Form 10-KSB
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB
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(Mark One)
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2004
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[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission file number 0-20333
Nocopi Technologies, Inc.
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(Name of small business issuer in its charter)
Maryland 87-0406496
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
9C Portland Road, West Conshohocken, PA 19428
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(Address of principal executive offices) (Zip Code)
Issuer's telephone number (610) 834-9600
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Securities registered under Section 12(b) of the Exchange Act:
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED
None Not Applicable
Securities registered under section 12(g) of the Exchange Act:
Common Stock $.01 par value
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(Title of class)
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(Title of class)
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days. Yes X No _.
Check if no disclosure of delinquent filers in response to Item 405 of
Regulation S-B is contained in this form, and no disclosure will be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB. [ ]
Form 10-KSB
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State issuer's revenues for its most recent fiscal year. $628,300.
State the aggregate market value of the voting and non-voting common
equity held by non-affiliates of the issuer. $5,690,000 at March 15, 2005.
(APPLICABLE ONLY TO CORPORATE REGISTRANTS)
State the number of shares outstanding of each of the issuer's classes
of common equity, as of the latest practicable date. 50,586,181 shares of Common
Stock, $.01 par value at March 15, 2005.
DOCUMENTS INCORPORATED BY REFERENCE
None
Transitional Small Business Disclosure Format (Check one): Yes [ ] No [X]
21
PART I
ITEM 1. BUSINESS
BACKGROUND
Nocopi Technologies, Inc. (hereinafter "Nocopi", "Registrant" or the "Company")
was organized in 1983 to exploit a technology developed by its founders for
impeding the reproduction of documents on office copiers. In its early stages of
development, Nocopi's business consisted primarily of selling copy resistant
paper to protect corporate documents and information. More recently, Registrant
has increasingly focused on developing and marketing technologies for document
and product authentication which can reduce losses caused by fraudulent document
reproduction or by product counterfeiting and/or diversion. Registrant derives
revenues by licensing its technologies, both to end-users and to value-added
resellers, and by selling products incorporating its technologies and technical
support services.
The decline in Registrant's financial condition has not stabilized or been
reversed. By the end of 2002, the decline had led to a severe working capital
deficiency and adverse liquidity that threatened and continues to threaten to
require the imminent cessation of Registrant's operations. During 2002,
Registrant received new capital investments totaling $411,000 from a variety of
sources including existing and new stockholders and received $160,400 in loans
from three individuals including the Company's Chairman of the Board. In 2003,
Registrant received an additional $4,500 in demand loans from its Chairman of
the Board. Registrant also repaid its Chairman of the Board $15,000 of the
demand loans previously provided by him. During 2004, Registrant received new
capital investments totaling $152,100 from three new stockholders and converted
demand notes and accrued interest totaling $175,400 into 1,753,940 shares of
Registrant's common stock.
During 2003, Registrant settled its dispute with Euro-Nocopi, S.A., its former
European licensee, relocated its operations to a smaller, lower cost facility
after the termination of its lease at its former location and hired two former
employees who have significant knowledge of the Registrant's technologies and
production methods. The $900,000 received in the arbitration settlement with
Euro-Nocopi, S.A. has permitted Registrant to continue in operation to the
current date. It remains highly uncertain whether Registrant can achieve
positive cash flow before its adverse liquidity forces it to cease or suspend
operations. Registrant's management intends to seek additional capital, if
possible, and may continue to explore possible business combination
opportunities if such opportunities are presented. Additional capital is also
needed to fund programs and activities designed to increase Registrant's
operating revenues to levels that will sustain its operations.
In late 2003, Registrant developed and began to market a new technology, named
"Rub-n-Color", which consists of a system of removable dyes in a large variety
of colors that can be activated through rubbing with a fingernail or a firm
object. Registrant believes this technology has applications in children's
activity products such as a coloring book without crayons and in educational
testing review products. Registrant has demonstrated this technology to several
potential licensees, participated in trade shows including the 2004 and 2005
American International Toy Fair in New York City and has received several
industry awards. There can be no assurances that these initiatives will generate
additional operating revenues that will allow Registrant to sustain its
operations.
ANTI-COUNTERFEITING AND ANTI-DIVERSION TECHNOLOGIES AND PRODUCTS
Continuing developments in copying and printing technologies have made it ever
easier to counterfeit a wide variety of documents. Lottery tickets, gift
certificates, event and transportation tickets, travelers' checks and the like
are all susceptible to counterfeiting, and Registrant believes that losses from
such counterfeiting have increased substantially with improvements in the
copying and printing technologies. Product counterfeiting has long caused losses
to manufacturers of brand name products, and Registrant believes these losses
have also increased as the counterfeiting of labeling and packaging has become
easier.
1
Registrant's proprietary document authentication technologies are useful to
businesses desiring to authenticate a wide variety of printed materials and
products. These include a technology with the ability to print invisibly on
certain areas of a document. The invisible printing can be activated or revealed
by use of a special highlighter pen when authentication is required. This
technology is marketed under the trademark COPIMARK(TM). Other variations of the
COPIMARK(TM) technology involve multiple color responses from a common pen,
visible marks of one color that turn another color with the pen or visible and
invisible marks that turn into a multicolored image. A related technology is
Nocopi's RUB & REVEAL(R) system, which permits the invisible printing of an
authenticating symbol or code that can be revealed by rubbing a fingernail over
the printed area. These technologies provide users with the ability to
authenticate documents and detect counterfeit documents. Applications include
the authentication of documents having intrinsic value, such as merchandise
receipts, checks, travelers' checks, gift certificates and event tickets, and
the authentication of product labeling and packaging. When applied to product
labels and packaging, such technologies can be used to detect counterfeit
products whose labels and packaging would not contain the authenticating marks
invisibly printed on the packaging or labels of the legitimate product, as well
as to combat product diversion (i.e. sale of legitimate products through
unauthorized distribution channels or in unauthorized markets). Registrant's
related invisible inkjet technology permits manufacturers and distributors to
track the movement of products from production to ultimate consumption when
coupled with proprietary software. Management believes that the "track and
trace" capability provided by this technology should be attractive to brand
owners and marketers. In late 2003, Registrant participated in a national public
meeting held by the US Food and Drug Administration that focused on the problem
of counterfeit and diverted pharmaceutical products where Registrant's patented
anti-counterfeiting and anti-diversion technologies were presented to the
meeting attendees.
DOCUMENT SECURITY PRODUCTS
Registrant continues to offer a line of burgundy colored papers that deter
photocopying and transmission by facsimile. This colored paper inhibits
photocopier reproduction at the cost of loss of easy legibility to the reader.
Registrant currently offers its copy resistant papers in three grades, each
balancing improved copy resistance against diminished legibility. Registrant
also sells user defined, pre-printed forms on which selected areas are colored
to inhibit reproduction. An example is a doctor's prescription form with the
signature area protected. This product line is called SELECTIVE NOCOPI(TM).
Registrant also offers several inks that impede photocopying by color copiers.
This technology is called COLORBLOC(R).
Since late 1999, Registrant has, in addition to marketing its own technologies
and products, acted as a distributor for a line of Pantograph security paper.
This patented product, complementary to the Registrant's line of security paper,
produces a message, such as "unauthorized copy", when a copy of an original
document that was printed or typed on the Pantograph paper, is reproduced on a
photocopier. This product line is called COPI-ALERT.
ENTERTAINMENT AND TOY PRODUCTS
As mentioned above, in late 2003, after the re-employment of two former members
of the Registrant's technical staff, a new technology was developed that
consists of removable dyes that can be produced in a variety of colors and can
be revealed by rubbing with a fingernail or other firm object such as a plastic
pen cap. This technology has been named Rub-n-Color. Registrant believes that
this new technology does not compromise the confidentiality of its security and
authentication technologies. Applications include children's activity products
such as a coloring book without crayons or a restaurant place mat, educational
instruction books and testing review manuals. Registrant has obtained
certifications of non-toxicity from the Consumer Products Services, Inc. and the
American Society for Testing and Materials laboratories. In February 2004,
Registrant inaugurated its marketing efforts for this new technology at the
American International Toy Fair in New York City and it attended the Toy Fair
again in February 2005. During 2004, Registrant received awards from Creative
Child Magazine and Spectrum Magazine for its rub-it and Color Activity Book. As
a result of its participation and marketing activities, Registrant has
identified a number of potential licensees in the children's and educational
markets and has had preliminary contact, to date consisting primarily of
negotiating non-disclosure and non-analysis agreements, with several businesses
in these target markets. There are no assurances that the resources that
Registrant, even with additional investment, can devote to marketing and further
technical development of this new product line will be sufficient to increase
the Company's revenues to levels resulting in positive cash flow.
2
The following table illustrates the approximate percentage of Registrant's
revenues accounted for by each type of its products for each of the two last
fiscal years:
Year Ended December 31,
Product Type 2004 2003
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Anti-Counterfeiting & Anti-Diversion Technologies and Products 85% 82%
Document Security Products 15% 18%
Entertainment and Toy Products 0% 0%
MARKETING
The marketing approach of Registrant is to offer sufficient flexibility in its
products and technologies so as to provide cost effective solutions to a wide
variety of counterfeiting, diversion and copier fraud problems. As a technology
company, Registrant generates revenues primarily by collecting license fees from
market-specific manufacturers who incorporate Registrant's technologies into
their manufacturing process and their products. Registrant also licenses its
technologies directly to end-users.
Registrant has identified a number of major markets for its technologies and
products, including security printers, manufacturers of labels, packaging
materials and specialty paper products and distributors of brand name products.
Within each market, key potential users have been identified, and several have
been licensed. Within North America, sales efforts include direct selling by
Company personnel to create end user demand and selling through licensee sales
forces and sales agents with support from company personnel. Registrant has
determined that technical sales support by its personnel is of great importance
to increasing its licensees' sales of products incorporating Registrant's
technologies and, therefore, seeks to maintain, to the extent permitted by its
limited resources, its commitment to providing such support.
Since 1999, Registrant's management has refocused the Company's marketing
efforts somewhat in view of the limited resources available to the Company for
marketing and the need to improve the Registrant's cash flow. Current marketing
efforts are focused on Registrant's more mature technologies that can be
utilized by customers with relatively less development efforts.
As continued improvements in color copier and desktop publishing technology make
counterfeiting and fraud opportunities less expensive and more available,
Registrant intends, to the extent feasible, to maintain an interactive product
development and enhancement program with the combined efforts of marketing,
applications engineering and research and development. Registrant's objective is
to concentrate its efforts on developing market-ready products with the most
beneficial ratios of market potential to development time and cost.
Except in Europe, Registrant markets its technologies through its own employees
and through independent sales representatives. In Europe, its security
technologies are marketed by Euro-Nocopi, S.A., a former affiliate of Registrant
which holds certain European marketing rights with respect to those
technologies.
Registrant is presently considering a number of marketing strategies for its
newly developed "Rub-n-Color" product line including licensing and direct sales
through product retailers.
Registrant has taken several steps to improve the marketing of its technologies.
These include the implementation of a new web site and online store designed
both to more effectively promote the Company's products and to provide for
smoother online ordering of certain products.
