portable forward field chargers, and is later to be adapted for other field applications such as backpack (wearable) and man-portable power sources and chargers.
The primary zinc-air battery cell under development for the Army is similar to the cell being developed by the Company for consumer battery applications, and therefore the Company intends to pursue additional military contracts for primary zinc-air battery development.
The Company concluded the work on a second development contract for its compact, high-power zinc-oxygen battery for torpedo propulsion in July 1997. This contract with STN Atlas Elektronik GmbH of Hamburg, Germany,
(STN ATLAS) which ran from July 1996 through July 1997, was a follow-up to the first contract with STN ATLAS, which ran from July 1995 through June 1996.
STN ATLAS is the prime contractor to the German Defense Ministry for a new generation of heavyweight torpedo, and Electric Fuel's zinc-oxygen technology is being considered by STN ATLAS as a possible technology for a future version of the torpedo.
MARKETING - ---------
With shrinking defense budgets in most Western countries, less funds are being made available for research and development. The defense establishment in many countries, including the US, is looking to adopt so-called dual-use technologies, i.e., technologies that are produced for commercial markets and that can be adapted to military specifications with a minimum of expenditure. The Electric Fuel zinc-air technology fits this latter requirement, as the batteries being developed for military applications are similar to the batteries that Electric Fuel has developed and continues to develop for the electric vehicle and consumer battery markets.
Because the Electric Fuel technology appears capable of achieving energy and power densities in combinations heretofore unachieved by other battery technologies, it appears that there may be a sustainable market for the Company's products in the military following the development stages. Obviously, the Company's chances of success in the military markets would be adversely affected should alternative battery technologies prove capable of achieving similar performance levels.
COMPETITION - -----------
The Company's primary zinc-air battery competes with both primary and secondary batteries for portable military applications.
Other primary batteries available to the military market include zinc- manganese dioxide (i.e., the same as commercial alkaline batteries), lithium- sulfur dioxide, lithium-thionyl (or sulfuryl) chloride, and lithium-manganese dioxide, as well as zinc-air. The lithium batteries are inherently more hazardous than the zinc batteries. Greater disposal problems are presented for lithium than for zinc. Lithium batteries are also more costly.
All of the lithium technologies have higher energy densities than the zinc- manganese dioxide (which can reach about 125 Wh/kg). However, both lithium- sulfur dioxide have energy densities in the range of 240 - 270 Wh/kg, while the Company's zinc-air is projected to attain 400 Wh/kg in the project funded by US Army CECOM. Lithium sulfuryl chloride can reach as high as 450 Wh/kg, but is suitable only for low rate discharge and cannot provide the continuous power densities demanded by the mililtary for applications such as the CECOM forward field charger.
Primary zinc-air development contract have also been awarded by the US Army CECOM to two other battery manufacturers. Successful development of primary zinc-air cells by either of the other companies could adversely affect the Company's ability to market its product in military markets.
The Company's high-power zinc-oxygen battery technology competes with primary and secondary silver-zinc batteries, and with developmental aluminum- silver oxide batteries.
Silver-zinc batteries are produced by other battery manufacturers, and are commonly used for underwater propulsion and torpedo propulsion. Cost of producing and maintaining such batteries is high, and the zinc-oxygen battery can yield somewhat higher energy and power densities.
The aluminum-silver oxide battery has been developed by SAFT and Friwo Silberkraft and has been implemented in a lightweight torpedo, but scaling up to heavyweight torpedo size has been reported to be complicated because of the electrolyte circulation systems.
SAFETY PRODUCTS
In 1996, the Company began to produce and market products for the aviation and marine safety and emergency markets.
Products - --------
The first safety product commercialized by the Company is the model WAB- H12 Survivor Locator Light (SLL), which is a battery-powered light used to locate survivors of airplane or boat accidents in the water. The battery itself is activated by immersion in water. The SLL is typically attached to life vests, life rafts, and similar flotation devices by the manufacturers of the flotation devices, who are the Company's primary customers for the product.
The WAB-H12 SLL consists of a magnesium-cuprous chloride battery attached to a light assembly that includes a mini-bulb inside a plastic focusing lens. The battery is activated by either sea water or fresh water, and lasts for 12 hours. The lens is designed to focus maximum light in the horizontal and vertical directions dictated by various specifications governing certification of the product.
The Company manufactures, assembles and packages the SLL in its factory in Bet Shemesh, Israel. First shipments of the WAB-H12 were made in 1996, and as of the first quarter of 1998 regular monthly shipments are being made to several customers, most of whom are leading manufacturers of life vests and rafts for the commercial aviation market worldwide.
At the end of 1997, the Company began development of a new product intended specifically for the marine market, where new certification requirements are to take effect on July 1, 1998 (See Certification). This new product, designated the model WAB-MX8 lifejacket light, has been submitted for testing and approval as of March 1998. The WAB-MX8 utilizes two batteries of the type made for the WAB-H12 light, and uses a high efficiency bulb enclosed in a non-focusing dome- type lens intended to maximize light intensity throughout the upper hemisphere of the light sub-assembly, as dictated by the new marine certification requirements.
If approval is obtained, the Company expects to begin manufacturing the WAB-MX8 life jacket lightby the end of 1998.
The Company expects to continue to develop additional products for the marine safety market, including products based on the Company's water-activated technology, as well as products based on conventional, commercially available batteries.
CERTIFICATION - -------------
For use in the aviation market, a survivor locator light requires certification by the US Federal Aviation Administration (FAA) under Technical Specification Order (TSO) C-85. This certification is generally recognized worldwide. The primary functional requirement is that the appliance provide a minimum light intensity of 1.0 candela (cd) in certain specified horizontal and vertical directions for a minimum of 8 hours.
TSO approval is given to non-American manufacturers by the civil aviation authority in the country of manufacture, after TSO Design Approval by the FAA itself. Since the Company's manufacturing facilities are located in Bet Shemesh, Israel, this approval is given by the Civil Aviation Authority of Israel (CAAI).
The Company's Model WAB-H12 Survivor Locator Light received this approval and Aeronautical Product Approval (APA) C-85 certification from the CAAI in 1996, following TSO Design Approval by the FAA, and this approval is given without time limit. The Company is obligated to manufacture the WAB-H12 light with a quality assurance system approved by CAAI, and approval of the Company's Quality Assurance system for the WAB-H12 was also granted in 1996. Each shipment of TSO-certified lights must be accompanied by a CAAI-issued Certificate of
Airworthiness, demonstrating that every shipment from the Company is preceded by an inspection visit from the CAAI Airworthiness Division.
A new FAA specification, TSO C-85a, has been in effect since the 4th quarter of 1996. This new specification has more stringent testing requirements than the original TSO. Any SLL's approved under the original TSO C-85 may continue to be manufactured indefinitely under that approval, and there is no obligation to upgrade to the new TSO. To the Company's knowledge, no SLL has yet been approved under TSO C-85a. The Company has not yet applied for approval under the new specification, but intends to apply in 1998.
For use in the marine market, approval by bodies such as the US Coast Guard are required. There are two types of approval relevant to the Company's products: US Coast Guard (USCG) approval for lakes and inland waterways, and approval under the International Marine Organization (IMO) Safety on Life at Sea (SOLAS) Convention for use at sea, which can be obtained through the USCG. The primary functional requirement is similar to that of the FAA TSO C-85, except that the minimum light intensity is 0.75 cd in the marine market instead of 1.0 cd. The Company received both types of approval from the USCG in 1997 for the WAB-H12 light.
However, in 1996 new SOLAS regulations were approved, calling for a change in the functional requirement wherein the 0.75 cd light intensity would be required throughout the "upper hemisphere" rather than in certain directions only. As a result, the Company's SOLAS approval expires on June 30, 1998, while the USCG approval for lakes and inland waterways extends to 2002.
The Company expects to receive SOLAS approval for at least one new product, the model WAB-MX8 lifejacket light, in 1998. The Company will manufacture the WAB-MX8 light in its Bet Shemesh factory, under the auspices of its CAAI- approved Quality Assurance system.
MARKETING - ---------
The annual market for life jacket lights is estimated at more than 2 million units worldwide, of which about 50% is in the United States. About one- third of the sales are in the aviation market, and the other two-thirds in the marine market. All markets have shown growth of at least 5% per year in recent years, but recent economic developments in the Asian markets could mean a flattening or slight reduction in the market over the next two years.
The Company first targeted the aviation market, because of the small number of lifejacket manufacturers producing TSO-certified products. There are about 5 major producers worldwide catering to the TSO market, with 4 of them located in the US.
COMPETITION - -----------
The two largest manufacturers of aviation and marine safety products, including TSO and SOLAS-approved lifejacket lights, are ACR Electronics Inc. of Hollywood Florida, and McMurdo Ltd. of England.
ACR offers a wide range of water-activated and manually activated safety products, mostly for the marine market, including lights, strobes, transponders and beacons. ACR uses a water-activated magnesium-cuprous iodide battery for its TSO and SOLAS lifejacket lights, and has announced a primary lithium-battery based product to meet the new SOLAS regulations.
McMurdo also makes a range of water-activated and manually activated lifejacket and liferaft lights and related products for the marine market, and its parent company (and exclusive distributor) Pains Wessex Ltd. of England manufactures other marine safety products such as emergency pyrotechnic devices. McMurdo uses water-activated magnesium-silver chloride batteries in its TSO lights, and offers both water-activated and lithium-based lights for the marine market. McMurdo has also announced a primary lithium-battery based product to meet the new SOLAS regulations.
MANUFACTURING
The Company has constructed a production facility in leased premises in Bet Shemesh, Israel for manufacturing and assembling the Electric Fuel batteries and related components of the Electric Fuel System. This facility is utilized to manufacture and assemble Electric Fuel batteries for electric vehicle demonstration programs, survivor locator lights, and prototype consumer battery cells. The Company plans to expand this facility as needed to enable more efficient assembly of batteries in greater quantities. The Company believes that the manufacturing process required to produce its batteries incorporates relatively standard and inexpensive procedures and, that therefore, the establishment of a full-scale production facility should be commercially feasible.
It is the Company's plan that zinc anodes for its electric vehicle battery will be manufactured by parties licensed by the Company to operate regeneration facilities. Regeneration and refueling equipment are expected to be manufactured by the Company and by third parties licensed by the Company to do so, although proprietary components of the equipment may be manufactured and supplied by the Company. Prototype regeneration and refueling systems have been constructed by the Company and are in operation at its facilities in Israel and a prototype regeneration facility is in operation in Italy. The Company has also constructed a 100 kg/hr regeneration facility in Bremen, Germany. The zinc regeneration facility in Israel is used to produce zinc for the Company's consumer zinc-air batteries as well.
