Item 1. Business.
General
Howtek, Incorporated, ("Howtek" or the "Company"), located in Hudson, New Hampshire, was founded in 1984. Howtek develops, manufactures, and markets digitizing systems, or "scanners", which convert printed, photographic and other "hard copy" images to digital form for use in the medical, photo finishing, and graphic arts industries. The Company introduced the first "desktop" scanner in 1986, smaller, easier to use and less costly than alternative scanners at that time, helping to make possible the shift to decentralized corporate electronic publishing. Howtek followed with a series of award winning, industry leading products, continuing to improve the quality of digital imaging, and reducing the price and complexity of scanning systems.
Facing diminishing returns in its traditional graphic arts business, Howtek, in the last several years, has heavily invested in technology and product development in the fields of medical and photographic imaging and digitization. After two years of work supporting development-stage OEM customers in the new field of Computer Assisted Detection (CAD) of breast cancer, Food & Drug Administration (FDA) approvals for sales in the United States of CAD systems incorporating Howtek digitizers were received by two key Howtek OEM customers during the first quarter of 2002. The Company believes such FDA approvals, coupled with newly implemented medical cost reimbursement coverage for procedures utilizing such CAD systems, may contribute to sales growth in this area.
The Company's FotoFunnel(TM) photographic scanner solution was introduced by one key OEM customer in 2000, as part of an Internet-driven photo finishing solution. During 2001, as a result of a general reassessment of the role of the Internet in photo finishing, large retail accounts, in general, elected not to purchase such systems. In response, the Company has repositioned its FotoFunnel product line, offering its photographic products to retail photo finishers as an inexpensive way to offer photo images on compact disk (CD) to retail photo customers. Sales of FotoFunnel are expected to increase during 2002 from 2001 levels.
In support of its shift in focus to medical and photo processing markets, the Company has in recent years (1) updated product lines, introducing industry-leading products in medical and photo processing/Internet markets, (2) migrated from in-house manufacturer to outsourcing to more effectively utilize outside engineering, development, and manufacturing resources, (3) substantially reduced personnel and overhead, and (4) implemented an OEM and large scale systems integrator marketing and sales strategy for primary digitizer markets. See Note 7 of Notes to Financial Statements for certain revenue information by product line and information regarding export sales.
Medical Business
Howtek MultiRAD(TM) digitizers are used in medical imaging to convert radiographic films to digital records for computer analysis, diagnosis, transmission or storage.
Market
It has been over a hundred years since the X-ray was invented. In 1999, 270 million X-ray exams were performed in the United States, making X-ray the most prevalent diagnostic tool in medicine.(1) Medical imaging technologies and applications now extend beyond radiology, and play a role in all branches of medicine.
The overall healthcare market is growing at a rapid pace. According to Imaging Economics the medical imaging market is growing even more quickly.(2) United States healthcare expenditures are expected to increase from $1.2 trillion in 1999 to $2.2 trillion in 2008. Approximately six percent of the total healthcare budget in 1999 was spent on diagnostic imaging, with that percentage expected to increase to 15% by 2008. While medical imaging grows in significance, a shortage of physicians that can read diagnostic images has already started and the shortage is expected to grow through 2020.
Howtek's MultiRAD X-ray and radiographic film digitizers play a significant role in three distinct medical applications: computer-assisted detection of breast cancer, Teleradiology/Picture Archiving & Communication (PACS), and patient record duplication and management.
Computer Assisted Detection is used to provide physicians with support in detecting breast cancer at an early stage. There is a tremendous need for devices that facilitate the early detection of breast cancer and other forms of cancer. For most cancers, the earlier treatment is rendered, the greater the likelihood of successfully managing the cancer. Some studies show that if breast cancer is detected while still localized and before metastasis spread, the five-year survival rate is 96.8% or better. If the cancer spreads regionally before treatment, the survival rate drops to around 75.9%. If there is distant metastasis, the survival rate drops to around 20.6%.
1 Diagnostic Imaging, July 2000 2 Imaging Economics, "The Big Picture" Lightfoote, November/December 2000
A primary method of detecting breast cancer is through mammography screening. Mammography is a radiographic examination of a breast. The American Cancer Society recommends that women undergo annual mammogram examinations beginning at age 40. Approximately 5 million additional women in the United States will be entering the mammography testing 40-and-over age category within the next 5 years. A problem in this process, that the Company's OEM customers seek to address, is that in routine screening of mammography films an estimated 10% of identifiable breast cancers are missed as a result of radiologist oversight. In the United States, reimbursement for a secondary reading of mammography films using CAD systems began in January 2002, effectively creating the domestic market in which the Company's OEM CAD customers compete.
There are approximately 20,000 mammography centers located throughout the world. Approximately 10,000 of these centers are located in the United States. The Company believes that economic, marketing and legal factors will drive mammography centers to adopt CAD technology, and that newly implemented reimbursement programs will help to support acquisitions of such systems. The Company believes that the potential market for digitizers employed in computer aided detection of breast cancer is significant.
Teleradiology is the practice of transmitting images for analysis, consultation or diagnostic interpretation to another location. The Company's digitizers are used in this process to convert radiographic film to digital form, for transmission, communication or storage. Use of teleradiology is increasingly influenced by the economics of managed care, which mandates ever-growing sensitivity to costs and has strongly encouraged the decentralization of patient care, with specialized services available in fewer locations, on a consultative, remote basis. In the past, radiologists were located in a medical facility close to the patient where they performed examinations and interacted face-to-face with the local clinician and the patient. As reimbursement for radiological interpretations have declined and utilization has increased, radiologists are under pressure to increase the number of interpretations and compete for business over much larger geographic areas. The evolution toward managed regional healthcare systems, coupled with increasing radiologist specialization has resulted in a growing demand for equipment and systems capable of acquiring medical images remotely, at increasingly distributed points of primary patient contact, and transmitting those images for review and analysis centrally. Using teleradiology, information on a patient can be brought to the radiologist faster and at significantly lower cost than the method of transporting the patient from the point-of-care facility to the diagnostic facility.
In addition, the digitization and transmission of medical images has enabled the formation of large-scale image storage and management networks known as Picture Archiving and Communication Systems, or PACS. PACS combine teleradiology, local area networks (LAN) and medical information systems to facilitate management and storage of medical images and integration of those images into patient management and hospital information systems. These systems also enable virtually instantaneous recall and viewing of medical images, and permit the viewing of several images simultaneously. PACS can significantly reduce the cost of providing efficient radiology services, in part by reducing the incidence of lost and misplaced medical films. In a manual system, it is estimated that approximately 10% of all medical films are lost
and an additional 10% to 15% are misplaced or misfiled, creating the need to take expensive duplicate images, delaying the delivery of quality medical care and resulting in increased medical costs and liability exposure.
According to the Technology Marketing Group (TMG of Des Plaines, IL) hospitals spent nearly $600 million on PACS in 1999. PACS are typically located within the campus of the healthcare facility and are connected by the LAN. Growth in the PACS market is expected to increase 7 to 10 percent per year for the next five years.(3)
Patient Record Duplication and Management is an increasing concern. All medical institutions are inundated with medical images, most of them on film, and the storage problem is increasing. In 1999, 270 million radiological studies were performed with an average of 4 films per study, creating an estimated 1.08 billion films. Of these films, none are thrown away. Not even institutions with digital PACS are spared; the PAC only stores information on active patients. Even in these so-called "filmless" hospitals, long-term storage is provided through the film library, which manually stores films. This can create a major problem and cost when images need to be duplicated or distributed for medical review by multiple practitioners or when copies of images are required for a variety of other purposes, including personal copies of patient records and litigation.
The typical method of making images available for physician review has been to duplicate films for distribution, upon request, with the patient charged as much as $8 for each film in the radiological study to create a duplicate of that study. Typically, to duplicate a radiological study, the patient record is pulled from the film library. Duplicates are made individually by hand tying up a technologist for 4-6 minutes per film. Alternatively, films are sent out to a third party service bureau for duplication. The duplicates are placed in a new film jacket and the originals returned to the film library. The $8 fee barely covers the cost of handling and manually duplicating each individual film.
A duplicated film has a higher contrast, similar to duplicate copies made on a plain paper photocopier. The duplicate is created photographically from an X-ray, losing gray content. Duplicate films tend to look black and white; shades of gray are often lost. The American College of Radiology and the FDA do not allow the use of duplicate films for primary reading of mammograms. Therefore, in order to read an image consulting physicians will often be required to make an appointment with the film library to review a particular set of films. The Company believes that degradation in image quality of duplicated X-rays often acts as an impediment to receipt of second opinions from healthcare providers.
Historically, the specialized format of medical image files has created an obstacle to digitally duplicating a film or file for distribution on CD or DVD media. Radiological images are typically stored and viewed in what is called a "DICOM" format, a specialized file structure including patient and image information in addition to full image data. DICOM has been adopted and is well accepted within the radiology field, but is not generally supported outside
3 Medical Imaging, September 2000
this specialty. Use of DICOM images is often limited by the fact that many general physicians, surgeons, therapists, and others in the medical community do not have the specialized DICOM viewing stations that can cost from $30,000 to $120,000 or more. Therefore, the Company believes that use of the DICOM format can create a serious impediment to interconnectivity throughout the healthcare enterprise.
In order to address the needs of the medical community that cannot afford a conventional DICOM station, Howtek introduced a new line of ImageFunnel(TM) products, which incorporate the Company's digitizers, to assist in providing an alternative, cost-effective method for duplication, distribution and storage of DICOM medical images. The Company's ImageFunnel products are currently under consideration by a variety of potential purchasers. The United States market for such solutions, if adopted, could include up to 6,000 hospitals and an additional 7,000 clinics and large medical practices. No assurance can be given that the Company will be able to successfully market its line of ImageFunnel products.
MultiRAD(TM) Technology and Products
Historically, radiographic film digitizers that utilize a laser light source to illuminate a film, and a photo multiplier tube to sense and measure the amount of light penetrating different regions of the film, captured the highest quality digital images. While these "first-generation" laser digitizers offer excellent image quality, they are expensive to acquire, comparatively delicate, and in many cases expensive to maintain. A "second-generation" of digitizers, using a fluorescent light source for image illumination and a charge-coupled device (CCD) sensor for image capture, offers reduced cost at the expense of reduced image quality.
MultiRAD(TM) Individually Calibrated Red LED Illumination Technology
Howtek believes that its competitive advantage in the medical digitizer market is based on its introduction of a "third generation" film digitizer that utilizes high energy, narrow-band red light, generated by an array of individually controlled, solid state, light emitting diodes (LEDs), to improve illumination of films and increase resulting image quality. This individually calibrated Red LED illumination technology avoids problems and disadvantages associated with use of common fluorescent light for film illumination, without the acquisition and maintenance costs commonly associated with film digitizers using laser illumination technology. As a result, the Company believes its MultiRADscanners are less expensive than existing competitive products with comparable capabilities, and are superior in performance to scanners previously available at comparable prices.
In Howtek's proprietary radiological film digitization system, 56 individual, high-output LEDs transmit light through the radiological film, using a very high quality lens and imaging system to focus transmitted light on a sensitive 8000 element CCD detector. Generated light is nearly monochromatic at a wavelength of approximately 670 nanometers (nm). This red wavelength is matched to the peak sensitivity of the CCD camera, contributing to high signal strength, which results in improved dynamic range and image quality. This patent-pending solid state Red LED illumination system is thought by the Company to offer the following advantages over fluorescent illumination methods used by Howtek's competitors, contributing to improved image quality and to operator productivity:
o Near-Monochromatic Illumination
o Higher and Flatter Illumination Profile
o Adjustment to Lens Shape
o Temporal Stability
o Warm-up Characteristics
o Adjustable Illumination Width
MultiRAD(TM) Radiographic Film Digitizer Products. The MultiRAD product line, used to digitize radiographic film in Telemedicine, image archiving and Computer Assisted Diagnosis applications, among others, currently includes:
o The MultiRAD 860, a high-resolution film digitizer that the Company believes is uniquely positioned to serve an increasing market for computer-assisted mammography. The MultiRAD 860 list price is $19,995.
o The MultiRAD 460, with a list price of $16,995, offers lower resolution image capture applicable in Teleradiology and archiving applications.
ImageFunnel(TM) Products. Howtek's ImageFunnel products, which in most cases include a MultiRAD digitizer, are used to retrieve a patient's image-based medical records from a variety of sources, including film, and write them to a patent-pending compact disk (CD) which includes a portable DICOM format file viewer. ImageFunnel solutions can be used to duplicate, distribute and store patient image records by medical film libraries and service bureaus, offering an alternative to lower-quality hard copies of image records. Howtek offers ImageFunnel solutions complete including compact workstations, applications software and CD burner. DVD support is anticipated.
