Nano Magic Inc. - Annual Report: 2006 (Form 10-K)
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-K
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ý
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Annual
report under Section 13 or 15(d) of the Securities Exchange Act of
1934
for the fiscal year ended
December
31, 2006; or
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¨
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Transition
report under Section 13 or 15(d) of the Securities Exchange Act of
1934
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COMMISSION
FILE NO. 1-11602
NANO-PROPRIETARY,
INC.
(Exact
name of registrant as specified in its charter)
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TEXAS
(State
of Incorporation)
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76-0273345
(IRS
Employer Identification Number)
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3006
Longhorn Boulevard, Suite 107, Austin, Texas 78758
(Address
of principal executive office, including Zip Code)
Registrant's
telephone number, including area code: (512)
339-5020
Securities
registered pursuant to Section 12(b) of the Exchange Act:
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Title
of each class
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Name
of Each Exchange on Which Registered
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Common
Stock, $0.001 par value
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OTC
Bulletin Board
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Securities
registered pursuant to Section 12(g) of the Exchange Act: None
Indicate
by check mark if the registrant is a well-known seasoned issuer as defined
in
Rule 405 of the Securities Act. Yes ¨
No þ
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act. Yes ¨
No þ
Indicate
by check mark whether the registrant: (1) has filed all reports required to
be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 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 þ
No ¨
Indicate
by check mark if disclosure of delinquent filers in response to Item 405 of
Regulation S-K is not contained in this form and will not 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-K or any amendment to
this
Form 10-K. ¨
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer.
Large
Accelerated Filer ¨
Accelerated Filer þ
Non-Accelerated Filer ¨
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).
Yes ¨
No þ
The
aggregate market value of the Common Stock held by non-affiliates of the
Registrant, based upon the average of the closing bid and asked price of the
Common Stock on the OTC Bulletin Board system on June 30, 2006 of $1.76, was
approximately $176 million.
As
of February 28, 2007, the registrant had 104,258,982 shares of Common Stock
issued and outstanding.
Documents
Incorporated by Reference
No
documents are incorporated by reference into this annual report on Form
10-K
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Page
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Part
I.
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PART
II
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19
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26
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50
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51
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PART
III
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52
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55
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63
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65
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PART
IV
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67
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Important
Information Concerning Forward-Looking Statements
Our
disclosure and analysis in this report contains some forward-looking statements.
Forward-looking statements give our current expectations or forecasts of future
events. They use words such as “anticipate”, “believe”, “expect”, “estimate”,
“project”, “intend”, “plan”, and other words and terms of similar meaning in
connection with any discussion of future operating or financial performance.
In
particular, these include statements relating to future actions, prospective
products or product approvals, future performance or results of current and
anticipated products, sales efforts, expenses, the outcome of contingencies
such
as legal proceedings, and financial results. From time to time, we also may
provide oral or written forward-looking statements in other materials we release
to the public.
Any
or all of our forward-looking statements in this report and in any other public
statements we make may turn out to be wrong. They can be affected by inaccurate
assumptions we might make, or by known or unknown risks or uncertainties. Many
factors mentioned in the risk factors are important in determining future
results. Consequently, no forward-looking statement can be guaranteed. Actual
future results may vary materially.
We
undertake no obligation to publicly update any forward-looking statements,
whether as the result of new information, future events, or otherwise. You
are
advised, however, to consult any further disclosures we make on related subjects
in our 10-Q, 8-K, and 10-K reports to the SEC. Also note that we include a
cautionary discussion of risks, uncertainties, and possibly inaccurate
assumptions relevant to our business. These are factors that we think could
cause our actual results to differ materially from expected and historical
results. Other factors besides those listed here could also adversely affect
us.
PART
I.
When
used in this document, the words “anticipate”, “believe”, “expect”, “estimate”,
“project”, “intend”, “plan”, and similar expressions are intended to identify
forward-looking statements. Such statements are subject to certain risks,
uncertainties, and assumptions. Should one or more of these risks or
uncertainties materialize, or should underlying assumptions prove incorrect,
actual results may vary materially from those anticipated, believed, expected,
estimated, projected, intended, or planned. For additional discussion of such
risks, uncertainties, and assumptions, see “Important Information Concerning
Forward-Looking Statements” included at the beginning of this report and “Risk
Factors” beginning on page 10 of this report.
Item
1. Business.
DESCRIPTION
OF BUSINESS
General
We
are a nanotechnology company engaged in research based primarily on unique
applications of carbon nanotube technology. Our research is based on
intellectual property and expertise that we have developed over the years.
As
part of our research we perform services for others and develop products and
materials based on this intellectual property. Our ultimate goal is to generate
sustainable recurring revenues by licensing our technology to others.
We
were incorporated in Texas in 1987 and completed our initial public offering
in
1993. Our initial focus was on a next generation display technology called
field
emission display (“FED”). The majority of our research over the years has been
related to FED technology, and we have accumulated significant intellectual
property in this area. FED technology has evolved significantly over the life
of
the company, and we have been at the forefront of that evolution, accumulating
intellectual property at each step of the way. We believe our intellectual
property will be required by any entity that develops a display using FED
technology. As discussed in greater detail under the heading “Electron emission
activities”, our FED technology includes both carbon nanotube based field
emission displays and thin-film based field emission technology, such as the
technology recently introduced by Canon and Toshiba referred to as
SED.
While
focusing primarily on FED technology, in the past several years we have
performed research in many other areas. Much of this research was an outgrowth
of our work in the FED area. This research was either related to other display
technologies, used processes learned while we were working with FED technology,
used raw materials used in our FED research, or capitalized on other unique
capabilities within our organization. As a result we have developed significant
intellectual property in other areas beyond that solely related to the FED
technology. At present, we have over 300 total U.S. and foreign patents,
including 113 issued, 130 pending, and 39 provisional.
Business
Model
We
are first and foremost a research and development company. We have an extensive
portfolio of intellectual property that we have developed over the years, and
we
intend to develop a portfolio of recurring revenue streams by licensing our
intellectual property to others.
Much
of our intellectual property relates to next-generation technologies that are
not in wide current use and as such, additional development work is required
before products can be manufactured using these technologies. Our research
and
development efforts occur across a continuum moving from concept to
commercialization as follows:
Concept
→ Laboratory → Development → Pilot /Introduction →
Commercialization
To
aid in the process of moving our technologies from concept to commercialization,
we frequently perform funded research for both government entities and large
corporations. This enables us to focus our resources in areas that have the
highest level of interest to others, and thus the highest probability for
commercialization.
Page
1
Research
and Development
As
a result of our focus on developing and protecting our intellectual property,
we
spend significant amounts on research and development. We spent $3,590,148,
$2,635,412, and $2,737,029 on research and development in the years ended
December 31, 2006, 2005, and 2004, respectively. This represents approximately
41%, 41%, and 37% of our total operating costs and expenses in each of those
years. We expect to continue to invest heavily in research and development,
and
we expect our research and development costs for 2007 to be approximately 50%
of
our operating costs.
Business
Segments
Our
operations currently consist of three reportable business segments.
Applied
Nanotech, Inc.
ANI is the main focus of our efforts. It was incorporated in January 1997 and
is
developing our proprietary carbon nanotube and related technologies.
Accordingly, our research is focused in the broad area of carbon nanotube
technology and its application to the display, electronics, sensor, medical,
and
other industries. Our development plans for our technologies are discussed
later in this report.
Electronic
Billboard Technology, Inc.
EBT was incorporated in January 1997 and initially focused on developing
sun-readable display products for outdoor use. Its primary product
initially was an electronic billboard that would enable the outdoor advertising
industry to exploit the Internet and information revolution by placing ads
at
different locations at different times. The focus of EBT was rapidly shifted
to
displays for indoor use that could be used as part of an overall point of
purchase advertising program. We developed a patented product called the
E-Window™, as well as patents surrounding the process of communicating with
electronic displays for the purpose of placing advertisements. In 2002, we
restructured EBT and stopped selling products directly and instead limited
ourselves to licensing our intellectual property. We did this to focus on our
business at ANI, which had higher short run potential and was less capital
intensive. In 2006, we sold EBT’s intellectual property in two simultaneous
transactions. This is discussed in greater detail below. To the extent that
EBT
is basically inactive, information relative to this segment may not be that
meaningful.
Other.
We also incur general overhead to operate that is not associated with any
specific
subsidiary
or other segment. This overhead is the approximate cost of being a public
company, which is the amount in excess of that which might be incurred by a
private company performing these same activities.
Following
is a summary of revenues, net loss from continuing operations, and total assets
for each segment for each of the last three years.
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2006
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2005
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2004
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Revenues
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||||||||||
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ANI
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$
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1,116,670
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$
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565,660
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$
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382,522
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||||
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EBT
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$
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—
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$
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—
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$
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—
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||||
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Other
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$
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—
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$
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—
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$
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—
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||||
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Total
Revenues
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$
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1,116,670
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$
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565,660
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$
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382,522
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||||
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Net
loss from continuing operations
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ANI
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$
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(6,113,472
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)
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$
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(4,326,467
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)
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$
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(4,931,370
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)
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EBT
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$
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933,720
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$
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(3,734
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)
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$
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(7,499
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)
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Other
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$
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(1,418,867
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)
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$
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(1,488,615
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$
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(2,200,240
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)
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Total
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$
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(6,593,892
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)
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$
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(5,818,816
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$
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(7,139,109
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)
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Assets
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ANI
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$
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1,101,205
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$
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301,870
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$
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310,005
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||||
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EBT
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$
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—
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$
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—
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$
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—
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||||
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Other
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$
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1,592,237
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$
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886,111
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$
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834,363
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||||
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Total
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$
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2,693,442
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$
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1,187,981
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$
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1,144,368
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Page
2
Applied
Nanotech, Inc.
Overall
We
are a nanotechnology company focusing our efforts on research, development
of
proof of concepts for proposed products, and licensing our technology to others.
We are developing world-class technologies that generally fall under one of
four
technology platforms.These platforms are:
| · |
Electron
emission activities, primarily in the display
area
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| · |
Sensor
technology
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| · |
Functional
nanomaterials
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| · |
Nanoelectronic
applications
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We
intend to license our technology to others to allow them to manufacture products
using our technology. We have no plans to establish any manufacturing facilities
in the foreseeable future, and manufacturing is not a part of our core
strategy. To the extent that manufacturing capabilities are needed for products
using our technology, we intend to use manufacturing partnerships, joint
ventures, or arrange to have products manufactured through contract
manufacturers.
Electron
Emission Activities
Our
main focus for virtually the entire life of Nano-Proprietary has been on Field
Emission Display (“FED”) technology. We have performed extensive research and
accumulated significant intellectual property in this area. Field emission
display is a next generation display technology that is ideally suited for
use
in large flat screen televisions, with “large” being defined as 50-inch diagonal
or greater. TVs using FED technology are intended to compete with and improve
on
the plasma, projection, and CRT displays currently available in the large screen
TV market. FED technology can also be used for large outdoor electronic displays
in products such as roadside billboards, stadium displays, and other outdoor
electronic signs. We have developed a broad patent portfolio covering numerous
aspects of FED technology.
Carbon-nanotube
based large area flat screen color field emission
displays.
Because of cost advantages carbon nanotubes are currently the preferred method
in the display industry for construction of large area flat screen color TVs
using FED technology. As
discussed in more detail in the Technology Agreements section below, we licensed
6 patents from Till Keesmann in 2000. These patents are basic patents covering
the use of emissions from carbon nanotubes. The U.S. Patent (No.
RE38,223 E)
was reissued in August 2003. This reissuance significantly strengthened and
reinforced the basic nature of this patent. It is our belief that any company
using carbon nanotubes in an emission mode, regardless of application, will
be
required to license this, and other patents from us. No companies have yet
obtained the right to use this patent from us. As discussed in Item 3 to this
Annual Report on Form 10-K, the Keesmann agreement is currently the subject
of
litigation. We have an equally significant patent that we refer to as the Raman
Spectrum patent. This patent is also a basic patent. It is broader than the
Keesmann patent in that it covers all carbon-based FEDs, regardless of whether
the emission is from carbon nanotubes, carbon films, or other forms of
carbon.
Other
companies are developing large area color TVs that may be, in part, based on
our
carbon nanotube based field emission technology. Companies including Samsung,
Dupont, Noritake, Motorola, and others have made public announcements related
to
the development of large area carbon nanotube based field emission displays,
or
manufacturing processes for such displays. To the extent that these companies,
or any other companies, bring a TV to market using carbon nanotube based field
emission display technology, they would be required to license one or more
of
our patents.
We
have also developed our own proofs of concepts of carbon nanotube based field
emission display TVs. We currently have both a 14-inch monochrome and a 14-inch
color proof of concept that we built internally. We have also developed a
25-inch color proof of concept in conjunction with a consortium of Japanese
component manufacturers. Each member of the consortium contributed its own
particular expertise to the proof of concept at its own expense. The purpose
of
the 25-inch color proof of concept was to demonstrate that scalability is not
an
issue with the carbon nanotube-based field emission display. It was built to
specifications enabling it to be expanded to a 60-inch display; however, it
was
built at 25 inches due to cost considerations. In 2006 we signed a letter of
intent with Da Ling Co. Ltd, a corporation based in Taiwan, to enter into an
agreement to form a joint venture to construct and operate a pilot line for
a
carbon nanotube television using our technology and processes. A final agreement
has not been reached but discussions are ongoing.
Page
3
Other
large area flat screen color field emission displays.
Canon, Inc. and Toshiba have jointly developed a large area flat screen color
TV
based on our FED technology. Canon and Toshiba have announced that they have
formed a joint venture to manufacture components for this TV, have constructed
a
manufacturing line, and demonstrated their product on many
occasions.
We signed a non-exclusive license with Canon in 1999 that covered substantially
all of our field emission patents, but excluded the basic carbon nanotube patent
and specific applications for the other field emission display patents
including, but not limited to, large area color displays. The license agreement
with Canon was terminated in 2006 as a result of Canon’s breach of contract and
is currently the subject of litigation. See Item 3 of this Annual Report on
Form10-K for further information on this litigation.
HyFED™
-
We have developed a new display technology that we call the HyFED™. We expect
the HyFED™ to be phased in as an improvement to the way our FED technology will
be used in the large area color displays previously described. HyFED™ combines
what we believe to be the best properties of CRTs and our field emission
technology. We expect the HyFED™ to significantly cut the cost of the drivers
used in a field emission display. Work on the HyFED™ has been frozen until our
basic FED technology is being used in the production of large area color TVs.
We
expect to license our HyFED™ technology in the future, although there is no
assurance that this will occur.
Backlights
for displays. Our
carbon nanotube technology is ideally suited to be used as a backlight for
other
types of displays, such as LCDs. Use of CNTs in backlights would improve the
luminious efficiency at lower power levels and eliminate the use of mercury
and
its related negative environmental impacts. We have developed a proof of concept
using our proprietary functionalized CNTs as a backlight for an LCD, and we
expect to continue performing significant research in this area in 2007. Many
other companies have also performed research in this area. Successful
development of a backlight device using carbon nanotubes by anyone will require
a license to our intellectual property.
PETS
for medium resolution large area electronic billboards-
The PET, or Picture Element Tube, is a basic display device that could be used
in many applications in addition to electronic billboards. The carbon nanotube
field emission technology provides several advantages over the existing
technologies used in these areas. It generally has a higher image quality,
better sunlight readability, lower cost, lower energy usage, improved viewing
angle and excellent video capabilities. We do not intend to manufacture these
PETs ourselves, but rather license other manufacturers to produce them. We
have
currently licensed a previous version of field emission display technology
that
is not based on carbon nanotubes to a large Japanese display manufacturer that
is now working internally to complete development of the product. This license
calls for royalties of 2% of the licensee’s sales of products using our
technology. The licensee will receive credit against royalties due under the
agreement for $2 million of research funding that the licensee provided to
us
from 2001 to 2003. Accordingly, no royalties will be due under the agreement
until sales of the licensee’s products exceed $100 million.
Lighting
Devices. We
have been working with Shimane Masuda Electronics, Co., Ltd. (“SME”) on carbon
nanotube lighting devices since 2004. In 2005, SME established a pilot line
for
the development and production of carbon nanotube electron emission based
lighting devices. Upon successful completion of the pilot period in 2006, SME
entered into a license agreement covering a limited geographical area with
us.
Under this agreement, in addition to an upfront payment of approximately $84,000
which we received in 2006, we will receive an additional payment of
approximately $125,000 when SME begins production, and we will receive a royalty
of 5% of SME’s sale of products that use this technology. The initial product
being developed by SME is for a specific application for an existing customer;
however, SME is expected to develop additional products once the initial product
is introduced. Under the license agreement, SME is currently limited to
manufacturing in Japan and sales in Asia.
Competition.
Because
of the strength of our intellectual property in the FED area, our competition
comes from other technologies, rather than other companies. Any company
developing a carbon nanotube based FED large area flat screen color TV will
be
required to license our patents. There are other companies attempting to develop
non-carbon nanotube based field emission display technologies. It is our opinion
that these technologies will not be as cost efficient or demonstrate as high
a
level of brightness as the field emission technology using forms of carbon,
whether carbon nanotube based or other carbon based methods such as the SED.
However, even companies developing these non-carbon based field emission
displays may be required to license other portions of our patent portfolio
in
order to bring a product to market.
In
the large area flat screen color TV industry, the primary competition comes
from
plasma panel displays, LCD displays, organic LED displays, and color picture
tubes. We believe FED technology, when fully developed, will primarily compete
with plasma displays and LCD displays, and generally compares favorably visually
and technically with both types of displays. In addition, carbon nanotube based
field emission displays are expected to be less costly than plasma displays.
LCD
displays have quality issues related to the viewing angle and are generally
not
economical once the size exceeds 45 inches, and therefore are not considered
strong competition because our technology is targeted at displays greater than
50 inches. Several companies are currently developing backlights for LCDs using
carbon nanotubes. Successful development of a carbon nanotube backlight would
require a license to our intellectual property.
Page
4
Sensors
Overview.
We
have greatly expanded our work and intellectual property in the area of sensor
technology. This is becoming an increasingly important part of our business,
and
we expect it to become even more important in the future. Our approach to sensor
technology offers the unique advantage of manipulating materials at the
molecular level at which sensing events occur. We are pursuing a multiplatform
approach to address specific market needs. Some of the potential applications
are as follows:
Biosensors.
Our carbon nanotube technology is ideally suited for use in biosensors. Sensors
based on carbon nanotubes or other nanomaterials can be used to detect chemical,
organic, or biological warfare agents, as well as explosives, hydrogen, ammonia
and numerous other chemicals. We have developed several proof of concepts
demonstrating the viability of our sensor technology, and are currently seeking
development partners to license the technology and integrate it into specific
products.
Hydrogen
sensors.
These sensors are targeted for use in fuel cells for automobiles and for remote
monitoring of large power transformers. We developed a hydrogen sensor in for
use in the measurement of hydrogen in power transformer products. A significant
portion of this work was done in conjunction with Kelman, Ltd., an international
company that operates primarily in the area of power products, transformer
services, and emission monitoring products. Almost all power transformer
products throughout the world fall into one of two categories - those involving
oxygen or those involving nitrogen. The sensor that we developed works well
in
transformers involving oxygen, but not in those involving nitrogen. Kelman
was
interested only in a universal solution. We believe that we have a potential
universal solution; however, that solution will take additional development,
and
Kelman is not interested in sharing the cost of that development. As a result,
we are no longer working with Kelman, and it is unlikely that our technology
will ever be used in Kelman products. We are exploring relationships with sensor
manufacturers for the application of our technology.
Carbon
Monoxide Sensors. We
have developed a carbon monoxide sensor that is based on a “gated” metal oxide
approach that allows the sensor to operate without heating, as compared with
most carbon monoxide sensors that require heating to greater than 250 degrees
Celsius. Our approach to the carbon monoxide sensor allows the sensor to operate
at low power with instant-on operation. The sensor will be specific to carbon
monoxide with no cross sensitivity to other gases and elements and is also
easily portable and highly sensitive. We completed a phase I SBIR and are now
working on a phase II project for the U.S. Air Force. When completed, we expect
to be able to license our technology for both commercial and government
purposes.
Other
sensors.
We have demonstrated that carbon nanotubes can be used to develop sensors for
chemical, organic, and biological warfare agents. We have also demonstrated
that
carbon nanotubes and other nanodetectors can be used for the remote detection
of
explosives, sensors used in environmental monitoring, health care, the food
industry, biotech-biopharma applications, genetic biosensors, and immunosensors.