REGULATORY AND ENVIRONMENTAL MATTERS
The Company believes that its zinc-air batteries as currently contemplated will be in compliance with applicable Israeli, European, and United States federal, state and local standards that govern the manufacture, storage, use and transport of the various chemicals used, and waste materials produced, in the manufacture and use of the Company's zinc-air battery, including zinc and potassium hydroxide. The Company has obtained the necessary permits under the Israeli Dangerous Substances Law, 1993, required for the use of zinc metal, potassium hydroxide and certain other substances in its facilities in Israel.
The presence of potassium hydroxide as an electrolyte in the Company's electric vehicle batteries may subject its disposal to regulation under some circumstances. This electrolyte is the same as the electrolyte used in primary alkaline batteries and rechargeable nickel-cadmium and nickel-metal hydride batteries. The Company's electric vehicle battery technology uses relatively small amounts of spillable potassium hydroxide. The United States Department of Transportation regulates the transport of potassium hydroxide, and it is likely that the over-the-road transport of Electric Fuel will require manifesting and placarding.
The EPA, the Occupational Safety and Health Administration and other federal, state and local governmental agencies would have jurisdiction over operations of Company production facilities were they to be located in the United States. Based upon risks associated with potassium hydroxide, government agencies may impose additional restrictions on the manufacture, transport, handling, use, and sale of the Company's products.
PATENTS AND TRADE SECRETS
The Company relies on certain proprietary technology and seeks to protect its interests through a combination of patents, know-how, trade secrets and security measures, including confidentiality agreements. The Company's policy generally is to secure protection for significant innovations to the fullest extent practicable. Further, the Company continuously seeks to expand and improve the technological base and individual features of the Electric Fuel System through on-going research and development programs.
In general, the Company's proprietary technology may be categorized as follows: the overall Electric Fuel System or a combination of the Electric Fuel System components; the zinc anode, including its physical and mechanical attributes; the construction of the air cathode; cell structure and arrangements; connectors; the automatic refueling system; zinc regeneration and safety features; small consumer batteries, their components and manufacture. The Company's issued patents and pending and anticipated patent applications are principally related to inventions within these categories. The Company believes that these patents, together with its trade secrets, experience, know-how and contractual
arrangements adequately protect the Company's technology. The Company holds 34 unexpired patents granted in the United States of which five are non-zinc-air patents covering such items as water activated batteries. The Company also holds nine approved patent applications in Europe and two approved patent applications in Israel. The Company has patent applications pending in the United States, in Europe, Israel, Japan, and elsewhere, and is continually preparing additional patent applications for filing in the United States and elsewhere. All of the Company's currently issued patents expire between June 2009 and December 2014.
In addition to patent protection, the Company relies on the laws of unfair competition and trade secrets to protect its proprietary rights. The Company attempts to protect its trade secrets and other proprietary information through agreements with customers and suppliers, proprietary information and confidentiality agreements with employees and consultants and other security measures. Although the Company intends to protect its rights vigorously, there can be no assurance that these measures will be successful.
RESEARCH AND DEVELOPMENT
During the years ended December 31, 1995, 1996, and 1997, the Company's gross research and product development expenditures, including costs of revenues of prototype batteries and components of the Electric Fuel System, were $14.4 million, $13.1 million and $12.2 million, respectively. During these periods, the Office of the Chief Scientist of the Israel Ministry of Industry and Trade (the "Chief Scientist") participated in research and development efforts of the Company thereby reducing the Company's gross research and product development expenditures in the amounts of $1.6 million, $1.5 million and $2.4 million, respectively.
Under the terms of the grants from the Chief Scientist and current Chief Scientist regulations, the Company is obligated to pay royalties at the rate of 3% of the net sales of products developed from projects funded by the Chief Scientist for the first three years of sales, with increasing levels thereafter, up to 5%. The Company currently pays royalties at the rate of 3% of Electric Vehicle revenues. The obligation to make such royalty payments ends when 100% of the amount granted (in NIS linked to the dollar) is repaid. The Government of Israel does not own proprietary rights in the technology developed using its funding, but certain restrictions with respect to the technology apply, including the obligation to obtain the Israeli Government's consent to manufacture the product based on such technology outside of Israel or for the transfer of the technology to a third party, which consent may be conditioned upon an increase in royalty rates or in the amount to be repaid. Current regulations require, that in the case of the approved transfer of manufacturing rights out of Israel, the maximum amount to be repaid will be increased to 120% to 300% of the amount granted, depending on the extent of the manufacturing to be conducted outside of Israel, and that an increased royalty rate will be applied.
EMPLOYEES
As of March 15, 1998, the Company had 3 employees at its Auburn, Alabama research facility. In its Israeli subsidiary there were 116 full-time employees, of whom 7 hold doctoral degrees and 59 hold other advanced degrees. Of the total, 44 employees were engaged in product research and development, 52 were engaged in production and operations, and the remainder in general and administrative functions. The Company had, in its German subsidiary, 28 employees engaged in plant operations there. The Company's success will depend in large part on its ability to attract and retain skilled and experienced employees.
The employees and the Company are not parties to any collective bargaining agreements. However, as substantially all of the Company's employees are located in Israel and employed by EFL, certain provisions of the collective bargaining agreements between the Histadrut (General Federation of Labor in Israel) and the Coordination Bureau of Economic Organizations (including the Manufacturers' Association of Israel) are applicable to EFL's employees by order (the "Extension Order") of the Israeli Ministry of Labor and Welfare. These provisions principally concern the length of the work day and the work week, minimum wages for workers, contributions to a pension fund, insurance for work- related accidents, procedures for dismissing employees, determination of severance pay and other conditions of employment, including certain automatic salary adjustments based on changes in the Israeli CPI.
Israeli law generally requires severance pay upon the retirement or death of an employee or termination of employment without due cause. EFL currently funds its ongoing severance obligations by making monthly payments to approved severance funds or insurance policies. In addition, Israeli employees and employers are required to pay specified sums to the National Insurance Institute, which is similar to the United States Social Security Administration. Since January 1, 1995, such amounts also include payments for national health insurance. The payments to the National Insurance Institute are approximately 14.6% of wages (up to a specified amount), of which the employee contributes approximately 66% and the employer contributes approximately 34.0%. The majority of the permanent employees of EFL are covered by "managers insurance," which provides life and pension insurance coverage with customary benefits to employees, including retirement and severance benefits. The Company contributes 14.33% to 15.83% (depending on the employee) of base wages to such plans and the permanent employees contribute 5% of base wages.
In 1993, an Israeli court held that companies that are subject to the Extension Order are required to make pension contributions exclusively through contributions to Mivtachim Social Institute of Employees Ltd. ("Mivtachim"), a pension fund managed by the Histadrut. The Company subsequently reached an agreement with Mivtachim with respect to providing coverage to certain production employees and bringing it into conformity with the court decision. The agreement does not materially increase the Company's pension costs or otherwise materially adversely affect its operations. Mivtachim has agreed not to assert any claim against EFL with respect to any past practices of EFL relating to this matter. Although the arrangement does not bind employees with respect to instituting claims relating to any nonconformity by EFL, the Company believes that the likelihood of the assertion of claims by employees is low and that any potential claims by employees against EFL, if successful, would not result in any material liability to the Company.
THE REORGANIZATION
Immediately prior to the Company's initial public offering in March, 1994, one of the Company's principal stockholders, Advanced Materials Technologies, Inc. ("Amtec") was merged with and into the Company (the "Reorganization"). The Boards of Directors of EFC and Amtec determined that a reorganization of the ownership of EFC and Amtec was necessary in order to simplify the corporate structure, achieve operating efficiencies and put publicly traded stock in the hands of EFC's ultimate stockholders. The Reorganization was accomplished by a merger pursuant to which Amtec was merged with and into EFC, with EFC being the surviving corporation and with holders of Amtec's Common and Preferred Stock receiving shares of EFC's Common Stock in exchange for the Amtec equity held by them. Thus, the effects of the Reorganization were (1) to eliminate Amtec by merging it with and into EFC, and (2) to give former stockholders of Amtec equity interests directly in EFC in exchange for their equity interests in Amtec. EFC also acquired certain assets totaling approximately $328,000 in connection with the Reorganization.
ITEM 2.
ITEM 2. PROPERTIES
EFC's corporate headquarters are located in New York, New York and leased on a month-to-month basis. The Auburn, Alabama research facility, constituting approximately 2,000 square feet, is leased on an annual basis. The Company's research and development and administrative facilities, constituting approximately 11,000 square feet, are located in Jerusalem, Israel and held under a lease agreement expiring in March 2000. The Company's production facilities for the manufacture and assembly of Electric Fuel batteries, related Electric Fuel System components, and Survivor Locator Lights, constituting approximately 34,000 square feet, are located in Beit Shemesh, near Jerusalem, Israel and held under lease agreements which expired on December 31, 1997. The Company is completing a new agreement whereby the lease term would be extended for up to 10 years, with the ability to terminate the lease at any time upon 12 months written notice. In addition, during 1996, the Company leased in Beit Shemesh, additional space of approximately 16,000 square feet. The lease agreement expires on March 19, 1999, and the term of the lease may be extended for up to two years upon six months' prior written notice. The Company intends to transfer the production facilities currently located in Beit Shemesh to a new facility in Jerusalem, once it is constructed.
The Company's wholly owned subsidiary, Electric Fuel GmbH ("EFGmbH"), has leased a facility located in Bremen, Germany from Stadtwerke Bremen AG within which it has established a regeneration plant to operate vehicles
for the Deutsche Post Field Test. The lease is currently in effect and will remain in effect until 6 months after the end of the Field Test. EFGmbH has the option of extending the term of the lease until December 12, 2006. In the event that EFGmbH exercises its option, it has the right to terminate the agreement at the end of each calendar quarter upon three months written notice. In addition EFGmbH has leased approximately 3,000 square feet of office space alongside the regeneration facility. Part of the space is sub-leased. The lease agreement expires on April 30, 1998, at which time the offices will be moved into the Stadtwerke facility.
The aggregate rental payments under the long term leases, at rates in effect at December 31, 1997, are approximately $242,000, $174,000, and $39,000 in the years ended December 31, 1998, 1999 and 2000 respectively. The rental payments in Israel are payable in Israeli currency linked to the Israeli Consumer Price Index.
The Company is actively looking for additional land to construct larger premises near its Jerusalem facilities. The Company received a letter in August 1995 from the Israel Ministry of Industry and Trade authorizing the allocation to the Company of approximately 5.4 dunam (approximately 1.4 acres) with rights to construct facilities of up to approximately 90,000 square feet in Jerusalem, near its existing facilities. Although the Company has paid the Jerusalem Land Development Authority approximately $77,000 in development fees related to this site, the Company continues to look for a more suitable site. If the Company does not enter into a lease agreement for the site, the development fees will be returned to the Company.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
None.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5.
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
Since February, 1994, the Company's Common Stock has been traded under the symbol EFCX in The Nasdaq National Market. The following table sets forth, for the periods indicated, the range of high and low closing prices of the Company's Common Stock in The Nasdaq National Market System.