ImageFunnel Systems are offered in the following configurations, at the prices listed:
Product Description List Price -------------------- ------------------------------------ ---------------- ImageFunnel Writes all images both analog and $46,999 digital to CD -------------------- ------------------------------------ ---------------- DicomFunnel Writes digital images to CD $19,999 -------------------- ------------------------------------ ---------------- FilmFunnel Writes analog images to CD $29,999 -------------------- ------------------------------------ ----------------
Sales & Marketing
The Company reaches the Computer Assisted Detection market through OEMs. Current OEM customers include CADx Medical Systems, Inc., Integrated Software Solutions, Inc. (ISSI), Scanis, Inc., and Medizeus, Inc. After more than two years of support by Howtek, CADx Medical Systems, Inc., and ISSI received FDA approval in the first quarter of 2002 to market their products, incorporating Howtek's digitizers, in the United States.
In its other medical markets, Howtek is a leading supplier of digitizers for medical film images with an established distribution channel including OEM's, value added resellers and distributors.
Competition
MultiRAD(TM). Howtek's competition for high quality medical digitizing market includes the "first generation" LumiScan(TM) digitizer from Lumisys Corporation, now owned by Kodak. Since 1990, Lumisys digitizers, using a monochromatic laser illumination source, have been considered the quality standard in medical image digitizers. In the computer-assisted detection and teleradiology/PACS markets, Lumisys digitizers enjoyed an overwhelming market share. As described more fully below, the Company believes that the technology employed by the Lumisys devices has several inherent weaknesses. Because Lumisys' laser technology requires manufacturing costs greater than those of Howtek's newer generation technology products, Lumisys products are expensive to acquire compared to the Howtek digitizer. Lumisys' technology is also comparatively delicate, and expensive to maintain. As a result, Lumisys is believed by the Company to have lost market share to other competitors, including Howtek.
Vidar Corporation, a privately held subsidiary of a Swedish firm, has the greatest overall market share in medical digitizers, as a result of Vidar's dominance in the lower quality and most price sensitive segments of the market. Vidar digitizers might be considered a second generation of medical film digitizers (with Lumisys laser illuminated digitizers as the first generation). Vidar devices use a fluorescent light source to illuminate an image, capturing image information with a charge-coupled device (CCD). Offering a lower cost alternative to laser illuminated digitizers, (comparable or lower in price than Howtek's products) the Vidar products offer lower image quality than the Lumisys or the Howtek products. Vidar's Sierra Film Digitizer, priced under $10,000 reinforces Vidar's position in the low end market entry niche. Although it is slower and less productive than Vidar's own high end or comparable Lumisys or Howtek product, the Sierra is expected to attract sales that are based purely on price.
In general, Howtek uses its proprietary solid state, red-light illumination system and superior image quality to compete with Lumisys and Vidar. The Company competes with Lumisys on the basis of comparable (or superior) image quality and significantly lower price. With Vidar, the Company competes on the basis of superior image quality. A key comparative measure of a digitizer's ability to acquire high quality images is the "dynamic range" of the device. Dynamic range measures the range, from pure white to pure black, within which a digitizer is able to detect differences in lightness or darkness (density). The ability to distinguish shades within a primarily dark, or dense area of a radiological film is particularly significant in many diagnostic and medical imaging applications. Howtek digitizers have a greater dynamic range and therefore a significantly greater ability to distinguish meaningful information within seemingly dark areas of the radiological films, than Vidar devices. This is an increasingly understood competitive advantage, which Howtek emphasizes.
ImageFunnel(TM). Howtek's ImageFunnel solution competes on the basis of price and image quality with systems from several other vendors. Agfa Corporation offers a digital copy solution that takes digital images and stores to CD for a list price of $65,000. TDK, Inc. has a similar solution price at $60,000. MedWeb, Inc. has a non-DICOM solution priced at $15,000. In all cases the medical images are either compressed or the format is changed so that the images cannot be returned to a DICOM network as active patients. The CD products offered in these
systems may contain viewers, but are in most cases not fully compliant DICOM viewers. Unlike Howtek's ImageFunnel, these products do not create a portable, totally standard, fully diagnostic DICOM format image distribution and management system. Because of the nature of the ImageFunnel solution, full diagnostic quality patient images can be made portable without sacrificing the subsequent ability to reintroduce the images at any point in the medical enterprise's digital workflow.
FotoFunnel(TM) Business
Howtek's FotoFunnel solutions permit photo finishers and other retailers to offer consumer photographic images on CD, in digital form for uploading to the Internet, or as reprints or photo- products. FotoFunnel solutions represent an inexpensive approach to offering photographic customers digital products and services.
Howtek's FotoFunnel scanner, which digitizes new and old photo prints on-site and within fast photo processing workflows, was initially offered on an exclusive, OEM basis through a reseller that promoted the product for use in Internet and e-commerce applications for photo processing. As a result of a general reassessment of the role of the Internet in photo-finishing, however, Howtek repositioned the product as an on-site CD and reprint production system, offering, in Howtek's opinion, an immediate benefit to retailers and consumers. In July 2001, Howtek added the capability to accept digital camera memory to its FotoFunnel solutions, allowing retailers that use FotoFunnel the ability to extend their business to digital camera owners and users.
Market
The Company believes that digital and web-based photo services will fundamentally change the way consumer photographs are processed, enhanced, distributed and used. The Company also believes that the promise of a digital photographic solution that offers users features not available in traditional photography, drives not just digital camera manufacturers and users, it may also expand the demands and expectations of users of traditional cameras and films.
Traditional photos are processed at over 35,000 photo lab and photofinisher locations worldwide. The principal market for Howtek's FotoFunnel system and scanner are an estimated 18,000 - 25,000 "fast" (same day) or "one-hour" photo finishers, most of them mass retailers, typically located in high traffic retail locations. In deciding whether to provide digital photo finishing services, these retailers must often balance the potential return from digital services against the costs of acquiring more expensive digital minilabs or upgrading their traditional photo finishing equipment to digital capabilities. Howtek's FotoFunnel system allows them to offer CDs and other digital products and service by scanning old, shoeboxes of valued photos, or scanning prints just produced from new rolls of film.
Today, many retailers can accept files generated by the FotoFunnel system and Howtek's new FlashFunnel(TM) product to produce photo enlargements and other reprints on their existing minilabs. Howtek believes that by treating the minilab as a computer peripheral, such retailers are able to increase minilab utilization and returns on the minilab capital investment.
Current growth in digital cameras and digital photography has created an opportunity for Howtek. The number of digital cameras purchased has doubled in each of the past two years. Worldwide, the number of digital cameras accounts for about 25% of all new purchases. Currently, about 100 billion pictures are exposed each year on film, and 16 billion with digital camera; the annual growth rates are 5% for photos on film and 45% for photos using digital camera. During the third quarter of 2001, Howtek introduced its FlashFunnel(TM) system, offering photo retailers a flexible and comparatively inexpensive means to unload digital camera memory and produce CDs, reprints and other photo-products.
Products
FotoFunnel(TM) Scanner. The FotoFunnelis a compact, automatic batch-feeding scanner designed to quickly digitize photographic prints. FotoFunnel can be used for both newly developed prints and for older, existing prints. FotoFunnel is offered at a suggested retail price of $5,495. Standard discounts to resellers and OEMs range from 20-40%, with higher discounts available for high volume committed orders.
The scanner will accommodate up to 70 prints in the feed tray and feed most size prints from 2 inches by 2 inches up to a 5 inch by 7 inch. FotoFunnel employs CCD technology and cold cathode tube illumination. A simple feed system is used to guide the prints through a short, straight paper path, eliminating scratches or other damage to the print. Photo prints are put in an input tray and the scan process is started. From this point the system takes over, scanning the photographs at a resolution of up to 600 dpi and with a color depth of up to 36 bits. The system recognizes and skips duplicates. The software calibrates for the optimum quality (for example lighting) of the photograph automatically.
A unique feature of the FotoFunnel is that photos pass the CCD sensor without mirrors or the usual glass panel separation. This precludes any possible reflection or distortion of the picture through dust particles that might adhere to the glass panel, which (in the worst case) may cause lines on the final product. Also, by eliminating glass panels, picture sharpness and contrast are enhanced. The FotoFunnel incorporates a standard SCSI 2-Interface, so that it can be connected to any PC with SCSI adapter and running Microsoft Windows 95/98/NT/2000/XP.
Once the photos have been scanned, they appear as thumbnail previews on the computer monitor, and can be manipulated to, among other things, select the photographs and switch the horizontal/vertical orientation of the image. The system then automatically compresses the data so that, regardless of the size of the original photo, up to 80 photographs can be stored on a diskette and many more can be stored on a CD or can be transmitted over the Internet.
The high speed of scanning, up to four photos per minute, allows the entire process from development of photos from film, scanning and production of CD or diskette to be completed within the one-hour processing requirements of many small photo labs.
FotoFunnel(TM) Software Options. Customers using FotoFunnel have several software options. The FotoFunnel scanner is available with a TWAIN software interface, which permits use of the
scanner with common and specialty software applications supporting the TWAIN protocol. This is of particular benefit where an OEM or systems integrator has developed its own software for imaging or photo systems, and seeks to add the FotoFunnel as a principal or additional source of image capture.
Howtek has also developed a proprietary software application, called FunnelScan(TM), which permits users to operate the scanner, review and align images, and save the images to floppy disk, CD or defined Internet sites. The FunnelScan application automatically de-skews, crops and color corrects images as they are scanned. The FunnelScan software also permits the user to download pictures from digital camera memory, and other media and sources, including flatbed and film scanners.
FlashFunnel(TM) Solutions. Howtek's FlashFunnel product is available in software or workstation configuration to provide photofinishers and other retailers with the ability to offer fast, on-site compact disk (CD), digital image file and reprint production from digital camera memory and from conventional flatbed and slide scanners. The system can also be upgraded with Howtek's FotoFunnel production print scanner. The FlashFunnel is available as a very compact turnkey solution, including a digital camera memory reader and flat panel display, for under $3,000. It is also available in a software only version, at less than $1,000.
The software powering the FlashFunnel system is Howtek's FunnelScan software, which operates across Howtek's Professional Photo Processing family of products. Using Howtek's software as a "digital hub", a retailer imports images from digital camera memory, adds scanned images from prints or slides, and assembles all those images on a simple, easy to use computer desktop. Scanned images are automatically cropped and straightened as they are imported. On the desktop, images can be rotated, named or renamed, and then saved to CD or file. The process is quick, very easy, and requires no specialized training or skills.
CDs can then be created, including copies of every image in high, medium and low file sizes, allowing higher quality prints and reprints from larger image files, containing more image data, while offering smaller "thumbnail" files for easy email and internet use. Each CD also includes two PC based picture viewers, one that operates from the CD itself and is completely portable, and a second, more sophisticated viewer and organizer that permits image editing, e-mailing, creation of computer-based slide shows using images from the CD, and creation of photo screen savers that can be used or shared.
CDs created using Howtek's software can be configured to show and promote the retailer's brand, provide links to the retailer's web site, and generally contribute to consumer relationship management by the photo (or digital photo) retailer. Howtek is working with current customers to define and create web links to offer specials and promotions to consumers, and even to provide and update advertisements and coupons directly to consumer's computers and homes.
A retailer can now add such services within existing one-hour or same day photo processing workflows, without adding staff or space. By keeping CD and reprint production on site, the
photo retailer can increase utilization of these services, without giving up profit margins on digital services or underlying roll film development to third party, overnight film photo finishing services.
Sales & Marketing
The Company's primary FotoFunnel resellers are photo finishing equipment manufacturers already relied on by photo retailers to provide and support photo finishing equipment and systems. In particular, the FotoFunnel solution has been selected for resale by Noritsu America Corporation, which offers the FotoFunnel scanner as a component of its new "Digital Print Station", which can serve as a digital front end for certain of Noritsu's minilabs and is offered by Noritsu, domestically and internationally, with new equipment and as an upgrade to existing installations.
Complementing the equipment manufacturer channel, Howtek maintains a limited dealer and distributor network primarily to promote FotoFunnel solutions to smaller scale individual and independent photo retailers. Internationally, the Company works through certain of Noritsu Koki Co.'s international subsidiaries and distributors, and through independent distributors in Holland, Israel, Finland and Australia.
Competition
FotoFunnel(TM) Scanning Equipment. Competition exists from products that digitize the strip of photo negatives created when processing new rolls of film, and from products using generic, flatbed scanners manufactured for general office use. Today, there are several companies offering negative film scanning systems including Canon Corporation, Eastman Kodak, Pixel Magic, Inc., and Pakon, Inc. (Pakon was acquired by Eastman Kodak during 2001). These systems are fast (they can digitize a roll of film in about 4 minutes), however, they are more expensive than the Howtek scanner. They also require some operator training to ensure image quality and proper operation. Management and correction of colors in the conversion from a photo negative to a positive digital and printed image can be complicated and is subject to errors. Finally, these systems are unable to work with existing prints and cannot serve the "shoebox" market of customers seeking to digitize pictures that were developed previously, where negatives may not be available. Howtek competes with these systems on the basis of price and convenience.