MAJOR CUSTOMERS
During 2004, Registrant made sales or obtained revenues equal to 10% or more of
Registrant's 2004 total revenues from two non-affiliated customers who
individually accounted for approximately 32% and 20% of 2004 revenues.
3
MANUFACTURING
Registrant has a small facility for the manufacture of its security inks. Except
for this facility, Registrant does not maintain manufacturing facilities.
Registrant presently subcontracts the manufacture of its applications (mainly
printing and coating) to third party manufacturers and expects to continue such
subcontracting. Because some of the processes that Nocopi uses in its
applications are based on relatively common manufacturing technologies, there
appears to be no technical or economic reason for Registrant to invest capital
in its own manufacturing facilities.
Registrant has established a quality control program that currently entails
laboratory analysis of developed technologies. When warranted, Registrant's
specially trained technicians travel to third party production facilities to
install equipment, train client staff and monitor the manufacturing process.
PATENTS
Nocopi has received various patents and/or has patents pending in the United
States, Canada, South Africa, Saudi Arabia, Australia, New Zealand, Japan,
France, the United Kingdom, Belgium, the Netherlands, Germany, Austria, Italy,
Sweden, Switzerland, Luxembourg, and Liechtenstein. Patent applications for
Registrant's technology (including improvements in the technology) have also
been filed in numerous other jurisdictions where commercial usage is foreseen,
including other countries in Europe, Japan, Australia, and New Zealand, and the
rights under such applications have been assigned to Registrant. Registrant's
patent counsel, which conducted the appropriate searches in Canada and the
United States, has reviewed the results of searches conducted in Europe and
advised management that effective patent protection for Registrant's technology
should be obtainable in all countries in which the patent applications have been
filed. There can be no assurance, however, that such protection will be
obtained. Registrant currently has obtained patent protection on substantially
all its security inks including the RUB & REVEAL(R) system and has patents
pending on the newly marketed Rub-n-Color technology. Patents on Registrant's
line of burgundy colored papers, presently a minor portion of Registrant's
product line, have expired.
When a new product or process is developed, the developer may seek to preserve
for itself the economic benefit of the product or process by applying for a
patent in each jurisdiction in which the product or process is likely to be
exploited. Generally speaking, in order for a patent to be granted, the product
or process must be new and be inventively different from what has been
previously patented or otherwise known anywhere in the world. Patents generally
have a duration of 17 years from the date of grant or 20 years from the date of
application depending on the jurisdiction concerned, after which time any person
is free to exploit the product or process covered by a patent. A person who is
the owner of a patent has, within the jurisdiction in which the patent is
granted, the exclusive right to exploit the patent either directly or through
licensees, and is entitled to prevent any person from infringing on the patent.
The granting of a patent does not prevent a third party from seeking a judicial
determination that the patent is invalid. Such challenges to the validity of a
patent are not uncommon and are occasionally successful. There can be no
assurance that a challenge will not be filed to one or more of Registrant's
patents and that, if filed, such challenge(s) will not be successful.
In the United States and Canada, the details of the product or process that is
the subject of a patent application are not publicly disclosed until a patent is
granted. However, in some other countries, patent applications are automatically
published at a specified time after filing.
RESEARCH AND DEVELOPMENT
Nocopi has been involved in research and development since its inception.
Although Registrant's deteriorating financial condition has forced it to reduce
funding for research and development in recent years, it intends to continue its
research and development activities in three areas, to the extent feasible.
First, Registrant will seek to continue to refine its present family of
products. Second, Registrant will seek to develop specific customer
applications. Finally, Registrant will seek to expand its technology into new
areas of implementation. There can be no assurances that Registrant will be able
to obtain funds necessary to continue its research and development activities.
4
During the years ended December 31, 2004 and 2003, Nocopi expended approximately
$170,300 and $202,800 respectively, on research and development.
COMPETITION
In the area of document and product authentication and serialization, Registrant
is aware of other technologies, both covert and overt surface marking
techniques, requiring decoding implements or analytical methods to reveal the
relevant information. These technologies are offered by other companies for the
same anti-counterfeiting and anti-diversion purposes the Registrant markets its
covert technologies. These include, among others, biological DNA codes,
microtaggants, thermochronic, UV and infrared inks as well as encryption, 2D
symbology and laser engraving. Registrant believes its patented and proprietary
technologies provide a unique and cost-effective solution to the problem of
counterfeiting and gray marketing in the document and product authentication
markets it has traditionally sought to exploit.
Registrant is not aware of any competitors that market paper which functions in
the same way as Nocopi security papers, although management is aware of a
limited number of competitors which are attempting different approaches to the
same problems which Registrant's products address. Registrant is aware of a
Japanese company that has developed a film overlay that is advertised as
providing protection from photocopying. Registrant has examined the film overlay
and believes that it has a limited number of applications. Nocopi security paper
is also considerably less expensive than the film overlay.
Other indirect competitors are marketing products utilizing the hologram and
copy void technologies. The hologram, which has been incorporated into credit
cards to foil counterfeiting, is considerably more costly than Registrant's
technology. Copy void is a security device that has been developed to indicate
whether a document has been photocopied. Registrant also markets a product that
has similar features to the copy void technology.
The Educational and Toy Products markets include numerous potential competitors
who have significantly greater financial resources and presence in these markets
than Registrant.
Registrant currently has extremely limited resources, and there can be no
assurance that other businesses with greater resources than Registrant will not
enter Registrant's markets and compete successfully with Registrant.
EURO-NOCOPI, S.A.
Registrant formed Euro-Nocopi, S.A. in 1994, to market the Company's
technologies in Europe under an exclusive licensing arrangement. Registrant then
owned approximately an 18% interest in Euro-Nocopi, S.A. During 2000, there
arose between Registrant and Euro-Nocopi, S.A. a number of areas of conflict and
dispute, leading each party to the licensing arrangement to assert informally
that the other was in breach of its obligations under that arrangement.
In December 2000, Registrant was informed by Euro-Nocopi, S.A. that it had
adopted resolutions to liquidate and dissolve. In December 2000, Registrant
terminated its license agreement with Euro-Nocopi, S.A. and discontinued the
provision of support (including the sale of proprietary inks) to Euro Nocopi,
S.A. and its customers. Euro-Nocopi S.A. responded by denying that Registrant's
termination of the licensing agreement was permissible or effective, and by
asserting a claim that, as a result of alleged breaches of the licensing
arrangement by Registrant, it was entitled to a royalty-free license to exploit
Registrant's technologies in Europe.
In March 2001, Euro-Nocopi, S.A. commenced an arbitration proceeding before the
American Arbitration Association against Registrant asserting a claim for an
award in the nature of a declaratory judgment to the effect that, because
Registrant had (allegedly) breached the license agreement, Euro-Nocopi, S.A. was
entitled to a perpetual royalty-free license to exploit Registrant's
technologies in Europe. The matter was resolved by a settlement in June 2003.
The settlement and proceedings are described below under the heading "Legal
Proceedings."
5
EMPLOYEES
At March 15, 2005, Registrant had three full-time and two part-time employees.
Registrant believes that its relations with its employees are good.
FINANCIAL INFORMATION ABOUT FOREIGN AND DOMESTIC OPERATIONS
Certain information concerning Registrant's foreign and domestic operations is
contained in Note 9 to Registrant's Financial Statements included elsewhere in
this Annual Report on Form 10-KSB.
ITEM 2. PROPERTIES
Registrant's corporate headquarters, research and ink production facilities are
located at 9C Portland Road, West Conshohocken, Pennsylvania 19428. Its
telephone number is (610) 834-9600. These premises consist of approximately
5,000 square feet of space in a multi-tenant building leased by the Registrant
from an unaffiliated third party pursuant to a lease expiring in March 2008.
Current monthly rent under this lease is $2,925 escalating four percent on each
anniversary date of the lease. Registrant is also responsible for its pro-rata
share of the operating costs of the building. Registrant incurred leasehold
improvement expenditures of approximately $70,000 through December 31, 2004 and
believes that additional leasehold improvement expenditures will not be
significant. Registrant believes that this space will be adequate for its
current needs.
ITEM 3. LEGAL PROCEEDINGS
Except as set forth below, Registrant is not aware of any material pending
litigation (other than ordinary routine litigation incidental to its business
where, in management's view, the amount involved is less than 10% of
Registrant's current assets) to which Registrant is or may be a party, or to
which any of its properties is or may be subject, nor is it aware of any pending
or contemplated proceedings against it by any governmental authority. Registrant
knows of no material legal proceedings pending or threatened, or judgments
entered against, any director or officer of Registrant in his capacity as such.
In March 2001, Euro-Nocopi, S.A. commenced arbitration proceedings against
Registrant before the American Arbitration Association in New York, NY. In these
proceedings, Euro-Nocopi, S.A. has sought an award in the nature of a
declaratory judgment to the effect that, due to alleged breaches by Registrant
of the licensing arrangement between Registrant and Euro-Nocopi. S.A., it was
entitled to a royalty-free license to exploit Registrant's technologies in
Europe.
These arbitration proceedings were resolved by a settlement reached in June
2003. Under the agreement settling the dispute, Euro-Nocopi, S.A.'s exclusive
license with respect to Registrant's existing security technologies was
reinstated and amended; Registrant's equity interest in Euro-Nocopi, S.A. was
redeemed; Euro-Nocopi, S.A. agreed to pay to Registrant the sum of $1.1 million
(of which $900,000 was paid currently with the balance due in four annual
installments commencing in March 2004); and the parties exchanged full releases.
Through he current date, Registrant has received two installments totaling
$100,000 in accordance with the settlement agreement.
In March 2001 certain shareholders of Euro-Nocopi, S.A. filed suit in a court in
Paris, France against certain current and former officers and directors of
Registrant, and against a licensee of Registrant. Registrant was not named as a
defendant in the suit. The suit sought damages in excess of $7 million from the
defendants for various alleged acts of oppression, self-dealing and fraud in
connection with the organization and capitalization of Euro-Nocopi, S.A., the
management of that company and Registrant's management of its relationship with
that company. The defendants in this litigation have denied any liability to the
plaintiffs and have claimed indemnification from Registrant in connection with
the lawsuit, and Registrant has advanced certain funds toward payment of the
costs of defense.
Under the settlement of the arbitration proceedings referred to above, this
lawsuit was substantially resolved, without any liability of, or payment by, any
of the individual defendants or by Registrant. This resolution has been
implemented and Registrant is currently awaiting payment from its insurance
carrier for amounts advanced on behalf of the defendants in excess of the policy
retention.
6
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
During the fourth quarter of the fiscal year ended December 31, 2004, no matters
were submitted to a vote of Registrant's security holders.
PART II
ITEM 5. MARKET FOR COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND SMALL
BUSINESS ISSUER PURCHASES OF EQUITY SECURITIES
Registrant's Common Stock is traded on the over-the-counter market and quoted on
the NASD over-the-counter Bulletin Board under the symbol "NNUP". The table
below presents the range of high and low bid quotations of Registrant's Common
Stock by calendar quarter for the last two full fiscal years and for a recent
date, as reported by the National Quotation Bureau, Inc. The quotations
represent prices between dealers and do not include retail markup, markdown, or
commissions; hence, such quotations do not represent actual transactions.