As of March 17, 1998 the Company had approximately 221 holders of record of its Common Stock.
The Company has never paid any cash dividends on its Common Stock. The Board of Directors presently intends to retain all earnings for use in the Company's business. Any future determination as to payment of dividends will depend upon the financial condition and results of operations of the Company and such other factors as are deemed relevant by the Board of Directors.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The selected financial information set forth below with respect to the statements of income (loss) for each of the five fiscal years in the period ended December 31, 1997, and with respect to the balance sheets at the end of each such fiscal year has been derived from the financial statements of the Company, which have been audited by Kesselman & Kesselman, independent certified public accountants in Israel, and a member firm of Coopers and Lybrand International. The financial information set forth below is qualified by and should be read in conjunction with the Financial Statements contained in Item 8 of this Report and the notes thereto and "Management's Discussion and Analysis of Financial Condition and Results of Operations contained in Item 7
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with the Financial Statements contained in Item 8
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT MANAGEMENT
EXECUTIVE OFFICERS, DIRECTORS AND SIGNIFICANT EMPLOYEES
Executive Officers and Directors
The Company's executive officers and directors and their ages as of December 31, 1997, are as follows:
___________
/(1)/ Mr. Korall's employment with the Company terminated on January 31, 1998 (see item 11
ITEM 11. EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE
The following table shows the compensation paid and accrued by the Company for services rendered for 1995, 1996 and 1997 to the Chief Executive Officer and the three highest paid executive officers who received more than $100,000 in salary and bonuses during the year ended December 31, 1997 (collectively the "Named Executive Officers").
SUMMARY COMPENSATION TABLE
___________________________
(1) The amounts reported for each Named Executive Officer were paid in New Israeli Shekels ("NIS") and have been translated into U.S. dollars at the exchange rate of NIS into U.S. dollars at the time of payment or accrual.
(2) In lieu of a cash bonus for fiscal year 1997, the Compensation Committee has, in March 1998, approved a grant of options to each of Messrs. Ehrlich and Harats, the number and terms of which are to be determined based on a present value of $50,000 under a valuation methodology to be performed by an independent third party.
(3) Represents the costs of taxes paid by the Executive officer and reimbursed by the Company.
(4) Of this amount, $29,844 represents the Company's accrual for severance pay which would be payable to Mr. Harats upon a "change of control" of the Company or upon the occurrence of certain other events, $27,201 represents the
Company's accrual for sick leave and vacation redeemable by Mr. Harats, $1,061 represents the Company's accrual for severance pay which would be payable to Mr. Harats under the laws of the State of Israel upon the termination of his employment by the Company, $35,157 consists of the Company's payments and accruals to a pension fund which provides a savings plan, insurance and severance pay benefits and an education fund which provides for the on-going education of employees. Additionally, $184,486 represents the Company's accrual to fund Mr. Harats' pension and education funds as well as provide him with certain other post-termination benefits, and $2,999 represents the value charged for tax purposes for the use of a car provided by the Company.
(5) Of this amount, $84,301 represents the Company's accrual for severance pay which would be payable to Mr. Ehrlich upon a "change of control" of the Company or upon the occurrence of certain other events, $21,519 represents the Company's accrual for sick leave and vacation redeemable by Mr. Ehrlich, $4,437 represents the Company's accrual for severance pay which would be payable to Mr. Ehrlich under the laws of the State of Israel upon the termination of his employment by the Company, and $35,157 represents the Company's payments and accruals to pension and education funds. Additionally, $112,650 represents the Company's accrual to fund Mr. Ehrlich's pension fund as well as provide him with certain other post- termination benefits, and $6,536 represents the value charged for tax purposes for the use of a car provided by the Company.
(6) Mr. Korall's employment with the Company terminated on January 31, 1998.
(7) Represents reversal of previously accrued bonus not paid to Mr. Korall.
(8) Of this amount, $104,603 represents the Company's accrual for severance pay and other termination benefits payable to Mr. Korall and agreed to as part of the termination agreement with Mr. Korall, $(16,053) represents the Company's reduction in the accrual for sick leave and vacation redeemable by Mr. Korall, $3,443 represents the Company's accrued severance pay which would be payable to Mr. Korall under the laws of the State of Israel upon the termination of his employment by the Company, $13,826 consisted of payments to Mr. Korall in lieu of vacation, and $26,365 represents the Company's payments and accruals to pension and education funds. Additionally, $2,998 represents the value charged for tax purposes for use of a car provided by the Company.
(9) In lieu of cash for part of his bonus for fiscal year 1997, the Compensation Committee has, in March 1998, approved a grant of options to Dr. Degani, the number and terms of which are to be determined based on a present value of $10,000 under a valuation methodology to be performed by an independent third party.
(10) Of this amount, $36,000 represents the Company's accrual for additional severance pay which would be payable to Dr. Degani if terminated by the Company, $1,052 represents the Company's accrual for vacation redeemable by Dr. Degani, and $11,058 represents the Company's payments and accruals to pension and education funds. Additionally, $3,796 represents the value charged for tax purposes for the use of a car provided by the Company.
The table below sets forth information with respect to stock options granted to the Named Executive Officers for the fiscal year 1997.
OPTIONS GRANTS IN LAST FISCAL YEAR
(1) In lieu of a cash bonus for fiscal year 1997, the Compensation Committee has, in March 1998, approved a grant of options to each of Messrs. Ehrlich and Harats, the number and terms of which are to be determined based on a present value of $50,000 under a valuation methodology to be performed by an independent third party.
(2) The options granted to Mr. Degani become exercisable as follows: 17,150 options on December 31, 1997, and 35,117 options each, on December 31, 1998, 1999 & 2000. In lieu of cash for part of his bonus for fiscal year 1997, the Compensation Committee has, in March 1998, approved a grant of options to Dr. Degani, the number and terms of which are to be determined based on a present value of $10,000 under a valuation methodology to be performed by an independent third party.
The table below sets forth information for the Named Executive Officers with respect to fiscal 1997 year-end option values.
_______________________
(1) In-the-money options are options for which the fair market value of the underlying securities exceeds the exercise or base price of the option. None of the options held by Named Executive Officers are currently in-the-money.
EMPLOYMENT CONTRACTS AND TERMINATION OF EMPLOYMENT ARRANGEMENTS
Each of Messrs. Ehrlich, Harats and Korall are parties to employment agreements with the Company (the "Employment Agreements") which can be extended automatically for additional terms of two years each unless terminated sooner by either the executive or the Company. Mr. Korall's Employment was terminated on January 31, 1998 (see below) and each of Messrs. Harats and Ehrlich's Employment Agreements end December 15, 2000. The Employment Agreements provide for a base salary of $11,736, $11,736, and $7,500 per month for Messrs. Ehrlich, Harats and Korall, respectively (the "Base Salary"). On each anniversary of Mr. Korall's Employment Agreement, Base Salary was adjusted in an amount equal to the excess, if any, of any increase in the Israeli Consumer Price Index over any devaluation in currency of Israel compared to the U.S. dollar during the immediately preceding year. The last adjustment to Mr. Korall's base salary was on January 1, 1997 when it was adjusted to $9,423 per month. With respect to Messrs. Harats and Ehrlich, Base Salary is adjusted in an amount equal to the greater of 3% or in an amount equal to the excess, if any, of any increase in the Israeli Consumer Price Index over any devaluation in currency of Israel compared to the US Dollar, in each case during the immediately preceding year. Accordingly, Base Salary for Messrs. Ehrlich, Harats and Korall is, as of January 1, 1998, $12,942, $12,942 and $9,423 per month, respectively. The Employment Agreements provide for bonuses to be paid in an amount of (a) not less than 50% of Base Salary or (b) 2%, 2% and 1%, respectively, of Net Earnings (defined as net income before taxes and extraordinary and other nonrecurring items) (the "Bonus"), subject to certain conditions, as well as other benefits such as vacation, sick leave, provision of automobiles and insurance contributions. The determination of the amount of Bonus to be paid pursuant to the Employment Agreements is based on attainment of the Company's budgeted results, including Net Earnings. Additionally, the Compensation Committee will set qualitative goals annually as a basis for paying the bonus to each of Messrs. Ehrlich and Harats. During 1997, no bonuses were accrued for Messrs. Ehrlich, Harats and Korall. In lieu of a cash bonus, the Compensation Committee has, in March 1998, approved a grant of options to each of Messrs. Ehrlich and Harats, the number and terms of which to be determined based on a present value of $50,000 under a valuation methodology to be performed by an independent third party. The Employment Agreements also contain confidentiality and non-competition covenants. Pursuant to the Employment Agreements, each of Messrs. Ehrlich, Harats and Korall was granted demand and "piggyback" registration rights covering shares of the Company's Common Stock held by them. The Employment Agreements may be terminated by the Company in the event of death, disability or for "Cause" (defined as conviction of certain crimes, willful failure to carry out directives of the Company's Board of Directors or gross negligence or willful misconduct). Messrs. Ehrlich and Harats each have the right to terminate their employment for "Good Reason," which is defined to include adverse changes in employment status or compensation, insolvency of the Company, material breaches and certain other events. Upon termination of employment, the Employment Agreements provide for payment of all accrued and unpaid compensation, any Bonus due for the year in which employment is terminated and a termination payment equal to thirty-six times monthly Base Salary at the highest rate in effect within the 90 day period prior to the termination of employment and certain benefits will continue and all outstanding options will be fully vested. In addition, Messrs. Harats and Ehrlich are entitled to an amount equal to the greater of (x) the average of all bonuses paid to the executive during the three most recent full calendar years immediately preceding the Termination Date or (y) all bonuses paid to the executive during the most recent full calendar year immediately preceding the Termination Date. Furthermore, Mr. Harats has the right to terminate his employment even without a "Good Reason", prior to the end of the agreement, and will still be entitled to all the termination benefits indicated above. On January 28, 1998, Messrs Ehrlich and Harats agreed, that for 1998, they would waive 25% of their base salary or $38,820 for the calendar year. The Compensation Committee, in March 1998, approved a grant of options to each of Messrs. Ehrlich and Harats, the number and terms of which are to be determined based on a present value of $38,820 under a valuation methodology to be performed by an independent third party. The options vest 1/12th per month over the calendar year. Messrs. Ehrlich and Harats each have the right to cancel the arrangement upon two weeks notification to the Company prior to the beginning of each quarter. Any unvested options would immediately be forfeited. Furthermore, while their base salary was decreased, their social benefits and 1998 bonuses, will still be calculated on the full base salary that they are entitled to by contract.