We are currently seeking funding to take our research in this area to the next
level of development, which would include proofs of concept, and product
development. Ideally, we would do this with a development partner that would
fund the development and license the technology for manufacturing upon
completion, or in conjunction with a development partner under a government
funding program. We most likely would have different development partners for
different sensors that may be used in different industries.
Competition.
Our
competition in the sensor area will come from a variety of technologies and
companies depending on the purpose and use of the sensor. There are other
technologies used in sensors; however, we believe carbon nanotube based sensors
and other nanodetectors are more versatile, can sense a broader range of
materials, and are more selective (sensitive) in their sensor results. We
believe that selecting the right strategic partners for development of proof
of
concepts for our sensor technology is an important step in the market acceptance
of sensors using our technology.
Functional
Nanomaterials
We
are in the advanced stages of research into nanomaterials using carbon nanotube
and other composites. We believe that some of the first widespread use of
nanotechnology by established companies will be in this area as they work to
improve existing products, materials, and processes. A significant opportunity
exists in this area for us to develop and license our technology. We are
currently exploring opportunities with several companies in this
area.
Page
5
Shimane
Institute of Technology.
We completed a preliminary research and development agreement with Shimane
Institute for Industrial Technology (SIIT) to develop a new aluminum alloy
using
carbon nanotubes that has thermal conductivity 4-5 times greater than aluminum
metal. SIIT is a technology organization fully supported by the government
of
Shimane Prefecture, Japan. We are beginning a second phase of the project in
2007. Applications include any microelectronic device that generates heat,
including circuit boards for computers and high powered radar. These alloys
can
also improve the strength of the aluminum without adding weight.
Photoscrub™
Technology. We
developed a concept called Photoscrub™ which is based on an air purification
technology originally developed by one of our strategic partners, Andes Electric
Co., Ltd. The Photoscrub™ is a thin film coating on a flexible fiberglass cloth
that decomposes pollutants at the molecular level in liquids and gases. We
began
a one year project to further develop this technology for the U.S. Army in
November 2006 and will receive approximately $950,000 in funding for the
project.
Large
Sporting Goods Manufacturer. In
September 2005, we signed a development contract with a large sporting goods
manufacturer to develop nanocomposites to be used in the manufacturer’s sporting
equipment. The goal of the project, which involved three separate areas, was
to
improve the existing base materials currently used by the manufacturer to make
the equipment stronger, lighter, and more powerful. We received $240,000 for
the
initial phase of the project, which was successfully completed in September
2006
and achieved the initial specifications required. In December 2006, we began
a
follow up project funded by the sporting goods manufacturer to integrate these
improved materials into the manufacturing process. We expect to sign license
agreements as we complete the projects.
Competition.
Since
this is a developing area of nanotechnology, there are not established
competitors. Our competition would come from companies working with other
materials. Since each project is unique, there are not necessarily any
established competitors in the market.
NanoElectronic
Applications
We
are working in several other areas that have grown out of our basic work in
the
FED area. These technologies are related to previously discussed applications
in
that they use common materials, such as carbon nanotubes, use similar processes,
capitalize on knowledge that we have gained in our research in other areas,
or
take advantage of unique capabilities of our technical staff. Following is
a
summary of some of these technology areas.
Conductive
Inks. We
entered into a research and development agreement in 2006 with a leading
industrial chemical products company in Japan to develop technical inks that
can
be deposited using an additive process such as printing. The target market
for
technical inks are printed circuit boards, flexible electronics and displays,
communications instrumentation, and RFIDs. This project started in October
and
is expected to last roughly one year. We will receive $500,000 for the
project.
Cathodes.
We developed a carbon nanotube cold cathode electron source, which can be
utilized for many non-display related applications such as x-ray tubes, medical
devices, microelectronics, low-power thrusters, CRT electron guns, wireless
communications, and polluted air scrubbing.
Memory
Chips.
We had a license option agreement with the University of Texas at Austin to
further the development of a next generation memory chip using the university’s
information storage technology based on thin photo-conductive films. The
ultimate goal was to make a low cost non-volatile memory device with increased
capacity. We demonstrated an initial proof of concept of the technology;
however, we discontinued our work on this project in 2006 when there was no
longer any outside interest in funding the project.
Competition.
Numerous
other companies are working with other technologies with the goal of achieving
results similar to the goals of our technology. The ultimate success of products
using our technology will be dependent upon the results of our research compared
with results achieved by others.
Page
6
EBT
Electronic
Display Products.
EBT was formed to develop sun-readable display products for outdoor use.
We quickly expanded our focus to large area displays for indoor use that would
compete with Plasma and could be used as part of an overall point of purchase
advertising program and developed a patented product called the E-Window™. We
restructured EBT, stopped selling products directly, and instead limited
ourselves to licensing our intellectual property. As discussed below, we sold
EBT’s intellectual property in 2006.
Communication
patents.
We have applied for patents covering a system of selling advertising for
electronic displays over the internet and other digital networks. The first
of
the patents, which was filed in April 2000 with a priority date of April 1999,
was issued in 2006. The allowed claims on this patent relate to methods, systems
and computer programs that facilitate displaying advertising information on
multiple indoor or outdoor electronic displays. There are also applied for
similar patents and have applications pending in Europe, Canada, Korea, and
Japan. As discussed below, we sold these patents in 2006.
Sale
of Intellectual Property.
In 2006 we began discussions related to licensing our communication patents
referred to above. Those discussions culminated in the sale of EBTs intellectual
property in two simultaneous transactions to Novus Communications Technologies,
Inc. in June 2006. In the first transaction, we sold our communications patents
to Novus Partners, LLC, a majority owned subsidiary of Novus Communications.
We
received an upfront payment of $1,000,000 and the right to future royalties
based on the revenue received by Novus Partners. The agreement also contains
certain provisions related to future minimum royalty payments, which if not
met,
cause the patents to revert back to EBT. There are no minimum royalty payments
due in 2007.
In
the second transaction, we sold EBT’s remaining intellectual property and other
assets, which consisted solely of items related to the intellectual property,
such as drawings, etc. to Novus Displays, LLC, a newly formed organization
owned
by Novus Communications. In exchange for the remaining Intellectual property,
we
received $500,000 and a 25% ownership interest in Novus Displays. One of the
patents that we sold in this transaction was a patent that had been assigned
to
us by Advanced Technology, Incubator, Inc. (“ATI”), a company owned by Dr. Zvi
Yaniv, our Chief Operating Officer. In order to acquire the remaining interest
in the patent and settle all potential future obligations to ATI, we issued
200,000 shares of our common stock, valued at $400,000 to ATI. Dr. Yaniv also
received a 5% ownership interest in Novus Displays as part of the
transaction.
Future
Activities.
EBT’s future activities are limited to participation in the digital signage
industry through Novus Communications. Our communication patents are part of
a
larger package of related patents held by Novus Partners and any future income
that we may receive is dependent on the ability of Novus Partners to license
that patent package. At the present time, it is our understanding that Novus
Partners has no revenue producing license agreements. We did not receive any
royalties in 2006 from Novus Partners beyond the initial payment, and we will
not receive any royalties from Novus Partners until such time as they do have
revenue producing agreements. While we anticipate receiving income in 2007,
we
have no control over, or input into, the licensing activities of Novus
Partners.
Our
ownership interest in Novus Displays is a passive ownership interest and we
have
no active role in the day to day management. Our sale of our remaining
intellectual property to Novus Displays was done to facilitate the sale of
our
communications patents to Novus Partners. We had no interest in devoting further
resources to development of that technology. The sale to Novus Displays provided
us the opportunity to receive additional future value from that technology,
if
it is successfully deployed by Novus Displays. We will receive no income from
Novus Displays and only profit from an eventual sale of Novus Displays, if
it
occurs. To the best of our knowledge, Novus Displays has not yet been
capitalized beyond its initial minimal capitalization and is not yet actively
developing any of the technology acquired from us, or carrying on any
significant business activities.
Technology
Agreements
Till
Keesmann. We
have licensed certain patents related to carbon nanotube technology from Till
Keesmann (“the Keesmann patents”). We licensed 6 patents, including foreign
filings, in 2000 in exchange for a payment of $250,000. The U.S. patent was
reissued in August 2003. This reissuance significantly strengthened and
reinforced this patent. Under the terms of the agreement, we are obligated
to
pay license fees equal to 50% of any royalties received by the Company
specifically related to these patents. We are allowed to offset certain
expenses, up to a maximum of $50,000 per year, against payments due under this
agreement. The agreement also contains provisions related to minimum license
fee
payments, certain of which were deferred by Mr. Keesmann until after the
reissuance of the patent was completed. A total of $1,000,000 of minimum
payments has been made, with the last payment made in May 2004. No future
minimum payments are due and the minimum payments made to date can be offset
against future royalties due under the license agreement. As
described in more detail in Item 3 of this Annual Report on Form 10-K, this
agreement is the subject of current litigation.
Page
7
MCC. We
acquired 62 patents and patent applications related to the carbon film based
field emission technology from MCC in 1998. We are obligated to pay MCC a
royalty of 2% of future commercial revenues related to these patents. We can,
however, offset certain pre-defined expenses against these royalty payments.
Based on the expenses incurred and cost of maintaining the patents, the
possibility is remote that we will be required to pay MCC any royalties at
any
time in the future.
Intellectual
Property Rights
An
important part of our product development strategy is to seek, when appropriate,
protection for our products and proprietary technology through the use of
various United States and foreign patents. Our patent portfolio consists of
over
300 patents, including 113 issued patents, 2 allowed patents, 130 patent
applications pending before foreign and United States Patent and Trademark
Offices, and 39 provisional patent applications. We also have several
unsubmitted patent applications in process. The patents, allowances and
applications relate to carbon nanotube field emission technology and other
technologies. In addition, there are foreign counterparts to certain United
States patents and applications. We consider our patent portfolio to be our
most
valuable asset.
The
patenting of technology-related products and processes involves uncertain and
complex legal and factual questions. To date, no consistent policy has emerged
regarding the breadth of claims of such technology patents. Therefore, there
is
no assurance that our pending United States and foreign applications will issue,
or what scope of protection any issued patents will provide, or whether any
such
patents ultimately will be upheld as valid by a court of competent jurisdiction
in the event of a legal challenge. Interference proceedings, to determine
priority of invention, also could arise in any of our pending patent
applications. The costs of such proceedings would be significant and an
unfavorable outcome could result in the loss of rights to the invention at
issue
in the proceedings. If we fail to obtain patents for our technology, and are
required to rely on unpatented proprietary technology, there is no assurance
that we can protect our rights in such unpatented proprietary technology, or
that others will not independently develop substantially equivalent proprietary
products and techniques, or otherwise gain access to our proprietary
technology.
Competitors
have filed applications for, or have been issued patents, and may obtain
additional patents and proprietary rights relating to products or processes
used
in, necessary to, competitive with, or otherwise related to, our patents. The
scope and validity of these patents, the extent to which we may be required
to
obtain licenses under these patents, or under other proprietary rights and
the
cost and availability of licenses are unknown. This may limit our ability to
license our technology. Litigation concerning these or other patents could
be
protracted and expensive. If suit were brought against us for patent
infringement, a challenge in the suit by us as to the validity of the other
patent would have to overcome a legal presumption of validity. There can be
no
assurance that the validity of the patent would not be upheld by the court
or
that, in such event, a license of the patent to us would be available. Moreover,
even if a license were available, the payments that would be required are
unknown and could materially reduce the value of our interest in the
affected products. We do, however, consider our patents to be very strong and
defendable in any action that may be brought against us. A major law firm has
reviewed our patent portfolio and agreed to handle litigation related to certain
of our patents on a contingency basis.
We
also rely upon unpatented trade secrets. No assurances can be given that others
will not independently develop substantially equivalent proprietary information
and techniques or otherwise gain access to our trade secrets or disclose such
technology or that we can meaningfully protect our rights to our unpatented
trade secrets.
We require
our employees, directors, consultants, outside scientific collaborators,
sponsored researchers, and other advisors to execute confidentiality agreements
upon the commencement of employment or consulting relationships with us. These
agreements provide that all confidential information developed or made known
to
the individual during the course of the relationship is to be kept confidential
and not disclosed to third parties except in specific circumstances. In the
case
of employees, the agreements provide that all inventions conceived by the
individual shall be our exclusive property. There is no assurance, however,
that
these agreements will provide meaningful protection for our trade secrets in
the
event of unauthorized use or disclosure of such information.
Page
8
Government
Regulation
Products
using our technology will be subject to extensive government regulation in
the
United States and in other countries. In order to produce and market existing
and proposed products using our technology, our licensees must satisfy mandatory
safety standards established by the U.S. Occupational Safety and Health
Administration ("OSHA"), pollution control standards established by the U.S.
Environmental Protection Agency ("EPA") and comparable state and foreign
regulatory agencies. We may also be subject to regulation under the Radiation
Control for Health and Safety Act administered by the Center for Devices and
Radiological Health ("CDRH") of the U.S. Food and Drug Administration. We do
not
believe that carbon nanotube field emission products will present any
significant occupational risks to the operators of such equipment. In
addition, the carbon nanotube field emission products are not expected to
produce significant hazardous or toxic waste that would require extraordinary
disposal procedures. Nevertheless, OSHA, the EPA, the CDRH and other
governmental agencies, both in the United States and in foreign countries,
may
adopt additional rules and regulations that may affect us and products using
our
technology. Additionally, our arrangements with our licensees and their
affiliates may subject products using our technology to export and import
control regulations of the U.S. and other countries. The cost of compliance
with
these regulations has not been significant in the past and is not expected
to be
material in the future.
A
portion of our revenue has consisted of reimbursement of expenditures under
U.S.
government contracts. We recognized $583,236 of revenue in 2006, $208,211 in
2005, and $305,721 in 2004, related to government contracts. These
reimbursements represent all or a portion of the costs associated with such
contracts. As of December 31, 2006, we have several grants in process that
have
approximately $2.3 million of revenue yet to be recognized. Government contracts
are subject to delays and risk of cancellation. Also, government contractors
generally are subject to various kinds of audits and investigations by
government agencies. These audits and investigations involve review of a
contractor's performance on its contracts, as well as its pricing practices,
the
costs it incurs and its compliance with all applicable laws, regulations and
standards. We are, and in the future expect to be, audited by the
government.
Employees
As
of February 28, 2007 we had 35 full-time employees, including 3 executive
officers. Within the next twelve months, based on new government contracts
that
we have received and expect to receive, we likely will hire two to four
additional employees to support our plans for increasing research levels. We
are
not subject to any collective bargaining agreements and we consider our
relations with our employees to be good.
Available
Information
Our
website is http://www.nano-proprietary.com.
Our periodic reports and all amendments to those reports required to be filed
or
furnished pursuant to Section 13(a) or Section 15(d) of the Securities Exchange
Act of 1934 are available free of charge through its website. During the period
covered by this report, the Company made its periodic reports on Form 10-K,
and
Form 10-Q and its current reports on Form 8-K and amendments to those documents
available on its website as soon as reasonably practicable after those reports
were filed with or furnished electronically to the Securities and Exchange
Commission. The Company will continue to make such reports and amendments to
those reports available on its website as soon as reasonably practicable after
those reports are filed with or furnished to the Securities and Exchange
Commission. Material contained on our website is not incorporated by reference
in this Annual Report on Form 10-K.
Page
9
Item
1A. Risk
Factors
Our
success is dependent on our principal technologies
Our
technology platforms, which include sensor technology, electron emission
activities, nano-electronics, and functional nano-materials, are emerging
technologies. Our financial condition and prospects are dependent upon licensing
our intellectual property to others. Additional R&D needs to be conducted on
many of our technologies before others can produce products using this
technology. Market acceptance of products using our technology will be dependent
upon the acceptance within the industries of those products of the quality,
reliability, performance, efficiency, and breadth of application and
cost-effectiveness of the products. There can be no assurances that these
products will be able to gain commercial market acceptance.
Products
using our technology may not be accepted by the market
Since
our inception, we have focused our product development and R&D efforts on
technologies that we believe will be a significant advancement over currently
available technologies. With any new technology, there is a risk that the market
may not appreciate the benefits or recognize the potential applications of
the
technology. Market acceptance of products using our technology will depend,
in
part, on the ability of our licensees to convince potential customers of the
advantages of such products as compared to competitive products. It will also
depend upon our ability to train manufacturers and others to use our
products.
Our
technology development is in its early stages and the outcome is
uncertain
Our
many applications of nanotechnologies, and certain products that use these
technologies, will require significant additional development, engineering,
testing and investment prior to commercialization. We are exploring the use
of
our technology in several different types of products. We have developed proof
of concepts of potential products based on carbon nanotube technologies. In
some
cases, we are developing products jointly with others based on our technology.
Upon successful completion of the development process, our development partners
will be required to license our technology to produce and sell the products.
Our
development partners retain all rights to any intellectual property that they
develop in the process.
If
any of the potential products that are being developed using our technologies
are successfully developed, it may not be possible for potential licensees
to
produce these products in significant quantities at a price that is competitive
with other similar products. At the present time, the only significant revenue
that we receive related to our technology is related to reimbursed research
expenditures, and development fees. These revenues are identified in our
quarterly filings on Form 10-Q and our annual filings on Form 10-K as revenues
of our Applied Nanotech, Inc. subsidiary in the related “Management’s Discussion
and Analysis of Financial Condition and Results of Operations” sections. We also
anticipate receiving up-front license fees in 2007.
Our
development partners have certain rights to jointly developed property and
to
license our technology
We
have committed to license our technology to our development partners upon
completion of certain development projects that are in process. The terms of
any
such license have not yet been determined. One of our past development partners,
a large Japanese display company, has paid us $2.0 million for research services
and has the right to offset this payment against any future license fee payments
due as a result of an existing license agreement that we have with this company.
Our development partners in the HYFED™ project also have rights to any jointly
developed property; however, any such jointly developed property would be based,
at least in part, on our underlying technology and would require our partners
to
enter into an agreement with us. See also “Our technology development is in
its early stages and the outcome is uncertain” above for further
discussion.
We
have limited resources and our focus on particular products may result in our
failure to capitalize on other opportunities
We
have limited resources available to successfully develop and commercialize
our
technology. As of February 28, 2007, we had 35 full-time employees. There is
a
wide array of potential applications for our technology and our limited
resources require us to focus on specific product areas, while ignoring others.
We focus our efforts on those projects for which we can obtain external funding
since the availability of funding provides an external verification of the
probability of commercial success of resulting products.
Page
10
We
may not be able to provide system integration
In
order to prove that our technologies work and will produce a complete product,
we must ordinarily integrate a number of highly technical and complicated
subsystems into a fully integrated prototype. There is no assurance that we
will
be able to successfully complete the development work on some of our proposed
products or that there will ultimately be any market for those
products.
Many
products that may be developed using our technology will need to be integrated
into end-user products by manufacturers of those products. Although we intend
to
develop products to be integrated into existing manufacturing capabilities,
manufacturers may be required to make modifications to, or expand their
manufacturing capabilities. Manufacturers may not elect to integrate products
using our technology into their end-user products, or they may not devote
adequate resources to modifying their manufacturing capabilities so that our
technologies can be successfully incorporated into their end-user products.
The
complexity of integration may delay the introduction of products using our
technology.
Rapid
technological changes could render our technology obsolete; and we may not
remain competitive
The
industries in which we compete are highly competitive and are characterized
by
rapid technological change. Our existing and proposed products will compete
with
other existing products and may compete against other developing technologies.
Development by others of new or improved products, processes or technologies
may
reduce the size of potential markets for our products. There is no assurance
that other products, processes or technologies will not render our proposed
products obsolete or less competitive. Many of our competitors have greater
financial, managerial, distribution, and technical resources than we do. We
will
be required to devote substantial financial resources and effort to further
R&D. There is no assurance that we will successfully differentiate our
technology from our competitors' technology, or that we will adapt to evolving
markets and technologies, develop new technologies, or achieve and maintain
technological advantages.
We
have limited manufacturing capacity and experience
We
have no established commercial manufacturing facilities; and we have no
intention of establishing a manufacturing facility related to our field emission
technology, sensors, nanomaterials which include using composites, or any other
aspects of our technology. We are focusing our efforts on licensing our
intellectual property to others for use in their manufacturing processes. To
the
extent that any of the products that we develop require manufacturing
facilities, we intend to contract with a qualified manufacturer.