High Bid Low Bid
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January 1, 2003 to March 31, 2003 $.07 $.03
April 1, 2003 to June 30, 2003 $.05 $.04
July 1, 2003 to September 30, 2003 $.20 $.04
October 1, 2003 to December 31, 2003 $.20 $.08
January 1, 2004 to March 31, 2004 $.24 $.13
April 1, 2004 to June 30, 2004 $.19 $.12
July 1, 2004 to September 30, 2004 $.17 $.08
October 1, 2004 to December 31, 2004 $.16 $.12
January 1, 2005 to March 15, 2005 $.13 $.11
As of March 15, 2005, 50,586,181 shares of Registrant's Common Stock were
outstanding. The number of holders of record of Registrant's Common Stock was
approximately 600. However, Registrant estimates that it has a significantly
greater number of Common Stockholders because a number of shares of Registrant's
Common Stock are held of record by broker-dealers for their customers in street
name. In addition to the 50,586,181 shares of Common Stock which are
outstanding, Registrant, at March 15, 2005, has reserved for issuance 2,700,000
shares of its Common Stock which underlie options to purchase Common Stock of
the Registrant. In September 2004, Registrant entered into an Agreement of Terms
with Entrevest I Associates pursuant to which, as consideration for the release
of certain stock option rights to purchase up to 40,000,000 shares of the
Company's common stock and the release of the right to designate a member to the
board of directors, the Company agreed to issue 1,250,000 shares of restricted
common stock in the Company to Entrevest pursuant to a valid private placement,
which were valued at par. Subsequent to the transaction, Entrevest I Associates
owned 4,583,333 shares of common stock of the Company
The Company did not pay dividends in 2004 or 2003 and does not anticipate paying
any such dividends in the foreseeable future. Any determination to pay dividends
in the future will be at the discretion of the Company's Board of Directors and
will be dependent upon the Company's results of operations, financial condition,
contractual restrictions and other factors deemed relevant by the Board of
Directors.
RECENT SALES OF UNREGISTERED SECURITIES
During 2004, The Company issued the securities listed below which were not
registered under the Securities Act of 1933, as amended (the Act). Each of such
issuances was made by private offering in reliance on the exemption from the
registration provisions of the Act provided by Section 4(2) of the Act. The
facts relied upon to establish such exemption included the recipients'
representations as to their investment intent with respect to such securities
and restrictions on the transfer of such securities by the Company.
7
The Company sold or issued shares of its Common Stock during the past year in
private transactions that were not registered with the Securities and Exchange
Commission as follows:
2004
----------------
4,613,940 shares
These shares were sold or issued in transactions that were exempt from
registration requirements because they were private placements under Section
4(2) of the Securities Act of 1933, as amended.
During 2004, the Company sold 1,610,000 restricted shares of its common stock to
three non-affiliated individual investors for $161,000 ($152,100 net of offering
expenses) pursuant to a valid private placement. These shares were sold at the
market value on the date of sale. In 2004, the Company entered into a Conversion
Agreement with three individuals whereby demand loans in the aggregate principal
amount of $149,900 together with $25,500 of accrued interest on the demand loans
were converted into shares of restricted common stock of the Company at $.10,
the market price at the date of issue. As a result, an aggregate of 1,753,940
shares of restricted common stock were issued including 449,080 shares to
Michael A. Feinstein, M.D., the Company's Chairman of the Board. Also in 2004,
the Company entered into an Agreement of Terms with Entrevest I Associates
pursuant to which, as consideration for the release of certain stock option
rights to purchase up to 40,000,000 shares of the Company's common stock and the
release of the right to designate a member to the Board of Directors, the
Company agreed to issue 1,250,000 shares of restricted common stock in the
Company to Entrevest pursuant to a valid private placement, which were valued at
par. Subsequent to the transaction, Entrevest I Associates owned 4,583,333
shares of common stock of the Company. Also, as part of the Agreement, Michael
Solomon resigned from the Board of Directors.
ISSUER REPURCHASES OF EQUITY SECURITIES
None
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
FORWARD-LOOKING INFORMATION
The information in this Management's Discussion and Analysis of Results of
Operations and Financial Condition contains forward-looking statements within
the meaning of the Private Securities Litigation Reform Act of 1995.
Forward-looking statements involve known and unknown risks, uncertainties and
other factors, which may cause our actual results, performance or achievements
or industry results to be materially different from any future results,
performance or achievements expressed or implied by these forward-looking
statements. Such factors include those described in the section captioned "Risk
Factors." The forward-looking statements included in this report may prove to be
inaccurate. In light of the significant uncertainties inherent in these
forward-looking statements, you should not consider this information to be a
guarantee by us or any other person that our objectives and plans will be
achieved. The Company does not undertake to publicly update or revise its
forward-looking statements even if experience or future changes make it clear
that any projected results (expressed or implied) will not be realized.
RESULTS OF OPERATIONS
The Company's revenues are derived from royalties paid by licensees of the
Company's technologies, fees for the provision of technical services to
licensees and from the direct sale of products incorporating the Company's
technologies, such as inks, security paper and pressure sensitive labels, and
equipment used to support the application of the Company's technologies, such as
ink-jet printing systems. Royalties consist of guaranteed minimum royalties
payable by the Company's licensees in certain cases and additional royalties
which typically vary with the licensee's sales or production of products
incorporating the licensed technology. Service fee and sales revenues vary
directly with the number of units of service or product provided.
8
Because the Company has a relatively high level of fixed costs, its operating
results are substantially dependent on revenue levels. Because revenues derived
from licenses and royalties carry a much higher gross profit margin than other
revenues, operating results are also significantly affected by changes in
revenue mix.
Both the absolute amounts of the Company's revenues and the mix among the
various sources of revenue are subject to substantial fluctuation. The Company
has a relatively small number of substantial customers rather than a large
number of small customers. Accordingly, changes in the revenue received from a
significant customer can have a substantial effect on the Company's total
revenue and on its revenue mix and overall financial performance. Such changes
may result from a customer's product development delays, engineering changes,
changes in product marketing strategies and the like. In addition, certain
customers have, from time to time, sought to renegotiate certain provisions of
their license agreements and, when the Company agrees to revise terms, revenues
from the customer may be affected.
Revenues for 2004 were $628,300, an increase of approximately 10%, or $56,800,
from $571,500 in 2003. Licenses, royalties and fees increased in 2004 by
approximately 14% to $373,200 from $327,700 in 2003. The increase in licenses,
royalties and fees is due primarily to the inception of a license with a new
licensee offset in part by the termination or non-renewal of license
arrangements with three licensees during 2003. Product and other sales increased
by $11,300, or approximately 5% to $255,100 in 2004 from $243,800 in 2003. The
increase in product and other sales reflects higher sales of the Company's
security inks in 2004 offset in part by a lower level of sales of the Company's
line of security papers in 2004 compared to 2003.
Gross profit increased to $365,200 or approximately 58% of revenues in 2004 from
$259,400 or approximately 45% of revenues in 2003. Licenses, royalties and fees
have historically carried a higher gross profit than product sales, which
generally consist of supplies or other manufactured products which incorporate
the Company's technologies or equipment used to support the application of its
technologies. These items (except for inks which are manufactured by the
Company) are generally purchased from third-party vendors and resold to the
end-user or licensee and carry a lower gross profit than licenses, royalties and
fees. The higher gross profit in 2004 compared to 2003 results principally from
an increase in revenues represented by licenses, royalties and fees as well as
lower costs of production of the ink products used by licensees and paper
purchased for resale. Additionally, the Company experienced lower rent and
occupancy costs resulting from the move of the facility in the second half of
2003.
Research and development expenses decreased to $170,300 in 2004 from $202,800 in
2003. The decrease in 2004 relates primarily to lower rent, occupancy and
employee benefit expenses in 2004 compared to 2003.
Sales and marketing expenses decreased to $142,000 in 2004 from $171,500 in
2003. The decrease relates primarily to the departure of a sales executive late
in the first quarter of 2003 and lower consulting fees as well as lower rent and
occupancy costs in 2004 compared to 2003 offset in part by marketing costs
associated with the introduction of the Company's new Rub-n-Color product for
the Educational and Toy Market.
General and administrative expenses (exclusive of legal expenses) increased to
$260,200 in 2004 from $239,100 in 2003. The increase in 2004 compared to 2003 is
due primarily to $75,000 in expenses recorded in connection with the issuance to
members of the Company's Board of Directors and two consultants of options to
purchase shares of the Company's common stock during the second quarter of 2004
offset in part by lower rent, occupancy and public relations costs.
Legal expenses increased to $121,200 in 2004 from $87,300 in 2003. The increase
relates to compliance with recently enacted securities legislation and
regulations and to legal fees incurred in structuring agreements related to the
conversion of the Company's demand loans into common stock and the release of
certain stock option rights during 2004, discussed above. Legal fees incurred in
2003 associated with the Euro-Nocopi, S.A. arbitration proceedings that were
settled in June 2003 were offset against the settlement proceeds.
Other income (expense) includes interest income on funds invested and interest
expense on the demand loans through September 30, 2004 when they were converted
into shares of common stock of the Company. Net proceeds from arbitration
settlement in 2003 includes the net gain of $909,400 representing the proceeds
of the arbitration settlement with Euro-Nocopi, S.A., net of the Company's
$110,600 investment in Euro-Nocopi, S.A. and legal expenses incurred during 2003
related to the arbitration.
9
The net loss of $339,000 in 2004 compared to the net earnings of $458,800 in
2003 results primarily from the settlement of the arbitration proceedings with
Euro-Nocopi, S.A. during 2003, the expense associated with the issuance of stock
options to Directors and consultants during 2004, lower rent and occupancy costs
due to the move to a new facility in 2003 and staff reductions during 2004 and
2003.
PLAN OF OPERATION, LIQUIDITY AND CAPITAL RESOURCES
The Company's cash and cash equivalents decreased to $24,000 at December 31,
2004 from $89,900 at December 31, 2003. During 2004, the Company sold 1,610,000
shares of its common stock to three non-affiliated individual investors for
$161,000 ($152,100 net of offering expenses) and used $218,000, including a
portion of cash on hand at the beginning of the year, to fund operations and
capital spending.
The loss of a number of customers during the past three years and the loss of
periodic fees under the license agreement with Euro-Nocopi, S.A. commencing in
2000 have had a material adverse effect on the Company's revenues and results of
operations and upon its liquidity and capital resources. During 2004, the
Company raised $161,000 ($152,100 net of offering expenses) in a private
placement whereby 1,610,000 shares of the Company's common stock were sold to
three non-affiliated individual investors pursuant to a valid private placement.
This investment, combined with the receipt of $900,000 in June 2003 in
conjunction with the settlement of its arbitration proceedings with Euro-Nocopi,
S.A. has permitted the Company to continue in operation to the current date. As
a result of the settlement, a significant ongoing expense for related legal fees
has been eliminated. Additionally, the Company has reduced staff and, during the
third quarter of 2003, completed its relocation to a new facility that it
believes will enable the Company to further reduce its operating expenses.