Comparatively inexpensive office flatbed scanners, available from a wide range of manufacturers, can also be used to digitize existing photo prints. Kodak has offered a flatbed scanner integrated into a retail kiosk to permit one-at-a-time digitizing and editing of particularly important images with some success. This service is expensive to the consumer (approximately $8 per image), and the Company believes that the labor requirements involved in using a standard flatbed scanner in a conventional photo lab's workflow often makes this an impractical method. In an effort to address this issue Kodak offers a Fujitsu office scanner, incorporating an automatic document feed mechanism. Howtek believes that initial reaction to this Kodak product has been mixed. The longevity and durability of an office scanner in the rigorous commercial photo lab environment have yet to be proven. The FotoFunnel competes with such products on the basis of price, greater image quality, reduced space requirement and gentle, reliable print feed design.
Graphic Arts and Prepress Business
Howtek has reduced its attention to declining prepress graphic arts markets to concentrate on what it believes are greater business opportunities in its medical and photographic imaging and digitization markets. This change in focus has permitted the Company to make significant reductions in those parts of Howtek's overhead and expense structure previously related to the traditional, comparatively low margin, graphic arts business.
As a means of providing the Company with a source of continuing, incremental revenue and gross margin, Howtek continues to offer a limited variety of graphic arts products through a long standing OEM customer, and through direct web-based marketing.
Recent Development
The Company recently announced that it has entered into a definitive agreement with Intelligent Systems Software Inc. ("ISSI"), a privately held company based in Boca Raton, Florida, pursuant to which ISSI would merge with and into a subsidiary of Howtek. If the merger is consummated, a total of 8,400,000 shares of Howtek common stock will be issued in the merger in exchange for all of the issued and outstanding capital stock of ISSI. In January 2002, ISSI received approval from the U.S. Food and Drug Administration (FDA) to market and sell ISSI's new MammoReader(TM) Computer Aided Detection CAD system in the United States.
Subsequent to completion of the contemplated merger, Howtek's existing film and photo digitizer operations, including engineering, manufacturing management, marketing and support, will be conducted through a wholly owned subsidiary corporation, based at the Company's current headquarters in Hudson, NH. The Company's objective is to continue to grow its medical business, providing industry-leading digitizers to ISSI and to other respected customers.
The completion of the merger is subject to the registration of the shares of Howtek common stock to be issued in the merger under the Securities Act of 1933, as amended, and other customary conditions, including approval of the merger by stockholders of both Howtek and ISSI. It is currently expected that the merger will be consummated by June 30, 2002.
Risk Factors
There are enormous uncertainties and risks associated with the Company's business strategy. Howtek's future operating results will depend, among other factors, on its ability to continue to increase sales significantly, on retaining current key employees and on attracting additional qualified personnel. Risk factors include, but are not limited to, the Company's history of significant operating losses, intense competition in all of its product lines, risk associated with foreign sales, need to obtain additional financing, technical obsolescence of existing products,
ability to protect proprietary information, the timely availability of sufficient quantities of parts, materials and components which are in some cases available from sole sources or a limited number of suppliers, and uncertainty regarding the proposed merger with ISSI.
Government Regulation
Current products in the Company's medical digitizer product line are subject to regulation by the Food and Drug Administration ("FDA"). The Company has received FDA 510(k) pre-market clearance, which is required for the sale of its medical products.
Sources and Availability of Materials
The electronics industry is subject to periodic fluctuations in the production capacity of integrated circuit manufacturers and other key suppliers. Currently, the Company believes that there are adequate sources and availability of the components necessary to manufacture its products.
Patents
The Company has several patents covering its scanner and prepress technology in the United States and certain foreign countries, which is the basis of its current business. These patents help the Company maintain a proprietary position in the scanner market, but because of the pace of innovation in that market it is difficult to determine the overall importance of these patents to the Company.
The Company has current patent applications pending, has filed foreign patent applications based on some of its United States patents and plans to file additional domestic and foreign applications when it believes such protection will benefit the Company.
There is no assurance that additional patents will be obtained either in the United States or in foreign countries or that existing or future patents or copyrights will provide substantial protection or commercial benefit to the Company.
There is rapid technological development in the Company's markets with concurrent extensive patent filings and a rapid rate of issuance of new patents. Although the Company believes that its technologies have been independently developed and do not infringe the patents or intellectual property rights of others, certain components of the Company's products could infringe patents, either existing or which may be issued in the future, in which event the Company may be required to modify its designs or obtain a license. No assurance can be given that the Company will be able to do so in a timely manner or upon acceptable terms and conditions; and the failure to do either of the foregoing could have a material adverse effect upon the Company's business.
In addition to protecting its technology and products by seeking patent protection when deemed appropriate, the Company also relies on trade secrets, proprietary know how and continuing technological innovation to develop and maintain its competitive position. The Company requires all of its employees to execute confidentiality agreements. Insofar as the Company relies on confidentiality agreements, there is no assurance that others will not independently develop similar technology or that the Company's confidentiality agreements will not be breached.
All key officers and employees have agreed to assign to the Company certain technical and other information and patent rights, if any, acquired by them during their employment with the Company and after any termination of their employment with the Company (if such information or rights arose out of information obtained by them during their employment).
Manufacturing
The Company operates an ISO 9001 and FDA-certified manufacturing facility in Hudson, NH. Currently, the Company's FotoFunnel, medical and drum scanner products are manufactured by third party contract manufacturing organizations. The software applications that are sold with the Company's products are either developed in-house or licensed from third parties.
Research and Development
The Company spent $751,467, $709,595 and $799,960 on research and development activities during the years ended December, 2001, 2000 and 1999, respectively. The research and development expenses are primarily attributed to the development of the Company's FotoFunnel and medical imaging products.
Employees
On March 1, 2002 the Company had 24 full time employees and 1 part time employee. None of the Company's employees are represented by labor organizations and the Company is not aware of any activities seeking such organization. The Company considers its relations with employees to be good.
Backlog
The dollar amount of the Company's backlog, and orders believed to be firm, as of December 31, 2001 was approximately $157,000 as compared to approximately $108,000 on the corresponding date in 2000.
Environmental Protection
Compliance with federal, state and local provisions which have been enacted or adopted regulating the discharge of materials into the environment, or otherwise relating to the protection of the environment, has not had a material effect upon the capital expenditures, earnings (losses) and competitive position of the Company.
Item 2.
Item 2. Properties
The Company's principal executive offices and research and development laboratory are located at 21 Park Avenue, Hudson, New Hampshire. The facility consists of approximately 21,000 square feet of manufacturing, research and development and office space and is leased by the Company from Mr. Robert Howard, Chairman of the Board of Directors of the Company, pursuant to a lease which expires September 30, 2002 at an annual rent of $78,500. Additionally, the Company is required to pay real estate taxes, provide insurance and maintain the premises. If the Company is required to seek additional or replacement facilities, it believes there are adequate facilities available at commercially reasonable rates.
Item 3.
Item 3. Legal Proceedings.
Not applicable
Item 4.
Item 4. Submission of Matters to a Vote of Security-Holders
Not applicable
PART II
Item 5.
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.
The Company's Common Stock is traded on the Nasdaq SmallCap Market under the symbol "HOWT". The following table sets forth the range of high and low sale prices for each quarterly period during 2001 and 2000.
Fiscal year ended High Low ---- --- December 31, 2001 First Quarter $3.375 $2.500 Second Quarter 3.000 1.860 Third Quarter 2.150 .700 Fourth Quarter 1.900 .930
Fiscal year ended December 31, 2000 First Quarter $4.125 $1.875 Second Quarter 2.563 .625 Third Quarter 3.063 1.188 Fourth Quarter 4.281 1.750
As of March 1, 2002 there were 291 holders of record of the Company's Common Stock.
The Company has not paid any cash dividends on its Common Stock to date, and the Company does not contemplate payment of cash dividends in the foreseeable future. Future dividend policy will depend on the Company's earnings, capital requirements, financial condition, and other factors considered relevant to the Company's Board of Directors. There are no non-statutory restrictions on the Company's present or future ability to pay dividends. The Company currently has two outstanding Series of Preferred Stock that has dividend rights that are senior to holders of Common Stock.
Item 6.
Item 6. Selected Financial Data
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
Results of Operations
Overview
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Many of the Company's estimates and assumptions used in the preparation of the financial statements relate to the Company's products, which are subject to rapid technological change. It is reasonably possible that changes may occur in the near term that would affect management's estimates with respect to inventories, equipment and software development costs. (See Notes to Financial Statements, Note 1 - Summary of Significant Accounting Policies.)
Howtek, develops, manufactures, and markets digitizing systems, or "scanners", which convert printed, photographic and other "hard copy" images to digital form for use in the medical, photo finishing, and graphic arts industries. The Company introduced the first "desktop" scanner in 1986, smaller, easier to use and less costly than alternative scanners at that time, helping to make possible the shift to decentralized corporate electronic publishing. Howtek followed with a series of award winning, industry leading products, continuing to improve the quality of digital imaging, and reducing the price and complexity of scanning systems.
Facing diminishing returns in its traditional graphic arts business, Howtek, in the last several years, has heavily invested in technology and product development in the fields of medical and photographic imaging and digitization. After two years of work supporting development-stage OEM customers in the new field of Computer Assisted Detection (CAD) of breast cancer, FDA approvals for sales in the United States of CAD systems incorporating Howtek digitizers were received by two key Howtek OEM customers during the first quarter of 2002. The Company believes such FDA approvals, coupled with newly implemented medical cost reimbursement coverage for procedures utilizing such CAD systems, may contribute to sales growth in this area.
The Company's FotoFunnel photographic scanner solution was introduced by one key OEM in 2000, as part of an Internet-driven photo finishing solution. During 2001, as a result of a general reassessment of the role of the Internet in photo finishing, large retail accounts, in general, elected not to purchase such systems. In response, the Company repositioned its FotoFunnel product line, offering its photographic products to retail photo finishers as an inexpensive way to offer photo images on compact disk (CD) to retail photo customers. Sales of FotoFunnel are expected to increase during 2002.
Howtek has reduced its attention to declining prepress graphic arts markets to concentrate on greater business opportunities in its medical and photographic imaging and digitization markets.
This process has permitted the Company to make significant reductions in those parts of Howtek's overhead and expense structure previously related to the traditional, comparatively low margin, graphic arts business.
In support of its shift in focus to medical and photo processing markets, the Company has (1) updated product lines, introducing industry-leading products in medical and photo processing/Internet markets, (2) migrated from in-house manufacturer to outsourcing to more effectively utilize outside engineering, development, and manufacturing resources, (3) substantially reduced personnel and overhead, and (4) implemented an OEM and large scale systems integrator marketing and sales strategy for primary digitizer markets.
Year Ended December 31, 2001 compared to Year Ended December 31, 2000
Sales. Sales for the year ended December 31, 2001 were $4,835,297, compared with sales of $7,793,517 for the year ended December 31, 2000. As expected, as a result of the Company's shift in the focus of its business, sales of the Company's prepress and graphic arts products, including related maintenance and repair services, decreased by $1,788,047, from $3,319,407 in 2000 to $1,531,360 in 2001.
The Company continues to emphasize its medical and photographic business opportunities, while managing the decline in its traditional graphic arts business. Sales of the Company's medical imaging products increased from $2,256,312 (29% of sales) for the year ended December 31, 2000 to $2,315,738 (48% of sales) for the year ended December 31, 2001. Howtek's medical product sales are made primarily to the Company's respective "integration partners" or resellers, which add software and other components to Howtek's products to provide full medical imaging solutions to their customers. The Company believes that there has been a softening in the telemedicine and Picture Archiving and Communications Systems (PACS) segments of the medical market place, as customer purchases are being deferred or reconsidered as a result of what is perceived to be an overall softness in the economy. To address this softening the Company has increased the number of resellers offering the Howtek digitizers into the telemedicine and large-scale PACS markets. The increases in resellers are expected to contribute to increase sales of medical products in future periods.
The Company has made a significant investment in time and resources in developing and supporting OEM customers using its digitizers in computer assisted diagnosis of breast cancer systems and applications. The FDA recently approved for sales in the United States, CAD systems incorporating Howtek digitizers offered by two of the Company's OEM customers.
In 2001 the Company introduced its new FilmFunnel(TM) and ImageFunnel(TM) systems for commercial sale. These systems couple Howtek digitizers with image view and media-burning capabilities and includes Howtek's portable MyLivingRecord(TM) image viewing solutions. The Company expects that these systems will offer film libraries, radiology departments and individuals, a cost-effective approach to the duplication, distribution and personal retention of medical images. FilmFunnel and ImageFunnel systems are expected to contribute higher per
sales revenues and margins than current digitizer sales, while the MyLivingRecord media component creates the potential for recurring, consumables revenues. These markets, which are new to the Company, are expected by the Company to be comparatively resistant to an increasingly adverse economic environment.
Sales of the Company's FotoFunnelphoto print scanning system decreased from $2,217,798 (28% of sales) for the year ended December 31, 2000 to $988,199 (20% of sales) for the year ended December 31, 2001. Almost all FotoFunnel sales in 2000 were made to one reseller, which purchased the scanners in connection with an Internet-driven business model that proved unsuccessful. The Company has since established alternative positioning and distribution channels for the FotoFunnel product line, including Noritsu America Corporation, which offers and promotes the FotoFunnel scanner as an accessory with certain of its minilab and photo-finishing products. The Company is now participating in FotoFunnel field evaluation and testing programs with a variety of retail and photo chains and mass merchants which precede purchase decisions by such buyers.