Dr. Degani entered into an employment agreement with the Company upon joining the Company in June 1997 (the" Degani Employment Agreement"). The Degani Employment Agreement has no fixed termination date, and, subject
to advance notice by either party of two months, may be terminated at will. The Degani Employment Agreement provides for a base salary of $9,000. This was adjusted to $9,500, effective January 1998. The Degani Employment Agreement provides for an annual bonus of not less than 1.5 months base salary, in accordance with Dr. Degani's success in the position, as well as other benefits such as vacation, sick leave, provision of an automobile and insurance contributions. Furthermore, Dr. Degani is entitled to a termination payment (in addition to severance pay by law), in an amount between 2-5 months base salary, depending on who gives notice, and how long Dr. Degani has been employed with the Company. The Degani Employment Agreement also contains confidentiality and non-competition covenants. On January 28, 1998, Dr. Degani agreed, that for 1998, he would waive $500 per month of his base salary, or $6,000 for the calendar year. The Compensation Committee, in March 1998, approved a grant of options to Dr. Degani, the number and terms of which are to be determined based on a present value of $6,000 under a valuation methodology to be performed by an independent third party. The options vest 1/12th per month over the calendar year. Dr Degani may cancel the arrangement upon two weeks notification to the Company prior to the beginning of each quarter. Any unvested options would immediately be forfeited. Furthermore, while his base salary was decreased, the social benefits and 1998 bonuses, will still be calculated on his full base salary.
On March 12, 1998, the Company and Mr. Korall entered into an agreement (the "Termination Agreement") to terminate Mr. Korall's Employment Agreement, and all of each of the Company's and Mr. Korall's right and obligations thereunder effective as of January 31, 1998. Pursuant to the Termination Agreement, the Company paid Mr. Korall all salary, other benefits and legally mandated severance pay due to him through that date. In addition, the Company agreed to pay to Mr. Korall additional severance pay in the amount of $120,000, payable in 24 equal monthly installments of $5,000 each, and to extend the date by which options held by Mr. Korall to purchase 90,000 Shares of the Company may be exercised to February 28, 2000. The Termination Agreement also contains mutual general releases between the Company and Mr. Korall. Simultaneously, the Company entered into a consulting agreement (the "Consulting Agreement") with Shampi Ltd., a consulting company with which Mr. Korall is affiliated. Pursuant to the terms of the Consulting Agreement, Mr. Korall will prepare several reports for the Company dealing with the Company's existing vehicle battery product and with a proposal for a new battery project. The Consulting Agreement terminates on April 10, 2000 unless renewed by mutual agreement of the parties. In consideration of these consulting services, the Company will make 24 equal monthly payments of $6,000 each to Shampi Ltd., in addition to two lump sum payments of $31,500 each at the beginning and end of the contract period. Furthermore, the Company agreed to provide to it a motor vehicle during such period for the use of Mr. Korall. Pursuant to the Consulting Agreement, Shampi Ltd and Mr. Korall have agreed to a five-year confidentiality provision and an agreement not to compete with the Company nor to solicit customers, suppliers or employees of the Company during the term of the Consulting Agreement and for a period of twelve months thereafter.
Other employees have entered into individual employment agreements with the Company. These agreements govern the basic terms of the individual's employment, such as salary, vacation, overtime pay, severance arrangements and pension plans. Subject to Israeli law, which restricts a company's right to relocate an employee to a work site further than sixty kilometers from his or her regular work site, the Company has retained the right to transfer certain employees to other locations and/or positions provided that such transfers do not result in a decrease in salary or benefits. In addition, all of these agreements contain provisions governing the confidentiality of information and ownership of intellectual property learned or created during the course of the employee's tenure with the Company. Under the terms of these provisions, employees must keep confidential all information regarding the Company's operations (other than information which is already publicly available) received or learned by the employee during the course of employment. This provision remains in force for five years after the employee has left the service of the Company. Further, intellectual property created during the course of the employment relationship belongs to the Company.
A number of the individual employment agreements, but not all, contain non- competition provisions which restrict the employee's rights to compete against the Company, or work for an enterprise which competes against the Company, for a period of two years after the employee has left the service of the Company.
Under the laws of Israel, an employee of the Company who has been dismissed from service, died in service, retired from service upon attaining retirement age, or left due to poor health, maternity or certain other reasons, is entitled to severance pay at the rate of one month's salary for each year of service. The Company funds this obligation currently by making monthly payments to approved private provident funds and by its accrual for severance pay in the consolidated financial statements. See Note 3 of the Notes to the Consolidated Financial Statements.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Compensation Committee of the Board of Directors for the 1997 fiscal year consisted of Dr. Jay Eastman, Jack Rosenfeld, and Lawrence Miller. None of the members have served as officers of the Company.
Robert S. Ehrlich, Chairman and Chief Financial Officer of the Company serves as Chairman and a director of PSCX, for which Dr. Eastman serves as director and Mr. Rosenfeld serves as director and member of the Compensation Committee.
In January 1993, each of Messrs. Ehrlich, Harats and Korall exercised options to purchase 423,116, 719,304 and 343,785 shares of the Company's Common Stock, respectively, at an exercise price of $0.35 per share. In payment for the option exercise, each of Messrs. Ehrlich, Harats and Korall issued non-recourse promissory notes (the "Promissory Notes") secured by the shares of Common Stock purchased, bearing interest at one point over the applicable United States federal funds rate. In December 1994, the Promissory Notes were amended to change the interest rate to the higher of a United States dollar rate of 7% or the percentage increase in the Israeli CPI between the date of the Promissory Notes and the date interest is calculated, based on the original principal amount of the loan expressed in NIS. Interest is payable at maturity. As of December 31, 1997, the aggregate amount outstanding pursuant to the Promissory Notes for each of Messrs. Ehrlich, Harats and Korall was $206,686, $354,774 and $147,301, respectively (including an aggregate of $206,057 in accrued interest receivable), which, in the case of Messrs. Ehrlich and Harats, are also the largest aggregate amounts outstanding since the issuance of the Promissory Notes. The Promissory Notes matured on January 3, 1998.The promissory notes of Messrs. Ehrlich and Harats were renewed as recourse notes for a period of 10 years through December 31, 2007. Mr. Korall's note has not been renewed. As part of his termination agreement, Mr. Korall has agreed to sell shares sufficient to pay the remaining balance of the loan. Interest will continue to accrue on the Promissory Notes in accordance with the terms thereof until they are fully paid.
In August 1996, each of Messrs. Ehrlich, Harats exercised options to purchase 80,000, and 170,000 shares of the Company's Common Stock, respectively, at an exercise price of $5.75 per share. In payment for the option exercise, each of Messrs. Ehrlich, and Harats issued new non-recourse promissory notes (the "New Promissory Notes") secured by the shares of Common Stock purchased, bearing interest at the rate of 6.2% per annum. The income taxes due on the option exercise were also added to the loan balance. Interest accrues at the higher of the abovementioned rate or the percentage increase in the Israeli CPI between the date of the New Promissory Notes and the date interest is calculated, based on the original principal amount of the loan expressed in NIS. Israel Value Added Tax ("VAT") is being added to the interest. Both Interest and the related VAT are payable at maturity. As of December 31, 1997, the aggregate amount outstanding pursuant to the New Promissory Notes for each of Messrs. Ehrlich and Harats was $542,619 and $1,153,184, respectively (including an aggregate of $182,728 in accrued interest and VAT receivable), which are also the largest aggregate amounts outstanding since the issuance of the Promissory Notes. The Promissory Notes mature on August 20, 2001.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth information regarding the security ownership of those persons owning of record or known to the Company to be beneficial owners of more than five percent of the Company's Common Stock as of
March 16, 1998, each of the Company's Named Executive Officers and directors, and the shares of Common Stock held by all directors and executive officers of the Company as a group.
* Less than one percent
___________________________
(1) Unless otherwise indicated in these footnotes, each of the persons or entities named in the table has sole voting and sole investment power with respect to all shares shown as beneficially owned by that person, subject to applicable community property laws.
(2) For purposes of determining beneficial ownership of the Company's Common Stock, owners of options exercisable within sixty days are considered to be the beneficial owners of the shares of Common Stock for which such securities are exercisable. The percentage ownership of the outstanding Common Stock reported herein is based on the assumption (expressly required by the applicable rules of the Securities and Exchange Commission) that only the person whose ownership is being reported has converted his options into shares of Common Stock.
(3) All shares are held in the name of the Becker Family Trust of which Mr. Becker is the trustee and sole beneficiary during his lifetime. Excludes 633,350 shares held by the Newton Becker Irrevocable Trust No. 1, as to which Mr. Becker disclaims beneficial ownership. Shares held by the Irrevocable Trust are held for the benefit of members of Mr. Becker's family. David E. Becker and Bryan Gordon, Mr. Becker's son and stepson, respectively, are co-trustees of the Irrevocable Trust.
(4) Based upon a Form 4 dated February 9, 1998. Includes 5,000 shares of Common Stock issuable upon exercise of options exercisable within 60 day, and 160,000 shares held by Leon Gross and Lawrence Miller as Co-Trustees of the Rose Gross Charitable Foundation.
(5) Includes 277,478 shares of Common Stock issuable upon exercise of options exercisable, or potentially exercisable, within 60 days.
(6) Includes 150,000 shares of Common Stock issuable upon exercise of options exercisable, or potentially exercisable, within 60 days.
(7) Includes 17,150 shares of Common Stock issuable upon exercise of options exercisable within 60 days
(8) Includes 90,000 shares of Common Stock issuable upon exercise of options exercisable, or potentially exercisable, within 60 days.
(9) Messrs. Ehrlich, Harats and Korall are parties to a Stockholders Voting Agreement pursuant to which each of the parties agrees to vote the shares of the Company's Common Stock held by that person in favor of the election of Messrs. Ehrlich and Harats (or their designees) as directors of the Company.
(10) Includes 11,667 shares of Common Stock issuable upon exercise of options exercisable within 60 days.
(11) Includes 11,667 shares of Common Stock issuable upon exercise of options exercisable within 60 days.
(12) Includes 5,000 shares of Common Stock issuable upon exercise of options exercisable within 60 days.
(13) Messrs. Gross, Ehrlich and Harats are parties to a Voting Rights Agreement pursuant to which each of the parties agrees to vote the shares of the Company's Common Stock held by that person in favor of the election of Messrs. Ehrlich, Harats and Miller for five years following October 1996.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
In January 1993, each of Messrs. Ehrlich, Harats and Korall exercised options to purchase 423,116, 719,304 and 343,785 shares of the Company's Common Stock, respectively, at an exercise price of $0.35 per share. In payment for the option exercise, each of Messrs. Ehrlich, Harats and Korall issued non-recourse promissory notes (the "Promissory Notes") secured by the shares of Common Stock purchased, bearing interest at one point over the applicable United States federal funds rate. In December 1994, the Promissory Notes were amended to change the interest rate to the higher of a United States dollar rate of 7% or the percentage increase in the Israeli CPI between the date of the Promissory Notes and the date interest is calculated, based on the original principal amount of the loan expressed in NIS. Interest is payable at maturity. As of December 31, 1997, the aggregate amount outstanding pursuant to the Promissory Notes for each of Messrs. Ehrlich, Harats and Korall was $206,686, $354,774 and $147,301, respectively (including an aggregate of $206,057 in accrued interest receivable), which, in the case of Messrs. Ehrlich and Harats, are also the largest aggregate amounts outstanding since the issuance of the Promissory Notes. The Promissory Notes matured on January 3, 1998. The promissory notes of Messrs. Ehrlich and Harats were renewed as recourse notes for a period of 10 years through December 31, 2007. Mr. Korall's note has not been renewed. As part of his termination agreement, Mr. Korall has agreed to sell shares sufficient to pay the remaining balance of the loan. Interest will continue to accrue on the Promissory Notes in accordance with the terms thereof until they are fully paid.