Management of the Company believes that it will need to obtain additional
capital in the future both to fund investments needed to increase its operating
revenues to levels that will sustain its operations and to fund operating
deficits that it anticipates will continue until revenue increases can be
realized. There can be no assurances that the Company will be successful in
obtaining sufficient additional capital, or if it does, that the additional
capital will enable the Company to improve its business so as to have a material
positive effect on the Company's operations and cash flow. The Company believes
that without additional investment, it may be forced to cease operations at an
undetermined future date.
The Company, in response to the ongoing adverse liquidity situation, has
maintained a cost reduction program including staff reductions, where possible,
and curtailment of discretionary research and development and sales and
marketing expenses.
The Company does not currently plan any significant additional capital
investment over the next twelve months.
UNCERTAINTIES THAT MAY AFFECT THE COMPANY, ITS OPERATING RESULTS AND STOCK PRICE
The Company's operating results, financial condition and stock price are subject
to certain risks, some of which are beyond the Company's control. These risks
could cause actual operating and financial results to differ materially from
those expressed in the Company's forward looking statements, including the risks
described below and the risks identified in other documents which are filed and
furnished with the SEC:
10
Inability to Continue in Operation Without New Capital Investment. The Company
had a negative working capital of $499,800 at December 31, 2004. Additionally,
it experienced negative cash flow from operations of $217,200 in the year ended
December 31, 2004. Management of the Company believes that while certain staff
reductions initiated in 2003 and the move of the Company's operations to a new
facility, which was completed during the third quarter of 2003, will reduce the
Company's negative cash flow, it anticipates that the negative cash flow will
continue until it can achieve revenue increases. Management believes that it
will need to obtain additional capital in the future both to fund investments
needed to increase its operating revenues to levels that will sustain its
operations and to fund operating deficits that it anticipates will continue
until revenue increases can be realized. There can be no assurances that the
Company will be successful in obtaining sufficient additional capital, or if it
does, that the additional capital will enable the Company to improve its
business so as to have a material positive effect on the Company's operations
and cash flow. The Company believes that without additional investment, it may
be forced to cease operations at an undetermined future date. It is uncertain
whether the Company's assets will retain any value if the Company ceases
operations. There are no assurances that the Company will be able to secure
additional equity investment before it may be forced to cease operations.
Possible Inability to Develop New Business. Even if the Company is able to raise
cash through additional capital investment or otherwise, it must quickly improve
its operating cash flow. Because the Company has already significantly reduced
its operating expenses, Management believes that any significant improvement in
the Company's cash flow must result from increases in its revenues from
traditional sources and from new revenue sources. The Company's ability to
develop new revenues may depend on the extent of both its marketing activities
and its research and development activities, both of which are limited. There
are no assurances that the resources the Company, even with additional
investment, can devote to marketing and to research and development will be
sufficient to increase the Company's revenues to levels resulting in positive
cash flow.
Inability to Obtain Raw Materials and Products for Resale. The Company's adverse
financial condition has required it to significantly defer payments due vendors
who supply raw materials and other components of the Company's security inks and
security paper that the Company purchases for resale and professional and other
services. As a result, the Company is required to pay cash in advance of
shipment to certain of its suppliers. Delays in shipments to customers caused by
the Company's inability to obtain materials on a timely basis and the
possibility that certain current vendors may permanently discontinue to supply
the Company with needed products could impact the Company's ability to service
its customers and adversely affect its customer and licensee relationships.
While receipt of funds in conjunction with the settlement of the arbitration
with Euro-Nocopi, S.A. and sales of shares of the Company's common stock in 2004
have allowed the Company to continue in operation to the current date, there can
be no assurances that the Company will be able to maintain its vendor
relationships in an acceptable manner.
Uneven Pattern of Quarterly and Annual Operating Results. The Company's
revenues, which are derived primarily from licensing and royalties, are
difficult to forecast due to the long sales cycle of the Company's technologies,
the potential for customer delay or deferral of implementation of the Company's
technologies, the size and timing of inception of individual license agreements,
the success of the Company's licensees and strategic partners in exploiting the
market for the licensed products, modifications of customer budgets, and uneven
patterns of royalty revenue and product orders. As the Company's revenue base is
not substantial, delays in finalizing license contracts, implementing the
technology to initiate the revenue stream and customer ordering decisions can
have a material adverse effect on the Company's quarterly and annual revenue
expectations and, as the Company's operating expenses are substantially fixed,
income expectations will be subject to a similar adverse outcome.
Volatility of Stock Price. The market price for the Company's common stock has
historically experienced significant fluctuations and may continue to do so. The
Company has, since its inception, operated at a loss and has not produced
revenue levels traditionally associated with publicly traded companies. The
Company's common stock is not listed on a national or regional securities
exchange and, consequently, the Company receives limited publicity regarding its
business achievements and prospects, nor do securities analysts and traders
extensively follow it and it is thinly traded. The market price may be affected
by announcements of new relationships or modifications to existing
relationships. The stock prices of many developing public companies,
particularly those with small capitalizations, have experienced wide
fluctuations not necessarily related to operating performance. Such fluctuations
may adversely affect the market price of the Company's common stock.
Intellectual Property. The Company relies on a combination of protections
provided under applicable international patent, trademark and trade secret laws.
It also relies on confidentiality, non-analysis and licensing agreements to
establish and protect its rights in its proprietary technologies. While the
Company actively attempts to protect these rights, the Company's technologies
could possibly be compromised through reverse engineering or other means. In
addition, the Company's ability to enforce its intellectual property rights
through appropriate legal action has been and will continue to be limited by the
Company's adverse liquidity. There can be no assurances that the Company will be
able to protect the basis of its technologies from discovery by unauthorized
third parties or to preclude unauthorized persons from conducting activities
that infringe on the Company's rights. The Company's adverse liquidity situation
has also impacted its ability to obtain patent protection on its intellectual
property and to maintain protection on previously issued patents. The Company
has been advised by its patent counsel that patent maintenance fees
approximating $12,000 will be due during 2005. The Company has not yet made a
decision on keeping any or all of these patents in force. There can be no
assurances that the Company will be able to continue to prosecute new patents
and maintain issued patents. As a result, the Company's customer and licensee
relationships could be adversely affected and the value of the Company's
technologies and intellectual property (including their value upon a liquidation
of the Company) could be substantially diminished.
11
RECENTLY ISSUED ACCOUNTING STANDARDS
In December 2004, the FASB revised SFAS 123, "Accounting for Stock-Based
Compensation" to require all companies to expense the fair value of employee
stock options. SFAS 123R is effective for the first period ending after December
15, 2005 for a small business issuer.
The following recently issued accounting pronouncements are currently not
applicable to the Company.
In December 2002, the FASB issued Statement of Financial Accounting Standard No.
148 ("SFAS 148"), Accounting for Stock-Based Compensation - Transition and
Disclosure. SFAS 148 provides alternative methods of transition for voluntary
change to the fair value based method of accounting for stock-based employee
compensation. SFAS 148 also requires prominent disclosure in the "Summary of
Significant Accounting Policies" of both annual and interim financial statements
about the method used on reported results.
In January 2003, subsequently revised December 2003, the FASB issued FASB
Interpretation No. 46R ("FIN 46R"), Consolidation of Variable Interest Entities
- An Interpretation of AARB N. 51. FIN 46R requires that if any entity has a
controlling financial interest in a variable interest entity, the assets,
liabilities and results of activities of the variable interest entity should be
included in the consolidated financial statements of the entity. FIN 46R
provisions are effective for all arrangements entered into after January 31,
2003. FIN 46R provisions are required to be adopted for the first period ending
after December 15, 2004 for a small business issuer.
In April 2003, FASB issued Statement of Financial Accounting Standards No. 149,
Amendment of Statement 133 on Derivative Instruments and Hedging Activities
("SFAS No. 149"). SFAS No. 149 amends and clarifies accounting for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities under SFAS No. 133. SFAS No. 149 is
effective for contracts and hedging relationships entered into or modified after
June 30, 2003.
In May 2003, FASB issued Statement of Financial Accounting Standards No. 150,
Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity ("SFAS No. 150"). SFAS No. 150 establishes standards for
how an issuer classifies and measures certain financial instruments with
characteristics of both debt and equity and requires an issuer to classify the
following instruments as liabilities in its balance sheet:
1. a financial instrument issued in the form of shares that is mandatorily
redeemable and embodies an unconditional obligation that requires the
issuer to redeem it by transferring its assets at a specified or
determinable date or upon an event that is certain to occur;
2. a financial instrument, other than an outstanding share, that embodies
an obligation to repurchase the issuer's equity shares, or is indexed
to such an obligation, and requires the issuer to settle the obligation
by transferring assets; and
3. financial instrument that embodies and unconditional obligation that
the issuer must settle by issuing a variable number of its equity
shares if the monetary value of the obligation is based solely or
predominantly on (1) a fixed monetary amount, (2) variations in
something other than the fair value of the issuer's equity shares, or
(3) variations inversely related to changes in the fair value of the
issuer's equity shares.
12
In November 2003, FASB issued FASB Staff Position No. 150-3 ("FAS 150-3") which
deferred the effective dates for applying certain provisions of SFAS No. 150
related to mandatorily redeemable financial instruments of certain non-public
entities and certain mandatorily redeemable non-controlling interests for public
and non-public companies. For public entities SFAS No. 150 is effective for
mandatorily redeemable financial instruments entered into or modified after May
31, 2003 and is effective for all other financial instruments as of the first
interim period beginning after June 15, 2003. For mandatorily redeemable
non-controlling interest that would not have to be classified as liabilities by
a subsidiary under the exception in paragraph 9 of SFAS No. 150, but would be
classified as liabilities by the parent, the classification and measurement
provisions of SFAS No. 150 are deferred indefinitely. The measurement provisions
of SFAS No. 150 are also deferred indefinitely for other mandatorily redeemable
non-controlling interests that were issued before November 4, 2003. For those
instruments, the measurement guidance for redeemable shares and non-controlling
interests in other literature shall apply during the deferral period.
On December 17, 2003, the Staff of the SEC issued Staff Accounting bulletin No.
104 (SAB No. 104), Revenue Recognition, which supersedes SAB No. 101, "Revenue
Recognition in Financial Statements." SAB No. 104's primary purpose is to
rescind accounting guidance contained in SAB No. 101 related to multiple element
revenue arrangements, superseded as a result of the issuance of EITF 00-21,
"Accounting for Revenue Arrangements with Multiple Deliverables." Additionally,
SAB No. 104 rescinds the SEC's Revenue Recognition in Financial Statements
Frequently Asked Questions and Answers (the FAQ) issued with SAB No. 101 that
had been codified in SEC Top 13, Revenue Recognition. Selected portions of the
FAQ have been incorporated into SAB No. 104. While the wording of SAB No. 104
has changed to reflect the issuance of EITF 00-21, the revenue recognition
principles of SAB No. 101 remain largely unchanged by the issuance of SAB No.
104.
ITEM 7. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Financial Statements of Registrant meeting the requirements of Regulation S-B
(except section 228.310 and Article 11 of Regulation S-X thereof) are included
herein beginning at page F-1 of this Annual Report on Form 10-KSB.