Gross Margin. Gross margin for the year ended December 31, 2001 decreased to 19% from 24% in 2000. This decrease is due to the Company's decision to increase its inventory reserve by $300,000 associated with its prepress and graphic arts product lines. Before the increase in reserve gross margins improved to 25% in 2001 from 24% in 2000, as a result of reduced production overhead and indirect production expenses, associated with the Company's continuing overhead and expense control measures, increased sales of higher margin medical digitizers into the market for computer assisted diagnosis of breast cancer, and increased sales of FotoFunnel products through channels that have higher margins than the Company's original OEM channel.
Engineering and Product Development. Engineering and product development costs for the year ended December 31, 2001 increased slightly from $709,595 in 2000 to $751,467 in 2001. The Company expects to continue its utilization of outside and contract engineering resources as appropriate.
General and Administrative. General and administrative expenses decreased 4% from $1,165,392 in 2000 to $1,124,710 in 2001. This change results primarily from a decrease in expense associated with the redesign of the Company's Web site incurred in 2000.
Marketing and Sales. Marketing and sales expenses for the year ended December 31, 2001 decreased 9% from $1,720,674 in 2000 to $1,563,380 in 2001. During the second and third quarter of 2001, the Company significantly reduced expenses related to its traditional graphic art business, while increasing medical and FotoFunnel sales expenses.
Interest Expense. Net interest for the year ended December 31, 2001 decreased 39%, from $132,014 in 2000 to $80,105 in 2001. This decrease is due primarily to a decrease in loan balances and interest rates.
As a result of the foregoing, the Company recorded a net loss of $2,620,771 or $0.20 per share for the year ended December 31, 2001 on sales of $4,835,297 compared to a net loss of $1,827,648 or $0.22 per share in 2000 on sales of $7,793,517.
Year Ended December 31, 2000 compared to Year Ended December 31, 1999
Sales. Sales for the year ended December 31, 2000 were $7,793,517, an increase of $1,130,287 or 17% from sales during the year ended December 31, 1999 of $6,663,230. Sales of the Company's medical imaging products increased 50% from $1,508,197 (23% of sales) for the year ended December 31, 1999 to $2,256,312 (29% of sales) for the year ended December 31, 2000. Sales through system integrators and resellers, including General Electric Medical Systems and Konica Medical Imaging, Inc., contributed to increased sales in 2000. The Company's medical product sales also benefited from demand by key OEM customers involved in computer-assisted detection of breast cancer. These customers marketed systems including Howtek digitizers outside the United States while seeking FDA approval to sell domestically. A key objective over the coming quarters was to add additional, qualified OEM and systems integration resellers.
In 2000 the Company began commercial shipments of its FotoFunnel(TM) photographic print scanner line from its third party manufacturing supplier. FotoFunnel sales were $2,217,798 (28% of sales), with virtually all sales made to Telepix Imaging, Inc., a member of the Gretag Imaging Group. During the third quarter the Company reduced production of its FotoFunnel print scanner to implement new design features, and deliver enhanced scanner units. Several engineering design and manufacturing changes which offered increase scanning speed, improved customer workflow and generally enhanced scanner performance were achieved during the third quarter.
Sales of the Company's prepress and graphic arts products, including related maintenance and repair services, decreased 36% from $5,155,033 (77% of sales) in 1999 to $3,319,407 (43% of sales) in 2000. This decline reflected increased competition in the market for the Company's graphic arts scanners, and a decision by the Company not to renew a distribution agreement under which it could redistribute flatbed scanners manufactured by Scanview, A/S. This reduction in sales was acute during the fourth calendar quarter of 2000, as the Company reduced and focused its prepress and graphic arts sales channels, eliminating a number of previous dealers and distributors.
Gross Margin. Gross margin for the year ended December 31, 2000 remained steady from 1999, at 24% of sales, in spite of a decision by the Company to increase inventory reserves associated with its prepress and graphic arts product lines from $200,175 to $361,931.
Engineering and Product Development. Engineering and product development costs for the year ended December 31, 2000 decreased 11% from $799,960 in 1999 to $709,595 in 2000. The overall decrease in engineering and product development costs resulted primarily from reductions in manpower.
General and Administrative. General and administrative expense decreased 9% from $1,286,895 in 1999 to $1,165,392 in 2000. During the first quarter of 1999 the Company established reserves of $186,662 to permit the Company to take back discontinued HiDemand(TM) 400 graphic arts scanner products to encourage resellers and customers to acquire its Scanview line of products and a non-recurring expense of $21,142 associated with the write off of tooling and inventories associated with the discontinued HiDemand 400 product. Giving effect to the HiDemand 400 reserve and write down for the year ended December 31, 1999, the general and administrative expenses increased 8%, from $1,079,091 in 1999 compared to $1,165,392 for the comparable period in 2000. The increase was due primarily to the expense incurred to redesign the Company's Web site.
Marketing and Sales. Marketing and sales expenses for the year ended December 31, 2000 increased slightly from $1,702,451 in 1999 to $1,720,674 in 2000. The change resulted from decreases in advertising and promotional expenses in the graphic arts area, where there was an increasing reliance on direct mail and telemarketing to support its sales efforts, while medical sales expenses increased and new expenses were incurred relating to the FotoFunnel business.
Interest Expense. Net interest expense for the year ended December 31, 2000 decreased to $132,014 from $1,801,646 in 1999. During the first quarter of 1999 the Company recorded interest expense of $1,671,158 relative to the conversion of Convertible Subordinated Debentures as required by Statement of Financial Accounting Standards No. 84, "Induced Conversions of Convertible Debt". This charge was wholly offset by a corresponding increase to additional paid-in capital by $1,671,158. The charge and corresponding benefit relate to the conversion to equity during the first quarter of 1999 of $1,764,000 of the Company's previously outstanding 9% Convertible Subordinated Debentures, due 2001 (the "9% Debenture"). In December 1998, the Company provided for a temporary reduction in the conversion price of the 9% Debenture to encourage conversion to common stock, and thereby reduce cash interest expenses, and sinking fund payments associated with the 9% Debenture.
As a result of the foregoing, the Company recorded a net loss of $1,827,648 or $0.22 per share for the year ended December 31, 2000 on sales of $7,793,517 compared to a net loss of $3,996,828 or $0.32 per share for the same period in 1999 on sales of $6,663,230.
During the year ended December 31, 2000 the Company issued 1,400 shares of 7% Series B Convertible Redeemable Preferred Stock with a conversion price below the Company's Common Stock quoted value and as a result accreted dividends of $996,283 were recorded and included in the net loss per share calculation.
Liquidity and Capital Resources
The Company's ability to generate cash adequate to meet its requirements depends primarily on operating cash flow and the availability of a $3,000,000 credit line under a Convertible Note and Revolving Loan and Security Agreement with its Chairman, Mr. Robert Howard, of which
$3,000,000 was available at December 31, 2001. The Company believes that these sources are sufficient to satisfy its cash requirements for the foreseeable future. (See Item 13 - "Certain Relationships and Related Transactions".)
Working capital decreased $1,355,348 from $2,938,143 at December 31, 2000 to $1,582,795 at December 31, 2001. The ratio of current assets to current liabilities at December 31, 2001 and 2000 was 1.8 and 2.4, respectively.
The Company has Secured Demand Notes and Security Agreements (the "Notes") owed to Mr. Robert Howard. Principal of these notes are due and payable in full, together with interest accrued and any penalties provided for, on demand. Under the terms of the Notes the Company agreed to pay interest at the lower rate of (a) 12% per annum, compounded monthly or (b) the maximum rate permitted by applicable law. The Notes currently bear interest at 12%. Payment of the Notes is secured by a security interest in certain assets of the Company. A total of $500,000 is outstanding pursuant to the Notes.
During 1999 the Company borrowed $310,000 from Mr. Robert Howard, pursuant to Convertible Promissory Notes (the "Promissory Notes"). Under the terms of the Promissory Notes the Company agreed to pay interest at a fixed rate of 7% per annum. The Promissory Notes entitled the payee to convert outstanding principal due into shares of the Company's common stock at $1.00 per share, which was the market price of the Company's stock at the date the Promissory Notes were issued. In September 2001, Mr. Howard converted the outstanding balance, including interest, on the Promissory Notes into 361,474 shares of restricted common stock of the Company
Proposed Merger with ISSI
The Company recently announced that it has entered into a definitive agreement with ISSI, a privately held company based in Boca Raton, Florida, pursuant to which ISSI would merge with and into a subsidiary of Howtek. If the merger is consummated a total of 8,400,000 shares of Howtek common stock will be issued in the merger in exchange for all of the issued and outstanding capital stock of ISSI. In January 2002, ISSI received approval from the U.S. Food and Drug Administration (FDA) to market and sell ISSI's new MammoReader(TM) Computer Aided Detection CAD system in the United States.
Subsequent to completion of the contemplated merger, Howtek's existing film and photo digitizer operations, including engineering, manufacturing management, marketing and support, will be conducted through a wholly owned subsidiary corporation, based at the Company's current headquarters in Hudson, NH. The Company's objective is to continue to grow its medical business, providing industry-leading digitizers to ISSI and to other respected customers.
The completion of the merger is subject to the registration of the shares of Howtek common stock to be issued in the merger under the Securities Act of 1933, as amended, and other customary conditions, including approval of the merger by stockholders of both Howtek and ISSI. It is currently expected that the merger will be consummated by June 30, 2002.
Effect of New Accounting Pronouncements
In June 2001, the Financial Accounting Standards Board issued SFAS No. 141, "Business Combinations" ("SFAS 141"), and No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"). SFAS 141 requires companies to use the purchase method of accounting for all business combinations initiated after June 30, 2001, and establishes specific criteria for the recognition of intangible assets separately from goodwill. SFAS 142 addresses the accounting for acquired goodwill and intangible assets. Goodwill and indefinite-lived intangible assets will no longer be amortized and will be tested for impairment at least annually. The provisions of SFAS 142 will be effective for the Company in fiscal year 2002. Goodwill and intangible assets acquired after June 30, 2001, will be subject immediately to the non-amortization and amortization provisions of this statement.
Historically, the Company has not had goodwill or acquired other intangible assets. Accordingly, the Company does not expect adoption of these new standards to affect its financial statements as they relate to previous transactions. However, these new standards will affect the accounting for any business combinations initiated after June 30, 2001, including the proposed merger with ISSI.
In October 2001, the Financial Accounting Standards Board issued SFAS No. 144, "Accounting for the Impairment of Disposal of Long-Lived Assets" ("SFAS144"), which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. This Statement supersedes SFAS 121 "Accounting for the Impairment of Long-Lived Assets to be Disposed Of" and APB Opinion No. 30 "Reporting the Results of Operations - Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions for the Disposal of a Segment of a Business". SFAS 144 becomes effective for the fiscal years beginning after December 15, 2001. The Company expects to adopt SFAS 144 in the first quarter of fiscal 2002 and is currently reviewing the effects of adopting SFAS 144 on its financial position and results of operations.
Item 7a.
Item 7a. Quantitative and Qualitative Disclosures about Market Risk.
Not applicable.
Item 8.
Item 8. Financial Statements and Supplementary Data.
See Financial Statements and Schedule attached hereto.
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
Not applicable.
PART III
Item 10.
Item 10. Directors and Executive Officers of the Registrant.
Directors Director Name Age Position Since - ---- --- -------- ------ Robert Howard 78 Chairman of the Board, and Director 1984 W. Scott Parr 50 President, Chief Executive Officer and Director 1998 Ivan Gati 54 Director 1989 James Harlan 50 Director 2000 Kit Howard 58 Director 1999 Brett Smith 32 Director 2000 Harvey Teich 82 Director 1988
All persons listed above are currently serving a term of office as directors which continues until the next annual meeting of stockholders.
Robert Howard, the founder and Chairman of the Board of Directors of the Company, was the inventor of the first impact dot matrix printer. Mr. Howard was Chief Executive Officer of the Company from its establishment in 1984 until December of 1993. He was the founder, and from 1969 to April 1980 he served as President and Chairman of the Board, of Centronics Data Computer Corp. ("Centronics"), a manufacturer of a variety of computer printers. He resigned from Centronics' Board of Directors in 1983. From April 1980 until 1983, Mr. Howard was principally engaged in the management of his investments. Commencing in mid-1982, Mr. Howard, doing business as R.H. Research, developed the ink jet technology upon which the Company was initially based. Mr. Howard contributed this technology, without compensation, to the Company. Mr. Howard was Chairman of the Board of Presstek, Inc. ("Presstek"), a public company which has developed proprietary imaging and consumables technologies for the printing and graphic arts industries from June 1988 to September 1998 and served as Chairman Emeritus of the Board from September 1998 to December 2000. In February 1994 Mr. Howard entered into a settlement agreement in the form of a consent decree with the Securities and Exchange Commission (the "Commission") in connection with the Commission's investigation covering trading in the Company's Common Stock by an acquaintance of Mr. Howard and a business associate of such acquaintance. Mr. Howard, without admitting or denying the Commission's allegations of securities laws violations, agreed to pay a fine and to the entry of a permanent injunction against future violations of Section 10(b) and Rule 10b-5 of the Securities Exchange Act of 1934. In addition, in December of 1997, in connection with the Commission's investigation into trading in the securities of Presstek, Mr. Howard, without admitting or denying the Commission's allegations of securities laws violations, agreed to pay a civil penalty of $2,700,000 and to the entry of a final judgement enjoining him future violations of Section 10(b) and 13(a) and Rules 10b-5, 12b-20, 13a-1 and 13a-20 of the Securities Exchange Act of 1934.