The
health effects of nanotechnology are unknown
There
is no scientific agreement on the health effects of nanomaterials, but some
scientists believe that in some cases, nanomaterials may be hazardous to an
individual’s health or the environment. The science of nanotechnology is based
on arranging atoms in such a way as to modify or build materials not made in
nature; therefore, the effects are unknown. The Company takes appropriate
precautions for its employees working with carbon nanotubes and believes that
any health risks related to carbon nanotubes used in potential products can
be
minimized. Future research into the effects of nanomaterials in general, and
carbon nanotubes in particular, on health and environmental issues may have
an
adverse effect on products using our technology.
The
loss of key personnel could adversely affect our business
Our
future success will depend on our ability to attract and retain highly qualified
scientific, technical and managerial personnel. Competition for such personnel
may be intense. We may not be able to attract and retain all personnel necessary
for the development of our business. In addition, much of the know-how and
processes developed by us reside in our key scientific and technical personnel.
The loss of the services of key scientific, technical and managerial personnel
could have a material adverse effect on us until we are able to replace those
personnel.
Page
11
We
have a history of net losses
We
have a history of net losses. From our inception through December 31, 2006,
we
incurred net losses of approximately $101 million. Our only profitable year
was
1999, based on the strength of a license agreement of approximately $5.6 million
signed in March 1999. We have incurred net income and losses as shown
below:
|
Year
Ended December 31
|
Net
Income
(Loss)
|
|
|
|
|
|
|
1995
|
|
($14,557,426)
|
|
1996
|
|
($14,583,506)
|
|
1997
|
|
($7,306,232)
|
|
1998
|
|
($4,361,742)
|
|
1999
|
|
$474,599
|
|
2000
|
|
($9,471,279)
|
|
2001
|
|
($6,047,698)
|
|
2002
|
|
($5,452,890)
|
|
2003
|
($4,017,374)
|
|
|
2004
|
($7,139,109)
|
|
|
2005
|
($5,818,816)
|
|
|
2006
|
($6,593,892)
|
Although
we expect to be profitable in the future, we may not be. Our profitability
in 2007 is dependent on the signing of additional license agreements or
obtaining additional research funding. We may, however, continue to incur
additional operating losses for an extended period of time as we continue to
develop our technologies. We do, however, expect the magnitude of those losses,
if they continue, to decrease. We have funded our operations to date primarily
through the proceeds from the sale of our equity securities and debt offerings.
We are primarily a contract research and development organization and are
dependent on license agreements and research funding to achieve profitability.
In order to continue development of our technology, we anticipate that
substantial research and development expenditures will continue to be
incurred.
We
have no current royalty agreements producing significant
revenue
Our
strategy is dependent on licensing our technology to other companies and
obtaining royalties based on products that these licensees develop and sell.
We
have no plans to manufacture and sell any products ourselves, and as such,
we
have no product revenues. While we do have existing licenses, none of the
licensees are producing products at the present time and therefore none of
the
licenses are producing current revenue.
We
expect to license our technology to be used in many applications. See additional
discussion in the risk factor “Our technology development is in its early stages
and the outcome is uncertain” above. It is our intention that all future license
agreements will include a provision that requires the payment of ongoing
royalties, although there is no assurance that will occur.
We
are dependent on the availability of materials and
suppliers
The
materials used in producing current and future products using our technology
are
purchased from other vendors. We anticipate that the majority of raw materials
used in products to be developed by us will be readily available to
manufacturers. However, there is no assurance that the current availability
of
these materials will continue in the future, or if available, will be procurable
at favorable prices.
Page
12
Our
revenues have been dependent on government contracts in the
past
In
many years, a significant portion of our revenues are derived from contracts
with agencies of the United States government. Following is a summary of those
revenues for the past twelve years:
|
Year
Ended December 31
|
|
Revenues
from
Government
Contracts
|
|
Percentage
of
Total
Revenue
|
|
1995
|
|
$1,009,000
|
|
33%
|
|
1996
|
|
$2,869,000
|
|
50%
|
|
1997
|
|
$854,000
|
|
24%
|
|
1998
|
|
$0
|
|
0%
|
|
1999
|
|
$0
|
|
0%
|
|
2000
|
|
$352,341
|
|
13%
|
|
2001
|
|
$466,680
|
|
15%
|
|
2002
|
|
$254,152
|
|
18%
|
|
2003
|
$339,790
|
44%
|
||
|
2004
|
$305,721
|
80%
|
||
|
2005
|
$208,211
|
37%
|
||
|
2006
|
$583,236
|
52%
|
We
currently have commitments for future government funding of approximately $2.3
million. We do not intend to seek any government funding unless it directly
relates to achievement of our strategic objectives.
Contracts
involving the United States government are, or may be, subject to various risks
including, but not limited to, the following:
| · |
Unilateral
termination for the convenience of the
government
|
| · |
Reduction
or modification in the event of changes in the government's requirements
or budgetary constraints
|
| · |
Increased
or unexpected costs causing losses or reduced profits under fixed-price
contracts or unallowable costs under cost reimbursement
contracts
|
| · |
Potential
disclosure of our confidential information to third
parties
|
| · |
The
failure or inability of the prime contractor to perform its prime
contract
in circumstances where we are a
subcontractor
|
| · |
The
failure of the government to exercise options provided for in the
contract.
|
| · |
The
right of the government to obtain a non-exclusive, royalty free,
irrevocable world-wide license to technology developed under
contracts funded by the government if we fail to continue to develop
the technology
|
We
are exposed to litigation liability
As
described in more detail in Item 3 of this Annual Report on Form 10-K, we are
the plaintiff in two separate pieces of litigation. The first is against, Canon,
Inc., and the second is against Till Keesmann. While there is risk associated
with any litigation, we expect to prevail in both of these cases. If we were
to
not prevail in the Canon litigation, we would expect that would have no impact
on our current financial condition beyond the additional costs incurred through
the completion of the litigation. If we were not to prevail in the Keesmann
litigation and Keesmann were allowed to terminate the existing agreement, we
could lose any potential future revenue specifically associated with licensing
the patents covered by the agreement. It would not; however, eliminate the
need
for any licensee of the Keesmann patents for use in the display industry to
also
license our patents as well. In addition, if Keesmann were allowed to terminate
the patent, we would seek damages equal to the value that we bestowed upon
the
patent during the term of the license agreement. It is our opinion that the
majority of the value of the Keesmann patent today is as a result of our work
on
the reissuance of the patent.
We
have lawsuits that arise in the normal course of business. We have been subject
to litigation in the past and have settled litigation in the past that has
in
rare instances resulted in material payments. We expect all current lawsuits
to
be resolved with no material negative impact on our financial statements, and
we
are unaware of any other potential significant litigation. If we were to become
subject to a judgment that exceeds our ability to pay, that judgment would
have
a material impact on our financial condition and could affect our ability to
continue in existence.
Page
13
We
may have future capital needs and the source of that funding is
uncertain
We
expect to continue to incur substantial expenses for R&D, product testing,
and administrative overhead. The majority of R&D expenditures are for the
development of our technologies. Some of the proposed products using our
technology may not be available for commercial sale or routine use in the
immediate future. Commercialization of existing and proposed products that
would
use our technology may require additional capital in excess of that currently
available to us. A shortage of capital could prevent us from achieving
profitability for an extended period of time. Because the timing and receipt
of
revenues from the sale of products using our technology will be tied to the
achievement of certain product development, testing, manufacturing and marketing
objectives, which cannot be predicted with certainty, there may be substantial
fluctuations in our results of operations. If revenues do not increase as
rapidly as anticipated, or if product development and testing require more
funding than anticipated, we may be required to curtail our activities and/or
seek additional financing from other sources. We may seek additional financing
through the offer of debt, equity, or any combination of the two at any time,
although we do not expect to seek any significant additional financing for
the
remainder of the year.
We
have developed a plan to allow us to maintain operations until we are able
to
sustain ourselves, and we believe our current cash levels are sufficient to
fund
operations until we reach that point. We have the existing resources, including
expected revenue, to continue operations for a period through at least the
end
of 2007. Our plan is primarily dependent on raising funds through the licensing
of our technology and revenue generated from performing contract research
services. We intend to raise additional capital through debt or equity
offerings, only if necessary. We expect to sign significant license and
development contracts within the next year, although there is no assurance
that
this will occur.
Our
plan is based on current development plans, current operating plans, the current
regulatory environment, historical experience in the development of electronic
products and general economic conditions. Changes could occur which would cause
certain assumptions on which this plan is based to be no longer valid. Our
plan
is primarily dependent on increasing revenues, licensing our technology, and
raising additional funds through additional debt and equity offerings, only
if
necessary. If adequate funds were not available from operations or additional
sources of financing, we may have to eliminate, or reduce substantially,
expenditures for research and development, and testing of our products. We
may
have to obtain funds through arrangements with other entities that may require
us to relinquish rights to certain of our technologies or products. These
actions could materially and adversely affect us.
We
may be unable to enforce or defend our ownership and use of proprietary
technology
Our
ability to compete effectively with other companies will depend on our ability
to maintain the proprietary nature of our technology. Although we have been
awarded patents, have filed applications for patents, or have licensed
technology under patents that we do not own, the degree of protection offered
by
these patents or the likelihood that pending patents will be issued is
uncertain. Competitors in both the United States and foreign countries, many
of
which have substantially greater resources and have made substantial investment
in competing technologies, may already have, or may apply for and obtain patents
that will prevent, limit or interfere with our licensees ability to make and
sell our products using our technology. Competitors may also intentionally
infringe on our patents. The defense and prosecution of patent suits is both
costly and time-consuming, even if the outcome is favorable to us. In foreign
countries, the expenses associated with such proceedings can be prohibitive.
In
addition, there is an inherent unpredictability in obtaining and enforcing
patents in foreign countries. An adverse outcome in the defense of a patent
suit
could subject us to significant liabilities to third parties. Although third
parties have not asserted infringement claims against us, there is no assurance
that third parties will not assert such claims in the future. A major law firm
has reviewed our patent portfolio and agreed to handle litigation related to
certain of our patents on a contingency basis.
We
also rely on unpatented proprietary technology, and there is no assurance that
others will not independently develop the same or similar technology, or
otherwise obtain access to our proprietary technology. To protect our rights
in
these areas, we require employees, consultants, advisors and collaborators
to
enter into confidentiality agreements. These agreements may not provide
meaningful protection for our trade secrets, know-how, or other proprietary
information in the event of any unauthorized use, misappropriation or disclosure
of such trade secrets, know-how, or other proprietary information. While we
have
attempted to protect proprietary technology that we develop or acquire and
will
continue to attempt to protect future proprietary technology through patents,
copyrights and trade secrets, we believe that our success will depend upon
further innovation and technological expertise.
Page
14
We
have technologies subject to licenses
As
a licensee of certain research technologies through license and assignment
agreements with Microelectronics and Computer Technology Corporation (“MCC”), we
have acquired rights to develop and commercialize certain research technologies.
In certain cases, we are required to pay royalties on the sale of products
developed from the licensed technologies and fees on revenues from sublicensees.
We also have to pay for the costs of filing and prosecuting patent applications.
The agreement is subject to termination by either party, upon notice, in the
event of certain defaults by the other party. We consider it unlikely that
any
royalty payments would be required to be made to MCC based on the substantial
amounts of revenues that would have to be generated to offset the costs of
maintaining the patents over the years.
We
have also licensed certain patents related to carbon nanotube technology from
Till Keesmann (“the Keesmann patents”). We licensed 6 patents, including foreign
filings, in 2000 in exchange for a payment of $250,000. The U.S. patent was
reissued in August 2003. This reissuance significantly strengthened and
reinforced this patent. Under the terms of the agreement, we are obligated
to
pay license fees equal to 50% of any royalties received by the Company
specifically related to these patents. We are allowed to offset certain
expenses, up to a maximum of $50,000 per year, against payments due under this
agreement. The agreement also contains provisions related to minimum license
fee
payments, certain of which were deferred by Mr. Keesmann until after the
reissuance of the patent was completed. A total of $1,000,000 of minimum
payments has been made, with the last payment made in May 2004. No future
minimum payments are due and the minimum payments made to date can be offset
against future royalties due under the license agreement. No license agreements
have yet been signed that involve the Keesmann patents. This license agreement
is currently the subject of litigation as described in greater detail in Item
3
of this Annual Report on Form 10-K.
Item
1B. Unresolved
Staff
Comments
None.
We
lease a facility in Austin that is used for our corporate headquarters and
research and development activities under a lease expiring in February 2008.
We
believe that these facilities are suitable for our current needs and will be
adequate for our anticipated research, development, and administrative
activities, at least through the end of the lease period. We are currently
studying our facility needs and likely will move to a different facility at
the
end of the lease period. We would expect a new facility to be similar in size
to
our existing facility. If we embark on significant new research that requires
significant additional employees, we may have to establish additional
facilities.
We
do not currently invest in real estate or interests in real estate, real estate
mortgages, or securities of or interests in persons primarily engaged in real
estate activities. However, the Company has no policy, either for or against,
making such investments.
Page
15
In
April 2005, we filed suit against the Japanese camera and copier manufacturer
Canon, Inc., and its wholly-owned U.S. subsidiary Canon USA, Inc., in the U.S.
District Court for the Western District of Texas, Austin Division, seeking
a
declaratory judgment that new SED color television products being
developed and manufactured by a Canon/Toshiba joint venture are not covered
under a non-exclusive 1999 patent license agreement that we granted to
Canon. We assert that the Canon/Toshiba joint-venture - SED, Inc. -
is not a licensed party under that agreement. The original complaint asserted
additional claims related to whether the Canon/Toshiba joint venture’s
television panels constituted excluded products under the 1999 license, as
well
as breach of covenant of good faith and fair dealing, tortious interference
and
a Lanham Act violation by Canon. Last year, Canon moved to dismiss Canon U.S.A.
from the litigation, and moved to dismiss several of the counts asserted. The
court denied the motion, in part, by ruling that Canon U.S.A. was an appropriate
defendant and refusing to dismiss our claims for breach of the covenant of
good
faith and fair dealing. Our tortious interference and Lanham Act claims were
dismissed, without prejudice.
After
initial discovery, in April 2006, we amended the complaint to drop one count
related to the definition of excluded products in the 1999 license, and add
two
counts for fraudulent inducement and fraudulent non-disclosure related to events
and representations made during our negotiations on the license, including
Canon’s failure to disclose an ongoing relationship with Toshiba. Canon moved to
dismiss the fraud claims, and the Court denied Canon’s motion in May 2006. The
suit is now proceeding under the amended complaint. Discovery was completed
in
August 2006. Upon completion of discovery, Canon filed a motion for summary
judgment seeking to dismiss the claim that SED is not a licensed party under
the
agreement. Canon did not file a motion for summary judgment seeking to dismiss
either of the fraud claims or the breach of covenant of good faith and fair
dealing. In November 2006, the Court denied Canon’s partial motion for summary
judgment, describing SED, Inc. as a “corporate fiction designed for the sole
purpose of evading Canon’s contractual obligations”.
In
January 2007, Canon filed another motion for partial summary judgment seeking
a
declaration that a reconstituted SED, Inc. which will be owned 100% by Canon,
but still involving numerous reciprocal agreements with Toshiba, will be
considered a Canon subsidiary. At the same time, we filed a motion for partial
summary judgment, seeking the court’s affirmation of our termination of the
license agreement due to Canon’s breach of contract in 2004. On February 22,
2007 the Court issued a ruling denying Canon’s motion and granting our motion
for partial summary judgment, ruling our termination of the contract effective
December 1, 2006, to be valid. Trial on the remaining counts is to be scheduled
on the first available open date on the Court’s calendar on or after April 2,
2007.
In
May 2006, we filed suit in the U.S. District Court for the Northern District
of
Illinois against Till Keesmann, a German citizen who in 2000 granted us an
exclusive and perpetual license to certain of his U.S. and European patents
in
carbon nanotube cathode technology. Shortly after we filed suit against Canon
in
April 2005, Keesmann conveyed part of his interests in the Exclusive License
to
investors associated with a German patent evaluation firm, IP Bewertungs AG
(“IPB”). Thereafter, IPB approached us with proposals to buy or auction our
rights to Keesmann’s patents. On March 20, 2006, we announced a letter of intent
to form a joint venture with a leading Asian display manufacturer, Da Ling
Co.,
Ltd., to develop display products utilizing our intellectual property. Two
days
later, Keesmann purported to terminate the exclusive license that he granted
to
us six years ago. Our May 2006 complaint seeks a declaratory judgment that
Keesmann had no right to terminate the exclusive license, and we also filed
for
a Temporary Restraining Order and Preliminary Injunction to prevent Keesmann
from taking any actions inconsistent with his obligations under the exclusive
license. The Court granted a consent order that prevents Keesmann from licensing
the patents pending an injunction hearing and decision. In June 2006, Keesmann
filed an Answer and Counterclaim, denying that the purported termination was
null and void, and asserting a counterclaim that asks the court to find that
we
breached the exclusive license by not actively marketing the Keesmann patents,
among other things.
We
amended our complaint in December 2006 to include additional defendants, JK
Patentportfolio GmbH & Co., Jochen Kamlah, NPV Nano Patent GmbH & Co.,
and Arnold Amsinck. The amended complaint also contains additional claims
including breach of contract, conversion, aiding and abetting conversion,
conspiracy to commit conversion, misappropriation, aiding and abetting
misappropriation, conspiracy to commit conversion, Lanham act violations,
tortious interference with a prospective economic relationship, aiding and
abetting tortious interference with a prospective economic relationship, and
conspiracy to tortiously interfere with a prospective economic
relationship.
Page
16
In
January 2007, the Court granted our motion for preliminary injunction, ruling
that there is a reasonable likelihood that we will prevail on the merits of
the
case. The preliminary injunction enjoins Keesmann, his agents, employees, and
all those acting in concert with him from terminating the license agreement,
or
otherwise acting in violation of the license agreement. In connection with
this
injunction, the Court set the bond, which is required by law, at $100,000.
We
posted the bond in February 2007.
From
time to time the Company and its subsidiaries are also defendants in various
lawsuits that may arise related to minor matters. It is expected that any such
lawsuits would be settled for an amount no greater than the liability recorded
in the financial statements for such matters. If resolution of any of
these suits results in a liability greater than that recorded, it could have
a
material impact on us.
There
were no matters submitted to a vote of security holders during the fourth
quarter of 2006.
Page
17
Our
common stock, $0.001 par value, trades on the OTC Bulletin Board system under
the symbol “NNPP”. The following table sets forth, on a per share basis for the
periods indicated, the high and low sale prices for the common stock as reported
by the OTC Bulletin Board system. These quotations reflect inter-dealer prices,
without retail mark-up, mark-down or commission and may not represent actual
transactions.
|
High
|
Low
|
||
|
2005
|
First
Quarter
|
$3.53
|
$2.01
|
|
|
Second
Quarter
|
$3.99
|
$1.56
|
|
|
Third
Quarter
|
$2.81
|
$1.86
|
|
|
Fourth
Quarter
|
$2.45
|
$1.97
|
|
|
|
|
|
|
2006
|
First
Quarter
|
$2.68
|
$2.05
|
|
|
Second
Quarter
|
$2.62
|
$1.47
|
|
|
Third
Quarter
|
$1.75
|
$1.08
|
|
|
Fourth
Quarter
|
$1.72
|
$0.92
|
|
|
|
||
|
2007
|
First
Quarter (through February 28, 2007)
|
$2.11
|
$1.20
|
On
February 28, 2007, the closing sale price for our common stock as reported
on
the OTC Bulletin Board system was $1.89. As of February 28, 2007, there
were approximately 360 shareholders of record for our common stock. This does
not include shareholders holding stock in street name in brokerage
accounts.
We
have never paid cash dividends on our common stock, and it is unlikely that
we
will pay any dividends in the foreseeable future. We currently intend to invest
future earnings, if any, to finance expansion of our business. Any payment
of
cash dividends in the future will be dependent upon our earnings, financial
condition, capital requirements, and other factors deemed relevant by our board
of directors.