For information required with respect to this Item 7, see "Financial Statements
and Schedules on pages F-1 through F-14 of this report.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
ITEM 8A. CONTROLS AND PROCEDURES
The Company's management carried out an evaluation, under the supervision and
with the participation of the Company's principal executive officer and
principal financial officer, of the effectiveness of the design and operation of
our disclosure controls and procedures as of December 31, 2004. Based on the
evaluation, the Company's principal executive officer and principal financial
officer concluded that our disclosure controls and procedures provide reasonable
assurance that material information required to be included in our periodic SEC
reports is recorded, processed, summarized and reported within the time periods
specified in the relevant SEC rules and forms.
In addition, the Company reviewed its internal controls, and there have been no
significant changes in our internal controls or in other factors that could
significantly affect those controls subsequent to the date of their last
evaluation.
ITEM 8B. OTHER INFORMATION
None.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
WITH SECTION 16(A) OF THE EXCHANGE ACT.
The directors and officers of the Company, their ages, present positions with
the Company, and a summary of their business experience are set forth below.
Michael A. Feinstein, M.D., 58, Chairman of the Board of Directors since
December 1999 and Nocopi's acting Chief Executive Officer since February 2000,
has been a practicing physician in Philadelphia for more than twenty years,
serving for more than ten years as the President of a group medical practice
including three physicians. He is a Fellow of the American College of Obstetrics
and Gynecology and of the American Board of Obstetrics and Gynecology. He
received his B.A. from LaSalle College and his M.D. from Jefferson Medical
College. He has been an active private investor for more than thirty years,
during which he has consulted with the management of the companies in which he
invested on a number of occasions.
13
Stanley G. Hart, 44, a director since March 2001, is President and CEO of S.G.
Hart Associates, LLC, a strategic brand protection consulting company which
helps firms develop and implement strategies designed to protect global supply
chains from counterfeiting, diversion, theft and product tampering. From its
formation in 2000 until its merger in 2003, Mr. Hart was President and CEO of
Westvaco Brand Security, Inc., a wholly owned subsidiary of MeadWestvaco
Corporation. Mr. Hart founded the company and established operations in the USA,
Japan, Hong Kong, Singapore, Brazil, Belgium and Israel. Prior thereto, Mr. Hart
served Westvaco Corporation (parent company of Westvaco Brand Security, Inc.)
for more than ten years in various management capacities. Mr. Hart has over 20
years of international general management experience within the brand
protection, chemical, packaging and paper industries. With five years as an
expatriate, Mr. Hart's diverse experience includes new ventures, international
business, sales and marketing, mergers and acquisitions, technology assessment
and strategic planning. Mr. Hart has a B.A. degree in Chemistry from the
University of North Carolina at Chapel Hill, and a MBA from the Fuqua School of
Business at Duke University. Mr. Hart is a member of the National Association of
Corporate Directors, the American Management Association, the American
Consultants League and is an Accredited Professional Consultant.
Richard Levitt, 48, a director since December 1999, has been engaged in the
network services segment of the computer industry since 1988. In 1995, he
participated in the founding of XiTech Corporation, a Pittsburgh,
Pennsylvania-based provider of computing and computer networking hardware and
network design and implementation services which in five years has grown to over
100 employees and over $40 million in annual sales. Since founding XiTech, he
has served as one of its corporate principals as a Network Consultant and as the
Manager of its Network Sales force. In these capacities, Mr. Levitt played a
crucial role in the strategic and financial planning for XiTech, as well as the
development of new accounts. Before joining XiTech, Mr. Levitt served as a
network sales executive for Digital Equipment Corporation from 1988 to 1994 and
as a network consultant for TriLogic Corporation during 1994 and 1995. Mr.
Levitt holds a B.S. in Marketing from Kent State University.
Rudolph A. Lutterschmidt, 58, has been Vice President and Chief Financial
Officer of the Company for more than five years, serving in this capacity on a
part-time basis since January 2000. From January 2002 to March 2005, Mr.
Lutterschmidt was employed by CitySort LP, a data to delivery mailing business,
serving as its Chief Financial Officer from January 2002 to February 2005. From
January 2000 through November 2001, he had been employed as a management
consultant by Smart & Associates, LLP, an accounting and professional services
firm. He is a graduate of Syracuse University, a member of Financial Executives
International, the Institute of Management Accountants and is a Certified
Management Accountant.
The terms of the current directors will expire at the 2005 annual meeting of
stockholders of the Company.
AUDIT COMMITTEE FINANCIAL EXPERT
The Company does not have an audit committee financial expert serving on its
audit committee because it has no audit committee and is not required to have
such a committee as it is not a listed issuer as defined in Section 240.10A-3.
The Company, however, anticipates that it will establish an audit committee in
the near future.
CODE OF ETHICS
The Company has adopted a Code of Ethics that applies to its Chief Executive
Officer, Chief Financial Officer and persons performing similar functions. See
Exhibit 14.1.
14
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
Section 16(a) of the Exchange Act requires persons who become directors and/or
executive officers of a public company (such as Nocopi) to file reports with the
SEC regarding their beneficial ownership of the company's securities. A report
must be filed shortly after a person becomes an executive officer or director,
and shortly after an executive officer or director experiences a change in his
beneficial ownership of his company's securities. Except as set forth below,
based on a review of all Forms 3, 4 and 5 submitted during or in respect of the
Company's most recent fiscal year, to the Company's knowledge, none of its
executive officers and directors failed to file, on a timely basis, reports
required under Section 16 of the Exchange Act during or in respect of such year.
Michael A. Feinstein, M.D., the Company's Chairman and Chief Executive Officer,
has both directly and indirectly acquired common stock and stock options of the
Company in a number of transactions for which he has failed to file Form 4
reports on a timely basis. Messrs. Hart, Levitt and Lutterschmidt directly
acquired stock options of the Company and failed to file Form 4 reports on a
timely basis. Mr. Lutterschmidt has filed a Form 4 and the Company is advised
that such reports for the other individuals are being prepared and will be filed
promptly.
ITEM 10. EXECUTIVE COMPENSATION
EXECUTIVE OFFICER COMPENSATION
During 2004, the Company did not pay any cash compensation to Dr. Feinstein, who
has served since February 2000 as the Company's acting Chief Executive Officer,
and no other executive officer of the Company received compensation equal to or
greater than $100,000. In 2004, Dr. Feinstein received options to purchase
150,000 shares of common stock of the Company, expiring in April 2009, at $.17
per share, representing 60% of the options granted to all employees during the
year. At December 31, 2004, 50,000 of these options were exercisable; however,
none of the 150,000 options held by Dr. Feinstein were in the money at year-end
2004. The Company does reimburse the expenses incurred by its officers in the
performance of their duties.
DIRECTOR COMPENSATION
Directors have not been paid any fees for their services as such during the year
ended December 31, 2004. During 2004, three directors received options to
purchase an aggregate of 400,000 shares of common stock of the Company at $.17
per share. All directors have been and will be reimbursed for reasonable
expenses incurred in connection with attendance at Board of Directors meetings
or other activities undertaken by them on behalf of the Company.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth, as of March 15, 2005, the stock ownership of (1)
each person or group known by the Registrant to beneficially own 5% or more of
Registrant's common stock and (2) each director and Named Executive (as set
forth under the heading "Executive Compensation") individually, and of all
directors and executive officers of the Company as a group.
Common Stock
--------------------------------
Number
Of Shares
Beneficially Percentage of
Owned Class (1)
------------- --------------
Name of Beneficial Owner
5% Stockholders
Entrevest I Associates (2)
350 Sentry Parkway, Bldg. 640
Blue Bell, PA 19422 4,583,333 9.0%
Westvaco Brand Security, Inc. (3)
One High Ridge Park
Stamford, CT 06905 3,917,030 7.7%
Ross. L Campbell
675 Lewis Lane
Ambler, PA 19002 3,264,457 6.4%
Philip N. Hudson
P.O. Box 160892
San Antonio, TX 78280-3092 3,105,000 6.1%
Directors and Officers
Michael A Feinstein, M.D. (4) 3,011,827 5.9%
Stanley G. Hart (5) 150,000 *
Richard Levitt (6) 435,800 *
All Executive Officers and Directors as a Group (4 individuals) (7) 3,698,227 7.2%
15
------------------
* Less than 1.0%.
(1) Where the Number of Shares Beneficially Owned (reported in the preceding
column) includes shares which may be purchased upon the exercise of
outstanding stock options which are or within sixty days will become
exercisable ("presently exercisable options") the percentage of class
reported in this column has been calculated assuming the exercise of such
presently exercisable options.
(2) As reflected in a Schedule 13D/A dated January 19, 2004 filed on behalf of
Entrevest I Associates and including 1,250,000 shares issued to Entrevest I
Associates in conjunction with the release of certain stock option rights.
(3) As reflected in a Schedule 13D dated March 14, 2001 filed on behalf of
Westvaco Brand Security, Inc..
(4) Includes 333,500 shares held by a pension plan of which Dr. Feinstein is a
trustee and 150,000 presently exercisable stock options.
(5) Includes 150,000 presently exercisable stock options.
(6) Includes 400 shares owned by Mr. Levitt's wife and 150,000 presently
exercisable stock options.
(7) Includes 550,000 presently exercisable stock options.
EQUITY COMPENSATION PLAN INFORMATION AS OF DECEMBER 31, 2004
Number of securities
remaining available for
future issuance under
equity compensation plans
Number of securities to be Weighted-average exercise (excluding securities
issued upon exercise of price of outstanding reflected in column (a))
Plan Category outstanding options options
---------------------------- ---------------------------- ----------------------------
(a) (b) (c)
plans approved by
security holders 700,000 $.31 -0-
Equity Compensation
plans not approved by
security holders 775,000 $.17 1,225,000
---------------------------- ---------------------------- ----------------------------
TOTAL 1,475,000 $.24 1,225,000
============================ ============================ ============================
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
None.
16
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following Financial Statements are filed as part of this Annual Report
on Form 10-KSB
PAGE
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Report of Independent Registered Certified Public Accounting Firm F-1
Balance Sheet as of December 31, 2004 F-2
Statements of Operations for the Years ended
December 31, 2004 and 2003 F-3
Statements of Stockholders' Deficiency for
the Years ended December 31, 2004 and 2003 F-4
Statements of Cash Flows for the Years ended
December 31, 2004 and 2003 F-5
Notes to Financial
Statements F-6 to F-14
(b) Exhibits - See Exhibit Index.
(c) No Current Reports on Form 8-K have been filed by the Registrant during the
quarter ended December 31, 2004.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The Company has retained the public accounting firm of Cogen Sklar, LLP,
("Cogen'"), whose principal business address is 150 Monument Rd., Suite 500,
Bala Cynwyd, PA 19004, to perform its annual audit for inclusion of its report
in Form 10-KSB, and perform SAS 100 reviews of quarterly information in
connection with Form 10-QSB filings.
AUDIT FEES
During 2004 and 2003, the aggregate fees billed for professional services
rendered by our principal accountant for the audit of our annual financial
statements and review of our quarterly financial statements was $22,500 and
$21,000, respectively.