W. Scott Parr joined the Company in January 1998, as President and Chief Executive Officer. He was appointed to the Company's Board of Directors in February 1998. Prior to joining Howtek, Mr. Parr served as Divisional Director and a member of the Board of Directors of SABi International Ventures, Inc. in 1997, where he was responsible for restructuring and upgrading certain US companies owned by foreign and venture investors. From 1995 to 1997, Mr. Parr was Chief Executive Officer, General Counsel and Director of Allied Logic Corporation, a start-up venture specializing in proprietary molding and manufacturing technologies. From 1990 to 1995 Mr. Parr was General Counsel and a Director of LaserMaster Technologies, Inc.
Ivan Gati is currently an executive business consultant. Mr. Gati served as Chairman of Turner Management, Inc., a vertically integrated real estate investment company from 1983 to 2000. Mr. Gati is also a member of the Board of Directors of Universal Automation Systems, Inc.
James Harlan has been the Executive Vice President and Chief Financial Officer of HNG Storage Company, a natural gas storage and electric development company since 1998. From 1991 to 1997 Mr. Harlan served as General Manager and Chief Financial Officer of Pacific Resources Group and planning and finance development work with various Australian manufacturing and distribution businesses. He also served as operations research and planning analyst for the White House Office of Energy Policy and Planning from 1977 to 1978, the Department of Energy from 1978 to 1981, and U.S. Synthetic Fuels Corporation from 1981 to 1984. He has a PhD in applied economics with an operations research dissertation from Harvard University and a BS in Chemical Engineering from Washington University.
Kit Howard holds a Bachelor of Science Degree from New York University. She worked in the financial community as a stockbroker from 1980 until 1986. Since then she has assisted Robert Howard, her husband and Chairman of the Company, in his various business enterprises.
Brett Smith, the son of Mrs. Kit Howard, is currently the Chairman and CEO of ei3 Corporation, a provider of technology services to manufacturing companies utilizing advanced frame relay and internet technologies. Prior to ei3 Mr. Smith was a member of the restructuring team for Delta V Technologies, a subsidiary of Presstek, Inc., where he served as Director of Business Development from 1996 to 1999. From 1995 to 1996 Mr. Smith worked for the Asia Times newspaper start-up team in Hong Kong. He began his career as an analyst, from 1992 to 1994, at Susquehanna Investment Group. Mr. Smith received a BS from Emory University.
Harvey Teich is a retired certified public accountant. On January 1, 1992, the accounting firm of Merman & Teich, where Mr. Teich had been a principal for the previous seventeen years, ceased to operate as a partnership. He is a member of the New York state Society for Certified Public Accountants.
Executive Officers and Key Employees
Name Age Position - ---- --- -------- W. Scott Parr(1) 50 President, Chief Executive Officer, Director
Richard F. Lehman(2) 64 Vice President, Engineering
Annette L. Heroux(1) 45 Chief Financial Officer
Joseph E. Manseau(2) 45 Vice President, Sales and Marketing
Maurice R. Auger(2) 53 Vice President, Medical Sales - ------------------------------ 1. Officer appointed by the Board of Directors.
2. Key employees
Richard F. Lehman joined the Company in July 1990, as Director of Scanner Engineering. In December 1993, he was named Vice President of Scanner Engineering and in October 1996, he was named Vice President of Engineering. Prior to joining the Company, Mr. Lehman was employed by Xerox Corporation for 23 years where he served in various engineering and managerial capacities.
Annette L. Heroux joined the Company in October 1987 as Accounting Manager and was named Controller in October 1998 and Chief Financial Officer in July 1999. Prior to joining the Company, Ms. Heroux worked from 1980 to 1987 for Laurier, Inc., a small semiconductor equipment manufacturer, in various financial and managerial capacities.
Joseph E. Manseau joined the Company in August 1998 as Regional Sales Manager and was named to Vice President Sales and Marketing on April 1, 1999. Prior to joining the Company Mr. Manseau worked from 1997 to 1998 for Escher-Grad Tech., Inc. where he was responsible for implementing the sales and marketing strategy for its large format image setters. From 1981 to 1997 he worked for AGFA and Compugraphic, currently divisions of Bayer Corporation, in various marketing and sales capacities.
Maurice R. Auger joined the Company in October 2000 as Vice President of Medical Sales. Prior to joining the Company Mr. Auger worked from 1983 to 2000 for Cemax-Icon PACS (a Kodak Company) in various positions leading up to his promotion as North East Zone Technical Sales in 1997.
Item 11.
Item 11. Executive Compensation.
The following table provides information on the compensation provided by the Company during fiscal years 2001, 2000 and 1999 to the persons serving as the Company's Chief Executive Officer during fiscal 2001, the Company's most highly compensated executive officers and certain key employees serving at the end of the 2001 fiscal year (named person). Included in this list are only those executive officers and key employees whose total annual salary and bonus exceeded $100,000 during the 2001 fiscal year.
SUMMARY COMPENSATION TABLE Securities Underlying Name and Principal Position Year Salary($) Option(#) - --------------------------- ---- --------- --------- W. Scott Parr Chief Executive Officer ................... 2001 145,669 4,000 2000 138,357 -0- 1999 138,197 127,337 Richard F. Lehman Vice President, Engineering ............... 2001 114,135 4,000 2000 116,986 5,000 1999 112,735 5,000 Joseph E. Manseau Vice President, Prepress Sales & Marketing. 2001 111,424 4,000 2000 130,271 28,000 1999 126,529 18,410 Maurice R. Auger Vice President, Medical Sales ............. 2001 108,831 4,000 2000 29,153 90,457
OPTION GRANTS IN LAST FISCAL YEAR
The following table sets forth certain information regarding stock options granted by the Company to the named person in 2001.
All options vested October 2, 2001.
4 The potential realizable value columns of the table illustrate values that might be realized upon exercise of the options immediately prior to their expiration, assuming the Company's Common Stock appreciates at the compounded rates specified over the term of the options. These numbers do not take into account provisions of options providing for termination of the option following termination of employment or non transferability of the options and do not make any provision for taxes associated with exercise. Because actual gains will depend upon, among other things, future performance of the Common Stock, there can be no assurance that the amounts reflected in this table will be achieved.
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION VALUES
The following table sets forth information regarding the exercise of stock options during the Company's last completed fiscal year by each of the named executive officers and key employees listed in the Summary Compensation Table and the fiscal year-end value of unexercised options.
- -------------- (1) Based upon the closing price of the Common Stock on December 31, 2001, of $1.45 per share.
(2) Options granted pursuant to the Company's 1993 Stock Option Plan, as amended.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
There is no Compensation Committee or other committee of the Company's Board of Directors performing similar functions. The person who performed the equivalent function in 2001 was Robert Howard, Chairman of the Board under the direction of the Board of Directors. W. Scott Parr, Chief Executive Officer and a director, participated in discussions with Mr. Howard during the past completed fiscal year in his capacity as an executive officer in connection with executive officer compensation. During 2001 none of the executive officers of the Company served on the Board of Directors or Compensation Committee of any other entity.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management. - ------- --------------------------------------------------------------
The following table sets forth certain information regarding the Common Stock, Series A and Series B Convertible Preferred Stock of the Company owned on March 1, 2002, by (i) each person who is known to the Company to own beneficially more than 5% of the outstanding shares of the Company's Common Stock (ii) each executive officer and key employee named in the Summary Compensation Table, (iii) each director of the Company, and (iv) all current executive officers and directors as a group. The table also provides information regarding beneficial owners of more than 5% of the outstanding shares of the Company's Series A and Series B Convertible Preferred Stock.
- ------------------------------------ * Less than one percent
1) A person is deemed to be the beneficial owner of securities that can be acquired by such person within 60 days from March 1, 2002, upon the exercise of options, warrants or rights; through the conversion of a security; pursuant to the power to revoke a trust, discretionary account or similar arrangement; or pursuant to the automatic termination of a trust, discretionary account or similar arrangement. Each beneficial owner's percentage ownership is determined by assuming that the options or other rights to acquire beneficial ownership as described above, that are held by such person (but not those held by any other person) and which are exercisable within 60 days from March 1, 2002, have been exercised.
2) Unless otherwise noted, the Company believes that the persons referred to in the table have sole voting and investment power with respect to all shares reflected as beneficially owned by them.
3) Includes options to purchase 10,000 shares of the Company's Common stock at $1.72 per share. Also, includes 40,000 shares beneficially owned by Mr. Howard's wife.
4) Includes 28,000 shares owned by Mr. Chapman's wife, 460,000 shares of Common Stock issuable upon conversion of 4,600 shares of Series A Convertible Preferred Stock and 340,000 shares of Common Stock issuable upon conversion of 680 shares of Series B Convertible Preferred Stock owned by Mr. Chapman.
5) Includes 11,000 shares owned by Mr. Parr's wife. Also includes options to purchase 275,268 shares of the Company's Common Stock at $1.13 per share, 77,649 shares at $0.81 per share, 2,250 shares at $1.00 per share, 4,000 shares at $0.95 per share and 25,000 shares at $1.75 per share, 55,000 shares of Common Stock issuable upon conversion of 550 shares of Series A Convertible Preferred Stock and 25,000 shares of Common Stock issuable upon conversion of 50 shares of Series B Convertible Preferred Stock owned by Mr. Parr.
6) Includes options to purchase 15,000 of the Company's Common Stock at $1.72 per share, 25,000 shares at $1.50 per share and 25,000 shares at $0.81 per share.
7) Includes options to purchase 25,000 shares of the Company's Common Stock at $1.75 per share.
8) Includes options to purchase 25,000 shares of the Company's Common Stock at $.81 per share.
9) Includes options to purchase 25,000 of the Company's Common Stock at $3.00 per share. Also, includes 10,000 shares of Common Stock issuable upon conversion of 20 shares of Series B Convertible Preferred Stock.
10) Includes 5,000 shares owned by Mr. Teich's wife in an irrevocable trust. Also includes options to purchase 20,000 of the Company's Common Stock at $1.72 per share, 25,000 shares at $1.50 per share and 25,000 shares at $0.81 per share.
11) Includes 1,000 shares owned by Mr. Lehman's wife. Also includes options to purchase 26,500 of the Company's Common Stock at $1.72 per share, 16,376 shares at $1.13 per share, 7,752 shares at $1.00 per share, 5,000 shares at $0.81 per share, 3,333 shares at $1.75 per share and 4,000 shares at $0.95 per share.
12) Includes options to purchase 3,000 shares of the Company's Common Stock at $1.00 per share, 10,000 shares at $.81 per share, 8,410 shares at $1.13 per share, 18,666 shares at $1.75 per share and 4,000 shares at $0.95 per share.
Item 13.
Item 13. Certain Relationships and Related Transactions.
The Company has a Convertible Revolving Credit Promissory Note ("the Convertible Note") and Revolving Loan and Security Agreement (the "Loan Agreement") with Mr. Robert Howard, Chairman of the Board of Directors of the Company, under which Mr. Howard has agreed to advance funds, or to provide guarantees of advances made by third parties in an amount up to $3,000,000. The Loan Agreement expires January 4, 2003, subject to extension by the parties. Outstanding advances are collateralized by substantially all of the assets of the Company and bear interest at prime interest rate plus 2%. The Convertible Note entitles Mr. Howard to convert outstanding advances into shares of the Company's common stock at any time based on the outstanding closing market price of the Company's common stock at the time each advance is made.
In 2001, Mr. Howard converted $1,244,219 principal and accrued interest on advances made under the Convertible Note into 1,071,436 shares of restricted common stock of the Company. As of December 31, 2001 no moneys were owed and the Company had $3,000,000 available for future borrowings under the Loan Agreement.
The Company has Secured Demand Notes and Security Agreements (the "Notes") owed to Mr. Robert Howard. Principal of these notes are due and payable in full, together with interest accrued and any penalties provided for, on demand. Under the terms of the Notes the Company agreed to pay interest at the lower rate of (a) 12% per annum, compounded monthly or (b) the maximum rate permitted by applicable law. The Notes currently bear interest at 12%. Payment of the Notes is secured by a security interest in certain assets of the Company. A total of $500,000 is outstanding pursuant to the Notes.
During 1999 the Company borrowed $310,000 from Mr. Robert Howard, pursuant to Convertible Promissory Notes (the "Promissory Notes"). Under the terms of the Promissory Notes the Company agreed to pay interest at a fixed rate of 7% per annum. The Promissory Notes entitled the payee to convert outstanding principal due into shares of the Company's common stock at $1.00 per share, which was the market price of the Company's stock at the date the Promissory Notes were issued. In September 2001, Mr. Howard converted the outstanding balance, including interest, on the Promissory Notes into 361,474 shares of restricted common stock of the Company.