Recent
Sales of Unregistered Securities
In
the quarter ended December 31, 2006, we issued 3,006,784 shares of our common
stock for $3,180,193 in private placements under Rule 506 of Regulation D of
the
Securities Act of 1933.
|
Douglas
Nichols Pension Plan
|
275,000
|
|
Karrison
Nichols and Douglas Nichols
|
150,000
|
|
Calvin
Nickal
|
201,923
|
|
Kelley
Drye & Warren LLP
|
217,391
|
|
James
Miceli
|
784,643
|
|
Mark
Wagner
|
125,000
|
|
Karen
Reinhart
|
31,250
|
|
James
P. Mulvihill
|
10,000
|
|
Frank
Marx
|
101,200
|
|
Frank
Marx SEP/IRA
|
21,000
|
|
Frank
Marx Defined Benefit Pension Plan
|
69,000
|
|
Sarah
Thomas
|
326,923
|
|
Patrick
Dolan
|
125,000
|
|
Thomas
F. Bijou
|
71,429
|
|
Patrick
Stark
|
38,462
|
|
Howard
Westerman
|
107,692
|
|
Ernst
Ohnell
|
53,846
|
|
Henri
Wedell
|
161,538
|
|
Visse
M. Wedell
|
26,923
|
|
Kenneth
Biermacher
|
19,231
|
|
Clinton
Everton
|
26,923
|
|
Donald
Shephard
|
62,410
|
Page
18
Item
6. Selected
Financial Data
|
2006
|
2005
|
2004
|
2003
|
2002
|
||||||
|
Revenues
from continuing operations
|
$
|
1,116,670
|
$
|
565,660
|
$
|
382,522
|
$
|
773,95
9
|
$
|
1,414,848
|
|
Income
(loss) from continuing operations
|
$
|
(6,593,892)
|
$
|
(5,818,816)
|
$
|
(7,139,109)
|
$
|
(4,017,374)
|
$
|
(5,227,453)
|
|
Income
(loss) from continuing operations per share
|
$
|
(0.07)
|
$
|
(0.06)
|
$
|
(0.07)
|
$
|
(0.05)
|
$
|
(0.07)
|
|
Total
assets
|
$
|
2,693,442
|
$
|
1,187,981
|
$
|
1,144,368
|
$
|
3,784,017
|
$
|
321,955
|
|
Long-term
obligations
|
$
|
—
|
$
|
—
|
$
|
5,944
|
$
|
27,353
|
$
|
46,283
|
|
Net
shareholders’ equity (deficit)
|
$
|
642,262
|
$
|
859,339
|
$
|
846,456
|
$
|
3,552,829
|
$
|
(2,460,595)
|
|
Cash
dividends per common share
|
$
|
—
|
$
|
—
|
$
|
—
|
$
|
—
|
$
|
—
|
In
2002,
we sold our Sign Builders of America, Inc. subsidiary. All information related
to Sign Builders has been removed from this summary as a result of its
presentation as a discontinued operation. Also in 2002, we restructured our
Electronic Billboard Technology, Inc. subsidiary. EBT no longer sells products
or services, but seeks to license its intellectual property to others. Revenue
from continuing operations includes $130,386 and $10,000 in 2003 and 2002,
respectively. There was no revenue from EBT in all other years presented.
Page
19
Item
7. Management’s
Discussion and
Analysis of Financial Condition and Results of
Operations
The
following discussion should assist in understanding our financial condition,
liquidity, and capital resources as of December 31, 2006, and the results of
operations for the years ended December 31, 2006, 2005 and 2004. The Notes
to
our Consolidated Financial Statements included later in this report contain
detailed information that should also be read in conjunction with this
discussion.
OVERVIEW
We
are engaged in research and development related to nanotechnology products,
primarily those involving carbon nanotubes, to be used in the display,
electronics, sensor, and other industries. Our technology, as well as many
of
its potential applications, is still new and in the early stages of development.
Our revenue has primarily consisted of development projects involving either
the
U.S. government or large multinational corporations.
As
described in Item 3 of this Annual Report on Form 10-K, we are the plaintiff
in
significant litigation against Canon, Inc. We are confident of our position
and
expect to prevail when the matter goes to trial, which is expected to be in
April 2007, although that result cannot be guaranteed. Because of the difficulty
in predicting the amount that we will receive as a result of this litigation,
we
have ignored any positive effect resulting from the resolution of the litigation
in the preparation of this discussion and analysis of our financial condition
and results of operations.
OUTLOOK
We
expect our cash needs for 2007 to be approximately $6.5 million, excluding
costs
related to litigation. We intend to fund those needs through a combination
of
sales, reimbursements for research, and license agreements. We anticipate
receiving significantly more revenue in 2007 than was received in 2006. We
have
developed a plan to enable us to achieve positive cash flow from operations
with
approximately $6.5 million of revenue. As of February 28, 2007, we have
approximately $1.7 million in cash to cover any potential revenue shortfall
that
may occur for the year. We do not expect to need to raise any additional equity
in 2007, but that could change if conditions change.
Our
plan is to generate sufficient revenues in 2007 to achieve breakeven or better;
however, losses may continue as we continue to fund the development of field
emission technology, sensors, nano-electronics, and nanomaterials. There can
be
no assurances that we will be profitable in the future. Full commercial
development of our technology may require additional funds in the future.
We expect to continue our concentrated research and development of ANI’s
technology in 2007.
We
have developed a plan to allow ourselves to maintain operations until we are
able to sustain ourselves on our own revenue. Our plan is primarily dependent
on
raising funds through the licensing of our technology and through reimbursed
research arrangements. Our current cash balances are adequate to insure that
we
can maintain our operations at the present level. We believe that we have the
ability to continue to secure short term funding, if needed, to enable us to
continue operations until our plan can be completed if this plan takes longer
than anticipated.
This
plan is based on current development plans, current operating plans, the current
regulatory environment, historical experience in the development of electronic
products, and general economic conditions. Changes could occur which would
cause
certain assumptions on which this plan is based to be no longer valid. Our
plan
is primarily dependent on increasing revenues. Although we do not expect funding
our operations to be a problem, if adequate funds are not available from
operations, or additional sources of financing; we may have to eliminate, or
reduce substantially, expenditures for research and development, testing of
our
products, or obtain funds through arrangements with other entities that may
require us to relinquish rights to certain technologies or products. Such
results could materially and adversely affect us.
Critical
Accounting Policies
Our
significant accounting policies are summarized in the footnotes to our financial
statements. Some of the most critical policies are also discussed
below.
Stock
based compensation
-
We routinely grant stock options to employees and others. We have granted
options in the past and each year all employees have the opportunity to earn
additional goal-based option awards. In December 2004, the FASB issued Statement
of Financial Accounting Standards No. 123R (Revised 2004), Share-Based Payment
("SFAS No. 123R"), which requires that the compensation cost relating to
share-based payment transactions be recognized in financial statements based
on
the provisions of SFAS 123 issued in 1995. Prior to 2006, we accounted for
stock
based compensation under the provisions of APB 25 and disclosed pro-forma
compensation expense calculated using the Black-Scholes model in the footnotes
to the financial statements.
Page
20
Under
the provisions of SFAS No. 123R, pro-forma presentation is no longer allowed,
and we are required to record compensation expense for option grants in the
financial statements using the fair value method. We adopted the provisions
of
SFAS No. 123R in the financial statements for the year ended December 31, 2006.
We have adopted this statement using the modified retrospective method of
implementation, whereby the 2004 and 2005 statements included here have been
restated to give effect to the fair-value based method of accounting for awards
granted, modified, or settled in that year as though they had been accounted
for
under FAS 123. We previously used the intrinsic value method to account for
stock-based employee compensation.
Other
-
As a matter of policy, we review our major assets for impairment. Our major
operating assets are accounts receivable, and property and equipment. We
depreciate our property and equipment over their estimated useful lives. We
did
not identify any impaired items in 2004, 2005 or 2006. We have not experienced
significant bad debts expense, and we do not believe that we need an allowance
for doubtful accounts for any exposure to loss in our December 31, 2006 accounts
receivable.
LIQUIDITY
AND CAPITAL RESOURCES
Our
cash balance was $2,085,338 at December 31, 2006, which was significantly higher
than the cash balance of $897,247 at December 31, 2005. Our working capital
was
approximately $500,000 at December 31, 2006, a slight decrease from the working
capital of roughly $700,000 at December 31, 2005. During the same period, our
current ratio decreased from approximately 3.3 to 1 to approximately 1.2 to
1.
The reason for the significant change in our working capital ratio is that
both
current assets and current liabilities increased substantially. Our cash balance
increased significantly as a result of the increase in cash provided by
financing activities, offset by a smaller amount of cash used in operations,
both of which are discussed below. Our current liabilities increased
substantially from December 31, 2005 to December 31, 2006, as a result of the
deferred payment arrangement that we have with our attorneys in connection
with
the Keesmann litigation. The amount due under this arrangement was $1.1 million
as of December 31, 2006. We expect to have the funds available to pay this
when
due. This arrangement is described in more detail below in the selling, general,
and administrative expense section.
The
principal source of our liquidity has been funds received from exempt offerings
of common stock. Cash provided by financing activities was $5,026,489,
$4,519,913, and $2,037,390 in 2006, 2005, and 2004, respectively. Of this,
the
majority came from private placements of our common stock in the amounts of
$5,004,193, $4,000,000, and $1,065,000 in 2006, 2005, and 2004, respectively.
The majority of the balance of the cash provided by financing activities in
all
years came from proceeds from the exercise of stock options by current and
former employees. We would anticipate a substantially decreased level of private
placement activity in 2007 and have no current plans to raise any additional
funds from the sale of equity.
As
of February 28, 2007, our cash balance is approximately $1.8 million. This
combined with expected revenue is enough for us to operate into 2008, even
if
there were no significant new positive developments. We may receive additional
funds from the exercise of employee stock options, although a significant
portion of the funds received from stock option exercises in 2006, 2005 and
2004
was from former employees that had options expiring. There are minimal options
held by former employees and only minimal options expiring in 2007. The level
of
option exercise activity is also highly correlated with the market price of
our
common stock.
In
the unlikely event that we need additional funds in 2007 beyond the amount
that
we have as of the date of this filing and those that we expect to receive as
revenues or from other sources, we may seek to sell additional debt or equity
securities. We have no plans to do this, however. While we expect to be able
to
obtain any funds needed for operations, there is no assurance that any financing
alternatives can be arranged on commercially acceptable terms. We believe that
our success in reaching profitability will be dependent upon the viability
of
products using our technology and their acceptance in the marketplace.
Net
cash used in operating activities was $3,736,466, $4,507,579 in 2005, and
$4,581,513 in 2004. The cash used in operations was primarily the result of
the
net losses incurred in each year. This amount decreased in each of the three
years, and we expect a continued reduction in cash used in operating activities,
or even more likely a change to cash provided by operations in 2007 as the
result of an expected increase in revenues and other significant events. We
have
a plan to generate positive cash from operations; however, since that will
require significantly increased revenues, there is no assurance that will be
achieved. Such significantly increased revenues would most likely result from
license agreements with significant up-front payments, substantial research
contracts, or litigation results. The cash used in operations was virtually
unchanged from 2004 to 2005. The decrease in the cash used in operating
activities from 2005 to 2006 was primarily the result of increased revenues
in
2006.
Page
21
Cash
used in investing activities was the result of the purchase of capital assets
in
all years. We would expect minimal cash to be used in investing activities
in
2006. No material commitments exist as of December 31, 2006, for future
purchases of capital assets.
The
only contractual cash obligations that we have as of December 31, 2006 are
operating leases. We have no long-term debt, notes payable, or capital leases.
A
summary of our operating lease obligations at December 31, 2006 is as
follows:
|
|
Total
|
2007
|
2008
|
2009
|
|
Operating
leases
|
$263,395
|
$163,930
|
$61,790
|
$37,675
|
We
believe that we currently have the cash available to meet our cash requirements
for fiscal 2007.
RESULTS
OF OPERATIONS
Business
Segments.
We have three reportable business segments, our Applied Nanotech, Inc.
subsidiary, our Electronic Billboard Technology, Inc. subsidiary and our
remaining activities, primarily corporate overhead. Because our Electronic
Billboard Technology, Inc. subsidiary has only minimal activity, our management
discussion and analysis related to results of operations is much more meaningful
if done on a consolidated basis. To the extent that EBT activity had a
significant impact on consolidated activity, it will be discussed in the context
of the consolidated results. The only significant financial activity at EBT
was
the sale of its intellectual property in 2006.
Revenues.
Following is a summary of key revenue categories for the three years covered
by
this report.
|
2006
|
2005
|
2004
|
||||||||
|
Government
Revenues
|
$
|
583,236
|
$
|
208,211
|
$
|
305,721
|
||||
|
Other
Contract Research
|
$
|
360,054
|
$
|
59,995
|
$
|
—
|
||||
|
License
Fees and Royalties
|
$
|
83,928
|
$
|
—
|
$
|
10,852
|
||||
|
Total
ANI Revenues
|
$
|
1,116,670
|
$
|
565,660
|
$
|
382,522
|
||||
|
Total
EBT Revenues
|
$
|
—
|
$
|
—
|
$
|
—
|
||||
|
Total
Revenues
|
$
|
1,116,670
|
$
|
565,660
|
$
|
382,522
|
||||
|
Revenue
backlog at December 31
|
$
|
3,026,000
|
$
|
2,764,000
|
$
|
130,000
|
||||
All
of the revenues during the 3-year period came from ANI. The government revenues
in 2005 and 2004 were primarily all the result of one Phase II SBIR grant.
The
government revenues increased substantially in 2006 as a result of two new
SBIR
Phase II grants, another significant contract from the Army, and several SBIR
Phase I grants. We would expect another significant increase in revenue from
government contracts in 2007 as work continues on the existing contracts and
new
contracts are obtained. We also experienced a substantial increase in other
contract research over the three year period as a result of our increased focus
on that area. The revenue in 2005 came from our contract with a large sporting
goods manufacturer. The revenue in 2006 resulted from the same contract with
the
sporting goods manufacturer and a contract with a large Japanese chemical
manufacturer. We also received some license revenue in 2006 as a result of
the
license agreement that we signed with Shimane Masuda Electronics.
EBT
changed its business model in 2002 and no longer sold products, but rather
focused on licensing its technology. EBT sold its intellectual property in
2006,
as discussed below. EBT had no revenue in any of the years
presented.
The
revenue backlog as of December 31, 2006 results from several government programs
and private contracts and represents an increase from prior years. All of these
programs are currently in progress and generating revenue. The majority of
this
backlog will be converted into revenue in 2007. The backlog as of December
31,
2005 included several contracts for which notification had been received, but
work had not yet commenced. As a result, work did not start on several of these
contracts until mid to late 2006 and several of those contracts remain in the
backlog as of December 31, 2006.
Page
22
We
expect revenue to be significantly higher in 2007 than in 2006, and we plan
to
generate minimum revenues in 2007 of $5.0 million at ANI. Of that $2.7 million
is already committed and in process, and the remaining $2.3 million has been
specifically identified. There is no guarantee that these revenues will be
obtained; however, we think it is more likely that revenues will exceed these
numbers, than it is that they fall short of them. Revenues could increase above
these levels as a result of royalty agreements or additional research revenues,
but there is no assurance that this will occur, or that even $5.0 million in
revenue will be achieved. We are currently pursuing many opportunities in
several areas that could result in additional revenue in 2007.
Of
the $5.0 million of specifically identified revenues, we expect a minimum of
$2.9 million to come from government contracts. Approximately $1.7 million
of
this is expected to result from contracts currently in process and $1.2 million
from new contracts expected to be obtained.
The
remaining specifically identified revenue of $2.1 million is expected to come
from non-governmental sources. Of that, roughly $1.0 million of that revenue
is
from projects currently in process, including our contracts with the sporting
goods company and the chemical manufacturer.
Cost
of sales.
Because we do not ship products or provide homogenous services, we do not incur
costs of sales in the traditional sense. We do keep track of our costs on
individual projects, but because there is a wide variation in cost percentages,
presenting cost of sales information is not meaningful. Government sponsored
research has nominal or no gross margins and is primarily just a reimbursement
of costs. In some cases we charge nominal amounts for projects that have much
higher costs because we are proving a concept that will be helpful to us in
other areas, or are seeking a significantly larger follow up contract with
the
customer. In other instances we may perform research contracts that have
significant positive margins because we are able to capitalize on work that
we
have done and knowledge that we have gained in the past. At the present stage
of
our development, it is more meaningful to look at total research and development
costs in conjunction with revenues than to look at solely internally funded
research projects and the cost of research associated with revenue producing
contracts.
Research
and development.
Following is a summary of research and development expenditures for the past
three years.
|
2006
|
2005
|
2004
|
||||||||
|
ANI
Research and development
|
$
|
3,590,148
|
$
|
2,635,412
|
$
|
2,737,029
|
||||
|
EBT
Research and development
|
$
|
—
|
$
|
—
|
$
|
—
|
||||
|
Total
Research and development
|
$
|
3,590,148
|
$
|
2,635,412
|
$
|
2,737,029
|
||||
Company
sponsored research and development expenses at Applied Nanotech, Inc. increased
substantially from 2005 to 2006, after decreasing slightly from 2004 to 2005.
This increase in 2006 was a result of a much higher level of activity. As of
the
end of 2006, we had roughly 12 more employees than we had at the beginning
of
2005. Some of these employees were hired in late 2005, so 2006 included a full
year of wages and benefits as compared with a partial year in 2005. Additional
employees were hired in 2006, which included a partial year of cost as compared
with zero cost in 2005. These employees are associated with new revenue
producing projects. In 2006, we started 3 significant new government contracts
and a significant new contract with a large chemical manufacturer. In late
2005,
we also started our project with our sporting goods manufacturer. This project
alone had three new employees associated with it. Because of the higher level
of
activity, we also spent more on research materials.
We
expect to continue to incur substantial expenses in support of additional
research and development activities related to the commercial development of
our
field emission technology, sensors, nano-electronics, and functional
nanomaterials. We expect to incur at least $4.1 million in research related
expenditures in 2007. We expect our research expenditures to increase in 2007
because of the new research contracts that we have obtained and because of
additional contracts that we expect to obtain. We may, however, incur more
research and development expense in 2007 than presently expected. We are
pursuing numerous opportunities for research contracts and depending upon the
nature of the contracts signed, we may require more research materials than
expected, or we may require additional personnel.
Page
23
Selling,
general, and administrative.
Following are key components of selling, general, and administrative
expense:
|
2006
|
2005
|
2004
|
||||||||
|
Stock
based compensation
|
$
|
410,448
|
$
|
1,072,362
|
$
|
2,133,941
|
||||
|
Litigation
related expenses
|
$
|
1,933,603
|
$
|
172,816
|
$
|
—
|
||||
|
EBT
related S, G, & A
|
$
|
166,280
|
$
|
3,734
|
$
|
—
|
||||
|
Other
S, G, & A
|
$
|
2,718,683
|
$
|
2,530,908
|
$
|
2,171,059
|
||||
|
Total
selling, general, and administrative
|
$
|
5,229,014
|
$
|
3,779,820
|
$
|
4,305,000
|
||||
Total
selling, general and administrative expense declined from 2004 to 2005 and
then
increased significantly in 2006, however the total is significantly impacted
by
several factors that are discussed below.
The
first significant component of selling, general, and administrative expense
is
stock based compensation. As previously discussed, we implemented the provisions
of FAS 123R in 2006. These provisions require that we record compensation
expense in our financial statements based on fair value accounting. The stock
based compensation expense declined from 2004 to 2005 and again in 2006. This
was based on two factors. First, the number of options vested, or expected
to
vest, declined each year. Second, the fair value of the options vested also
decreased. One of the factors impacting the fair value is the price of the
stock. As a general rule, options granted when the stock price is lower will
have a lower fair value than options granted when the stock price is higher.
The
price of our stock generally declined from 2004 to 2005 and again in 2006.
We
will incur stock based compensation expense in 2007, but it is difficult to
predict the amount. The majority of options that we grant are performance based
options that vest upon the achievement of specified goals. The amount of expense
that we incur in 2007 will depend on the goals achieved. As of December 31,
2006, there were outstanding unvested options with a total fair value of
approximately $1.7 million. This amount, in addition to the fair value of any
new options granted that vest, may be recognized as an expense in 2007 or
after.
The
second major component of selling, general, and administrative expense during
the periods presented is litigation related expense. We had no litigation
expense in 2004, but in 2005 we initiated litigation against Canon, Inc. and
incurred legal expenses of $172,816 related to that litigation. That litigation
continued in 2006 and we incurred an additional $494,120 in expense related
to
the Canon litigation in 2006. We also initiated litigation against Till Keesmann
in 2006 and incurred expense of $1,439,483 related to that litigation. Our
attorneys are handling the Canon litigation on a contingency basis, however
we
are responsible for any out of pocket costs. The major costs incurred in the
Canon litigation in 2005 and 2006 relate to translation expenses. Our attorneys
are handling the Keesmann litigation on a modified contingency basis, whereby
we
defer payment on the professional fees and pay only the out of pocket expenses
on a current basis. Any professional fees that have not been recovered through
the contingency arrangement by November 2007 become due and payable at that
point. As of December 31, 2006, there was approximately $1.1 million of deferred
fees related to the Keesmann litigation in accounts payable.