In August 1996, each of Messrs. Ehrlich, Harats exercised options to purchase 80,000, and 170,000 shares of the Company's Common Stock, respectively, at an exercise price of $5.75 per share. In payment for the option exercise, each of Messrs. Ehrlich, and Harats issued new non-recourse promissory notes (the "New Promissory Notes") secured by the shares of Common Stock purchased, bearing interest at the rate of 6.2% per annum. The income taxes due on the option exercise were also added to the loan balance. Interest accrues at the higher of the abovementioned rate or the percentage increase in the Israeli CPI between the date of the New Promissory Notes and the date interest is calculated,
based on the original principal amount of the loan expressed in NIS. Israel Value Added Tax ("VAT") is being added to the interest. Both Interest and the related VAT are payable at maturity. As of December 31, 1997, the aggregate amount outstanding pursuant to the New Promissory Notes for each of Messrs. Ehrlich and Harats was $542,619 and $1,153,184, respectively (including an aggregate of $182,728 in accrued interest and VAT receivable), which are also the largest aggregate amounts outstanding since the issuance of the Promissory Notes. The Promissory Notes mature on August 20, 2001.
In September 1996, Mr. Edelman exercised options to purchase 5,333 shares of the Company's Common Stock, at an average exercise price of $5.83 per share. In payment for the option exercise, Mr. Edelman issued a non-recourse promissory note (the "Promissory Note") secured by the shares of Common Stock purchased, bearing interest at the rate of 6.2% per annum. The income taxes due on the option exercise were also added to the loan balance. Interest accrues at the higher of the abovementioned rate or the percentage increase in the Israeli CPI between the date of the Promissory Note and the date interest is calculated, based on the original principal amount of the loan expressed in NIS. VAT is being added to the interest and is paid currently. Interest is payable at maturity. As of December 31, 1997, the aggregate amount outstanding pursuant to the Promissory Note was $36,330 (including an aggregate of $3,512 in accrued interest and VAT receivable), which is also the largest aggregate amount outstanding since the issuance of the Promissory Note. The Promissory Note matures on September 10, 2001.
Pursuant to a Stock Purchase Agreement dated September 30, 1996, between the Company and Mr. Gross, (the "Purchase Agreement"), on October 2, 1996, the Company issued 1,538,462 shares of Common Stock to Mr. Gross at a price of $6.50 per share, for a total purchase price of $10.0 million.
Pursuant to the terms of the Purchase Agreement, Mr. Gross agreed that for a period of five (5) years from the date of the Purchase Agreement, neither Mr. Gross nor his Affiliates, as defined in the Securities Act, directly or indirectly or in conjunction with or through any Associate (as defined in Rule 12b-2 of the Securities Exchange Act of 1934, as amended (the "Exchange Act")), will (i) solicit proxies with respect to any capital stock or other voting securities of the Company under any circumstances, or become a "participant" in any "election contest" relating to the election of directors of the Company (as such terms are used in Rule 14a-11 of Regulation 14A of the Exchange Act) or (ii) make an offer for the acquisition of substantially all of the assets or capital stock of the Company or induce or assist any other person to make such an offer or (iii) form or join any "group" within the meaning of Section 13(d)(3) of the Exchange Act with respect to any capital stock or other voting securities of the Company for the purpose of accomplishing the actions referred to in clauses (i) and (ii) above other than pursuant to the Voting Rights Agreement described below.
In connection with the Purchase Agreement, the Company and Mr. Gross also entered into a Registration Rights Agreement dated September 30, 1996, setting forth registration rights with respect to the shares of Common Stock issued to Mr. Gross in connection with the offering. These rights include the right to make two (2) demands for a shelf registration statement on Form S-3 for the sale of the Common Stock which may, subject to certain customary limitations and requirements, be underwritten. In addition, Mr. Gross was granted the right to "piggyback" on registrations of Common Stock in an unlimited number of registrations. Also under the Registration Rights Agreement, Mr. Gross is subject to customary underwriting lock-up requirements with respect to public offerings of the Company's securities.
Pursuant to a Voting Rights Agreement dated September 30, 1996 and as amended December 10, 1997,(the "Voting Rights Agreement"), between the Company, Mr. Gross and certain management shareholders, Robert S. Ehrlich (the Company's Chairman of the Board and Chief Financial Officer) and Yehuda Harats (the Company's President and Chief Executive Officer (the "Management Stockholders")), Lawrence M. Miller, Mr. Gross's advisor, will be entitled to be nominated to serve on the Company's Board of Directors, so long as Mr. Gross, his heirs or assigns retains at least 1,375,000 shares of Common Stock. As a result, the Company's Board of Directors was increased to a total of six members. In addition, under the Voting Rights Agreement, Mr. Gross and Messrs. Ehrlich and Harats agreed to vote and take all necessary action so that Messrs. Ehrlich, Harats, and Miller shall serve as members of the Board of Directors until the earlier of December 10, 2002 or the 5/th/ Annual Meeting after December 10, 1997. In addition, so long as Mr. Miller serves as a director, Mr. Gross, who shall succeed Mr. Miller should he cease to serve on the Board (unless Mr. Gross is then serving on the Board, in which case Mr. Gross may designate a Director), shall be entitled to attend and receive notice of Board meetings. Mr. Gross further agreed to vote, at the Company's next Annual Meeting of Stockholders, and
take any further necessary action, in favor of an increase in shares authorized to be issued upon exercise of options under the Company's 1993 Stock Option and Restricted Stock Purchase Plan.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) 1. Financial Statements - See Index to Financial Statements attached hereto, page 26.
2. Financial Statements Schedules - See Index to Financial Statements attached hereto, page 26.
3. Exhibits - The following is a list of exhibits:
Exhibit Number Description - ------ -----------
2 Merger Agreement dated as of March 2, 1994 between the Company and Advanced Materials Technology, Inc.(1)
3.1 Amended and Restated Certificate of Incorporation of the Registrant.(1)
3.2 Amended and Restated By-Laws of the Company.(4)
4 Specimen Certificate for shares of Common Stock, $.01 par value of the Registrant.(1)
10.1 Option Agreement dated October 29, 1992 between Electric Fuel B.V. ("EFBV") and Electric Storage Advanced Technologies, Sr ("ESAT").(1)
10.2 Sublicense Agreement dated May 20, 1993 between EFBV and ESAT.(1)
10.3 Letter Agreement dated May 20, 1993 between EFBV and ESAT.(1)
10.4 Notice of Edison's assumption of ESAT's obligations under the Sublicense Agreement with EFBV.(1)
10.5 Agreement dated December 16, 1992 between EFL and Technischer Uberwachungsverein Bayern Sachsen e.V. ("TUV").(1)
10.6 Agreement dated July 29, 1992 between EFL and TUV.(1)
10.7 Letter of Intent between the Company and Deutsche Post AG dated November 18, 1993.(1)
10.8 Amended and Restated 1993 Stock Option and Restricted Stock Purchase Plan dated November 11, 1996.+
10.9.1 Form of Management Employment Agreements. (1)+
10.9.2 General Employee Agreements.(1)*+
10.10 Office of Chief Scientist documents.(1)*
10.10.1 Letter from the Office of Chief Scientist to the Company dated January 4, 1995.(4)
10.11 Lease Agreement dated December 2, 1992 between the Company and Har Hotzvim Properties Ltd.(1)*
10.12 Letter of Approval by the Investment Center of the Ministry of Trade.(1)*
10.13 Execution Copy of Purchase Agreement dated as of June 9, 1993 among the Company, EFL, Advanced Materials Technology, Inc. and the Trustee of the Chapter 7 Bankruptcy Estate of Luz International Ltd.(1)
10.14 Agreement between EFL and Dr. Walter Trux dated as of March 1, 1993.(1)
10.15 Cooperation Agreement between EFL and Hoechst GmbH dated as of August 22, 1994.(2)
10.16 Agreement between Deutsche Post AG and EFL dated as of September 19, 1994.(2)
10.17 Agreement between Deutsche Post AG and EFL dated as of October 21, 1994.(2)
10.18 Framework Agreement between Vattenfall AB and EFL dated March 27, 1995.(3)
10.19 Summary of the terms of the Lease Agreements dated as of November 11, 1994, November 11, 1994 and April 3, 1995 between EFL and Industries Building Company, Ltd.(4)*
10.20 Amended and Restated 1995 Non-Employee Director Stock Option Plan.(5)+
10.21 Framework Contract between the Company and Stadtwerke Bremen AG ("Stadtwerke") dated July, 1995.(4)
10.22 Assignment Agreement dated December 31, 1995 between EFL, Hoechst GmbH and Uhde GmbH ("Uhde").(4)
10.23 Lease between EFL and Stadtwerke dated __________, 1995.(5)*
10.24 Framework Agreement for Cooperation in Marketing and Establishment of Regeneration Plants between EFL and Uhde dated February 11, 1996.(5)
10.25 Letters of Approval of Lines of Credit from First International Bank of Israel Ltd. dated March 14, 1996 and March 18, 1996.(5)
10.26 Stock Purchase Agreement between the Company and Leon S. Gross ("Gross") dated September 30, 1996.(6)
10.27 Registration Rights Agreement between the Company and Gross dated September 30, 1996.(6)
10.28 Voting Rights Agreement between the Company, Gross, Robert Ehrlich and Yehuda Harats dated September 30, 1996. (6)
10.29 Agreement between the Company and Walter Trux dated December 18, 1996. (7)
10.30 Cooperation Agreement between The Israel Electric Corporation and EFL dated as of October 31, 1996.(7)
10.31 Amended and Restated Employment Agreement, dated as of October 1, 1996 between the Company, EFL and Yehuda Harats+ (7)
10.32 Amended and Restated Employment Agreement dated as of October 1, 1996 between the Company, EFL and Robert S. Ehrlich+ (7)
10.33 Lease Agreement between Mori Investments Ltd. and EFL dated March 18, 1996. (7)
10.34 Agreement dated February 20, 1997 between STN ATLAS Elektronik GmbH and EFL.(7)
10.35 Agreement dated February 2, 1998 between Deutsche Post AG and EFL.
10.36 Employment Agreement dated May 13, 1997 between the Company, EFL, and Joshua Degani.+
10.37 Termination Agreement dated March 12, 1998 between the Company, EFL and Menachem Korall.+
10.38 Consulting Agreement dated March 12, 1998 between the Company, EFL, and Shampi Ltd.
10.39 Amendment No. 1 to the Voting Rights Agreement between the Company, Gross, Robert Ehrlich, and Yehuda Harats dated December 10, 1997.