As of December 31, 2001, the Company had one lease obligation related to its facility. The lease obligation through September 30, 2002 is approximately $58,875. The Company's principal executive offices and research and development laboratory is leased by the Company from Mr. Robert Howard pursuant to a lease which expires September 30, 2002. Rental expense for the year ended December 31, 2001 was $78,500.
PART IV
Item 14.
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.
a) The following documents are filed as part of this Annual Report on Form 10-K:
i. Financial Statements - See Index on page 40.
ii. Financial Statement Schedule - See Index on page 40. All other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are not applicable and, therefore, have been omitted.
iii. Exhibits
2.1 Plan and Agreement of Merger dated February 15, 2002, by and among the Registrant, ISSI Acquisition Corp. and Intelligent Systems Software, Inc., Maha Sallam, Kevin Woods and W. Kip Speyer.
3. The following documents are filed as exhibits to this Annual Report on Form 10-K:
3(a) Certificate of Incorporation of the Registrant filed with the Secretary of State of the State of Delaware on February 24, 1984 [incorporated by reference to Exhibit 3.1 to the Registrant's Registration Statement on Form S-18 (Commission File No. 2-94097 NY), filed on October 31, 1984]
3(b) Certificate of Amendment of Certificate of Incorporation of the Registrant, filed with the Secretary of State of the State of Delaware on May 31, 1984 [incorporated by reference to Exhibit 3.1(a) to the Registrant's Registration Statement on Form S-18 (Commission File No. 2-94097-NY), filed on October 31, 1984]
3(c) Certificate of Amendment of Certificate of Incorporation of the Registrant filed with the Secretary of State of the State of Delaware on August 22, 1984 [incorporated by reference to Exhibit 3.1(b) to the Registrant's Registration Statement on Form S-18 (Commission File No. 2-94097-NY), filed on October 31, 1984].
3(d) Certificate of Amendment of Certificate of Incorporation of the Registrant filed with the Secretary of State of the State of Delaware on October 22, 1987 [incorporated by reference to Exhibit 3(d) to
the Registrant's Annual Report on Form 10-K for the year ended December 31, 1988].
3(e) Certificate of Amendment of Certificate of Incorporation of the Registrant filed with the Secretary of State of the State of Delaware on September 28, 1999.
3(f) By-laws of Registrant [incorporated by reference to Exhibit 3.2 to the Registrant's Registration Statement on Form S-18 (Commission File No. 2-94097-NY), filed on October 31, 1984].
10(a) Lease Agreement between the Registrant and its Chairman with respect to premises located at 21 Park Avenue, Hudson, New Hampshire, dated October 1, 1984, [incorporated by reference to Exhibit 10.2 to the Registrant's Registration Statement to Form S-18 (Commission File No. 2-94097-NY), filed on October 31, 1984].
10(b) Form of Lease Renewal between the Registrant and its Chairman, Robert Howard, with respect to premises located at 21 Park Avenue, Hudson, New Hampshire.
10(c) Revolving Loan and Security Agreement, and Convertible Revolving Credit Promissory Note between Robert Howard and Registrant dated October 26, 1987 (the "Loan Agreement") [incorporated by reference to Exhibit 10 to the Registrant's Report on Form 10-Q for the quarter ended September 30, 1987].
10(d) Letter Agreement dated December 30, 1999, amending the Revolving Loan and Security Agreement, and Convertible Revolving Credit Promissory Note between Robert Howard and Registrant dated October 26, 1987.
10(e) Form of Secured Demand Notes between the Registrant and Mr. Robert Howard. [incorporated by reference to Exhibit 10(e) to the Registrant's Report on Form 10-K for the year ended December 31, 1998].
10(f) Form of Security Agreements between the Registrant and Mr. Robert Howard [incorporated by reference to Exhibit 10(f) to the Registrant's Report on Form 10-K for the year ended December 31, 1998].
10(i) Certificate of Designation of 7% Series A Convertible Preferred Stock dated December 22, 1999. [incorporated by reference to
Exhibit10(i) to the Registrant's Report on Form 10-K for the year ended December 31, 1999].
10(j) Certificate of Designation of 7% Series B Convertible Preferred Stock dated October 16, 2000 [incorporated by reference to Exhibit 10(j) to the Registrant's Report on Form 10-K for the year ended December 31, 2000].
23(a) Consent of BDO Seidman, LLP.
(b) During the last quarter of the period covered by this Annual Report on Form 10-K the Company filed no reports on Form 8-K.
(c) Exhibits - See (a) iii above.
(d) Financial Statement Schedule - See (a) ii above.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
HOWTEK, INC. Date: March 28 , 2002
By: /s/ W. Scott Parr ------------------------- W. Scott Parr President, Chief Executive Officer, Director
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
INDEX TO FINANCIAL STATEMENTS AND SCHEDULE
Page ---- Report of Independent Certified Public Accountants 41
Balance Sheets As of December 31, 2001 and 2000 42
Statements of Operations For the years ended December 31, 2001, 2000 and 1999 43
Statements of Stockholders' Equity For the years ended December 31, 2001, 2000 and 1999. 44
Statements of Cash Flows For the years ended December 31, 2001, 2000 and 1999. 45
Notes to Financial Statements 46-64
Schedule II - Valuation and Qualifying Accounts and Reserves 65
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Directors Howtek, Inc. Hudson, New Hampshire
We have audited the accompanying balance sheets of Howtek, Inc. as of December 31, 2001 and 2000 and the related statements of operations, changes in stockholders' equity, and cash flows for each of the three years in the period ended December 31, 2001. We have also audited the financial statement schedule listed in the accompanying index. These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements and schedule are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements and schedule. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements and schedule. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Howtek, Inc. at December 31, 2001 and 2000, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2001 in conformity with accounting principles generally accepted in the United States of America.
Also, in our opinion, the schedule presents fairly, in all material respects, the information set forth therein.
/s/ BDO SEIDMAN, LLP
Boston, Massachussetts February 19, 2002
HOWTEK, INC.
Balance Sheets
See accompanying notes to financial statements.
HOWTEK, INC.
Statements of Operations
See accompanying notes to financial statements.
HOWTEK, INC.
Statements of Stockholders' Equity
HOWTEK, INC.
Statements of Cash Flows
See accompanying notes to financial statements.
HOWTEK, INC.
Notes to Financial Statements
(1) Summary of Significant Accounting Policies
(a) Nature of Operations and Use of Estimates
Howtek, Inc. (the "Company") designs, engineers, develops and manufactures digital image scanners, film digitizers and related software for applications in the medical imaging, prepress and photographic markets. The Company considers itself a single reportable business segment. The Company sells its products throughout the world through various distributors, resellers, systems integrators and OEMs. See Note 7 for geographical and major customer information.
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Many of the Company's estimates and assumptions used in the preparation of the financial statements relate to the Company's products, which are subject to rapid technological change. It is reasonably possible that changes may occur in the near term that would affect management's estimates with respect to inventories, equipment and software development costs.
(b) Inventory
Inventory is valued at the lower of cost or market value, with cost determined by the first-in, first-out method. At December 31, inventory consisted of raw material and finished goods of approximately $1,330,000 and $1,033,000, respectively, for 2001 and raw material and finished goods of approximately $1,509,000 and $934,000, respectively, for 2000.
(c) Property and Equipment
Property and equipment are stated at cost and depreciated using the straight-line method over the estimated useful lives of the various classes of assets (ranging from 3 to 5 years).
(d) Debt Issuance Costs
Debt issuance costs, related to the outstanding Convertible Subordinated Debentures, was amortized over the 15-year term of the Debentures, ending December 2001, using the straight-line method. The debt issuance costs balances are presented net of accumulated amortization, which was $333,971 and $317,006 at December 31, 2001, and 2000, respectively.
HOWTEK, INC.
Notes to Financial Statements (continued)
(1) Summary of Significant Accounting Policies (continued)
(e) Patents
The costs for patents are being amortized over the estimated useful life of the respective assets using the straight-line method. The patents balances are presented net of accumulated amortization, which was $107,941 and $103,280 at December 31, 2001 and 2000, respectively.
(f) Software Development Costs
Software development costs for application software and application software enhancements are capitalized subsequent to the establishment of their technological feasibility (as defined in Statement of Financial Accounting Standards No. 86). The Company capitalized $101,875, $137,140 and $122,135 of internally developed and externally purchased software costs during fiscal 2001, 2000 and 1999, respectively.
The capitalized software balances are presented net of accumulated amortization, which was $965,693 and $743,515 at December 31, 2001, and 2000, respectively. Capitalized software costs are amortized using the straight-line method over their estimated economic life, principally 3 years, commencing when each product is available for general release.
(g) Revenue Recognition
Revenues from product sales are recognized at the time the product is shipped.
(h) Cost of Sales
Cost of sales consists of the costs of products purchased for resale, any associated inbound and outbound freight and duty, any costs associated with manufacturing, warehousing, material movement and inspection, amortization of any license rights, and amortization of capitalized software.
(i) Warranty Costs
The Company's products are generally under warranty against defects in material and workmanship from a 90 day to 2year period, depending on the product. Warranty costs were not material in any period presented.
HOWTEK, INC.
Notes to Financial Statements (continued)
(1) Summary of Significant Accounting Policies (continued)
(j) Engineering and Product Development
These costs relate to research and development costs which are expensed as incurred, except for amounts related to software development costs incurred after the establishment of technological feasibility (see (f) above) which are capitalized.
(k) Net Loss Per Common Share
Net loss per common share has been computed in accordance with Statement of Financial Accounting Standards No. 128, "Earnings per Share". See Note 5 - Stockholders' Equity.
(l) Cash Flow Information
For purposes of reporting cash flows, the Company defines cash and equivalents as all bank transaction accounts, certificates of deposit, money market funds and deposits, and other money market instruments maturing in less than 90 days, which are unrestricted as to withdrawal.
(m) Income Taxes
The Company follows the liability method under Statement of Financial Accounting Standards No. 109 ("SFAS 109"). The primary objectives of accounting for taxes under SFAS 109 are to (a) recognize the amount of tax payable for the current year and (b) recognize the amount of deferred tax liability or asset for the future tax consequences of events that have been reflected in the Company's financial statements or tax returns.
(n) Long Lived Assets
Long-lived assets, such as property and equipment, are evaluated for impairment when events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable through the estimated undiscounted future cash flows from the use of these assets. When any such impairment exists, the related assets are written down to fair value. This policy is in accordance with Statement of Financial Accounting Standards No. 121, "Accounting for the Impairment of Long-lived Assets and for Long-lived Assets To Be Disposed Of".
(o) Stock-Based Compensation
The Company has not adopted the optional fair value based method for accounting for employee stock compensation plans, as permitted by Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation". See Note 5 - Stockholders' Equity.
HOWTEK, INC.
Notes to Financial Statements (continued)
(1) Summary of Significant Accounting Policies (continued)
(p) Advertising
The Company expenses advertising costs as incurred. Advertising expense for the years ended December 31, 2001, 2000 and 1999 was $151,000, $134,000 and $143,000, respectively.
(q) New Accounting Standards
In June 2001, the Financial Accounting Standards Board issued SFAS No. 141, "Business Combinations" ("SFAS 141"), and No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"). SFAS 141 requires companies to use the purchase method of accounting for all business combinations initiated after June 30, 2001, and establishes specific criteria for the recognition of intangible assets separately from goodwill. SFAS 142 addresses the accounting for acquired goodwill and intangible assets. Goodwill and indefinite-lived intangible assets will no longer be amortized and will be tested for impairment at least annually. The provisions of SFAS 142 will be effective for the Company in fiscal year 2002. Goodwill and intangible assets acquired after June 30, 2001, will be subject immediately to the non-amortization and amortization provisions of this statement.
Historically, the Company has not had goodwill or acquired other intangible assets. Accordingly, the Company does not expect adoption of these new standards to affect its financial statements as they relate to previous transactions. However these new standards will affect the accounting for any business combinations initiated after June 30, 2001.
In October 2001, the Financial Accounting Standards Board issued SFAS No. 144, "Accounting for the Impairment of Disposal of Long-Lived Assets" ("SFAS 144"), which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. This Statement supersedes SFAS 121 "Accounting for the Impairment of Long-Lived Assets to be Disposed Of" and APB Opinion No. 30 "Reporting the Results of Operations - Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions for the Disposal of a Segment of a Business". SFAS 144 becomes effective for the fiscal years beginning after December 15, 2001. The Company expects to adopt SFAS 144 in the first quarter of fiscal 2002 and is currently reviewing the effects of adopting SFAS 144 on its financial position and results of operations.
(r) Financial Statements
Certain balances in the 2000 financial statements have been reclassified to conform to the 2001 presentation.
HOWTEK, INC.