We
will incur additional litigation expense in 2007, however the amount can not
be
predicted with any degree of accuracy. See Item 3 of this Annual Report on
Form
10-K for the current status of both cases. If the Canon litigation proceeds
through trial, we could incur up to $500,000 in additional out of pocket
expenses. The amount of expense that we incur in 2007 related to the Keesmann
case is subject to a wide range of variability depending on the progress and
status of the case. If the case proceeds through trial, we could incur expense
in an amount as large as 2006.
The
increase in other selling, general, and administrative expenses from year to
year generally related to payroll related items. The increase from 2004 to
2005
was primarily related to an additional executive officer that we hired effective
May 1, 2005. This officer also was a consultant for the Company during the
first
four months of 2005. In addition to the increased number of employees, all
administrative personnel received salary increases in 2005. The increase from
2005 to 2006 largely related to turnover in the CEO position. We had three
CEO’s
during the year and there were periods of overlapping compensation, including
a
consulting arrangement with one of the departing CEOs. In addition, we paid
an
executive search fee in connection with hiring a new CEO.
We
expect selling, general and administrative expense in 2007 to be approximately
$2.5 million, excluding any stock based compensation expenses or litigation
related expenses. This would be similar to 2005 levels.
Page
24
Gain
on sale of intellectual property and other assets.
In 2002 EBT restructured its operations and stopped selling products and began
focusing its efforts on licensing its intellectual property. In 2005, we began
negotiating a license agreement related to part of our intellectual property.
This ultimately resulted in an agreement in 2006 that was structured as a sale
of the intellectual property to Novus Communications. The sale agreement called
for an up-front payment and ongoing royalties based on a percentage of the
revenue received by Novus Partners, a majority owned subsidiary of Novus
Communications. As part of the agreement, we also sold the remainder of EBT’s
intellectual property to Novus Displays, a newly formed subsidiary of Novus
Communications. We
received a total of $1.5 million in cash, the right to future royalties from
Novus Partners, and an ownership interest in Novus Displays. One of the patents
that we sold was a patent that had been assigned to us by Advanced Technology,
Incubator, Inc. (“ATI”), a company owned by Dr. Zvi Yaniv, our Chief Operating
Officer. In order to acquire the remaining interest in the patent and settle
all
potential future obligations to ATI, we issued 200,000 shares of our common
stock, valued at $400,000 to ATI. The gain of $1.1 million recorded in the
financial statements resulted from the cash payment received of $1.5 million,
less the $400,000 cost associated with the acquisition of the patent
rights.
Any
future royalties received from Novus Partners will be reflected in our financial
statements as a gain on the sale of intellectual property. We have received
no
additional payments from Novus Partners, beyond the initial payment that we
received at the time that the license agreement was signed. We expect to receive
royalty payments from Novus Partners in 2007; however, we cannot predict the
amount of any such royalties, nor is there any guarantee that we will receive
any royalties from Novus Partners. The patents that Novus Partners acquired
from
us are now part of a package of related patents. Licensing of that package
is
completely under the control of Novus Partners, and we are not part of that
process. Our ability to receive royalties is dependent on Novus Partners signing
revenue producing agreements. To our knowledge, no such revenue producing
agreements exist as of this time.
Other
income.
Following is a summary of other income for the last three fiscal
years.
|
2006
|
2005
|
2004
|
||||||||
|
Interest
expense
|
$
|
(604
|
)
|
$
|
(2,590
|
)
|
$
|
(4,584
|
)
|
|
|
Interest
Income
|
$
|
9,204
|
$
|
33,346
|
$
|
24,857
|
||||
Our
interest expense was associated with capital leases that ended in 2006.
Accordingly, the interest expense decreased from year to year as the balance
decreased. We expect no interest expense in 2007. Our interest income is earned
as a result of the investment of excess cash balances. The amount of interest
earned was lower in 2006 because our average cash balance was lower during
the
year. We expect interest income to remain insignificant.
Overview
The
largest single component of cost that we incur is payroll related expense.
Excluding the cost related to stock based compensation, we incurred payroll
related expense of approximately, $1.9 million in 2004, $2.3 million in 2005,
and $2.9 million in 2006. We expect payroll related expense in 2007 to be
approximately $3.3 million as a result of anticipated new personnel. We expect
our burn rate for 2007 to average about $550,000 per month, excluding litigation
expenses and prior to any revenue. Based on this, we believe we can reach
breakeven at a revenue level of $6.5 million, but there is no assurance that
this will occur, or that we can achieve that level of revenue.
SEASONALITY
AND INFLATION
Nano-Proprietary's
business is not seasonal in nature. Management believes that Nano-Proprietary's
operations have not been affected by inflation.
ACCOUNTING
PRONOUNCEMENTS
In
December 2004, the FASB issued Statement of Financial Accounting Standards
No.
123R (Revised 2004), Share-Based Payment ("SFAS No. 123R"), which requires
that
the compensation cost relating to share-based payment transactions be recognized
in financial statements based on the provisions of SFAS 123 issued in 1995.
As
described in the notes to the financial statements, we adopted the provisions
of
FAS 123R in 2006 using the modified retrospect application method.
Page
25
Item
7A.
Quantitative
and Qualitative Disclosures About Market Risk
We
do not use any derivative financial instruments for hedging, speculative, or
trading purposes. Our exposure to market risk is currently
immaterial.
Page
26
INDEX
TO CONSOLIDATED FINANCIAL STATEMENTS
OF
NANO-PROPRIETARY, INC.
CONSOLIDATED
FINANCIAL STATEMENTS
|
Independent
Auditor’s Report
|
28
|
|
Consolidated
Balance Sheets - December 31, 2006 and 2005
|
29
|
|
Consolidated
Statement of Operations - Years Ended December 31, 2006, 2005,
and
2004
|
30
|
|
Consolidated
Statements of Shareholders’ Equity - Years Ended December 31, 2006, 2005,
and 2004
|
31
|
|
Consolidated
Statements of Cash Flows - Years Ended December 31, 2006, 2005,
and
2004
|
32
|
|
Notes
to Consolidated Financial Statements
|
33
|
Page
27
To
the Board of Directors and Shareholders
Nano-Proprietary,
Inc.
Austin,
Texas
We
have audited the accompanying consolidated balance sheets of Nano-Proprietary,
Inc. and Subsidiaries (collectively, the “Company”) as of December 31, 2006 and
2005 and the related consolidated statements of operations, shareholders’ equity
and cash flows for each of the years in the three year period ended December
31,
2006. These consolidated 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 the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether
the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures
in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that
our audits provide a reasonable basis for our opinion.
In
our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Nano-Proprietary,
Inc. and Subsidiaries as of December 31, 2006 and 2005, and the results of
its
operations and its cash flows for each of the years in the three year period
ended December 31, 2006 in conformity with accounting principles generally
accepted in the United States of America.
We
also have audited, in accordance with the standards of the Public Company
Accounting Oversight Board (United States), the effectiveness of the Company’s
internal control over financial reporting as of December 31, 2006, based on
criteria established in Internal Control-Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission (COSO), and
our
report dated March 5, 2007 expressed an unqualified opinion on management’s
assertion of internal control over financial reporting and an unqualified
opinion on the effectiveness of internal control over financial
reporting.
Sprouse
& Anderson, L.L.P.
Austin,
Texas
March
5, 2007
Page
28
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
|
ASSETS
|
|
||||||
|
|
December
31,
|
||||||
|
|
2006
|
2005
|
|||||
|
Current
assets:
|
|||||||
|
Cash
and cash equivalents
|
$
|
2,085,338
|
$
|
897,247
|
|||
|
Accounts
receivable, trade - net of allowance for doubtful accounts
|
364,718
|
94,103
|
|||||
|
Prepaid
expenses and other current assets
|
79,301
|
85,306
|
|||||
|
Total
current assets
|
2,529,357
|
1,076,656
|
|||||
|
Property
and equipment, net
|
154,545
|
101,785
|
|||||
|
Other
assets
|
9,540
|
9,540
|
|||||
|
Total
assets
|
$
|
2,693,442
|
$
|
1,187,981
|
|||
|
LIABILITIES
AND SHAREHOLDERS’ EQUITY
|
|||||||
|
Current
liabilities:
|
|||||||
|
Accounts
payable
|
$
|
1,562,488
|
$
|
231,131
|
|||
|
Obligations
under capital lease
|
—
|
4,348
|
|||||
|
Accrued
liabilities
|
87,237
|
93,163
|
|||||
|
Deferred
Revenue
|
401,455
|
—
|
|||||
|
Total
current liabilities
|
2,051,180
|
328,642
|
|||||
|
Commitments
and contingencies
|
—
|
—
|
|||||
|
Total
liabilities
|
2,051,180
|
328,642
|
|||||
|
Shareholders’
equity :
|
|||||||
|
Preferred
stock, $1.00 par value, 2,000,000 shares authorized;
no
shares issued and outstanding
|
—
|
—
|
|||||
|
Common
stock, 120,000,000 shares authorized, $.001 par value,
104,257,607
and
99,746,440 shares issued and outstanding, respectively
|
104,258
|
99,746
|
|||||
|
Additional
paid-in capital
|
102,139,950
|
95,767,647
|
|||||
|
Accumulated
deficit
|
(101,601,946
|
)
|
(95,008,054
|
)
|
|||
|
Total
shareholders’ equity
|
642,262
|
859,339
|
|||||
|
Total
liabilities and shareholders’ equity
|
$
|
2,693,442
|
$
|
1,187,981
|
|||
See
notes to consolidated financial statements.
Page
29
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
|
Year
ended December 31,
|
||||||||||
|
|
2006
|
2005
|
2004
|
|||||||
|
|
||||||||||
|
Revenues
|
||||||||||
|
Contract
research
|
$
|
360,054
|
$
|
59,995
|
$
|
—
|
||||
|
Government
contracts
|
583,236
|
208,211
|
305,721
|
|||||||
|
License
fees and royalties
|
83,928
|
—
|
10,852
|
|||||||
|
Other
|
89,452
|
297,454
|
65,949
|
|||||||
|
|
||||||||||
|
Total
revenues
|
1,116,670
|
565,660
|
382,522
|
|||||||
|
Operating
costs
|
||||||||||
|
Research
and development
|
3,590,148
|
2,635,412
|
2,737,029
|
|||||||
|
Selling,
general and administrative expenses
|
5,229,014
|
3,779,820
|
4,305,000
|
|||||||
|
Royalty
expense
|
—
|
—
|
500,000
|
|||||||
|
Total
operating costs
|
8,819,162
|
6,415,232
|
7,542,029
|
|||||||
|
Gain
on sale of assets and other intellectual property
|
1,100,000
|
|
—
|
125
|
|
|||||
|
|
||||||||||
|
Income
(loss) from operations
|
(6,602,492
|
)
|
(5,849,572
|
)
|
(7,159,382
|
)
|
||||
|
|
||||||||||
|
Other
income (expense):
|
||||||||||
|
Interest
income
|
9,204
|
33,346
|
24,857
|
|||||||
|
Interest
expense
|
(604
|
)
|
(2,590
|
)
|
(4,584
|
)
|
||||
|
Other
income (loss)
|
—
|
—
|
—
|
|||||||
|
|
||||||||||
|
Loss
before taxes
|
(6,593,892
|
)
|
(5,818,816
|
)
|
(7,139,109
|
)
|
||||
|
|
||||||||||
|
Provision
for taxes
|
—
|
—
|
—
|
|||||||
|
|
||||||||||
|
Net
(loss) applicable to common shareholders
|
$
|
(6,593,892
|
)
|
$
|
(5,818,816
|
)
|
$
|
(7,139,109
|
)
|
|
|
Earnings
(loss) per share
|
||||||||||
|
Basic
and diluted
|
$
|
(0.07
|
)
|
$
|
(0.06
|
)
|
$
|
(0.07
|
)
|
|
|
Weighted
average common shares outstanding
|
||||||||||
|
Basic
and diluted
|
100,895,795
|
98,957,812
|
96,609,237
|
|||||||
See
notes to consolidated financial statements.
Page
30
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
|
Preferred
|
Common
|
Additional
|
Accumulated
|
|||||||||||||||||||
|
Shares
|
Amount
|
Shares
|
Amount
|
Paid-In
Capital
|
Deficit
|
Total
|
||||||||||||||||
|
Balance
December 31, 2003
|
-
|
-
|
95,612,990
|
95,613
|
85,507,345
|
(82,050,129
|
)
|
3,552,829
|
||||||||||||||
|
Issuance
of common stock
|
||||||||||||||||||||||
|
options
as compensation
|
-
|
-
|
-
|
-
|
2,375,987
|
-
|
2,375,987
|
|||||||||||||||
|
Issuance
of common stock
|
||||||||||||||||||||||
|
as
a result of the exercise of
|
||||||||||||||||||||||
|
employee
stock options
|
-
|
-
|
1,211,545
|
1,211
|
972,138
|
-
|
973,349
|
|||||||||||||||
|
Issuance
of common stock for cash
|
-
|
-
|
421,887
|
422
|
1,082,978
|
-
|
1,083,400
|
|||||||||||||||
|
Net
(loss)
|
-
|
-
|
-
|
-
|
-
|
(7,139,109
|
)
|
(7,139,109
|
)
|
|||||||||||||
|
Balance
December 31, 2004
|
-
|
-
|
97,246,422
|
97,246
|
89,938,448
|
(89,189,238
|
)
|
846,456
|
||||||||||||||
|
Issuance
of common stock
|
||||||||||||||||||||||
|
options
as compensation
|
-
|
-
|
-
|
-
|
1,288,760
|
-
|
1,288,760
|
|||||||||||||||
|
Issuance
of common stock
|
||||||||||||||||||||||
|
as
a result of the exercise of
|
||||||||||||||||||||||
|
employee
stock options
|
-
|
-
|
817,625
|
818
|
542,121
|
-
|
542,939
|
|||||||||||||||
|
Issuance
of common stock for cash
|
-
|
|
|
-
|
|
|
1,682,393
|
|
|
1,682
|
|
|
3,998,318
|
|
|
-
|
|
|
4,000,000
|
|
||
|
Net
(loss)
|
|
|
-
|
-
|
-
|
-
|
-
|
(5,818,816
|
)
|
(5,818,816
|
)
|
|||||||||||
|
Balance
December 31, 2005
|
-
|
-
|
99,746,440
|
99,746
|
95,767,647
|
(95,008,054
|
)
|
859,339
|
||||||||||||||
|
Issuance
of common stock
|
||||||||||||||||||||||
|
options
as compensation
|
-
|
-
|
-
|
-
|
695,978
|
-
|
695,978
|
|||||||||||||||
|
Issuance
of common stock
|
|
|||||||||||||||||||||
|
as
a result of the exercise of
|
|
|||||||||||||||||||||
|
employee
stock options
|
-
|
-
|
54,383
|
55
|
26,589
|
-
|
26,644
|
|||||||||||||||
|
Issuance
of common stock for cash
|
-
|
-
|
4,039,393
|
4,040
|
5,000,153
|
-
|
5,004,193
|
|||||||||||||||
|
Issuance
of common stock for
accounts
payable
|
-
|
-
|
217,391
|
217
|
249,783
|
-
|
250,000
|
|||||||||||||||
|
Issuance
of Common Stock for
Patents
|
-
|
-
|
200,000
|
200
|
399,800
|
-
|
400,000
|
|||||||||||||||
|
Net
(loss)
|
-
|
-
|
-
|
-
|
-
|
(6,593,892
|
)
|
(6,593,892
|
)
|
|||||||||||||
|
Balance
December 31, 2006
|
-
|
$
|
-
|
104,257,607
|
$
|
104,258
|
$
|
102,139,950
|
$
|
(101,601,946
|
)
|
$
|
642,262
|
|||||||||
See
notes to consolidated financial statements.
Page
31
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF CASH
FLOWS
|
Year
Ended
December
31,
|
||||||||||
|
|
2006
|
2005
|
2004
|
|||||||
|
Cash
flows from operating activities:
|
||||||||||
|
Net
loss
|
$
|
(6,593,892
|
)
|
$
|
(5,818,816
|
)
|
$
|
(7,139,109
|
)
|
|
|
Adjustments
to reconcile loss to net
cash
used in operating activities:
|
||||||||||
|
Depreciation
and amortization expense
|
49,172
|
56,260
|
54,928
|
|||||||
|
(Gain)
loss on disposal of assets
|
—
|
—
|
(125
|
)
|
||||||
|
Stock
and options issued for services
|
695,978
|
1,288,760
|
2,375,987
|
|||||||
|
Stock
issued for patent
|
400,000
|
—
|
—
|
|||||||
|
Changes
in assets and liabilities:
|
||||||||||
|
Accounts
receivable, trade
|
(270,615
|
)
|
(87,368
|
)
|
34,397
|
|||||
|
Prepaid
expenses and other assets
|
6,005
|
(171
|
)
|
6,326
|
||||||
|
Accounts
payable
|
1,581,357
|
90,534
|
13,788
|
|||||||
|
Accrued
expenses
|
(5,926
|
)
|
18,207
|
17,310
|
||||||
|
Customer
deposits and other current liabilities
|
401,455
|
(54,985
|
)
|
54,985
|
||||||
|
|
||||||||||
|
Total
adjustments
|
2,857,426
|
1,311,237
|
2,557,596
|
|||||||
|
|
||||||||||
|
Net
cash used in operating activities
|
(3,736,466
|
)
|
(4,507,579
|
)
|
(4,581,513
|
)
|
||||
|
|
||||||||||
|
Cash
flows from investing activities:
|
||||||||||
|
Capital
expenditures
|
(101,932
|
)
|
(16,672
|
)
|
(118,987
|
)
|
||||
|
Proceeds
from sale of assets
|
—
|
—
|
125
|
|||||||
|
|
||||||||||
|
Net
cash used in investing activities
|
(101,932
|
)
|
(16,672
|
)
|
(118,862
|
)
|
||||
|
|
||||||||||
|
Cash
flows from financing activities:
|
||||||||||
|
Proceeds
from issuance of common stock
|
5,030,837
|
4,542,939
|
2,056,749
|
|||||||
|
Repayment
of long-term notes payable and capital lease
obligations
|
(4,348
|
)
|
(23,026
|
)
|
(19,359
|
)
|
||||
|
|
||||||||||
|
Net
cash provided by financing activities
|
5,026,489
|
4,519,913
|
2,037,390
|
|||||||
|
Net
increase (decrease) in cash and cash equivalents
|
1,188,091
|
(4,338
|
)
|
(2,662,985
|
)
|
|||||
|
Cash
and cash equivalents, beginning of year
|
897,247
|
901,585
|
3,564,570
|
|||||||
|
Cash
and cash equivalents, end of year
|
$
|
2,085,338
|
$
|
897,247
|
$
|
901,585
|
||||
See
notes to consolidated financial statements.
Page
32
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
1. Organization,
Operations, and Liquidity:
Nano-Proprietary,
Inc. and its subsidiaries (“the Company”) are engaged in the development of
products for applications using proprietary field emission technology, sensors,
nanoelectronics, and nanomaterials, as well as the performance of significant
research in that area. We intend to obtain development revenues for applying
our
technology to specific applications for customers and royalty revenues from
licensing this technology to others. We have also developed patented electronic
sign technology and sold products using that technology, but have now sold
that
technology. We may receive additional income from the sale of that technology
based on license revenues received by the purchaser of the
technology.
Until
we are able to operate profitably as a result of revenues from either reimbursed
research or license agreements, we may continue to seek additional funds through
the equity markets, or raise funds through debt instruments to allow us to
maintain operations. There is no assurance that license agreements will be
signed, that commercialization of our technology and products will result in
income from operations, or that funds will be available in the equity or debt
markets. Management believes it will continue to be able to secure additional
short term funding, if necessary, to allow the Company to continue operations
until we achieve profitability.
The
principal source of our liquidity since the time of our initial public offering
in 1993 has been from the funds received from exempt offerings of common stock,
preferred stock, and convertible debt securities, as well as license and
development revenues. We will likely receive additional funds from the
exercise of options. We may also seek to increase our liquidity through bank
borrowings or other financings, although this is not likely. There can be
no assurance that any of these financing alternatives can be arranged on
commercially acceptable terms. We believe that our success in reaching
profitability will depend on the viability of our technology and products using
that technology, their acceptance in the marketplace, and our ability to obtain
additional debt or equity financings in the future.