10.40 Amendment No. 2 to the Registration Rights Agreement between the Company, Gross, Robert Ehrlich and Yehuda Harats dated December 10, 1997.
21 Subsidiaries.(4)
23.1 Consent of Kesselman & Kesselman (a member of Coopers & Lybrand International), independent certified public accountants in Israel.
27 Financial Data Schedule.
27.1 Amended Financial Data Schedule - Nine Months Ended September 30, 1997.
27.2 Amended Financial Data Schedule - Six Months Ended June 30, 1997.
27.3 Amended Financial Data Schedule - Three Months Ended March 31, 1997.
27.4 Amended Financial Data Schedule - Year Ended December 31, 1996.
27.5 Amended Financial Data Schedule - Nine Months Ended September 30, 1996.
27.6 Amended Financial Data Schedule - Six Months Ended June 30, 1996.
27.7 Amended Financial Data Schedule - Three Months Ended March 31, 1996.
99. Important factors regarding forward-looking statements.
(b) Reports on Form 8-K
The Company did not file any Current Reports on Form 8K during the last quarter of fiscal year 1997. ________________
* English translation or summary from original. + Includes management contracts and compensation plans and arrangements. (1) Incorporated by reference to the Company's Registration Statement on Form S-1 (Registration No. 33-73256), which became effective on February 23, 1994. (2) Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1994, as amended. (3) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1995. (4) Incorporated by reference to the Company's Registration Statement on Form S-1 (Registration No. 33-97944), which became effective on February 5, 1996. (5) Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1995. (6) Incorporated by reference to the Company's Report on Form 8-K dated October 4, 1996. (7) Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1996, as amended
ELECTRIC FUEL CORPORATION
1997 CONSOLIDATED FINANCIAL STATEMENTS
_______________ _________________________ _______________
REPORT OF INDEPENDENT AUDITORS
To the Stockholders of
ELECTRIC FUEL CORPORATION
We have audited the consolidated balance sheets of Electric Fuel Corporation (hereafter - the "Company") and its subsidiaries as of December 31, 1997 and 1996 and the related consolidated statements of loss, changes in stockholders' equity and cash flows for each of the three years in the period ended December 31, 1997. These financial statements are the responsibility of the Company's Board of Directors and management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards in Israel and in the United States, including those prescribed by the Israeli Auditors (Mode of Performance) Regulations, 1973. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement, either due to error or to intentional misrepresentation. 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 the Company's Board of Directors and management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a fair basis for our opinion.
In our opinion, the aforementioned financial statements present fairly, in all material respects, the consolidated financial position of the Company and its subsidiaries as of December 31, 1997 and 1996 and the consolidated results of operations, changes in stockholders' equity and cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles in the United States.
Jerusalem, Israel Kesselman & Kesselman March 20, 1998 Certified Public Accountants (Israel)
ELECTRIC FUEL CORPORATION
CONSOLIDATED BALANCE SHEETS
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
ELECTRIC FUEL CORPORATION
CONSOLIDATED STATEMENTS OF LOSS
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
(CONTINUED) - 1
ELECTRIC FUEL CORPORATION CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(CONCLUDED) - 2 ELECTRIC FUEL CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
/(1)/ Net of $ 2,774,853 - offering expenses.
/(2)/ Net of $ 64,211 - issuing expenses.
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
(CONTINUED) - 1
ELECTRIC FUEL CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS
(CONCLUDED) - 2 ELECTRIC FUEL CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS
SUPPLEMENTARY INFORMATION ON ACTIVITIES NOT INVOLVING CASH FLOWS:
1. As to the writedown, in 1997, of equipment in the amount of $ 2.2 million, see note 1a(4).
2. As to transaction, in 1996, whereby the Company purchased shares of its common stock from a stockholder, see note 5a(3).
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SIGNIFICANT ACCOUNTING POLICIES
The significant accounting policies, applied on a consistent basis, are as follows:
A. GENERAL:
1) Nature of operations
Electric Fuel Corporation ("EFC") - a Delaware corporation - together with its subsidiaries, is referred to as the Company. Almost all operating assets of the Company are situated at, and operations of the Company are primarily carried out by, Electric Fuel (E.F.L.) Ltd. ("EFL") - an Israeli wholly-owned subsidiary. The Company is engaged in one business segment - design, development, and commercialization of innovative advanced zinc-air batteries. The Company's products have not reached the commercial stage. Until commencement of commercial product sales occurs, the Company plans to meet its funding requirements through fees from potential users of its technology, sales of pre-production battery systems and equipment, grants from various programs from the State of Israel's Ministry of Industry and Trade and the funds raised from sale of EFC's shares.
The other active subsidiaries are:
Electric Fuel B.V. - a Netherlands company, wholly-owned by EFL.
Electric Fuel GmbH - a German company, wholly owned by EFL.
2) Investee company - Coatec Ltd., an Israeli company (3.9% owned as of December 31, 1997 and 1996).
3) Accounting principles
The financial statements are prepared in accordance with U.S. generally accepted accounting principles ("GAAP").
4) Use of estimates in the preparation of financial statements
The preparation of the financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported periods. Actual results could differ from those estimates.
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 1 - SIGNIFICANT ACCOUNTING POLICIES (continued)
In accordance with Statement No. 121 of the U.S. Financial Accounting Standards Board ("FASB"), "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of", the Company records impairment losses on long-lived assets used in operations when events and circumstances indicate that the assets might be impaired and the undiscounted cash flows estimated to be generated by those assets are less than the carrying amounts of those assets. Based on the Company's estimate of future undiscounted cash flows, the Company expects to recover the carrying amounts of its remaining fixed assets.
During the year ended December 31, 1997, the Company recorded a writedown of equipment relating to the Field Test in Germany in the amount of $ 2.2 million. This writedown was charged against the provision for anticipated program losses established in prior years (see note 4a(1)).
B. FUNCTIONAL CURRENCY OF SUBSIDIARIES
The Company's management considers the United States dollar to be the currency of the primary economic environment in which EFL operates and, therefore, EFL has adopted and is using the United States dollar as its functional currency. Further, the Company believes that the operations of EFL's subsidiaries are an integral part of the Israeli operations. While a significant proportion of EFL's revenues have been denominated in German marks as a result of its involvement in the Field Test, based on the Company's historical experience and the Company's strategic objectives, management continues to consider the United States dollar to be the currency of the primary economic environment in which EFL operates. Furthermore, revenues not related to the field test are primarily in dollars. Transactions and balances originally denominated in dollars are presented at their original amounts. Gains and losses arising from non-dollar transactions and balances are included in net income.
C. PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of EFC and its subsidiaries. Intercompany balances and transactions have been eliminated.
D. MARKETABLE DEBT SECURITIES
These securities are classified as available-for-sale. Accordingly, these securities are stated at fair market value and the changes in their value are carried directly to Stockholders' Equity. Realized gains and losses are carried to the statements of loss.
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 1 - SIGNIFICANT ACCOUNTING POLICIES (continued)
E. INVENTORIES
Composed mainly of raw materials and supplies valued at the lower of cost or market. Cost is determined on the "first-in, first- out" basis.
F. FIXED ASSETS
These assets are stated at cost, net of related investment grant.
The assets are depreciated by the straight-line method, on the basis of their estimated useful life.
Annual rates of depreciation are as follows:
Leasehold improvements are amortized by the straight-line method over the term of the lease, which is shorter than the estimated useful life of the improvements.
G. OTHER ASSETS
Other assets represent know-how purchased in 1994 and an investment in an Israeli company (see note 1a(2)). The know-how is stated at cost and amortized over five years. The investment is stated at cost, as from July 1995 (formerly accounted by the equity method).
H. REVENUE RECOGNITION
Revenues in respect of contracts for prototype equipment, technical assistance, services, etc. are recognized upon the delivery of the equipment or as the services are performed. Payment from technology licenses is recognized upon sale of the license.
If such payment is uncertain, revenue is recognized to the extent of non-refundable fees received.
Revenue and costs in connection with the Company's contractual program commitments (see note 4a(1)) are recognized on the "percentage of completion" method. The percentage of completion is determined according to the ratio of amounts already expended to estimated total cost as projected at balance sheets dates. Full provision is made for losses arising from these commitments upon their anticipation.
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 1 - SIGNIFICANT ACCOUNTING POLICIES (continued)
I. RESEARCH AND DEVELOPMENT
Research and development expenses are included under "Research and development expenses and cost of revenues". Because of the nature of the Company's operations, management is of the opinion that it is not meaningful to segregate these costs. Research and development expenses, are charged to operations as incurred. Government participations are recognized as a reduction of expense as the related costs are incurred (see also note 4b).
J. DEFERRED INCOME TAXES
The Company uses the liability method of accounting for income taxes, as set forth in Statement No. 109 of the FASB, "Accounting for Income Taxes". Under this method, deferred income taxes are provided on the basis of the differences between the financial reporting and income tax bases of assets and liabilities at the statutory rates enacted for future periods.
K. CASH EQUIVALENTS
The Company considers all highly liquid debt instruments, purchased with a maturity of three months or less, to be cash equivalents.
L. DERIVATIVES
In order to hedge foreign currency exposure on firm commitments, the Company periodically enters into foreign currency forward contracts. Gains and losses from these contracts are deferred and included as part of the measurement of the results from the underlying hedged transaction.
M. CONCENTRATION OF CREDIT RISKS
Most of the Company's cash and cash equivalents and marketable debt securities at December 31, 1997 and 1996 are deposited with Israeli and U.S. banks and U.S. brokers. Accordingly, the Company considers the inherent credit risks to be remote.
The Company's revenues are earned primarily in Europe, from large institutional customers. In general, the exposure to concentration of credit risks relating to trade receivables is limited, due to the nature of the Company's customers.
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 1 - SIGNIFICANT ACCOUNTING POLICIES (continued)
N. RECENTLY ISSUED ACCOUNTING PRINCIPLES:
1) Loss per share
In February 1997, the FASB issued Statement No. 128, "Earnings per share" ("Statement 128"), which is effective as from 1997. Statement 128 replaced the calculation of primary and fully diluted earnings per share with basic and diluted earnings per share. Unlike primary earning per share, basic earnings per share excludes any dilutive effects of options, warrants, and convertible securities. Diluted earnings per share is very similar to the previously reported fully diluted earnings per share. All earning per share amounts for all periods have been presented and where appropriate restated to conform to the Statement 128 requirements. Consequently, the loss per share for the years ended December 31, 1996 and 1995 increased from $0.81 and $1.55 respectively, as previously reported to $0.91 and $1.86 as reported in these financial statements, respectively.