Notes to Financial Statements (continued)
(2) Related Party Transactions
(a) Loan Payable to Principal Stockholder
The Company has a Convertible Revolving Credit Promissory Note ("the Convertible Note") and Revolving Loan and Security Agreement (the "Loan Agreement") with Mr. Robert Howard, Chairman of the Board of Directors of the Company, under which Mr. Howard has agreed to advance funds, or to provide guarantees of advances made by third parties in an amount up to $3,000,000. The Loan Agreement expires January 4, 2003, subject to extension by the parties. Outstanding advances are collateralized by substantially all of the assets of the Company and bear interest at prime interest rate plus 2%. The Convertible Note entitles Mr. Howard to convert outstanding advances into shares of the Company's common stock at any time based on the outstanding closing market price of the Company's common stock at the time each advance is made.
In 2001, Mr. Howard converted $1,244,219 principal and accrued interest of advances made under the Convertible Note into 1,071,436 shares of restricted common stock of the Company. As of December 31, 2001 no moneys were owed and the Company had $3,000,000 available for future borrowings under the Loan Agreement.
The Company has Secured Demand Notes and Security Agreements (the "Notes") owed to Mr. Robert Howard. Principal of these notes are due and payable in full, together with interest accrued and any penalties provided for, on demand. Under the terms of the Notes the Company agreed to pay interest at the lower rate of (a) 12% per annum, compounded monthly or (b) the maximum rate permitted by applicable law. The Notes currently bear interest at 12%. Payment of the Notes is secured by a security interest in certain assets of the Company. A total of $500,000 is outstanding pursuant to the Notes.
During 1999 the Company borrowed $310,000 from Mr. Robert Howard, pursuant to Convertible Promissory Notes (the "Promissory Notes"). Under the terms of the Promissory Notes the Company agreed to pay interest at a fixed rate of 7% per annum. The Promissory Notes entitled the payee to convert outstanding principal due into shares of the Company's common stock at $1.00 per share, which was the market price of the Company's stock at the date the Promissory Notes were issued. In September 2001, Mr. Howard converted the outstanding balance, including interest, on the Promissory Notes into 361,474 shares of restricted common stock of the Company.
(b) Loan Payable to Related Party
In 1998 the Company borrowed $200,000 from Dr. Lawrence Howard, son of the Company's Chairman, Robert Howard, pursuant to Secured Demand Notes and Security Agreements (the "Notes"). Principal of these notes were due and payable in full, together
HOWTEK, INC.
Notes to Financial Statements (continued)
(2) Related Party Transactions (continued)
(b) Loan Payable to Related Party (continued)
with interest accrued and any penalties provided for, on demand. Under the terms of the Notes the Company agreed to pay interest at the lower rate of (a) 12% per annum, compounded monthly or (b) the maximum rate permitted by applicable law. Payment of the Notes was secured by a security interest in certain assets of the Company.
In the fourth quarter of 1999 the Company consummated an agreement with Dr. Lawrence Howard to convert the Notes and interest accrued into 200,326 shares of restricted common stock, par value $.01 per share of the Company (the "Common Stock"). The number of shares issued was determined using the market price of the Company's stock at the date of conversion.
(c) Premises Lease and Other Expenses
The Company conducts its operations in premises owned by Mr. Robert Howard, pursuant to a lease which expires September 30, 2002. As of December 31, 2001, future minimum lease payments under this lease are $58,875 for 2002. The Company is required to pay real estate taxes, provide insurance and maintain the premises.
(d) Related Party Sales
During the years ended December 31, 2000 and 1999, the Company sold engineering services totaling $24,456 and $93,045, respectively, to Presstek, Inc., which Mr. Howard was the Chairman Emeritus of the Board through December 2000. There were no sales to Presstek, Inc. in 2001.
(e) Sales and Issues of Securities
In February 1999, the Company borrowed $30,000 from Mr. W. Scott Parr, the Company's President, Chief Executive Officer, pursuant to a Convertible Promissory Note (the "Promissory Note"). Principal on the Promissory Note was payable in equal payments based on the borrowed amount at the end of each quarter starting March 31, 2003 through December 31, 2006. Under the terms of the Promissory Note the Company agreed to pay interest at a fixed rate of 7% per annum, beginning on December 31, 1999 and each succeeding year during the terms hereof. At the Company's option it may pay the interest in either cash or in restricted shares of the Company's common stock, or in
HOWTEK, INC.
Notes to Financial Statements (continued)
(2) Related Party Transactions (continued)
(e) Sales and Issues of Securities (continued)
any combination thereof. Interest paid in shares of the Company's common stock will be paid at the greater of $1.00 per share or the average per share closing market price at the time each interest payment is due. The Promissory Note entitled the payee to convert outstanding principal due into shares of the Company's common stock at $1.00 per share, which was the market price of the Company's stock at the date the Promissory Notes were issued. On December 31, 1999, the Company consummated an agreement with Mr. Parr to convert the Promissory Note into shares of 7.0% Series A convertible preferred stock, par value $.01 per share, of the Company (the "Preferred Stock") and converted the interest accrued into shares of its common stock, par value $.01 per share (the "Common Stock"). (See also Note 5.)
(3) Convertible Subordinated Debentures
The Company has 9% Convertible Subordinated Debentures (the "Debentures"), which became due December 1, 2001. Interest on the Debentures is payable semi-annually on June 1 and December 1. The Debentures were convertible into common stock of the Company at the conversion price of $19.00 per share, subject to adjustment in certain events.
On December 31, 1998, the Company and the Trustee of the Debentures entered into a Second Supplemental Indenture (the "Agreement"). The purpose of the Agreement was to reduce the conversion price for the Debentures from $19.00 per share to $1.00 per share, subject to adjustment as set forth in the Indenture, during the period from December 31, 1998 through March 23, 1999. Under the Agreement, Debentures owned by related parties in the principal amount of $300,000 were converted into 300,000 shares of Common Stock, at the conversion price of $1.00 per share on December 31, 1998. Interest expense and corresponding credit to additional paid-in capital of $284,211 were recorded relative to the conversion of Convertible Subordinated Debentures as required in terms of Statement of Financial Accounting Standards No. 84, ("SFAS No. 84") "Induced Conversions of Convertible Debt".
In the first quarter of 1999, Debentures in the principal amount of $1,764,000 were converted into 1,764,000 shares of Common Stock, at the conversion price of $1.00 per share. Interest expense and corresponding credit to additional paid-in capital of $1,671,158 was recorded relative to the conversion of Convertible Subordinated Debentures as required in terms of SFAS No. 84. As of December 31, 2000, the Company's outstanding balance on its Debentures was $117,000. In December 2001, $107,000 of its Debentures were presented for payment. As of December 31, 2001 the Company's outstanding balance on its Debentures was $10,000.
HOWTEK, INC.
Notes to Financial Statements (continued)
(4) Note Payable
During 2001 the Company entered into a financing agreement with a supplier to purchase $193,492 of components, pursuant to a note payable (the "Note"). Principal on the Note is payable over 36 months starting October 1, 2001. Under the terms of the Note the Company agreed to pay interest at a fixed rate of 7% per annum. As of December 31, 2001, the Company owed $178,870 pursuant to the Note. Principal payments are due as follows: December 31, 2002 - $61,109, December 31, 2003 - $65,526, December 31, 2004 - $52,235.
(5) Stockholders' Equity
(a) Preferred Stock
On December 22, 1999 the Company, pursuant to the authority of the Company's Board of Directors, adopted a resolution creating a series of preferred stock designated as 7.0% Series A Convertible Preferred Stock (the "Series A Preferred Stock"). The number of shares initially constituting the Series A Preferred Stock was 10,000, par value $.01 per share, which may be decreased (but not increased) by the Board of Directors without a vote of stockholders, provided, however, that such number may not be decreased below the number of then outstanding shares of Series A Preferred Stock. The holders of the shares of Series A Preferred Stock shall vote together with the Common Stock as a single class on all actions to be voted on by the stockholders of the Company. Each share of Series A Preferred Stock shall entitle the holder thereof to such number of votes per share on each such action as shall equal the number of whole shares of Common Stock into which each share of Series A Preferred Stock is then convertible. The holders shall be entitled to notice of any stockholder's meeting in accordance with the By-Laws of the Company. Each share of Series A Preferred Stock is convertible into that number of shares of Common Stock determined by dividing the aggregate liquidation preference of the number of shares of Series A Preferred Stock being converted by $1.00 (the "Conversion Rate"). The Conversion Rate shall be subject to appropriate adjustment by stock split, dividend or similar division of the Common Stock or reverse split or similar combinations of the Common Stock prior to conversion. The Company may at any time after the date of issuance, at the option of the Board of Directors, redeem in whole or in part the Series A Preferred Stock by paying cash equal to $100 per share together with any accrued and unpaid dividends (the "Redemption Price"). The Redemption Price shall be subject to appropriate adjustment by the Board of Directors of similar division of shares of Series A Preferred Stock or reverse split or similar combination of the Series A Preferred Stock. In the event the Company shall liquidate, dissolve or wind up, no distribution shall be made to the holders of shares of Common Stock unless, prior thereto the holders of shares of Series A Preferred Stock shall have received $100 per share (as adjusted for any stock dividends, combinations or splits) plus all declared or accumulated
HOWTEK, INC.
Notes to Financial Statements (continued)
(5) Stockholders' Equity (continued)
(a) Preferred Stock (continued)
but unpaid dividends. The holders of shares of Series A Preferred Stock, in preference to the holders of shares of Common Stock, shall be entitled to receive cumulative dividends of $7.00 per annum per share, payable annually, subject to appropriate adjustment by the Board of Directors of the Company in the event of any stock split, dividend or similar division of shares of Series A Preferred. Dividends are payable annually, in arrears, on the last day of December in each year.
On December 31, 1999, the Company consummated an agreement with all the unrelated parties and Mr. W. Scott Parr to convert $690,000 pursuant to Convertible Promissory Notes into 6,900 shares of Series A Preferred Stock, par value $.01 per share, of the Company.
On April 12, 2000, the Company sold, in private transactions, a total of 2,250 shares of its 7% Series A convertible Preferred Stock ($.01 per share par value), at $100 per share, consisting of 1,000 shares to an unrelated party, 1,000 shares to Dr. Lawrence Howard, son of the Company's Chairman, Mr. Robert Howard, and 250 shares to Mr. W. Scott Parr, the Company's President, Chief Executive Officer, for gross proceeds of $225,000.
On October 19, 2000 the Company, pursuant to the authority of the Company's Board of Directors, adopted a resolution creating a series of preferred stock designated as 7.0% Series B Convertible Preferred Stock (the "Series B Preferred Stock"). The number of shares initially constituting the Series B Preferred Stock was 2,000, par value $.01 per share, which may be decreased (but not increased) by the Board of Directors without a vote of stockholders, provided, however, that such number may not be decreased below the number of then outstanding shares of Series B Preferred Stock. The holders of the shares of Series B Preferred Stock have no voting rights other than is required by law. Each share of Series B Preferred Stock, is convertible into that number of shares of Common Stock determined by dividing the aggregate liquidation preference of the number of shares of Series B Preferred Stock being converted by $2.00 (the "Conversion Rate"). The Conversion Rate shall be subject to appropriate adjustment by stock split, dividend or similar division of the Common Stock or reverse split or similar combinations of the Common Stock prior to conversion. The Company may at any time after the date of issuance, at the option of the Board of Directors, redeem in whole or in part the Series B Preferred Stock by paying cash equal to $1,000 per share together with any accrued and unpaid dividends (the "Redemption Price"). The Redemption Price shall be subject to appropriate adjustment by the Board of Directors of similar division of shares of Series B Preferred Stock or reverse split or similar combination of the Series B Preferred Stock. In
HOWTEK, INC.
Notes to Financial Statements (continued)
(5) Stockholders' Equity (continued)
(a) Preferred Stock (continued)
the event the Company shall liquidate, dissolve or wind up, no distribution shall be made to the holders of shares of Common Stock unless, prior thereto, the holders of shares of Series B Preferred Stock shall have received $1,000 per share (as adjusted for any stock dividends, combinations or splits) plus all declared or accumulated but unpaid dividends. The holders of shares of Series B Preferred Stock, in preference to the holders of shares of Common Stock, shall be entitled to receive cumulative dividends of $70.00 per annum per share, payable annually, subject to appropriate adjustment by the Board of Directors of the Company in the event of any stock split, dividend or similar division of shares of Series B Preferred. Dividends are payable annually, in arrears, on the last day of December in each year.
In October 2000 the Company sold, in private transactions, a total of 1,400 shares of its 7% Series B Convertible Preferred Stock ($.01 per share par value), at $1,000 per share, consisting of 1,350 shares to unrelated parties, and 50 shares to Mr. W. Scott Parr, for gross proceeds of $1,400,000.
The 1,400 shares of 7% Series B Convertible Redeemable Preferred Stock were issued with a conversion price below the Company's Common Stock quoted value and as a result accreted dividends of $996,283 were recorded and included in the net loss per share calculation for the year ended December 31, 2000.
(b) Stock Options
The Company has three stock option plans, which are described below. The Company applies APB Opinion 25, "Accounting for Stock Issued to Employees," and related interpretations in accounting for the plans. Under APB Opinion 25, when the exercise price of the Company's employee stock options equals the market price of the underlying stock on the date of grant, no compensation cost is recognized.