AUDIT-RELATED FEES
During 2004 and 2003, our principal accountant did not render assurance and
related services reasonably related to the performance of the audit or review of
financial statements.
TAX FEES
During 2004 and 2003, the aggregate fees billed for professional services
rendered by our principal accountant for tax compliance, tax advice and tax
planning were $4,500 in each year.
17
ALL OTHER FEES
During 2004 and 2003, there were no fees billed for products and services
provided by the principal accountant other than those set forth above.
AUDIT COMMITTEE APPROVAL
We do not have an audit committee currently serving and as a result our Chief
Executive Officer, Michael A. Feinstein, M.D. performs the duties of an audit
committee. Our Chief Executive Officer will evaluate and approve in advance, the
scope and cost of the engagement of an auditor before the auditor renders audit
and non-audit services. We do not rely on pre-approval policies and procedures.
18
SIGNATURES
Pursuant to the requirements of Section 13 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.
NOCOPI TECHNOLOGIES, INC.
Registrant
Dated: March 31, 2005 By: /s/ Michael A. Feinstein, M.D.
-----------------------------------------
Michael A. Feinstein, M.D.
Chairman of the Board
Dated: March 31, 2005 By: /s/ Rudolph A. Lutterschmidt
-----------------------------------------
Rudolph A. Lutterschmidt
Vice President, Chief Financial Officer
and Chief Accounting Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.
Date: March 31, 2005 /s/ Michael A. Feinstein, M.D.
-----------------------------------------
Michael A. Feinstein, M.D.,
Chairman of the Board
Date: March 31, 2005 /s/ Stanley G. Hart
-----------------------------------------
Stanley G. Hart, Director
Date: March 31, 2005 /s/ Richard Levitt.
-----------------------------------------
Richard Levitt, Director
19
The following Exhibits are filed as part of this Annual Report on Form 10-KSB:
Exhibit
Number Description
------ -----------
3.1 Articles of Incorporation (1)
3.2 Bylaws (1)
3.3 Articles of Amendment to Articles of Incorporation (3)
3.4 Article of Amendment to Articles of Incorporation (4)
3.5 Amendments to Bylaws (5)
10.1 Summary Plan Description for Nocopi Technologies, Inc. 401(k)
Profit Sharing Plan (2)
10.2 Nocopi Technologies, Inc. 1996 Stock Option Plan (3)
10.3 Nocopi Technologies, Inc. 1999 Stock Option Plan (4)
10.4 Amended Summary Plan Description for Nocopi Technologies, Inc.
401(k) Profit Sharing Plan (4)
10.5 Director Indemnification Agreement (5)
10.6 Officer Indemnification Agreement (5)
10.7 License Agreement with Westvaco Brand Security, Inc. (6)
10.8 Amendment to Westvaco License Agreement (6)
10.9 Amendment (No. 2) to Westvaco License Agreement (6)
10.10 Stock Purchase Agreement with Westvaco Brand Security, Inc.
(6)
10.11 Registration Rights Agreement with Westvaco Brand Security,
Inc. (6)
10.12 Collateral Assignment of Patent Rights to Westvaco Brand
Security, Inc. (6)
10.13 Escrow Agreement with Westvaco Brand Security, Inc. (6)
10.14 Amendment (No. 3) to Westvaco License Agreement (7)
10.15 Subscription Agreement with Entrevest I Associates (7)
10.16 Lease Agreement dated March 19, 2003 relating to premises at 9
Portland Road, West Conshohocken, PA 19428 (7)
10.17 Settlement Agreement with Euro-Nocopi, S.A. (8)
10.18 Agreement of Terms with Entrevest I Associates (9)
10.19 Conversion Agreement (10)
20
14.1 Code Of Ethics*
32.1 Certification of Chief Financial Officer required by Rule
13a-14(a).
32.2 Certification of Chief Executive Officer required by Rule
13a-14(a).
99.1 Certifications of Chief Executive Officer and Chief Financial
Officer Pursuant to 18 U.S.C. Section 1350, As Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
* Exhibit filed with this Report.
(1) Incorporated by reference to Registrant's Registration Statement on Form
10, as filed with the Commission on or about August 19, 1992
(2) Incorporated by reference to Registrant's Annual Report on Form 10-K for
the Year Ended December 31, 1993
(3) Incorporated by reference to Registrant's Annual Report on Form 10-K for
the Year Ended December 31, 1996
(4) Incorporated by reference to Registrant's Annual Report on Form 10-KSB for
the Year Ended December 31, 1998
(5) Incorporated by reference to Registrant's Quarterly Report on Form 10-QSB
for the Three Months Ended September 30, 1999
(6) Incorporated by reference to Registrant's Annual Report on Form 10-KSB for
the Year Ended December 31, 2000
(7) Incorporated by reference to Registrant's Annual Report on Form 10-KSB for
the Year Ended December 31, 2002
(8) Incorporated by reference to Registrant's Annual Report on Form 10-KSB for
the Year Ended December 31, 2003
(9) Incorporated by reference to Registrant's Current Report on Form 8-K filed
with the Commission on September 16, 2004
(10) Incorporated by reference to Registrant's Quarterly Report on Form 10-QSB
for the Three Months Ended September 30, 2004
21
REPORT OF INDEPENDENT REGISTERED CERTIFIED PUBLIC ACCOUNTING FIRM
To the Stockholders and Board of Directors
of Nocopi Technologies, Inc.
West Conshohocken, Pennsylvania
We have audited the accompanying balance sheet of Nocopi Technologies, Inc. as
of December 31, 2004 and the related statements of operations, stockholders'
equity, and cash flows for each of the two years in the period ended December
31, 2004. The financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with standards of the Public Company
Accounting Oversight Board (United States) generally accepted in the United
States. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall presentation of the financial
statements. 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 Nocopi Technologies, Inc. at
December 31, 2004, and the results of its operations and its cash flows for each
of the two years in the period ended December 31, 2004 in conformity with
accounting principles generally accepted in the United States.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 3 to the
financial statements, the Company has suffered recurring losses from operations
that raises substantial doubt about its ability to continue as a going concern.
Management's plans in regard to this matter are also described in Note 3. The
financial statements do not include any adjustments that might result from the
outcome of this uncertainty.
/s/ COGEN SKLAR, LLP
-------------------------
COGEN SKLAR, LLP
Bala Cynwyd, Pennsylvania
March 4, 2005
F-1
NOCOPI TECHNOLOGIES, INC.
BALANCE SHEET*
DECEMBER 31
2004
------------
ASSETS
CURRENT ASSETS
CASH AND CASH EQUIVALENTS $ 24,000
ACCOUNTS RECEIVABLE LESS $15,000 ALLOWANCE
FOR DOUBTFUL ACCOUNTS 103,500
ARBITRATION SETTLEMENT RECEIVABLE 50,000
PREPAID AND OTHER 29,200
------------
TOTAL CURRENT ASSETS 206,700
FIXED ASSETS
LEASEHOLD IMPROVEMENTS 71,200
FURNITURE, FIXTURES AND EQUIPMENT 476,200
------------
547,400
LESS: ACCUMULATED DEPRECIATION AND AMORTIZATION 495,400
------------
52,000
OTHER ASSETS
ARBITRATION SETTLEMENT RECEIVABLE 100,000
------------
$ 358,700
============
LIABILITIES AND STOCKHOLDERS' DEFICIENCY
CURRENT LIABILITIES
ACCOUNTS PAYABLE $ 417,200
ACCRUED EXPENSES 264,400
DEFERRED REVENUE 24,900
------------
TOTAL CURRENT LIABILITIES 706,500
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' DEFICIENCY
SERIES A PREFERRED STOCK $1.00 PAR VALUE
AUTHORIZED - 300,000 SHARES
ISSUED AND OUTSTANDING - NONE
COMMON STOCK, $.01 PAR VALUE
AUTHORIZED - 75,000,000 SHARES
ISSUED AND OUTSTANDING - 50,586,181 SHARES 505,900
PAID-IN CAPITAL 11,497,400
ACCUMULATED DEFICIT (12,351,100)
------------
(347,800)
------------
$ 358,700
============
*The accompanying notes are an integral part of these financial statements.
F-2
NOCOPI TECHNOLOGIES, INC.
STATEMENTS OF OPERATIONS*
YEARS ENDED DECEMBER 31
2004 2003
------------ ------------
REVENUES
LICENSES, ROYALTIES AND FEES $ 373,200 $ 327,700
PRODUCT AND OTHER SALES 255,100 243,800
------------ ------------
628,300 571,500
------------ ------------
COST OF SALES
LICENSES, ROYALTIES AND FEES 135,900 168,100
PRODUCT AND OTHER SALES 127,200 144,000
------------ ------------
263,100 312,100
------------ ------------
GROSS PROFIT 365,200 259,400
------------ ------------
OPERATING EXPENSES
RESEARCH AND DEVELOPMENT 170,300 202,800
SALES AND MARKETING 142,000 171,500
GENERAL AND ADMINISTRATIVE
(EXCLUSIVE OF LEGAL EXPENSES) 260,200 239,100
LEGAL EXPENSES 121,200 87,300
------------ ------------
693,700 700,700
------------ ------------
LOSS FROM OPERATIONS (328,500) (441,300)
------------ ------------
OTHER INCOME (EXPENSES)
INTEREST INCOME
200 4,100
INTEREST AND BANK CHARGES
(10,700) (13,400)
NET SETTLEMENT FROM ARBITRATION
-- 909,400
------------ ------------
(10,500) 900,100
------------ ------------
NET EARNINGS (LOSS) $ (339,000) $ 458,800
============ ============
BASIC AND DILUTED EARNINGS (LOSS) PER COMMON SHARE $ (.01) $ .01
BASIC AND DILUTED WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 47,614,388 45,972,241
*The accompanying notes are an integral part of these financial statements.
F-3
NOCOPI TECHNOLOGIES, INC.
STATEMENTS OF STOCKHOLDERS' DEFICIENCY*
FOR THE PERIOD JANUARY 1, 2003 THROUGH DECEMBER 31, 2004
COMMON STOCK PAID-IN ACCUMULATED
SHARES AMOUNT CAPITAL DEFICIT
BALANCE - JANUARY 1, 2003 45,972,241 $459,700 $11,141,100 $(12,470,900)
NET EARNINGS
458,800
---------------------------------------------------------
BALANCE - DECEMBER 31, 2003 45,972,241 459,700 11,141,100 (12,012,100)
SALES OF COMMON STOCK, NET 1,610,000 16,100 136,000
CONVERSION OF DEMAND LOANS AND
ACCRUED INTEREST 1,753,940 17,600 157,800
ISSUANCE OF COMMON STOCK IN EXCHANGE
FOR RELEASE OF STOCK OPTION RIGHTS 1,250,000 12,500 (12,500)
STOCK OPTION COMPENSATION
75,000
NET LOSS
(339,000)
---------------------------------------------------------
BALANCE - DECEMBER 31, 2004 50,586,181 $505,900 $11,497,400 ($12,351,100)
*The accompanying notes are an integral part of these financial statements.
F-4
NOCOPI TECHNOLOGIES, INC.