2) Reporting comprehensive income
In June 1997, the FASB issued Statement No. 130, "Reporting Comprehensive Income".("Statement 130"). Statement 130 requires the reporting and display of comprehensive income and its components, in a full set of general-purpose financial statements. In addition to net income, comprehensive income includes all non-owner changes in equity. Statement 130 is effective for financial statements for fiscal years beginning after December 15, 1997, and reclassification of financial statements for earlier periods for comparative purposes is required. The adoption of Statement 130 will have no material impact on the Company's consolidated results of operations, financial position or cash flows.
3) Accounting for segments of an enterprise
In June 1997, the FASB issued Statement No. 131, "Disclosures about Segments of an Enterprise and Related Information" ("Statement 131"). Statement 131 requires publicly-held enterprises to report financial and other information about key revenue-producing segments of the entity for which such information is available and is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance. It also establishes standards for related disclosures about the revenues derived from the enterprise's products and services, about the countries in which the enterprise earns revenues and holds assets and about major customers. Statement 131 is effective for financial statements for fiscal years beginning after December 15, 1997. Financial statement disclosures for prior periods are required to be restated. The Company will adopt the new requirement retroactively in 1998. Management has not completed its review of the impact of Statement 131, but anticipates that the adoption of this statement may affect the number of segments the Company is required to report.
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 2 - FIXED ASSETS:
A. COMPOSITION OF ASSETS, GROUPED BY MAJOR CLASSIFICATIONS, IS AS FOLLOWS:
* Net of related investment grant in the amount of $ 919,601 and $925,164 as of December 31, 1997 and 1996, respectively (see also note 6b).
** Including residual value of equipment relating to the Field Test in Germany in the amount of $ 953,909 and $ 3,153,909 as of December 31, 1997 and 1996, respectively (see also notes 1a(4) and 4a(1)).
B. As to liens on fixed assets, see note 6b(1)(c).
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 3 - EMPLOYEE RIGHTS UPON RETIREMENT:
a. Israeli law generally requires payment of severance pay upon dismissal of an employee or upon termination of employment in certain other circumstances. EFL's severance pay liability to its Israeli employees, based upon the number of years of service and the latest monthly salary (see also note 4d), is partly covered by purchase of insurance policies and by deposits with severance pay and pension funds.
The amounts accrued and the portion funded primarily by purchase of insurance policies (plan assets) for Israeli employees of EFL are composed as follows:
* Reflects primarily obligations of the Company in connection with employment agreements with certain senior employees (see note 4d).
EFL may only make withdrawals from the funds for the purpose of paying severance pay.
b. Expenses included for employee rights upon retirement for each of the years ended December 31, 1997, 1996 and 1995 amounted to approximately $ 1,036,000, $ 1,140,000 and $ 470,000, respectively.
NOTE 4 - COMMITMENTS AND CONTINGENT LIABILITIES:
A. AGREEMENTS RELATING TO THE COMPANY'S TECHNOLOGY:
1) Field Test with German Postal Authority - Deutsche Post AG ("Deutsche Post").
In 1994, EFL signed agreements with Deutsche Post and other partners for the purpose of conducting a Field Test using EFL's technology ("the Field Test"), which reached completion in 1997.
The anticipated cost of the Company's share in the Field Test was greater than anticipated revenues and accordingly the Company recorded a provision for anticipated losses in prior years. The balance of the provision for anticipated losses amounted to $ 2.2 million as of December 31, 1996. This amount was applied against the writedown of equipment relating to the Field Test (see notes 1a(4) and 2a).
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 4 - COMMITMENTS AND CONTINGENT LIABILITIES (continued):
In 1996, Deutsche Post requested that the Company refund approximately DM 1.8 million (approximately $ 1.0 million) which is the subject of a dispute between Deutsche Post and the Company. The Company does not believe it is required to refund any of this amount. However, until resolution of this issue, the Company has deferred recognizing this amount in revenues.
In 1997, the Company and Deutsche Post agreed to extend the Field Test through May 1998. Deutsche Post will cover the operating expenses of the extension program.
The Field Test extension will enable Deutsche Post to test a series of vans powered by zinc-air technology, which were ordered in September 1997.
Deutsche Post has also notified the Company that it seeks to exercise its option granted in the September 1994 agreement for a non-exclusive license for use of the Company's technology.
The license would allow Deutsche Post to use vehicles powered by the Electric Fuel System and to operate all refueling and regeneration facilities for its fleet. The license does not include production of such equipment but does, however, allow Deutsche Post to offer refueling and regeneration services to third parties, provided that agreed upon royalties are paid to Electric Fuel.
2) Edison
Pursuant to agreements between the Company, through its Dutch subsidiary, and a major Italian energy company (Edison Termoelettrica subsidiary of Edison S.P.A., hereafter "Edison"), the Company has provided batteries and related equipment and technical assistance in respect of the Company's technology. The Company has also granted Edison a sublicense for its technology in certain areas in Europe until the year 2008 and will be entitled to royalties of 3% to 5% of sales in excess of $ 10 million.
3) Vattenfall AB
During 1997, EFL signed a rights agreement with Vattenfall AB, (Vattenfall), a Swedish utility company. Vattenfall excercised its right for a license to establish and operate regeneration facilities and sell Electric Fuel in the Nordic region. Although a final agreement has not been signed, the rights agreement covers the main elements of a 25 year license in consideration of royalties and other considerations to the Company. It is currently anticipated that a final agreement will be decided only after the completion of the field test in May 1998.
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 4 - COMMITMENTS AND CONTINGENT LIABILITIES (continued):
4) Israel Electric Corporation
During 1996, EFL signed an agreement with the Israel Electric Corporation (hereafter "IEC'') granting a license for production, distribution and marketing of Electric Fuel in Israel and certain Middle East countries.
The agreement called for a payment of $ 960,000 to the Company which was included in 1996 revenues. IEC has also agreed to pay royalties of 3% to 5%, based on future gross revenues from the sale, lease or any revenue, in connection with the EFL technology.
5) Other
(a) The Company is currently developing, in cooperation with a German defense and marine industry contractor, a high power zinc-oxygen battery for torpedoes. The Company has granted the contractor exclusive rights to sell torpedoes with the Company's zinc-oxygen batteries until 2001, subject to automatic extension if full-scale production commences, as well as certain rights with respect to the application of the Company's proprietary technology for batteries.
(b) The Company has also developed Survivor Locator Light ("SLL"), a signal light powered by a water activated magnesium-cuprous chloride battery, used to locate survivors of airplane or boat accidents in the water. The Company received an initial order to produce 60,000 SLLs over a two year period commencing in August 1996. The Company fulfilled the balance of this order during 1997.
B. ROYALTY COMMITMENTS
Since its inception, EFL has received royalty-bearing research and development ("R&D") grants from the Chief Scientist's Office ("Chief Scientist") of the Israeli Ministry of Industry and Trade. Pursuant to the terms of these grants, EFL is obligated to pay royalties to the Chief Scientist on proceeds from the sale of products in the R&D of which the Chief Scientist participated.
Royalties in connection with the grants received are payable at a rate of 3%-5% of net sales (up to 100% of grants received). In the case of approved transfer of technology out of Israel, the rate of payment may be accelerated and total payments may reach 300% of the amount granted.
Total commitments to pay royalties to the Chief Scientist at the 100% rate (if the R&D projects are successful) are in the approximate amount of $ 7.1 million as of December 31, 1997.
At the time the grants were received, successful development of the related products was not assured.
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 4 - COMMITMENTS AND CONTINGENT LIABILITIES (continued):
C. LEASE COMMITMENTS
The Company has entered into various non-cancellable operating lease agreements for the premises it occupies. The leases will expire in 2000.
The rental payments under the above leases, at rates in effect at December 31, 1997, are as follows:
The rental payments are primarily payable in Israeli currency linked to the Israeli Consumer Price Index ("CPI").
As security in connection with these agreements, the Company has given a lessor a letter of credit in the approximate amount of $ 58,000.
Rental expenses totaled approximately $ 515,000, $ 525,000 and $ 360,000 in 1997, 1996 and 1995, respectively.
D. EMPLOYMENT CONTRACTS:
1) Two senior employees (related parties) have employment agreements with the Company expiring in 2000. Base salary presently payable by the Company under these agreements amounts to $ 301,000 annually, with further amounts payable as bonuses of not less than 50% of base salary or in the aggregate 5% of net income as defined, subject to certain conditions, including attainment of the Company's budgeted goals. Base salaries are to be adjusted for the increase in the Israeli inflation rate over the devaluation of the shekel, but not less than 3% per annum.
The employees are entitled to other usual benefits and are to receive a termination payment equal to 36 times monthly base salary - in addition to the usual severance pay required by Israeli law -upon fulfillment of the contractual terms. These employees are entitled to an additional bonus payment upon termination based upon past bonuses paid to such employees, and a vesting schedule as stipulated in the agreements. The Company has fully provided for all vested benefits under the employee agreements.
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 4 - COMMITMENTS AND CONTINGENT LIABILITIES (continued):
2) In 1997, the Company decided to terminate the employment of a senior employee holding an employment agreement similar to those described in (1) above. Subsequent to December 31, 1997 the Company reached an agreement with the employee regarding the terms of the termination. Management is of the opinion that amounts provided both in prior years and in 1997, will fully cover all amounts which will ultimately be paid to this employee.
NOTE 5 - STOCKHOLDERS' EQUITY:
A. CAPITAL TRANSACTIONS:
1) In February and March 1996, the Company completed a public offering of 3,750,000 shares of its common stock of par value of $ 0.01 per share, at an offering price of $ 6.50 per share.
2) In October 1996, the Company issued 1,538,462 shares of its common stock of $ 0.01 par value in a private placement at an offering price of $ 6.50 per share.
3) During 1996, the Company purchased 72,300 shares of its common stock from a consultant, in consideration of the following:
a) Partial waiver of a loan granted to the consultant in 1994 in the amount of $ 720,000, bearing 6% interest per annum and payable on December 31, 1996.
b) Sale to the consultant of the Company's 80% interest in Erbato GmbH in consideration of DM 1.
c) Granting to the consultant 5-year options to purchase 20,000 shares of the Company's stock at $ 6.25 per share.
As a result of the aforementioned transactions, the Company recorded additional treasury stock in the amount of $ 456,394 - determined based on the market price of the Company's share on the transaction date, and the balance - approximately $ 460,000 - was charged to selling, general and administrative expenses in the Company's 1996 financial statements.