A
portion of our research and development has been funded by others. To the
extent that other funding is not available, the research and development
performed is internally funded by us.
2. Summary
of Significant Accounting Policies:
Principles
of consolidation
The
accompanying consolidated financial statements include the accounts of the
Company and its subsidiaries, Applied Nanotech, Inc. (“ANI”), and Electronic
Billboard Technology, Inc. (“EBT”), after the elimination of all significant
intercompany accounts and transactions. ANI is primarily involved in developing
products for applications using the Company’s proprietary field emission
technology, sensors, nanoelectronics, and nanomaterials which include
composites. EBT was primarily involved in the commercialization of electronic
digitized sign technology, but has now sold its technology.
Management’s
estimates
The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that
affect the reported amounts of assets, liabilities, revenues, and expenses,
as
well as the disclosure of contingent assets and liabilities. Actual results
could differ from those estimates. Significant estimates include NOL reserves,
bad debt reserves, assumptions used in calculating share based compensation
under FAS 123R, depreciation, and litigation reserves.
Page
33
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. Summary
of Significant Accounting Policies (continued):
Revenue
recognition
Our
revenues include reimbursements under agreements to perform research and
development for government agencies and others. We do not perform research
contracts that are contingent upon successful results. Larger projects are
broken down in phases to allow the customer to determine at the end of each
phase if they wish to move to the next phase. The agreements with federal
government agencies generally provide that, upon completion of a technology
development program, the funding agency is granted a royalty-free license to
use
the newly developed technology for its own purposes. We retain all other
rights to use, develop, and commercialize the technology and recognize revenue
when it is earned pursuant to the terms of the contract. Agreements with other
entities generally allow the other entity to license the technology from us
upon
completion of the project.
The
Company revenues also include royalties from licensing its technology, revenue
from the sale of products, and other miscellaneous revenues. Many of the
company’s projects may involve a combination of these types of revenues.
Revenues are recognized as follows.
Government
Contracts - Revenue from government contracts is recognized when it is earned
pursuant to the terms of the contract. Long-term projects, such as SBIR Phase
II
grants that usually range from $500,000 to $1,000,000 in total and usually
extend for a period of approximately two years, are generally based on
reimbursement of costs. These projects are usually billed monthly based on
costs, hours, or some other measure of activity during the month. Short-term
projects, such as SBIR Phase I grants that usually are less than $100,000 and
usually extend for a period of approximately 6 months, are billed at periodic
intervals as specified in the contract. As a general rule, we recognize revenue
on these contracts based on the activity level of the contract during the period
as compared with total estimated activity. This generally would be a measure
of
cost incurred as compared with total expected cost. The recognition of revenue
may not correspond with the billings allowable under the contract. To the extent
that billings exceed revenue earned, a portion of the revenue is deferred until
such time as it is earned.
Other
Research Contracts - Revenue from nongovernmental contracts is recognized when
it is earned pursuant to the terms of the contract. Each contract is unique
and
tailored to the needs of the customer and goals of the project. Some contracts
may call for a monthly payment for a fixed period of time. Other contracts
may
be for a fixed dollar amount with an unspecified time period, although there
is
frequently a targeted completion date. These contracts generally involve some
sort of up front payment. Some contracts may call for the delivery of samples,
or may call for the transfer of equipment or other items developed during the
project to the customer. As a general rule, we recognize revenue on long term
contracts based on the activity level of the contract during the period as
compared with total estimated activity. This generally would be a measure of
cost incurred as compared with total expected cost. However, to the extent
there
are other significant contract provisions such as the delivery of more than
a
nominal amount of samples or delivery of equipment, we would modify this as
appropriate. For other short term contracts, generally less than $50,000, we
recognize revenue when it is billed under the terms of the
contract.
Royalty
Revenue - The Company recognizes royalty revenues based on the shipment of
products by a licensee at the time the underlying product upon which the royalty
is based is shipped by the entity paying the royalty. For minimum royalty
payments paid by a licensee that are required for the licensee to maintain
exclusivity, royalty revenue is recognized at the time the minimum royalty
payment, or notice of intended payment, is received. The Company recognizes
royalty payments received at the time of the signing of a royalty agreement
at
the time of receipt, unless the terms of the agreement make it clear that the
up-front payment was a prepayment of future royalties.
Product
Sales - Revenue from product sales is recognized at the time the product
shipped. The Company’s primary business is research and development and the
licensing of its technology, not the sale of products. Product sales are
generally insignificant in number, and are usually limited to the sale of
samples, proofs of concepts, prototypes, or other items resulting from its
research.
Other
Revenue - Other miscellaneous revenue is recognized as deemed appropriate given
the facts of the situation and is generally not material.
Page
34
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. Summary
of Significant Accounting Policies (continued):
Cash
and cash equivalents
The
Company considers all highly liquid investments purchased with a maturity of
approximately three months or less to be cash equivalents.
Accounts
receivable
The
Company occasionally sells products to others on credit; however most sales
are
to large financially stable companies, or the Federal government. It is the
Company's policy to record reserves for potential credit losses. Since
inception, the Company has experienced minimal credit losses. The Company
considered no reserves to be necessary for any of the years
presented.
Property
and equipment
Property
and equipment are recorded at cost, net of accumulated depreciation and
amortization. Depreciation is provided on the straight-line method over the
estimated useful lives of the assets, which range from three to seven years,
or
the lease term for leasehold improvements, if less. Expenses for major
renewals and betterments that extend the original estimated economic useful
lives of the applicable assets are capitalized. Expenses for normal repairs
and
maintenance are charged to operations as incurred. The cost and related
accumulated depreciation of assets sold or otherwise disposed of are removed
from the accounts, and any gain or loss is included in income.
Impairment
At
each balance sheet date, the Company evaluates the carrying amount and the
amortization period for its long-lived assets. If an indicator of impairment
exists, it is recorded at that time. There were no impairment charges recorded
in any of the years presented in these financial statements.
Income
taxes
The
Company accounts for income taxes using the liability method pursuant to
Statement of Financial Accounting Standards (“SFAS”) No. 109. Under this
method, deferred income taxes are recorded to reflect the tax consequences
on
future years of temporary differences between the tax basis of the assets and
liabilities and their financial amounts at year-end. The Company provides
a valuation allowance to reduce deferred tax assets to their net realizable
value.
Research
and development expenses
Costs
of research and development for Company-sponsored projects are expensed as
incurred.
Disclosures
about fair value of financial instruments
The
following methods and assumptions were used to estimate the fair value of each
class of certain financial instruments for which it is practicable to estimate
that fair value. For cash equivalents and accounts receivable, the
carrying amount approximates fair value because of the short-term nature of
these instruments. The fair value of the Company’s capital lease obligations is
estimated based on the quoted market prices for the same, or similar issues,
or
on the current rates offered to the Company for obligations of the same
remaining maturities with similar collateral requirements. For all years
presented, the fair value of the Company’s capital lease obligations approximate
their carrying values.
Page
35
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. Summary
of Significant Accounting Policies (continued):
Income
(loss) per common share
Basic
per share amounts are computed, generally, by dividing net income or loss by
the
weighted average number of common shares outstanding. Diluted per-share
amounts assume the conversion, exercise, or issuance of all potential common
stock instruments unless the effect is anti-dilutive, thereby reducing the
loss
or increasing the income per common share. As described in Notes 7, 8 and
9, the Company had options and warrants outstanding as indicated in the table
below. However, because the Company incurred losses in all years presented,
the
inclusion of those potential common shares in the calculation of diluted loss
per-share would have an anti-dilutive effect. Therefore, basic and diluted
per-share amounts are the same in all years presented.
|
2006
|
2005
|
2004
|
||||||||
|
Options
|
7,713,912
|
6,703,151
|
5,398,703
|
|||||||
|
Warrants
|
60,000
|
95,000
|
95,000
|
|||||||
|
Weighted
average exercise price
|
1.58
|
$
|
1.57
|
$
|
1.29
|
|||||
Share-based
payments
The
Company has four stock based compensation plans described in greater detail
in
Note 8 to these financial statements. The Company uses the fair value method
to
account for stock-based compensation. The fair value of each award is estimated
on the date of each grant using the Black Scholes option pricing model that
uses
the assumptions noted in the following table. Estimated volatilities are based
on the historical volatility of the Company’s stock over the same period as the
expected term of the options. The expected term of options granted represents
the period of time that options granted are expected to be outstanding. The
Company uses historical data to estimate option exercise behavior and to
determine this term. The risk free rate used is based on the U.S. Treasury
yield
curve in effect at the time of the grant using a time period equal to the
expected option term. The Company has never paid dividends and does not expect
to pay any dividends in the future.
|
2006
|
2005
|
2004
|
||||
|
Expected
dividend yield
|
0%
|
0%
|
0%
|
|||
|
Risk
Free Interest Rate
|
4.6%-
5.2%
|
3.5%
- 4.4%
|
3.5%
|
|||
|
Expected
option term (in years)
|
2.0
- 3.5
|
1.5
- 3.5
|
5
|
|||
|
Turnover/Forfeiture
Rate
|
0%
|
0%
|
45%
|
|||
|
Expected
volatility
|
70%
- 87%
|
72%
- 100%
|
72%
|
|||
|
Weighted-average
volatility
|
78%
|
99%
|
72%
|
The
Black-Scholes option valuation model and other existing models were developed
for use in estimating the fair value of traded options that have no vesting
restrictions and are fully transferable. These option valuation models require
the input of, and are highly sensitive to, subjective assumptions including
the
expected stock price volatility. Nano-Proprietary’s stock options have
characteristics significantly different from those of traded options, and
changes in the subjective input assumptions could materially affect the fair
value estimate.
Page
36
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. Summary
of Significant Accounting Policies (continued):
Recently
issued accounting pronouncements
Effective
January 1, 2006, the Company adopted FASB Statement of Financial Accounting
Standards No. 123R (Revised 2004), Share-Based Payment, which requires that
the
compensation cost relating to share-based payment transactions be recognized
in
financial statements based on the provisions of SFAS 123 issued in 1995. We
have
adopted this statement using the modified retrospective method of
implementation, whereby the 2004 and 2005 statements included have been restated
to give effect to the fair-value based method of accounting for awards granted,
modified, or settled in that year as though they had been accounted for under
FAS 123. We previously used the intrinsic value method to account for
stock-based employee compensation.
The
compensation cost that has been charged against income in accordance with FAS
123R for the years ended December 31, 2006, 2005, and 2004 was $695,978,
$1,288,760, and $2,375,987, respectively. This represents an increase in expense
related to stock based compensation of $1,157,282 for 2005 and $2,527,083 for
2004. In addition, if we had accounted for stock based compensation expense
under the intrinsic value method in 2006, compensation expense would have
decreased by $814,603. Implementation of the provisions of FAS 123R had no
effect on cash flow from operations or cash flow from financing activities.
Implementation did increase the loss from continuing operations, the loss before
taxes, and the net loss in the years ended December 31, 2006, 2005, and 2004
by
$814,603, $1,157,282, and $2,527,083, respectively. Implementation of FAS 123R
increased the both basic and diluted (loss) per share by ($0.01), ($0.01),
and
($0.02) for the years ended December 31, 2006, 2005, and 2004,
respectively.
The
Company also increased both additional paid in capital and the accumulated
deficit as of December 31, 2005 by $10,273,105 to reflect the cumulative effect
of the implementation of FAS 123R as of that date. This amount represents the
total share-based compensation expense that would have been recorded for the
period from 1995 through 2005 if we had accounted for share based awards under
FAS 123 during that period.
3. Operating
Lease Obligations:
The
Company leases various facilities and equipment under operating lease agreements
having terms expiring at various dates through 2009. Rental expense was
$124,805, $133,487, and $115,217 for the years ended December 31, 2006,
2005 and 2004, respectively.
Future
minimum lease payments under operating leases that have initial or remaining
noncancelable lease terms in excess of one year at December 31, 2006, were
as
follows:
|
2007
|
|
163,930
|
|
2008
|
61,790
|
|
|
2009
and thereafter
|
|
37,675
|
|
Total
future minimum lease payments
|
$
|
263,395
|
Page
37
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
4. Capital
Lease Obligations:
Capital
leases payable at December 31, 2006 and 2005 consisted of the
following:
|
|
2006
|
2005
|
|||||
|
Capital
leases for copier equipment due in monthly
installments of $1,932 through 2006. The
equipment value and lease obligation was determined using
a discount rate of 10%. The equipment was included in office
equipment at December 31, 2005 at a cost of $94,383 and
with accumulated amortization of $91,018. The equipment was returned
in
2006 at the end of the lease.
|
$
|
—
|
$
|
4,368
|
|||
|
Less
interest
|
—
|
(20
|
)
|
||||
|
Less
current portion
|
—
|
(4,348
|
)
|
||||
|
Capital
Lease Obligations, long-term
|
$
|
—
|
$
|
—
|
|||
5. Details
of Certain Balance Sheet Accounts:
Additional
information regarding certain balance sheet accounts at December 31, 2006 and
2005 is as follows:
|
|
December
31,
|
||||||
|
|
2006
|
2005
|
|||||
|
|
|||||||
|
Property
and equipment:
|
|||||||
|
Plant
and equipment
|
$
|
837,436
|
$
|
755,436
|
|||
|
Furniture
and office equipment
|
106,146
|
199,184
|
|||||
|
Leasehold
Improvements
|
14,382
|
14,382
|
|||||
|
Total
carrying cost
|
957,964
|
969,002
|
|||||
|
Less
accumulated depreciation
|
(803,419
|
)
|
(867,217
|
)
|
|||
|
$
|
154,545
|
$
|
101,785
|
||||
|
Accrued
liabilities:
|
|||||||
|
Payroll
and related accruals
|
$
|
63,237
|
$
|
65,507
|
|||
|
Other
|
24,000
|
27,656
|
|||||
|
Total
|
$
|
87,237
|
$
|
93,163
|
|||
Depreciation
for the years ended December 31, 2006, 2005, and 2004 was $49,172, $56,260,
and
$54,928, respectively.
Page
38
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
6. Income
Taxes
:
The
components of deferred tax assets (liabilities) at December 31, 2006 and 2005,
were as follows:
|
December
31,
|
|||||||
|
2006
|
2005
|
||||||
|
Deferred
tax assets:
|
|||||||
|
Net
operating loss carry forwards
|
$
|
32,904,000
|
$
|
30,849,000
|
|||
|
Stock
Based Compensation
|
1,804,000
|
1,586,000
|
|||||
|
Research
and experimentation credits
|
468,000
|
468,000
|
|||||
|
Capitalized
intangible assets
|
149,000
|
185,000
|
|||||
|
Depreciation
assets
|
5,000
|
6,000
|
|||||
|
Accrued
expenses not deductible until paid
|
24,000
|
24,000
|
|||||
|
Total
deferred tax assets
|
35,354,000
|
33,118,000
|
|||||
|
|
|||||||
|
Deferred
tax liabilities:
|
—
|
—
|
|||||
|
Net
deferred tax assets before valuation allowance
|
35,354,000
|
33,118,000
|
|||||
|
|
|||||||
|
Valuation
allowance
|
(35,354,000
|
)
|
(33,118,000
|
)
|
|||
|
|
|||||||
|
Net
deferred tax asset
|
|||||||
|
$
|
—
|
$
|
—
|
||||
The
following is a reconciliation of the amount of the income tax expense (benefit)
that would result from applying the statutory federal income tax rates to pretax
income (loss) and the reported amount of income tax expense (benefit) for the
periods ended December 31, 2006, 2005, and 2004.
|
|
December
31,
|
|||||||||
|
|
2006
|
2005
|
2004
|
|||||||
|
|
|
|
|
|||||||
|
Expected
income tax expense (benefit)
|
$
|
(2,242,000
|
)
|
$
|
(1,978,000
|
)
|
$
|
(2,427,000
|
)
|
|
|
Non-deductible
expenses
|
10,000
|
11,000
|
7,000
|
|||||||
|
Expiration
of Tax Credit Carryforwards
|
—
|
1,000
|
556,000
|
|||||||
|
Other
|
(4,000
|
)
|
2,000
|
1,000
|
||||||
|
Increase
in Valuation Allowance
|
(2,236,000
|
)
|
1,964,000
|
1,863,000
|
||||||
|
Total
Tax
|
$
|
—
|
$
|
—
|
$
|
—
|
||||
As
of December 31, 2006, the Company had net operating loss carry forwards of
approximately $97 million that expire from 2007 through 2026, and are available
to offset future taxable income. The majority of these carry forwards expire
after 2009. Additionally, the Company has tax credit carry forwards related
to
research and development expenditures of approximately $468,000 that expire
through 2011.
The
Company’s IPO, completed in 1993, and subsequent issuances of stock have
effected ownership changes under Internal Revenue Code Section 382. The
ownership changes resulting from these stock issuances will likely limit the
Company's ability to utilize any net operating loss carry forwards or credits
generated before the changes in ownership.
Page
39
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
7. Capital
Stock:
Preferred
stock
The
Company has authorization for the issuance of 2,000,000 shares of $1.00 par
value preferred stock. There were no shares of preferred stock outstanding
for
any of the years presented.
Common
stock
During
2004, 2005, and 2006, the Company issued shares of its common stock in a series
of private placements in exempt offerings under Regulation D of the Securities
Act of 1933. These shares were issued at prices that represented a slight
discount to the market price of the stock at the time of the offerings. All
of
these shares were registered to enable the shareholder to be able to sell the
shares, with the latest registration statement declared effective February
13,
2007. The shares issued in 2006 include both shares issued for cash and shares
issued in payment of accounts payable.
|
Shares
|
Proceeds
|
||||||
|
2006
|
4,256,784
|
$
|
5,254,193
|
||||
|
2005
|
1,682,393
|
$
|
4,000,000
|
||||
|
2004
|
401,887
|
$
|
1,065,000
|
||||
In
2006 in an exempt offering under Regulation D of the Securities Act of 1933
,
the Company also issued 200,000 shares in connection with the acquisition and
resale of a patent. See Notes 18 and 19 for additional information.
At
December 31, 2006, common stock was reserved for the following
reasons:
|
Exercise
of stock warrants
|
60,000
|
|
Exercise
and future grants of stock options
|
8,658,877
|
|
|
|
|
Total
shares reserved
|
8,718,877
|
8. Stock
Options:
The
Company sponsors four stock-based incentive compensation plans (the “Plans”),
which are described below. The compensation cost that has been charged against
income for these plans for the years ended December 31, 2006, 2005, and 2004
was
$695,978, $1,288,760, and $2,375,987, respectively. No income tax benefit was
recognized in the income statement and no compensation was capitalized in any
of
the years presented. The company issues new shares for all options exercised
and
does not expect to repurchase any shares to facilitate future option
exercises.
The
plans allow the Company to grant either incentive stock options or non-qualified
stock options. The incentive stock options are exercisable for up to ten years,
at an option price per share not less than the fair market value on the date
the
option is granted. The incentive stock options are limited to persons who have
been regular full-time employees of the Company or its present and future
subsidiaries for more than one (1) year and at the date of the grant of any
option are in the employ of the Company or its present and future subsidiaries.
Historically, the Company has not granted incentive stock options. Non-qualified
options may be granted to any person, including, but not limited to, employees,
independent agents, consultants and attorneys, who the Company's Compensation
Committee believes have contributed, or will contribute, to the success of
the
Company. Non-qualified options may be issued at option prices of less than
fair market value on the date of grant and are exercisable for up to ten years
from date of grant. The option vesting schedule for options granted is
determined by the Compensation Committee of the Board of Directors at the time
of the grant. The plans provide for accelerated vesting of unvested options
if
there is a change in control, as defined in the plan.
Page
40
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
8. Stock
Options (continued):
In
March 1992, the shareholders of the Company approved the 1992 Employees Stock
Option Plan (the "1992 Employees Plan") for purposes of granting incentive
or
non-qualified stock options. The plan was amended several times by the Company’s
Board of Directors to increase the number of shares authorized under the plan.
The latest amendment, in December 1999, increased the authorized shares under
the plan to 6,500,000. This plan expired in March 2002; however, options granted
under this plan prior to expiration remain outstanding until they are exercised,
forfeited, or the exercise period expires. At December 31, 2006, no shares
remained available for grant under the 1992 Employees Plan.