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation," ("SFAS No. 123") requires the Company to provide pro forma information regarding net income and earnings per share as if compensation cost for the Company's stock option plans had been determined in accordance with the fair value- based method prescribed in SFAS No. 123. The Company estimates the fair value of each granting of options at the grant date using the Black-Scholes option-pricing model with the following weighted-average assumptions used for grants in 2001: no dividends paid;
HOWTEK, INC.
Notes to Financial Statements (continued)
(5) Stockholders' Equity (continued)
(b) Stock Options (continued)
expected volatility of 75.9%; risk-free interest rates of 4.78%, and 3.87%; and expected lives of 1 and 4 years. The weighted-average assumptions used for grants in 2000 were: no dividends paid; expected volatility of 76%; risk-free interest rates of 6.62% and 5.96%; and expected lives from 4 and 5 years. The weighted-average assumptions used for grants in 1999 were: no dividends paid; expected volatility of 45.8%; risk-free interest rates of 5.79%, 5.88% and 5.99%; and expected lives of 3 to 5 years.
Under the accounting provisions of SFAS No. 123, the Company's net loss and loss per share would have been increased to the pro forma amounts indicated below:
2001 2000 1999 ---- ---- ---- Net loss available to common shareholders
As reported $(2,775,821) $(2,896,520) $(3,996,828) Pro forma $(2,918,031) $(3,037,055) $(4,101,278)
Basic and diluted loss per share
As reported $ (.20) $ (.22) $ (.32) Pro forma $ (.21) $ (.23) $ (.32)
The Howtek, Inc. 1993 Stock Option Plan, ("The 1993 Plan").
The 1993 Plan (the "Plan") was adopted in November 1993. On September 28, 1999, the Company held its Annual Meeting of Stockholders at which the Stockholders voted to amend the Company's 1993 Stock Option Plan to increase the number of shares of the Company's common stock issuable thereunder from 1,000,000 to 1,625,000 shares. The Plan provides for the granting of non-qualifying and incentive stock options to employees and other persons to purchase up to an aggregate of 1,625,000 shares of the Company's common stock. The purchase price of each share for which an option is granted shall be at the discretion of the Board of Directors or the Committee appointed by the Board of Directors provided that the purchase price of each share for which an incentive option is granted shall not be less than the fair market value of the Company's common stock on
HOWTEK, INC.
Notes to Financial Statements (continued)
(5) Stockholders' Equity (continued)
(b) Stock Options (continued)
the date of grant, except for options granted to 10% holders for whom the exercise price shall not be less than 110% of the market price. Incentive options granted under the Plan vest 100% over periods extending from six months to five years from the date of grant and expire ten years after the date of grant, except for 10% holders whose options shall expire five years after the date of grant. Non-qualifying options granted under the Plan are generally exercisable over a ten year period, vesting 1/3 each on the first, second, and third anniversaries of the date of grant.
The Howtek, Inc. Director Incentive Plan
The Company has a Director Incentive Plan (the "Director Plan"). The Company has reserved for issuance 250,000 shares under the Director Plan. The Director Plan provides for the award of (i) restricted and unrestricted stock, (ii) qualified stock options, and (iii) non-qualified stock options. The Director Plan is administered by a committee of at least one director or non-director appointed by the Board. The term of the Director Plan is ten years and the term of individual grants of stock options thereunder is ten years. Vesting periods for exercise of options and restrictions on the transferability of stock awards is determined by the committee administering the Director Plan.
The Howtek, Inc. 2001 Stock Option Plan, ("The 2001 Plan").
The 2001 Plan was adopted in August 2001, at the Annual Meeting of Stockholders at which the Stockholders voted to replace the 1993 plan which had no further stock available for grant. The 2001 Plan provides for the granting of non-qualifying and incentive stock options to employees and other persons to purchase up to an aggregate of 1,200,000 shares of the Company's common stock. The purchase price of each share for which an option is granted shall be at the discretion of the Board of Directors or the Committee appointed by the Board of Directors provided that the purchase price of each share for which an incentive option is granted shall not be less than the fair market value of the Company's common stock on the date of grant, except for options granted to 10% holders for whom the exercise price shall not be less than 110% of the market price. Incentive options granted under the 2001 Plan vest 100% over periods extending from six months to five years from the date of grant and expire ten years after the date of grant, except for 10% holders whose options shall expire five years after the date of grant. Non-qualifying options granted under the 2001 Plan are generally exercisable over a ten year period, vesting 1/3 each on the first, second, and third anniversaries of the date of grant.
HOWTEK, INC
Notes to Financial Statements (continued)
(5) Stockholders' Equity (continued)
(b) Stock Options (continued)
A summary of stock option (incentive and non-qualifying) activity is as follows:
The weighted-average fair value of options granted during the year was $0.61 per option for 2001, $1.15 per option for 2000 and $0.42 per option for 1999.
The weighted-average remaining contractual life of stock options outstanding for all plans at December 31, 2001 was 7.6 years.
HOWTEK, INC.
Notes to Financial Statements (continued)
(5) Stockholders' Equity (continued)
(b) Stock Options (continued)
The following table summarizes information about stock options outstanding at December 31, 2001:
(c) Earnings per Share
The Company follows Statement of Financial Accounting Standards No. 128, "Earnings per Share", which requires the presentation of both basic and diluted earning per share on the face of the Statements of Operations. Conversion of the subordinated debentures and other convertible debt and preferred stock and assumed exercise of options and warrants are not included in the calculation of diluted loss per share since the effect would be antidilutive. Accordingly, basic and diluted net loss per share do not differ for any period presented. The following table summarizes the common stock equivalent of securities that were outstanding as of December 31, 2001, 2000 and 1999, but not included in the calculation of diluted net loss per share because such shares are antidilutive:
HOWTEK, INC.
Notes to Financial Statements (continued)
(5) Stockholders' Equity (continued)
(d) Stock Subscription Warrants
In December, 1999 the Company issued a common stock purchase warrant (the "Warrant") to the company (the "Manufacturer") responsible for the assembly of the Company's MultiRAD(TM) medical film digitizer, as part of its manufacturing agreement. The Warrant entitles the Manufacturer to purchase from the Company up to 50,000 shares of the Company's common stock at $2.50 per share. The Manufacturer may exercise the Warrant at any time or from time to time on or prior to December 31, 2004. The Company estimated the fair value of the Warrant at the date of issue to be $54,000 using the Black-Scholes option-pricing model. Accordingly, the value of the Warrant was expensed over the two- year period of the agreement.
During 2000 the Company issued a common stock purchase warrant (the "New Warrant") to the company (the "Supplier") responsible for software development of certain of the Company's software, as part of its development agreement entered into in 2000. The Warrant entitles the Supplier to purchase from the Company up to 7,000 shares of the Company's common stock at $3.00 per share. The Supplier may exercise the Warrant at any time or from time to time on or prior to February 28, 2005. The Company estimated the fair value of the Warrant at the date of issue to be $12,818 using the Black-Scholes option-pricing model. The value of the Warrant was expensed in 2000.
(6) Income Taxes
As a result of the 2001, 2000 and 1999 losses, no income tax expense was incurred for these years.
Deferred income taxes reflect the impact of "temporary differences" between the amount of assets and liabilities for financial reporting purposes and such amounts as measured by tax laws and regulations. Deferred tax liabilities (assets) are comprised of the following at December 31:
HOWTEK, INC.
Notes to Financial Statements (continued)
(6) Income Taxes (continued)
As of December 31, 2001, the Company has net operating loss carryforwards totaling approximately $41,800,000. The amount of the net operating loss carryforwards, which may be utilized in any future period, may be subject to certain limitations based upon changes in the ownership of the Company's common stock. The following is a breakdown of the net operating loss expiration period:
Expiration date Amount of remaining NOL 2002 8,900,000 2003 3,300,000 2004 4,200,000 2005 2,200,000 2006 2,200,000 2007 300,000 2008 600,000 2009 100,000 2010 4,000,000 2011 4,400,000 2012 2,300,000 2018 3,600,000 2019 2,200,000 2020 1,400,000 2021 2,100,000
In addition the Company has available tax credit carryforwards (adjusted to reflect provisions of the Tax Reform Act of 1986) of approximately $2,388,000, which are available to offset future taxable income and income tax liabilities, when earned or incurred. These amounts expire in various years through 2021.
(7) Sales Information
(a) Geographic Information
The Company's sales are made to U.S. distributors, dealers and to foreign distributors of computer and related products. Total export sales, which includes sales made to a U.S. based international distributor of computer and related products, were $944,000 or 20% of total sales in 2001, $3,243,000 or 42% of total sales in 2000 and $740,000 or 11% of total sales in 1999.
HOWTEK, INC.
Notes to Financial Statements (continued)
(7) Sales Information (continued)
(a) Geographic Information (continued)
The Company's principal concentration of export sales was in Australia, which accounted for 35% of 2001 export sales. In 2000, with the addition of a large OEM customer, the Company's principal concentration of export sales was in Canada, which accounted for 71% of export sales. The Company's principal concentration of export sales had been in Europe with 41% of export sales in 1999. The balance of the export sales was into the Far East, Mexico and Central America.
As of December 31, 2001 and 2000 the Company had outstanding receivables of $136,000 and $601,000, respectively, from distributors of its products who are located outside of the United States.
(b) Major Customers
During the years ended December 31, 2001 and 1999, the Company had no major customers. In 2000 the Company had one major customer that operated as an OEM, with sales of $2,062,955 (or 26% of sales) and an accounts receivable balance of $428,994 at December 31, 2000.
(c) Product Information
The Company's revenues by product line are as follows:
For the year ended December 31, 2001 2000 1999 ---- ---- ---- Medical imaging $2,315,738 $2,256,312 $1,508,197 FotoFunnel 988,199 2,217,798 -- Graphic arts 1,531,360 3,319,407 5,155,033 ---------- ---------- ---------- Total $4,835,297 $7,793,517 $6,663,230 ========== ========== ==========
(8) Commitments and Contingencies
As of December 31, 2001, the Company had one lease obligation related to its facility. The lease obligation for 2002 is approximately $58,875. The Company's principal executive offices and research and development laboratory is leased by the Company from Mr. Robert Howard, Chairman of the Board of Directors pursuant to a lease which expires September 30, 2002. Rental expense for all leases for the years ended December 31, 2001, 2000 and 1999 was $78,500, $78,500 and $93,740, respectively.
HOWTEK, INC.
Notes to Financial Statements (continued)
(9) Financial instruments
The carrying amounts of financial instruments, including cash and equivalents, accounts receivable, accounts payable, accrued expenses, demand notes payable to related parties and convertible debentures and other convertible debt approximated fair value as of December 31, 2001 and 2000, due to either short maturity or terms similar to those available to similar companies in the open market.
(10) Quarterly Financial Data (unaudited)
Net Gross Net Loss 2001 sales profit loss per share ---- ---------- ----------- ----------- --------- First quarter $1,513,604 $ 392,141 $ (639,591) $ (0.05) Second quarter $ 932,160 $ 146,627 $ (797,943) $ (0.06) Third quarter $1,139,025 $ 302,348 $ (548,205) $ (0.04) Fourth quarter $1,250,508 $ 57,775 $ (635,032) $ (0.05)
---- First quarter $1,517,518 $ 352,557 $ (564,464) $ (0.04) Second quarter $1,957,638 $ 597,126 $ (257,501) $ (0.02) Third quarter $2,760,773 $ 783,229 $ (175,627) $ (0.01) Fourth quarter $1,557,588 $ 167,115 $ (830,056) $ (0.14)
(11) Subsequent Event
The Company recently announced that it has entered into a definitive agreement with Intelligent Systems Software Inc. ("ISSI"), a privately held company based in Boca Raton, Florida, pursuant to which ISSI would merge with and into a subsidiary of Howtek. If the merger is consummated, a total of 8,400,000 shares of Howtek common stock will be issued in the merger in exchange for all of the issued and outstanding capital stock of ISSI. In January 2002, ISSI received approval from the U.S. Food and Drug Administration (FDA) to market and sell ISSI's new MammoReader(TM) Computer Aided Detection CAD system in the United States.
Subsequent to completion of the contemplated merger, Howtek's existing film and photo digitizer operations, including engineering, manufacturing management, marketing and support, will be conducted through a wholly owned subsidiary corporation, based at the Company's current headquarters in Hudson, NH. The Company's objective is to continue to grow its medical business, providing industry-leading digitizers to ISSI and to other respected customers.
HOWTEK, INC.
Notes to Financial Statements (continued)
(11) Subsequent Event (continued)
The completion of the merger is subject to the registration of the shares of Howtek common stock to be issued in the merger under the Securities Act of 1933, as amended, and other customary conditions, including approval of the merger by stockholders of both Howtek and ISSI. It is currently expected that the merger will be consummated by June 30, 2002.
HOWTEK, INC.
Schedule II - Valuation and Qualifying Accounts and Reserves
(1) Represents the amount of accounts charged off.
(2) Represents inventory written off and disposed of.