STATEMENTS OF CASH FLOWS*
YEARS ENDED DECEMBER 31
2004 2003
--------- ---------
OPERATING ACTIVITIES
NET EARNINGS (LOSS) $(339,000) $ 458,800
ADJUSTMENTS TO RECONCILE NET EARNINGS (LOSS) TO
CASH USED IN OPERATING ACTIVITIES
DEPRECIATION 20,300 12,900
COMPENSATION EXPENSE - STOCK OPTION GRANTS 75,000 --
--------- ---------
(243,700) 471,700
(INCREASE) DECREASE IN ASSETS
ACCOUNTS RECEIVABLE (63,700) (700)
ARBITRATION SETTLEMENT RECEIVABLE 50,000 (200,000)
PREPAID AND OTHER 11,000 (9,200)
INCREASE (DECREASE) IN LIABILITIES
ACCOUNTS PAYABLE AND ACCRUED EXPENSES 75,800 (291,400)
DEFERRED REVENUE (46,600) (49,200)
--------- ---------
26,500 (550,500)
--------- ---------
NET CASH USED IN OPERATING ACTIVITIES (217,200) (78,800)
INVESTING ACTIVITIES
ADDITIONS TO FIXED ASSETS (800) (70,400)
INVESTMENT IN AFFILIATE -- 110,600
--------- ---------
NET CASH PROVIDED BY (USED IN) INVESTMENT ACTIVITIES
(800) 40,200
FINANCING ACTIVITIES
ISSUANCE OF COMMON STOCK, NET 152,100 --
DEMAND LOANS -- 4,500
DEMAND LOAN REPAYMENT -- (15,000)
--------- ---------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES 152,100 (10,500)
--------- ---------
DECREASE IN CASH AND CASH EQUIVALENTS (65,900) (49,100)
CASH AND CASH EQUIVALENTS
BEGINNING OF YEAR 89,900 139,000
--------- ---------
END OF YEAR $ 24,000 $ 89,900
========= =========
SUPPLEMENTAL DISCLOSURE OF NON CASH INVESTING AND FINANCING ACTIVITIES
CONVERSION OF DEMAND LOANS AND ACCRUED INTEREST TO COMMON STOCK
DEMAND LOANS (149,900)
ACCRUED INTEREST (25,500)
COMMON STOCK 17,600
PAID-IN CAPITAL 157,800
*The accompanying notes are an integral part of these financial statements.
F-5
NOCOPI TECHNOLOGIES, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
1. ORGANIZATION OF THE COMPANY
Nocopi Technologies, Inc. (the Company) is organized under the laws of the
State of Maryland. Its main business activities are the development and
distribution of document security products and the licensing of its
patented authentication technologies in the United States and foreign
countries. The Company operates in one principal industry segment.
2. SIGNIFICANT ACCOUNTING POLICIES
ESTIMATES - The preparation of the financial statements in conformity with
Accounting Principles Generally Accepted in the United States requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent liabilities
at the dates of financial statements and the reported amounts of revenues
and expenses during the reported periods. Actual results could differ from
those estimates.
CASH AND CASH EQUIVALENTS - Cash equivalents consist principally of time
deposits and highly liquid investments with an original maturity of three
months or less placed with major banks and financial institutions. Cash
equivalents are carried at the lower of cost, plus accrued interest, or
market value and are held in money market accounts at a local bank. At
December 31, 2004, Nocopi's investments in money market accounts amounted
to $7,700.
CONCENTRATION OF CREDIT RISK INVOLVING CASH - During the year, the Company
had deposits with a major financial institution that exceeded Federal
Deposit Insurance limits. This financial institution has a strong credit
rating, and Management believes that credit risk related to these deposits
is minimal. The Company maintains uninsured cash balances at one financial
institution. At December 31, 2004, the total balance was $7,700.
FIXED ASSETS are carried at cost less accumulated depreciation and
amortization. Furniture, fixtures and equipment are generally depreciated
on the straight-line method over their estimated service lives. Leasehold
improvements are amortized on a straight-line basis over the shorter of
five years or the term of the lease. Major renovations and betterments are
capitalized. Maintenance, repairs and minor items are expensed as
incurred. Upon disposal, assets and related depreciation are removed from
the accounts and the net amount, less proceeds from disposal, is charged
or credited to income.
PATENT COSTS are charged to expense as incurred due to the uncertainty of
their recoverability as a result of the Company's adverse liquidity
situation.
REVENUES, consisting primarily of license fees and royalties, are recorded
as earned over the license term. Product sales are recognized upon
shipment of products.
INCOME TAXES - Deferred income taxes are provided for all temporary
differences and net operating loss and tax credit carryforwards. Deferred
tax assets are reduced by a valuation allowance when, in the opinion of
management, it is more likely than not that some portion or all of the
deferred tax assets will not be realized.
F-6
FAIR VALUE - The carrying amounts reflected in the balance sheets for
cash, cash equivalents, receivables, accounts payable and accrued expenses
approximate fair value due to the short maturities of these instruments.
The fair value of the settlement receivable approximates the carrying
value because of the current low interest rates that would be used in
discounting future cash flows. The fair values represent estimates of
possible value that may not be realized in the future.
EARNINGS (LOSS) PER SHARE - The Company follows Statement of Financial
Accounting Standards No. 128, "Earnings Per Share" resulting in the
presentation of basic and diluted earnings per share. Options to purchase
525,000 shares of common stock at exercise prices of $.30 and $.45 per
share were outstanding during 2003 but were not included in the
calculation of diluted earnings per share because the exercise price was
greater than the average market price of the common shares. Because the
Company reported a net loss in 2004, common stock equivalents, including
stock options and warrants were anti-dilutive.
COMPREHENSIVE INCOME (LOSS) - The Company follows Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income". Since the
Company has no items of comprehensive income (loss), Comprehensive income
(loss) is equal to net income (loss).
RECOVERABILITY OF LONG-LIVED ASSETS
The Company follows Statement of Financial Accounting Standard ("SFAS")
No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets."
The Statement requires that long-lived assets and certain identifiable
intangibles be reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of the asset may not be
recoverable. The Company is not aware of any events or circumstances which
indicate the existence of an impairment which would be material to the
Company's annual financial statements.
RECENTLY ISSUED ACCOUNTING STANDARDS
In December 2004, the FASB revised SFAS 123, "Accounting for Stock-Based
Compensation" to require all companies to expense the fair value of
employee stock options. SFAS 123R is effective for the first period ending
after December 15, 2005 for a small business issuer.
The following recently issued accounting pronouncements are currently not
applicable to the Company.
In December 2002, the FASB issued Statement of Financial Accounting
Standard No. 148 ("SFAS 148"), Accounting for Stock-Based Compensation -
Transition and Disclosure. SFAS 148 provides alternative methods of
transition for voluntary change to the fair value based method of
accounting for stock-based employee compensation. SFAS 148 also requires
prominent disclosure in the "Summary of Significant Accounting Policies"
of both annual and interim financial statements about the method used on
reported results.
F-7
In January 2003, subsequently revised December 2003, the FASB issued FASB
Interpretation No. 46R ("FIN 46R"), Consolidation of Variable Interest
Entities - An Interpretation of AARB N. 51. FIN 46R requires that if any
entity has a controlling financial interest in a variable interest entity,
the assets, liabilities and results of activities of the variable interest
entity should be included in the consolidated financial statements of the
entity. FIN 46R provisions are effective for all arrangements entered into
after January 31, 2003. FIN 46R provisions are required to be adopted for
the first period ending after December 15, 2004 for a small business
issuer.
In April 2003, FASB issued Statement of financial Accounting Standards No.
149, Amendment of Statement 133 on Derivative Instruments and Hedging
Activities ("SFAS No. 149"). SFAS No. 149 amends and clarifies accounting
for derivative instruments, including certain derivative instruments
embedded in other contracts, and for hedging activities under SFAS No.
133. SFAS No. 149 is effective for contracts and hedging relationships
entered into or modified after June 30, 2003.
In May 2003, FASB issued Statement of Financial Accounting Standards No.
150, Accounting for Certain Financial Instruments with Characteristics of
both Liabilities and Equity ("SFAS No. 150"). SFAS No. 150 establishes
standards for how an issuer classifies and measures certain financial
instruments with characteristics of both debt and equity and requires an
issuer to classify the following instruments as liabilities in its balance
sheet:
1. a financial instrument issued in the form of shares that is mandatorily
redeemable and embodies an unconditional obligation that requires the
issuer to redeem it by transferring its assets at a specified or
determinable date or upon an event that is certain to occur;
2. a financial instrument, other than an outstanding share, that embodies
an obligation to repurchase the issuer's equity shares, or is indexed
to such an obligation, and requires the issuer to settle the obligation
by transferring assets; and
3. financial instrument that embodies and unconditional obligation that
the issuer must settle by issuing a variable number of its equity
shares if the monetary value of the obligation is based solely or
predominantly on (1) a fixed monetary amount, (2) variations in
something other than the fair value of the issuer's equity shares, or
(3) variations inversely related to changes in the fair value of the
issuer's equity shares.
In November 2003, FASB issued FASB Staff Position No. 150-3 ("FAS 150-3")
which deferred the effective dates for applying certain provisions of SFAS
No. 150 related to mandatorily redeemable financial instruments of certain
non-public entities and certain mandatorily redeemable non-controlling
interests for public and non-public companies. For public entities SFAS
No. 150 is effective for mandatorily redeemable financial instruments
entered into or modified after May 31, 2003 and is effective for all other
financial instruments as of the first interim period beginning after June
15, 2003. For mandatorily redeemable non-controlling interest that would
not have to be classified as liabilities by a subsidiary under the
exception in paragraph 9 of SFAS No. 150, but would be classified as
liabilities by the parent, the classification and measurement provisions
of SFAS No. 150 are deferred indefinitely. The measurement provisions of
SFAS No. 150 are also deferred indefinitely for other mandatorily
redeemable non-controlling interests that were issued before November 4,
2003. For those instruments, the measurement guidance for redeemable
shares and non-controlling interests in other literature shall apply
during the deferral period.
F-8
On December 17, 2003, the Staff of the SEC issued Staff Accounting
bulletin No. 104 (SAB No. 104), Revenue Recognition, which supersedes SAB
No. 101, "Revenue Recognition in Financial Statements." SAB No. 104's
primary purpose is to rescind accounting guidance contained in SAB No. 101
related to multiple element revenue arrangements, superseded as a result
of the issuance of EITF 00-21, "Accounting for Revenue Arrangements with
Multiple Deliverables." Additionally, SAB No. 104 rescinds the SEC's
Revenue Recognition in Financial Statements Frequently Asked Questions and
Answers (the FAQ) issued with SAB No. 101 that had been codified in SEC
Top 13, Revenue Recognition. Selected portions of the FAQ have been
incorporated into SAB No. 104. While the wording of SAB No. 104 has
changed to reflect the issuance of EITF 00-21, the revenue recognition
principles of SAB No. 101 remain largely unchanged by the issuance of SAB
No. 104.