In
March 1992, the Board of Directors adopted the 1992 Outside Directors’ Stock
Option Plan (the "1992 Directors Plan"), for purposes of granting non-qualified
options to non-employee directors of the Company. The plan was amended several
times, the latest being in December 1999. A total of 1,000,000 shares were
reserved for issuance under the plan and were issued each year based on a
formula defined by the plan. The stock options granted under the 1992 Directors
Plan are exercisable for up to 10 years at an option price equal to the fair
market value on the date the option is granted. This plan expired in March
2002; however, options granted under the plan prior to expiration remain
outstanding until they are exercised, forfeited, or the exercise period expires.
At December 31, 2006, no shares remained available for grant under the 1992
Directors Plan.
In
May 1998, the Board of Directors of the Company established the 1998 Officers
and Directors Stock Option Plan (the “1998 Officers and Directors Plan”) and
reserved a total of 1,200,000 shares for issuance under the Plan. The plan
was
amended in January 1999 by the Board of Directors of the Company to increase
the
shares reserved for issuance under the plan to 2,500,000. Options under this
plan were granted at the discretion of the Board of Directors. No additional
shares are currently available under this plan and no shares will become
available under this plan in the future.
In
September 2002, the Board of Directors of the Company established the 2002
Equity Compensation Plan and reserved a total of 5,000,000 shares for issuance
under the Plan, effective March 2002. The purpose of this plan was to replace
the 1992 Employees Plan and the 1992 Directors Plan, both of which expired
in
March 2002. The plan was amended effective December 31, 2004 to increase the
authorized shares to 8,000,000. A total of 944,965 shares remain available
for
grant under this at December 31, 2006.
The
following table summarizes information about stock options outstanding, all
of
which are expected to ultimately vest, and those options currently exercisable
under all four stock option plans at December 31, 2006:
|
Options
Outstanding
|
Options
Exercisable
|
||||||
|
Range
of
Exercise
Prices
|
Number
Outstanding
at
12/31/06
|
Wgtd. Avg.
Remaining
Contractual
Life
|
Wgtd.
Avg.
Exercise
Price
|
Number
Exercisable
at
12/31/06
|
Wgtd. Avg.
Remaining
Contractual
Life
|
Wgtd.
Avg.
Exercise
Price
|
|
|
|
|
|
|
|
|
|
|
|
$0.00
- $0.50
|
749,706
|
3.0
Years
|
$0.44
|
749,706
|
3.0
Years
|
$0.44
|
|
|
$0.51
- $1.00
|
1,124,083
|
4.7
Years
|
$0.83
|
1,124,083
|
4.7
Years
|
$0.83
|
|
|
$1.01
- $2.00
|
2,870,000
|
8.6
Years
|
$1.31
|
1,055,000
|
6.3
Years
|
$1.50
|
|
|
$2.01
- $2.99
|
2,970,123
|
7.1
Years
|
$2.41
|
2,670,123
|
7.1
Years
|
$2.37
|
|
|
|
|
|
|||||
|
Total
|
7,713,912
|
6.9
Years
|
$1.58
|
5,598,912
|
6.9
Years
|
$1.64
|
|
|
|
|
|
|||||
|
Aggregrate
intrinsic value
|
$1,757,176
|
$1,374,158
|
|||||
Page
41
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
8. Stock
Options (continued):
The
following is a summary of stock option activity under all four
plans:
|
|
Number
of
Shares
|
Wgtd.
Ave.
Exercise
Price
|
||
|
|
||||
|
Options
outstanding at December 31, 2003
|
5,253,175
|
$1.09
|
||
|
|
|
|||
|
|
Granted
|
2,457,073
|
$2.73
|
|
|
|
Exercised
|
(1,211,545)
|
$0.80
|
|
|
|
Cancelled
|
(1,100,000)
|
$2.94
|
|
|
|
|
|
||
|
Options
outstanding at December 31, 2004
|
5,398,703
|
$1.52
|
||
|
Granted
|
2,872,073
|
$2.25
|
||
|
Exercised
|
(817,625)
|
$0.66
|
||
|
Cancelled
|
(750,000)
|
$2.42
|
||
|
Options
outstanding at December 31, 2005
|
6,703,151
|
$1.84
|
||
|
Granted
|
2,972,970
|
$1.54
|
||
|
Exercised
|
(54,383)
|
$0.49
|
||
|
Cancelled
|
(1,907,826)
|
$2.43
|
||
|
Options
outstanding at December 31, 2006
|
7,713,912
|
|
$1.58
|
|
The
weighted-average grant-date fair value of options granted during the years
ended
December 31, 2006, 2005, and 2004 was $0.90, $1.43, and $1.65, respectively.
The
total intrinsic value of options exercised during the years ended December
31,
2006, 2005, and 2004 was $57,050, $1,552,038, and $1,805,865
respectively.
As
of December 31, 2006, there was $1,688,643 of total unrecognized compensation
cost related to non-vested options granted under the plan. This cost is expected
to be recognized over a period of weighted average period of approximately
1.3
years.
During
the year ended December 31, 2006, we extended the contractual life of 20,000
options granted to a consultant by one year. As a result of that modification,
we recognized additional compensation expense of $1,750. During 2006, we also
repriced 100,000 options granted to a consultant. At the time of the grant
in
2005, the options were priced above the market price of our common stock. In
2006, we repriced those options to a price equal to the market price of our
stock at the time of the original grant in 2005. As a result of this repricing,
we recognized $9,000 of additional compensation expense.
Page
42
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
9. Stock
Warrants:
Common
stock warrants
In
1996, the Company issued 35,000 warrants to an advisor in connection with the
Company’s fundraising activities. These warrants enable the holder to purchase
shares of the Company’s common stock at a price of $2.00 per share through 2006.
These warrants expired unexercised at the end of January 2006. In 1997, the
Company issued 75,000 additional warrants to this advisor in connection with
services related to a joint venture agreement. A total of 15,000 of these
warrants were exercised in 1999. These warrants enable the holder to purchase
shares of the Company’s Common Stock at a price of $1.00 per share through 2007.
The remaining 60,000 options expired unexercised in 2007.
In
1999, the Company issued a total of 60,000 warrants to three separate
individuals in connection with services rendered to the Company. The exercise
price of these warrants was based on the fair market value of the Company’s
common stock at the time of issuance and ranged from $0.92 to $2.15 per share.
These warrants were exercisable for a period of 5 years from the date of
issuance and were either exercised or expired in 2004.
The
following is a summary of outstanding warrants:
|
|
Number
of
Shares
|
Exercise
Price
|
|||||
|
|
|
|
|||||
|
Warrants
outstanding at January 1, 2004
|
155,000
|
$
|
0.92-2.15
|
||||
|
Exercised
|
(20,000
|
)
|
$
|
0.92
|
|||
|
Expired
or canceled
|
(40,000
|
)
|
$
|
2.15
|
|||
|
|
|||||||
|
Warrants
outstanding at December 31, 2004
|
95,000
|
$
|
0.92-2.15
|
||||
|
Exercised
|
—
|
—
|
|||||
|
Expired
|
—
|
—
|
|||||
|
Warrants
outstanding at December 31, 2005
|
95,000
|
$
|
1.00-2.00
|
||||
|
Exercised
|
—
|
—
|
|||||
|
Expired
|
(35,000
|
)
|
$
|
2.00
|
|||
|
|
|||||||
|
Warrants
outstanding at December 31, 2006
|
60,000
|
$
|
1.00
|
||||
10. Supplemental
Cash Flow Information:
Cash
paid for interest was $604, $2,590, and $4,584 for 2006, 2005, and 2004,
respectively. The following non-cash transactions have been excluded from
the accompanying consolidated statement of cash flows:
|
2006
|
2005
|
2004
|
||||||||
|
|
||||||||||
|
Non-cash
financing activities:
|
||||||||||
|
Issuance
of common shares in payment of accounts payable
|
$
|
250,000
|
$
|
—
|
$
|
—
|
||||
Page
43
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
11. Commitments
and Contingencies:
Till
Keesmann Agreement
In
May 2000, we licensed the rights to 6 carbon nanotube patents from Till Keesmann
in exchange for a payment of $250,000 payable in shares of our common stock.
Under the terms of the agreement, we are obligated to pay license fees equal
to
50% of any royalties received by us specifically related to these patents.
We
are allowed to offset certain expenses, up to a maximum of $50,000 per year,
against payments due under this agreement. The agreement also contained
provisions related to minimum license fee payments. These minimum payments,
totaling $1,000,000, have been made and no further minimum payments are due.
We
are allowed to offset these minimum payments against future royalty payments;
however, once these minimum payments and the expenses have been offset, we
may
be liable for additional royalty payments. As discussed in more detail below,
this agreement is currently under litigation.
Research
and development commitments
As
of December 31, 2006, the Company had several research contracts in process.
The
total amount of those contracts is $3,632,710. Of that total, $606,577 has
been
recognized as revenue and $3,026,133 will be recognized in the future. The
revenue to be recognized from these research contracts in 2007 is expected
to exceed the cost of this research.
Agreements
with MCC
We
entered into an agreement in 1994 with Microelectronics and Computer Technology
Corporation (“MCC”) that was amended on several subsequent occasions to cross
license and pool technologies. As part of this relationship with MCC, 62 Diamond
Field Emission patents and patent applications were assigned directly to us
and
we agreed to pay a royalty fee of 2% of future commercial revenues related
to
the patents received. We have the right to offset one half of the costs of
maintaining these patents against any royalties due under the agreement. No
payments have been made to, or are due to MCC under this agreement, and the
possibility is remote that any payments will ever be due under this
agreement.
Legal
proceedings
Canon
litigation
In
April 2005, we filed suit against the Japanese camera and copier manufacturer
Canon, Inc., and its wholly-owned U.S. subsidiary Canon USA, Inc., in the U.S.
District Court for the Western District of Texas, Austin Division, seeking
a
declaratory judgment that new SED color television products being
developed and manufactured by a Canon/Toshiba joint venture are not covered
under a non-exclusive 1999 patent license agreement that we granted to
Canon. We assert that the Canon/Toshiba joint-venture - SED, Inc. -
is not a licensed party under that agreement. The original complaint asserted
additional claims related to whether the Canon/Toshiba joint venture’s
television panels constituted excluded products under the 1999 license, as
well
as breach of covenant of good faith and fair dealing, tortious interference
and
a Lanham act violation by Canon. Last year, Canon moved to dismiss Canon U.S.A.
from the litigation, and moved to dismiss several of the counts asserted. The
court denied the motion, in part, by ruling that Canon U.S.A. was an appropriate
defendant and refusing to dismiss our claims for breach of the covenant of
good
faith and fair dealing. Our tortious interference and Lanham Act claims were
dismissed, without prejudice.
After
initial discovery, in April 2006, we amended the complaint to drop one count
related to the definition of excluded products in the 1999 license, and add
two
counts for fraudulent inducement and fraudulent non-disclosure related to events
and representations made during our negotiations on the license, including
Canon’s failure to disclose an ongoing relationship with Toshiba. Canon moved to
dismiss the fraud claims, and the Court denied Canon’s motion in May 2006. The
suit is now proceeding under the amended complaint. Discovery was completed
in
August 2006. Upon completion of discovery, Canon filed a motion for summary
judgment seeking to dismiss the claim that SED is not a licensed party under
the
agreement. Canon did not file a motion for summary judgment seeking to dismiss
either of the fraud claims or the breach of covenant of good faith and fair
dealing. In November 2006, the Court denied Canon partial motion for summary
judgment, describing SED, Inc. as a “corporate fiction designed for the sole
purpose of evading Canon’s contractual obligations”.
Page
44
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
11. Commitments
and Contingencies (continued):
In
January 2007, Canon filed another motion for partial summary judgment seeking
a
declaration that a reconstituted SED, Inc. which will be owned 100% by Canon,
but still involving numerous reciprocal agreements with Toshiba, will be
considered a Canon subsidiary. At the same time, we filed a motion for partial
summary judgment, seeking the court’s affirmation of our termination of the
license agreement due to Canon’s breach of contract in 2004. On February 22,
2007, the Court issued a ruling denying Canon’s motion and granting our motion
for partial summary judgment, ruling our termination of the contract effective
December 1, 2006 to be valid. Trial on the remaining counts is to be scheduled
on the first available open date on the Court’s calendar on or after April 2,
2007.
Keesmann
litigation
In
May 2006, we filed suit in the U.S. District Court for the Northern District
of
Illinois against Till Keesmann, a German citizen who in 2000 granted us an
exclusive and perpetual license to certain of his U.S. and European patents
in
carbon nanotube cathode technology. Shortly after we filed suit against Canon
in
April 2005, Keesmann conveyed part of his interests in the Exclusive License
to
investors associated with a German patent evaluation firm, IP Bewertungs AG
(“IPB”). Thereafter, IPB approached us with proposals to buy or auction our
rights to Keesmann’s patents. On March 20, 2006, we announced a letter of intent
to form a joint venture with a leading Asian display manufacturer, Da Ling
Co.,
Ltd., to develop display products utilizing our intellectual property. Two
days
later, Keesmann purported to terminate the exclusive license that he granted
to
us six years ago. Our May 2006 complaint seeks a declaratory judgment that
Keesmann had no right to terminate the exclusive license, and we also filed
for
a Temporary Restraining Order and Preliminary Injunction to prevent Keesmann
from taking any actions inconsistent with his obligations under the exclusive
license. The Court granted a consent order that prevents Keesmann from licensing
the patents pending an injunction hearing and decision. In June 2006, Keesmann
filed an Answer and Counterclaim, denying that the purported termination was
null and void, and asserting a counterclaim that asks the court to find that
we
breached the exclusive license by not actively marketing the Keesmann patents,
among other things.
We
amended our complaint in December 2006 to include additional defendants, JK
Patentportfolio GmbH & Co., Jochen Kamlah, NPV Nano Patent GmbH & Co.,
and Arnold Amsinck. The amended complaint also contains additional claims
including breach of contract, conversion, aiding and abetting conversion,
conspiracy to commit conversion, misappropriation, aiding and abetting
misappropriation, conspiracy to commit conversion, Lanham act violations,
tortious interference with a prospective economic relationship, aiding and
abetting tortious interference with a prospective economic relationship, and
conspiracy to tortiously interfere with a prospective economic
relationship.
In
January 2007, the Court granted our motion for preliminary injunction, ruling
that there is a reasonable likelihood that we will prevail on the merits of
the
case. The preliminary injunction enjoins Keesmann, his agents, employees, and
all those acting in concert with him from terminating the license agreement,
or
otherwise acting in violation of the license agreement. In connection with
this
injunction, the Court set the Bond, which is required by law, at $100,000.
We
posted the bond in February 2007.
Other
litigation
On
July 20, 1998, TFI Telemark, Inc. filed a complaint in the County Court at
Law
No. 2 of Travis County, Texas against the Company for debts of its now defunct
subsidiary, Plasmatron. The Company was served with notice of this suit on
August 5, 1998. The Company believes that no amounts are due to TFI; however,
all amounts claimed as owing by TFI are recorded as liabilities in the
consolidated financial statements of the Company. There has been no activity
on
this case in the last year. The Company believes the ultimate resolution of
this
matter will not have a material impact on the consolidated financial statements
of the Company.
From
time to time the Company and its subsidiaries are also defendants in various
lawsuits that may arise related to minor matters. It is expected that all such
lawsuits will be settled for an amount no greater than the liability recorded
in
the financial statements for such matters. If resolution of any of these
suits results in a liability greater than that recorded, it could have a
material impact on us.
Page
45
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
11. Commitments
and Contingencies (continued):
Government
contracts
Governmental
contractors are subject to many levels of audit and investigation. Among
United States agencies that oversee contract performance are: the Defense
Contract Audit Agency, the Inspector General, the Defense Criminal Investigative
Service, the General Accounting Office, the Department of Commerce, the
Department of Justice and Congressional Committees. The Company's management
believes that an audit or investigation, if any, as a result of such oversight
would not have any material adverse effect upon the Company's financial
condition or results of operations.
12. Concentrations
of Credit Risk:
The
Company’s financial instruments that are exposed to concentrations of credit
risk consist of cash and cash equivalents and receivables. The Company places
its cash and cash equivalents with high credit quality financial institutions;
however for periods of time during the year, bank balances on deposit were
in
excess of the Federal Deposit Insurance Corporation insurance limit. At December
31, 2006 and 2004, amounts in excess of the FDIC limit of $1,345,529 and
$175,058, respectively, were held at JP Morgan Chase. No amounts in excess
of
the FDIC limit were held in bank accounts at December 31, 2005. At December
31,
2006, the Company held $439,808 in excess of the Securities Investor Protection
Corporation limits in an account at Charles Schwab & Co. Inc.
The
Company’s receivables are uncollateralized and result primarily from its
research and development projects performed primarily for U.S. Federal
Government Agencies and services performed for large U.S. and multinational
corporations. The Company has not incurred any material losses on these
receivables.
13. Research
and Development Contracts:
The
Company makes significant expenditures for research and development. On
occasion, the Company may seek funding for a portion of its research and
development costs to reduce the cost of such expenditures to the Company. The
Company only seeks funding for projects that it already intended to do, or
for
projects that would apply its technology for other uses in instances where
that
application would allow the Company to achieve technical milestones that are
part of its strategic plan. A substantial portion of the Company’s funded
research has been from government contracts. Under government contracts, the
government has the right to utilize the results for its purposes and the Company
has the right to utilize the technology for commercial purposes.
Generally, when the Company contracts with other entities, the entity is also
conducting its own internal research related to application of the Company’s
technology to its products and such expenditures by the entity may exceed the
amount of funding provided to the Company. Usually the entity has the right
to
license the technology at the conclusion of the project, if they desire. The
costs of a particular research program may significantly exceed the funding
received, however since the research was part of planned research, these
contracts generally involve only nominal additional costs to the
Company.
The
following schedule summarizes certain information with respect to research
and
development contracts:
|
2006
|
2005
|
2004
|
||||||||
|
Contract
research revenues
|
$
|
943,290
|
$
|
268,206
|
$
|
305,721
|
||||
|
Costs
incurred charged to operations included in research and
development
|
$
|
879,592
|
$
|
254,656
|
$
|
278,928
|
||||
|
Amount
of additional funding commitments at December 31
|
$
|
3,026,133
|
$
|
268,258
|
$
|
129,090
|
||||
Page
46
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
14. Retirement
Plan:
The
Company sponsors a defined contribution 401(k) profit sharing plan. No company
contributions were made in any of the years presented.
15. Significant
Customers:
Applied
Nanotech, Inc. received research and development revenues from the U.S.
Government in the three years as disclosed on the income statement. ANI’s
revenues tend to be project oriented and are not necessarily recurring with
a
particular customer at the present time. During 2006, we received revenue of
$248,454 from Yonex, Co., Ltd. Net revenue from a project with another customer,
Shimane Masuda Electronics was $100,485 in 2006 and $109,970 in 2005. No revenue
was received from this customer in 2004.
16. Quarterly
Financial Information (Unaudited):
|
First
|
Second
|
Third
|
Fourth
|
Total
|
||||||||||||
|
Quarter
|
Quarter
|
Quarter
|
Quarter
|
Year
|
||||||||||||
|
2006
|
||||||||||||||||
|
Revenues
|
$
|
162,184
|
$
|
115,109
|
$
|
213,841
|
$
|
625,636
|
$
|
1,116,670
|
||||||
|
Operating
income (loss)
|
(1,797,193
|
)
|
(1,387,807
|
)
|
(1,933,196
|
)
|
(1,484,296
|
)
|
(6,602,492
|
)
|
||||||
|
Net
(loss)
|
(1,794,166
|
)
|
(1,385,583
|
)
|
(1,931,038
|
)
|
(1,483,105
|
)
|
(6,593,892
|
)
|
||||||
|
Earnings
(loss) per share
|
||||||||||||||||
|
Basic
and Diluted
|
(0.02
|
)
|
(0.01
|
)
|
(0.02
|
)
|
(0.01
|
)
|
(0.07
|
)
|
||||||
|
2005
|
||||||||||||||||
|
Revenues
|
$
|
68,815
|
$
|
88,544
|
$
|
245,917
|
$
|
162,384
|
$
|
565,660
|
||||||
|
Operating
income (loss)
|
(1,368,793
|
)
|
(1,386,251
|
)
|
(1,526,478
|
)
|
(1,568,050
|
)
|
(5,849,572
|
)
|
||||||
|
Net
(loss)
|
(1,365,194
|
)
|
(1,376,209
|
)
|
(1,516,913
|
)
|
(1,560,500
|
)
|
(5,818,816
|
)
|
||||||
|
Earnings
(loss) per share
|
||||||||||||||||
|
Basic
and Diluted
|
(0.01
|
)
|
(0.01
|
)
|
(0.02
|
)
|
(0.02
|
)
|
(0.06
|
)
|
||||||
|
2004
|
||||||||||||||||
|
Revenues
|
$
|
77,658
|
$
|
100,718
|
$
|
100,473
|
$
|
103,673
|
$
|
382,522
|
||||||
|
Operating
income (loss)
|
(1,716,577
|
)
|
(1,945,201
|
)
|
(1,727,587
|
)
|
(1,769,337
|
)
|
(7,159,382
|
)
|
||||||
|
Net
(loss)
|
(1,710,356
|
)
|
(1,940,334
|
)
|
(1,719,783
|
)
|
(1,768,636
|
)
|
(7,139,109
|
)
|
||||||
|
Earnings
(loss) per share
|
||||||||||||||||
|
Basic
and Diluted
|
(0.02
|
)
|
(0.02
|
)
|
(0.02
|
)
|
(0.02
|
)
|
(0.07
|
)
|
||||||
Annual
Earnings (loss) per share may not equal the sum of the four quarterly amounts
due to rounding.