4) In 1993, the purchase of approximately 1,500,000 shares of common stock by related parties, upon exercise of employee options, was financed by the Company's acceptance of non-recourse notes due in January 1998.
Subsequent to December 31, 1997 the terms of the notes were extended and they were converted into recourse notes.
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 5 - STOCKHOLDERS' EQUITY (continued):
B. COMMON STOCK OPTION PLANS:
1) The Company has adopted the following stock option plans whereunder options may be granted for purchase of the Company's common stock:
(a) 1991 Employee Plan - 2,115,600 shares reserved for issuance.
(b) 1993 Employee Plan - as amended - 2,700,000 shares reserved for issuance.
Under the terms of the employee plans, the Board of Directors or the designated committee will grant options and will determine the vesting period and the exercise terms.
(c) 1995 Non-Employee Director Plan - 500,000 shares reserved for issuance. Non-employee directors will receive an initial grant of options to purchase 15,000 shares of the Company's common stock and thereafter will receive options to purchase 5,000 shares of Common Stock per year of service to the Board. All such options will be granted at fair market value.
2) As of December 31, 1997, the total number of options authorized under the plans is 5,315,600, and 1,721,848 options are available for future grant. Under these plans, options usually expire no later than 10 years from the date of grant.
ELECTRIC FUEL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 5 - STOCKHOLDERS' EQUITY (continued):
3) A summary of the status of the Company's plans as of December 31, 1997, 1996 and 1995, and changes during the years ended on those dates, is presented below:
(1) The fair value of each option grant is estimated on the date of grant using the Black & Scholes option-pricing model with the following weighted average assumptions: Dividend yield of 0% for all years; expected standard deviation of 55%; risk-free interest rates of 6% to 8%; and expected lives of up to 10 years.
(2) Includes options issued to consultants as compensation for services rendered: 1997 - 3,273 options; 1996 - 22,286 options.
The compensation cost that has been charged against income in the years ended December 31, 1997 and 1996 is $ 9,000 and $ 77,959, respectively.
(3) Included in the options exercised during 1996, were 255,333 options exercised by related parties. The purchase of the common stock upon exercise of these options and the related taxes payable by the employee were financed by the Company's acceptance of 5 year non-recourse notes receivable due in 2001 and bearing interest at the higher of the increase in the Israeli CPI or linkage to the dollar + 6.2% interest. The notes are collateralized by a pledge on the shares issued. The notes receivable, including accrued interest, are reflected as a reduction of Stockholders' Equity in the financial statements. As a result of this transaction, compensation in the amount of $ 159,834 was recorded in 1996.
(4) Includes 300,000 options which were granted in 1996 to related parties. The exercise date may be accelerated based on the share price of EFC's common stock.
ELECTRIC FUEL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 5 - STOCKHOLDERS' EQUITY (continued):
4) The following table summarizes information about options outstanding at December 31, 1997:
5) Accounting treatment of stock option plans ("the plans")
The Company accounts for its plans using the treatment prescribed by Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25"). Under APB 25, compensation cost for employee and director common stock option plans is measured using the intrinsic value based method of accounting.
In October 1995, the FASB issued Statement No. 123, "Accounting for Stock-Based Compensation" ("Statement 123"). This Statement, effective as of the 1996 financial statements, established a fair value based method of accounting for an employee stock option or similar equity instrument, and encourages adoption of such method for stock compensation plans. However, it also allows companies to continue to account for those plans using the accounting treatment prescribed by APB 25.
The Company has elected to continue accounting for stock-based compensation according to APB 25 and has accordingly complied with the disclosure requirements set forth in Statement 123 for companies electing to apply APB 25.
Accordingly, the difference, if any, between the quoted market price of the shares on the date of the award of the options and the exercise price of such options is charged to income over the vesting periods. The amount of the difference is correspondingly credited to additional paid-in surplus.
ELECTRIC FUEL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 5 - STOCKHOLDERS' EQUITY (continued):
Had compensation cost for the Company's plans been determined based on the fair value at the grant dates for awards granted during 1996 and 1997 under the plans consistent with the method of Statement 123, the Company's loss and loss per share would have been increased to the pro-forma amounts indicated below:
NOTE 6 - TAXES ON INCOME:
A. TAXATION OF U.S. PARENT (EFC)
Since EFC incurred net losses or had earnings arising from tax-exempt income during the reported years, no provisions for income taxes were required. Taxes are primarily composed of federal alternative minimum taxes. The difference between the tax provision and the total tax benefit computed by applying the statutory federal income tax rate to pre-tax loss is the valuation allowance which was established to eliminate the deferred tax assets.
As at December 31, 1997, EFC has operating loss carryforwards for U.S. federal income tax purposes of approximately $ 275,000, which are available to offset future taxable income, if any, expiring primarily in 2009.
B. ISRAELI SUBSIDIARY (EFL):
1) Tax benefits under the Law for the Encouragement of Capital Investments, 1959 (hereinafter - the "law")
EFL's manufacturing facility has been granted "approved enterprise" status under the above law, and is entitled to investment grants from the State of Israel of 38% on fixed assets located in Jerusalem and 20% on fixed assets located at its plant in Beit Shemesh and to reduced tax rates on income arising from the approved enterprise, as detailed below. The approved investment program is in the approximate amount of $ 500,000. EFL substantially placed the program into operation during 1993 and is entitled to the tax benefits available under the law. EFL is entitled to additional tax benefits as a "foreign investment company", as defined by the law. Further, in 1995, EFL received approval for a second approved enterprise program for investment in fixed assets of approximately $ 6 million and approval for grants at the aforementioned rates for these approved fixed assets.
ELECTRIC FUEL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 6 - TAXES ON INCOME (continued):
The main tax benefits available to EFL are:
(a) Reduced tax rates
During the period of benefits - 10 years - commencing in the first year in which EFL earns taxable income from the approved enterprise (provided the maximum period to which it is restricted by law has not elapsed), a reduced corporate tax rate of 10%-25% (depending on percentage of foreign ownership; based on present ownership percentages - 15%) will apply, instead of the regular tax rates (see (4) hereafter).
(b) Accelerated depreciation
EFL is entitled to claim accelerated depreciation in respect of machinery and equipment used by the approved enterprise for the first five years of the operation of these assets.
(c) Conditions for entitlement to the benefits
The entitlement to the above benefits is conditional upon EFL's fulfilling the conditions stipulated by the law, regulations published thereunder and the instruments of approval for the specific investments in approved enterprises. In the event of failure to comply with these conditions, the benefits may be canceled and EFL may be required to refund the amount of the benefits, in whole or in part, with the addition of interest.
As security for compliance with the terms attaching to the investment grants EFL has registered floating charges on all its assets in favor of the State of Israel.
2) Measurement of results for tax purposes under the Income Tax (Inflationary Adjustments) Law, 1985 (hereafter - the "inflationary adjustments law")
Under this law, results for tax purposes are measured in real terms, in accordance with the changes in the Israeli CPI. As explained in note 1b, the financial statements are presented in dollars. The difference between the change in the Israeli CPI and in the Israeli currency/dollar exchange rate - both on annual and cumulative bases - causes a difference between loss for tax purposes and the loss reflected in the financial statements.
ELECTRIC FUEL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 6 - TAXES ON INCOME (continued):
3) Tax benefits under the Law for the Encouragement of Industry (Taxation), 1969
EFL is an "industrial company" as defined by this law and as such is entitled to certain tax benefits, mainly accelerated depreciation as prescribed by regulations published under the inflationary adjustments law, the right to claim public issue expenses and amortization of know-how, patents and certain other intangible property rights as deductions for tax purposes.
4) Tax rates applicable to income from other sources
Income not eligible for approved enterprise benefits mentioned in (1) above is taxed at the regular rate of 36% applicable in 1996 and thereafter (1995 - 37%).
5) Tax rates applicable to income distributed as dividends by EFL
The effective tax on income distributed by EFL to its parent, EFC, would be increased as a result of the Israeli withholding tax imposed upon such dividend distributions. The overall effective tax rate on such distribution would be 28% in regard of income arising from EFL's approved enterprise and 44% regarding other income. EFL does not have any earnings available for dividend distribution nor does it intend to distribute any dividends in the foreseeable future.
6) Tax loss carryforwards
As at December 31, 1997, EFL has operating loss carryforwards for Israeli tax purposes of approximately $ 40 million, which are available, indefinitely, to offset future taxable income.
C. EUROPEAN SUBSIDIARIES
Income of the European subsidiaries, which arises as a result of intercompany transactions, is taxed based upon tax laws in their countries of residence.
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 6 - TAXES ON INCOME (continued):
D. DEFERRED INCOME TAXES:
* Mainly in respect of loss carryforwards, deductible expenditures reported as a reduction of the proceeds from issuing capital stock, accrued employee rights upon retirement and depreciation on fixed assets.
E. TAXES ON INCOME INCLUDED IN THE STATEMENTS OF LOSS:
These represent current income taxes, as follows:
F. TAX ASSESSMENTS:
1) EFL received final assessment through the year ended December 31, 1994.
2) EFC and its other subsidiaries have not been assessed for tax purposes since incorporation.
ELECTRIC FUEL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 7 - MONETARY BALANCES IN NON-DOLLAR CURRENCIES:
NOTE 8 - SUPPLEMENTARY BALANCE SHEETS INFORMATION:
A. INVESTMENT IN MARKETABLE DEBT SECURITIES:
Unrealized gain in respect of these securities - at December 31, 1997 and 1996 - aggregates $ 436 and $ 3,157, respectively.
ELECTRIC FUEL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 8 - SUPPLEMENTARY BALANCE SHEET INFORMATION (continued):
B. ACCOUNTS RECEIVABLE - OTHER:
ELECTRIC FUEL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 8 - SUPPLEMENTARY BALANCE SHEET INFORMATION (continued):
E. FAIR VALUE OF FINANCIAL INSTRUMENTS
Statement No. 107 of the FASB "Disclosure About Fair Value of Financial Instruments" requires disclosure of information about the fair value of certain financial instruments for which it is practicable to estimate that value.
The financial instruments of the Company consist of cash and cash equivalents, marketable debt securities, accounts receivable and accounts payable and accruals.
In view of their nature, the fair value of the financial instruments included in working capital of the Company is usually identical or close to their carrying value.
NOTE 9 - SELECTED STATEMENTS OF LOSS DATA:
ELECTRIC FUEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 9 - SELECTED STATEMENTS OF LOSS DATA (continued):
E. LOSS PER SHARE:
1) Loss per share is computed based on the weighted average number of shares outstanding (net of treasury stock) during each year.
2) Since the basic earnings per share ("EPS") represents loss per share, the effect of including the options and warrants (see (3) below) in EPS computation is anti-dilutive, and accordingly the basic and diluted EPS are the same amount.
3) The shares purchased with non-recourse notes receivable from stockholders are assumed - for per share computation - to be warrants.