3. GOING CONCERN
Since its inception, the Company has incurred significant losses and, as of
December 31, 2004, had accumulated losses of $12,351,100. For the years
ended December 31, 2004 and 2003, the Company's losses from operations were
$328,500 and $441,300, respectively. In addition, the Company had negative
working capital of $499,800 at December 31, 2004. The Company may incur
further operating losses and experience negative cash flow in the future.
Achieving profitability and positive cash flow depends on the Company's
ability to generate and sustain significant increases in revenues and gross
profits from its traditional business. There can be no assurances that the
Company will be able to generate sufficient revenues and gross profits to
achieve and sustain profitability and positive cash flow in the future.
During 2004, the Company raised $161,000 ($152,100 net of offering
expenses) in a private placement whereby 1,610,000 shares of the Company's
common stock were sold to three non-affiliated individual investors
pursuant to a valid private placement. These investments, combined with the
receipt of $900,000 in June 2003 in conjunction with the settlement of its
arbitration proceedings with Euro-Nocopi, S.A. have permitted the Company
to continue in operation to the current date. As a result of the
settlement, the significant legal fees incurred in the arbitration have
been eliminated. Additionally, the Company has reduced staff and, in 2003,
completed its relocation to a new facility that it believes will enable the
Company to further reduce its operating expenses. Management of the Company
believes that it will need to obtain additional capital in the immediate
future both to fund investments needed to increase its operating revenues
to levels that will sustain its operations and to fund operating deficits
that it anticipates will continue until revenue increases can be realized.
There can be no assurances that the Company will be successful in obtaining
sufficient additional capital, or if it does, that the additional capital
will enable the Company to improve its business so as to have a material
positive effect on the Company's operations and cash flow. The Company
believes that without additional capital, whether in the form of debt,
equity or both, it may be forced to cease operations at an undetermined
future date.
The Company's independent certified public accountants have included a
"going concern" explanatory paragraph in their audit report accompanying
the 2004 financial statements. The paragraph states that the Company's
recurring losses from operations raise substantial doubt about the
Company's ability to continue as a going concern and cautions that the
financial statements do not include any adjustments that might result from
the outcome of this uncertainty.
F-9
4. DEMAND LOANS
In September 2004, the Company entered into a Conversion Agreement with
three individuals whereby demand loans in the aggregate principal amount
of $149,900 together with $25,500 of accrued interest on the demand loans
were converted into shares of restricted common stock of the Company at
$.10, the market price at the date of issue. As a result, an aggregate of
1,753,940 shares of restricted common stock were issued including 449,080
shares to Michael A. Feinstein, M.D., the Company's Chairman of the Board.
During 2003, the Company received additional unsecured loans of $4,500
from Dr. Feinstein, its Chairman of the Board and repaid $15,000 in loans
previously made by this individual. At December 31, 2003 the total demand
loans outstanding was $149,900. The loans bear interest at seven per cent
per year and were payable on demand. The loans were used to finance the
Company's working capital requirements.
5. STOCKHOLDERS' DEFICIENCY
During the third quarter of 2004, the Company sold 1,610,000 shares of its
common stock to three non-affiliated individual investors for $161,000
($152,100 net of offering expenses) pursuant to a valid private placement.
In September 2004, the Company entered into an Agreement of Terms with
Entrevest I Associates pursuant to which, as consideration for the release
of certain stock option rights to purchase up to 40,000,000 shares of the
Company's common stock and the release of the right to designate a member
to the Board of Directors, the Company agreed to issue 1,250,000 shares of
restricted common stock in the Company to Entrevest pursuant to a valid
private placement, which were valued at par. Prior to the transaction,
Entrevest I Associates owned 3,333,333 shares of common stock of the
Company. Also, as part of the Agreement, Michael Solomon has resigned from
the Board of Directors.
6. INCOME TAXES
There is no provision for income taxes for 2004 due to the availability of
net operating loss carryforwards for which the Company had previously
established a 100% valuation allowance for deferred tax assets due to the
uncertainty of their recoverability. At December 31, 2004, the Company had
net operating loss carryforwards ("NOL's") approximating $11,800,000.
These operating losses are available to offset future taxable income
through the year 2024. As a result of the sale of the Company's common
stock in an equity offering in late 1997 and the issuance of additional
shares, the amount of the NOL's carryforwards may be limited.
Additionally, the utilization of these NOL's if available, to reduce the
future income taxes will depend on the generation of sufficient taxable
income prior to their expiration. There were no temporary differences for
the years ended December 31, 2004 and 2003. The Company has established a
100% valuation allowance of approximately $4,800,000 at December 31, 2004
for the deferred tax assets due to the uncertainty of their realization.
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7. COMMITMENTS AND CONTINGENCIES
The Company conducts its operations in leased facilities and leases
equipment under non-cancelable operating leases expiring at various dates
to 2008.
Future minimum lease payments under non-cancelable operating leases with
initial or remaining terms of one year or more at December 31, 2004 are:
$36,100 - 2005; $37,600 - 2006; $39,100 - 2007 and $9,900 - 2008.
Total rental expense under operating leases was $37,700 and $101,100 in
2004 and 2003, respectively.
The Company had a consulting agreement with a former executive officer and
director, the term of which expired at December 31, 2002. The Board of
Directors of the Company, in mid-2000, suspended cash payments to the
consultant as a potential offset to certain payments made to the
consultant by a licensee of the Company. All other provisions of the
agreement remained in force throughout the term of the agreement. At
December 31, 2004, unpaid consulting fees totaling $166,300 were included
in Accrued Expenses on the Balance Sheet.
From time to time, the Company may be subject to legal proceedings and
claims that arise in the ordinary course of its business. During late 2000
and early 2001 several legal and arbitration proceedings were commenced by
the Company's former European exclusive licensee and certain of its
shareholders against the Company, certain former and present directors of
the Company and against a licensee of the Company. These proceedings were
settled during 2003 as described in Note 9.
8. STOCK OPTIONS AND 401(K) SAVINGS PLAN
The 1996 and 1999 Stock Option Plans provide for the granting of up to
2,700,000 incentive and non-qualified stock options to employees,
non-employee directors, consultants and advisors to the Company. In the
case of options designated as incentive stock options, the exercise price
of the options granted must be not less than the fair market value of such
shares on the date of grant. Non-qualified stock options may be granted at
any amount established by the Stock Option Committee or, in the case of
Discounted Options issued to non-employee directors in lieu of any portion
of an Annual Retainer, in accordance with a formula designated in the
Plan.
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A summary of stock options under the Company's stock option plans follows:
Exercise Weighted
Number of Price Range Average
Shares Per Share Exercise Price
------ --------- --------------
Outstanding at December 31, 2003 and 2002 525,000 $.30 and $.45 $.36
Options granted 1,150,000 .17 .17
Options canceled 200,000 .17 .17
Outstanding at December 31, 2004 1,475,000 $.17 to $.45 $.24
Exercise Weighted
Option Price Range Average
Shares Per Share Exercise Price
------ --------- --------------
Exercisable at year end:
2003 525,000 $.30 and $.45 $.36
2004 675,000 $.17 to $.45 $.32
Options available for future grant under all plans:
2003 2,175,000
2004 1,225,000
The following table summarizes information about stock options outstanding at
December 31, 2004:
Range of exercise prices $.17 to $.45
Number outstanding at
December 31, 2004 1,475,000
Weighted average remaining contractual life
(years) 3.18
Weighted average exercise price $.24
Exercisable options:
Number outstanding at
December 31, 2004 675,000
Weighted average remaining
Contractual life (years) 1.81
Weighted average exercise price $.32
On April 30, 2004, the Company granted options to two consultants to
purchase a total of 300,000 shares of its common stock at an exercise price
of $0.17 per share, vesting after one year, and expiring in five years. In
accordance with the fair value method as described in accounting
requirements of SFAS No. 123, the Company recognized consulting expense of
$28,000 during the year ended December 31, 2004.
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On April 30, 2004, the Company granted options to four directors to
purchase 50,000 shares each of its common stock at an exercise price of
$0.17 per share, vesting immediately, and expiring in five years. In
accordance with the fair value method as described in accounting
requirements of SFAS No. 123, the Company recognized consulting expense of
$18,000 during the year ended December 31, 2004.
On April 30, 2004, the Company granted options to four directors to
purchase 100,000 shares each of its common stock at an exercise price of
$0.17 per share, vesting on January 1, 2005, and expiring in five years
from vesting date. The options are contingent on the directors attending a
certain percentage of Board of Directors meetings during 2004. In
accordance with the fair value method as described in accounting
requirements of SFAS No. 123, The Company recognized consulting expense of
$29,000 during the year ended December 31, 2004.
On April 30, 2004, the Company granted options to two officers to purchase
a total of 250,000 shares of its common stock at an exercise price of $0.17
per share, which was the market price on grant date, expiring in five years
and vesting at various dates through April 30, 2005.
The Company applies Accounting Principles Board Opinion No. 25, "Accounting
for Stock Issued to Employees," and related interpretations in accounting
for the issuance of its stock options. Accordingly, no compensation cost
has been recognized for its stock options issued during the year ended
December 31, 2004. Had compensation cost for the Company's issuance of
vested stock options been determined based on the fair value at grant dates
for options consistent with the method of SFAS No. 123, the Company's net
loss would have been increased to the pro forma amounts indicated below.
The net loss per share would not change. Fair value amounts were estimated
using the Black-Scholes model with the following assumptions: no dividend
yield, expected volatility of 60%, and a risk-free interest rate of 4% for
the year ended December 31, 2004. There were no options issued for the year
ended December 31, 2003.
Year Ended Year Ended
December 31, 2004 December 31, 2003
----------------- -----------------
Net loss As reported ($339,000) $458,800
Pro forma ($362,000) $458,800
Net loss per share As reported ($.01) $0.01
Pro forma ($.01) $0.01
At December 31, 2004, the Company has reserved 2,700,000 shares of common
stock for possible future issuance upon exercise of stock options. The
Company sponsors a 401(k) savings plan, covering substantially all
employees, providing for employee and employer contributions. Employer
contributions are made at the discretion of the Company. There were no
contributions charged to expense during 2004 or 2003.
9. SETTLEMENT OF ARBITRATION WITH AFFILIATE
In June 2003, the Company settled its arbitration proceeding commenced by
Euro-Nocopi, S.A. (Euro). Under the terms of the settlement, Euro paid
$900,000 to Nocopi and will pay an additional $200,000 in the future for
back royalties and all other matters in dispute between the two companies,
as well as the termination of Nocopi's 18% ownership of Euro. As part of
the Settlement, the Company and Euro entered into an amended and restated
license pursuant to which the Company has agreed that Euro may continue to
market the Company's technologies in Europe. The $200,000 is being paid in
four equal annual installments which commenced in March 2004. The Company
recorded a net settlement of $909,400 in 2003 representing the proceeds of
the settlement net of the Company's $110,600 investment in Euro and legal
expenses incurred during 2003 related to the arbitration.
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10. MAJOR CUSTOMER INFORMATION
The Company's largest non-affiliate customers accounted for approximately
52% and 49% of revenues in 2004 and 2003, respectively, and approximately
53% of accounts receivable at December 31, 2004. The Company performs
ongoing credit evaluations of its customers and generally does not require
collateral. The Company also maintains allowances for potential credit
losses.
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