Page
47
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
17. Segment
Information:
The
Company’s operations are classified into three principal reportable segments
that provide slightly different services.
|
|
|
|
|
|
|||||||||
|
|
ANI
|
EBT
|
All
Other
|
Total
|
|||||||||
|
2006
|
|||||||||||||
|
Revenue
|
$
|
1,116,670
|
$
|
-
|
$
|
-
|
$
|
1,116,670
|
|||||
|
Interest
Expense
|
573
|
-
|
31
|
604
|
|||||||||
|
Depreciation
and Amortization
|
46,191
|
-
|
2,982
|
49,173
|
|||||||||
|
Research
and Development
|
3,590,148
|
-
|
-
|
3,590,148
|
|||||||||
|
Net
Loss
|
(6,113,472
|
)
|
933,720
|
(1,418,867
|
)
|
(6,593,892
|
)
|
||||||
|
Assets
|
1,101,205
|
-
|
1,592,237
|
2,693,442
|
|||||||||
|
Capital
Expenditures
|
101,932
|
-
|
-
|
101,932
|
|||||||||
|
2005
|
|||||||||||||
|
Revenue
|
$
|
565,660
|
$
|
-
|
$
|
-
|
$
|
565,660
|
|||||
|
Interest
Expense
|
2,193
|
-
|
397
|
2,590
|
|||||||||
|
Depreciation
and Amortization
|
52,242
|
-
|
4,018
|
56,260
|
|||||||||
|
Research
and Development
|
2,635,412
|
-
|
-
|
2,525,292
|
|||||||||
|
Net
Loss
|
(4,326,457
|
)
|
(3,734
|
)
|
(1,488,615
|
)
|
(5,818,806
|
)
|
|||||
|
Assets
|
301,870
|
-
|
886,111
|
1,187,981
|
|||||||||
|
Capital
Expenditures
|
13,017
|
-
|
3,655
|
16,672
|
|||||||||
|
|
|||||||||||||
|
2004
|
|||||||||||||
|
Revenue
|
$
|
382,522
|
$
|
-
|
$
|
-
|
$
|
382,522
|
|||||
|
Interest
Expense
|
3,949
|
-
|
635
|
4,584
|
|||||||||
|
Depreciation
and Amortization
|
50,185
|
-
|
4,743
|
54,928
|
|||||||||
|
Research
and Development
|
2,737,029
|
-
|
-
|
2,611,583
|
|||||||||
|
Net
Loss
|
(4,931,370
|
)
|
(7,499
|
)
|
(2,200,240
|
)
|
(7,139,109
|
)
|
|||||
|
Assets
|
310,005
|
-
|
834,363
|
1,144,368
|
|||||||||
|
Capital
Expenditures
|
116,613
|
-
|
2,374
|
118,987
|
|||||||||
Financial
information is furnished to the chief operating officer for review regarding
each subsidiary of the Company.
The
ANI segment consists of the activities of ANI and includes license revenues
and
contract research revenues related to ANI’s technology. In both years,
virtually all ANI revenues were contract research revenues. The Company’s EBT
subsidiary previously sold electronic display products, but sold its technology
in 2006. All other segments include the Company’s general overhead.
The
accounting policies applied by each of the segments are the same as those used
by the Company.
Page
48
NANO-PROPRIETARY,
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
18. Related
Party Transactions:
As
part of a transaction to sell intellectual property owned by our EBT subsidiary,
we entered into an agreement with a related party. One of the patents that
we
sold was a patent that had been assigned to us by Advanced Technology,
Incubator, Inc. (“ATI”), a company owned by Dr. Zvi Yaniv, our Chief Operating
Officer. In order to acquire the remaining interest in the patent and settle
all
potential future obligations to ATI, we issued 200,000 shares of our common
stock, valued at $400,000 to ATI. We also paid $25,000 to ATI for additional
services related to this transaction during the year.
19. Gain
on Sale of Intellectual Property and Other Assets:
In
June 2006, our Electronic Billboard Technology, Inc. subsidiary sold all of
its
intellectual property in two simultaneous transactions. We received a total
of
$1.5 million in cash, the right to future royalties, and an ownership interest
in a newly formed entity. One of the patents that we sold was a patent that
had
been assigned to us by Advanced Technology, Incubator, Inc. (“ATI”), a company
owned by Dr. Zvi Yaniv, our Chief Operating Officer. In order to acquire the
remaining interest in the patent and settle all potential future obligations
to
ATI, we issued 200,000 shares of our common stock, valued at $400,000 to ATI.
The gain of $1.1 million recorded in the financial statements resulted from
the
cash payment received of $1.5 million, less the $400,000 cost associated with
the acquisition of the patent rights.
Page
49
None
Item
9A.
Controls and Procedures.
Management
is responsible for establishing and maintaining effective disclosure controls
and procedures, as defined under Rule 13a-15 of the Securities Exchange Act
of 1934, that are designed to cause the material information required to be
disclosed by Nano-Proprietary in the reports it files or submits under the
Securities Exchange Act of 1934 to be recorded, processed, summarized, and
reported to the extent applicable within the time periods required by the
Securities and Exchange Commission’s rules and forms. In designing and
evaluating the disclosure controls and procedures, management recognized that
a
control system, no matter how well designed and operated, can provide only
reasonable, not absolute, assurance that the objectives of the control system
are met. Because of the inherent limitations in all control systems, no
evaluation of controls can provide absolute assurance that all control issues
and instances of fraud, if any, with a company have been detected.
As
of the end of the period covered by this report, Nano-Proprietary performed
an
evaluation under the supervision and with the participation of management,
including the Chief Executive Officer and Chief Financial Officer, of the
effectiveness of the design and operation of its disclosure controls and
procedures pursuant to Rule 13a-15 of the Securities Exchange Act of 1934.
Based upon that evaluation, the Chief Executive Officer and Chief Financial
Officer concluded that the disclosure controls and procedures were effective
at
the reasonable assurance level.
Report
on Management’s Assessment of Internal Control over Financial Reporting
The
management of Nano-Proprietary, Inc. is responsible for establishing and
maintaining adequate internal control over financial reporting. Internal control
over financial reporting is defined under applicable Securities and Exchange
Commission rules as a process designed under the supervision of the Company’s
Chief Executive Officer and Chief Financial Officer and effected by the
Company’s Board of Directors, management and other personnel to provide
reasonable assurance regarding the reliability of financial reporting and the
preparation of the Company’s financial statements for external purposes in
accordance with U.S. generally accepted accounting principles. The Company’s
internal control over financial reporting includes those policies and procedures
that:
|
|
•
|
Pertain
to the maintenance of records that, in reasonable detail, accurately
and
fairly reflect the transactions and dispositions of the assets of
the
Company;
|
|
|
•
|
Provide
reasonable assurance that transactions are recorded as necessary
to permit
preparation of financial statements in accordance with U.S. generally
accepted accounting principles, and that receipts and expenditures
of the
Company are being made only in accordance with authorizations of
management and the directors of the Company; and
|
|
|
•
|
Provide
reasonable assurance regarding prevention or timely detection of
unauthorized acquisition, use or disposition of the Company’s assets that
could have a material effect on the financial statements.
|
Because
of its inherent limitations, internal control over financial reporting may
not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
As
of December 31, 2006, management, with the participation of the Company’s
Chief Executive Officer and Chief Financial Officer, assessed the effectiveness
of the Company’s internal control over financial reporting based on the criteria
for effective internal control over financial reporting established in “Internal
Control — Integrated Framework,” issued by the Committee of Sponsoring
Organizations (COSO) of the Treadway Commission. Based on the assessment,
management determined that the Company’s internal control over financial
reporting was effective as of December 31, 2006.
Sprouse
& Anderson, L.L.P., the independent registered public accounting firm that
audited the consolidated financial statements of the Company included in this
Annual Report on Form 10-K, has issued an attestation report on management’s
assessment of the Company’s internal control over financial reporting as of
December 31, 2006. The report, which expresses unqualified opinions on
management’s assessment and on the effectiveness of the Company’s internal
control over financial reporting as of December 31, 2006, is included in
this Item under the heading “Attestation Report of Independent Registered Public
Accounting Firm” below.
Page
50
Changes
in Internal Control over Financial Reporting
No
changes were made to the Company’s internal control over financial reporting (as
defined in Rule 13a-15 under the Securities Exchange Act of 1934) during
the last fiscal quarter that materially affected, or are reasonably likely
to
materially affect, the Company’s internal control over financial reporting.
Attestation
Report of Independent Registered Public Accounting Firm
To
the Board of Directors and Stockholders of Nano-Proprietary, Inc.:
We
have audited management’s assessment, included in the accompanying Report on
Management’s Assessment of Internal Control over Financial Reporting, that
Nano-Proprietary, Inc. maintained effective internal control over financial
reporting as of December 31, 2006, based on criteria established in Internal
Control — Integrated Framework, issued
by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
Nano-Proprietary, Inc.’s management is responsible for maintaining effective
internal control over financial reporting and for its assessment of the
effectiveness of internal control over financial reporting. Our responsibility
is to express an opinion on management’s assessment and an opinion on the
effectiveness of the company’s internal control over financial reporting based
on our audit.
We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan
and perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of internal control
over
financial reporting, evaluating management’s assessment, testing and evaluating
the design and operating effectiveness of internal control, and performing
such
other procedures as we considered necessary in the circumstances. We believe
that our audit provides a reasonable basis for our opinion.
A
company’s internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company’s internal control over
financial reporting includes those policies and procedures that (1) pertain
to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors
of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company’s
assets that could have a material effect on the financial
statements.
Because
of its inherent limitations, internal control over financial reporting may
not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
In
our opinion, management’s assessment that Nano-Proprietary, Inc. maintained
effective internal control over financial reporting as of December 31, 2006,
is
fairly stated, in all material respects, based on criteria established
in
Internal Control — Integrated Framework, issued
by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
Also in our opinion, Nano-Proprietary, Inc. maintained in all material respects,
effective internal control over financial reporting as of December 31, 2005,
based on criteria established in Internal
Control — Integrated Framework, issued
by the Committee of Sponsoring Organizations of the Treadway Commission
(COSO).
We
have also audited, in accordance with the standards of the Public Company
Accounting Oversight Board (United States), the consolidated balance sheets
and
the related consolidated statements of operations, shareholders’ equity, and
cash flows of Nano-Proprietary, Inc., and our report dated March 5, 2007
expresses an unqualified opinion.
Sprouse
& Anderson, L.L.P.
Austin,
Texas
March
5, 2007
Item
9B.
Other Information.
None
Page
51
PART
III
|
Directors,
Executive Officers and Corporate
Governance
|
The
following sets forth the names, ages and certain information concerning the
Directors and Executive Officers of Nano-Proprietary.
|
Name
|
Age
|
Class
|
Position
|
Director/Officer
Since
|
Term
Expires
|
|
|
|
|
|
|
|
|
Marc
W. Eller
|
51
|
III
|
Director,
Chairman,
|
November
1995
|
2007
|
|
Thomas
F. Bijou
|
56
|
I
|
Director,
Chief Executive Officer
|
December
2006
|
2007
|
|
Dr. Zvi
Yaniv
|
60
|
II
|
Director,
President,
Chief
Operating Officer
|
July
1996
|
2007
|
|
Douglas
P. Baker
|
50
|
III
|
Director,
Chief
Financial Officer
|
June
1996
|
2007
|
|
Charles
C. Bailey
|
58
|
I
|
Director
|
November
1999
|
2007
|
|
Ronald
J. Berman
|
50
|
III
|
Director
|
May
1996
|
2007
|
|
Eddie
Lee
|
44
|
II
|
Director
|
October
2001
|
2007
|
|
Dr.
Robert Ronstadt
|
65
|
II
|
Director
|
January
2003
|
2007
|
|
Bradford
S. Lamb
|
46
|
I
|
Director
|
December
2006
|
2007
|
______________________
Marc
W. Eller served as the Company’s Chief Executive Officer from July 29, 1996
through May 31, 2006. Mr. Eller is Chairman of the Board of Directors and has
been a Director since November 1995. Prior to becoming CEO of the company,
Mr.
Eller was involved in commercial real estate investment and in investment
banking activities for publicly traded companies. Mr. Eller has a B.A. degree
in
Economics.
Thomas
F. Bijou has been Chief Executive Officer and a member of the Board of Directors
since December 1, 2006. From 1997 through the present, Mr. Bijou has been Chief
Executive Officer of BHM Associates, a company involved in funding and mentoring
technology companies. In connection with these BHM activities, Mr. Bijou also
served as Chairman of Knowledge Communications, Inc., an early pioneer in the
distance learning marketplace. Mr. Bijou began his career at General Electric
Company, but left GE in 1982 with several associates to form Tigon Corporation,
a voicemail outsourcing company that was sold to Ameritech in 1988.
Dr.
Zvi Yaniv has served as the Company’s President and Chief Operating Officer and
a Director since July 29, 1996. Dr. Yaniv has degrees in physics, mathematics,
and electro-optics as well as a Ph.D. in Physics. Prior to joining the Company,
in May 1996, Dr. Yaniv operated a consulting practice and previously was
President and CEO of Optical Imaging Systems Inc., a supplier of flat panel
color liquid crystal displays to the avionics and defense
industries.
Douglas
P. Baker has been with the Company since June 17, 1996, and has been a Director
since May 2006. Mr. Baker is a Certified Public Acountant. and has both a
Bachelors in Business Administration and a Masters in Business Administration.
Immediately prior to joining Nano-Proprietary, Inc., Mr. Baker was a divisional
controller for MascoTech, Inc. from 1991 to 1996. Mr. Baker also has prior
experience in public accounting and as CFO of a privately held
company.
Charles
C. Bailey has been an attorney in private practice since 1995. Prior to that
Mr.
Bailey had a 20-year career in government. Positions held include Assistant
Criminal District Attorney and Chief Prosecutor in Lubbock County, Texas;
General Counsel for the Texas Department of Public Safety; Assistant General
Counsel for Governor Bill Clements; and Director of Legal Services and Franchise
Taxes for the Texas State Comptroller’s Office. His last position with the state
of Texas, from 1993 to 1995, was Executive Assistant and General Counsel to
Lt.
Governor Bob Bullock.
Ronald
J. Berman has been a Director since May 1996. Mr. Berman co-founded BEG
Enterprises, Inc. with Marc W. Eller and was its President from 1989 until
1998. Mr. Berman currently is President of R.J. Berman Enterprises, Ltd.,
a real estate development company, Inergi Fitness, and Walkers Warehouse. Mr.
Berman earned a Juris Doctor degree in 1980 from the University of Detroit.
Page
52
Eddie
Lee is Chairman and CEO of Pacific Northern, Inc., a Company that he founded
in
1987. Pacific Northern, Inc. is the largest visual display company serving
the retail jewelry industry.
Dr.
Robert Ronstadt has been a Director since January 2003. Dr. Ronstadt became
Vice President of Technology Commercialization for Boston University in June
2003. At the same time, he became the Director of Boston University's
Technology Commercialization Institute. He was special advisor to the
Chancellor of Boston University from January to May 2003. Prior to that,
from 1998 to 2002, he was Director of the IC2 Institute at the University
of Texas in Austin and the J. Marion West Chair of Constructive Capitalism.
Dr.
Ronstadt was a professor of entrepreneurship at the Pepperdine University School
of Business Management from 1992 to 1998 and Babson College in Wellesley
Massachusetts from 1975 to 1985. From 1986 to 1992, he was the CEO of a
software enterprise.
Bradford
S. Lamb has been a Director of the Company since December 2006, and is currently
President of Columbia Power Technolgies, a position that he has held since
November 2006. Prior to that, from 1993 to 2006, he was President of InteLex
Corporation. Prior to InteLex, he spent 10 years with GE Medical systems in
various capacities.
Shareholder
Director Nominating Procedures
The
Company does have a procedure in place for holders of the Company‘s common stock
to recommend nominees to the Company’s Board of Directors. These procedures are
set forth in Article 9(b) of the Company’s Restated Articles of Incorporation
(the “Restated Articles”). A copy of the Company’s Restated Articles is filed as
Exhibit 3(I) to this Annual Report on Form 10-K. As set forth in Article 9(b)
of
the Restated Articles, only persons who are nominated in accordance with the
procedures set forth in that Article are eligible for election as Directors
of
the Company. Nominations of persons for election to the Board of Directors
of
the Company may be made at a meeting of shareholders by or at the direction
of
the Board of Directors or by any shareholder of the Company entitled to vote
for
the election of Directors at the meeting who complies with the notice procedures
set forth in Article 9(b). Such nominations, other than those made by or at
the
direction of the Board of Directors, shall be made pursuant to timely notice
in
writing to the Secretary of the Corporation. To be timely, a shareholder's
notice shall be delivered to or mailed and received at the principal executive
offices of the Company not less than 60 days nor more than 90 days prior to
the
meeting; provided, however, that in the event that less than 70 days' notice
or
prior public disclosure of the date of the meeting is given or made to
shareholders, notice by the shareholder to be timely must be so received not
later than the close of business on the 10th day following the date on which
such notice of the date of the meeting was mailed or such public disclosure
was
made. Such shareholder's notice shall set forth (i) as to each person whom
the
shareholder proposes to nominate for election or re-election as a Director,
(A)
the name, age, business address and residence address of such person, (B) the
principal occupation or employment of such person, (C) the class and number
of
shares of the Company which are beneficially owned by such person, and (D)
any
other information relating to such person that is required to be disclosed
in
solicitations of proxies for election of Directors, or is otherwise required,
in
each case pursuant to Regulation 14A under the Securities Exchange Act of 1934,
as amended (including without limitation such person's written consent to being
named in the proxy statement as a nominee and to serve as a Director if
elected); and (ii) as to the shareholder giving the notice, (1) the name and
address, as they appear on the Company’s books, of such shareholder and (2) the
class and number of shares of the Company which are beneficially owned by such
shareholder. No person shall be eligible for election as a Director of the
Company unless nominated in accordance with the procedures set forth in Article
9(b) of the Restated Articles. The Chairman of the meeting shall, if the facts
warrant, determine and declare to the meeting that a nomination was not made
in
accordance with the procedures prescribed herein, and if he should so determine,
he shall so declare to the meeting and the defective nomination shall be
disregarded.
Committees
The
Board of Directors has three committees. The audit committee consists of Mr.
Lamb and Mr. Bailey. The compensation committee consists of Mr. Lee and Mr.
Berman. The nominating committee consists of Dr. Ronstadt and Mr. Bailey.
Page
53
Audit
Committee Financial Expert
At
the present time, we do not have an audit committee member that is designated
as
an “audit committee financial expert” under applicable SEC rules. Both members
of our audit committee qualify as “independent” as defined under applicable SEC
rules. Our previous audit committee expert, Director David R. Sincox retired
in
2006 and no other members of the Board of Directors that qualify as independent
also qualify as audit committee financial experts under applicable SEC rules.
We
intend to add a member to the Board of Directors in 2007 that qualifies as
an
audit committee financial expert.
Code
of Ethics
We
have adopted a Code of Ethics within the meaning of Item 406(b) of Regulation
S-K of the Securities Exchange Act of 1934. This Code of Ethics applies to
all
directors, officers, and employees of the Company. A copy of this Code of Ethics
is publicly available on our website at www.nano-proprietary.com.
Section
16(a) Beneficial Ownership Reporting Compliance
Section
16(a) of the Securities of Exchange Act of 1934 requires Nano-Proprietary’s
officers, Directors, and persons who beneficially own more than 10 % of a
registered class of Nano-Proprietary’s common stock, to file reports of
ownership and changes in ownership with the Securities and Exchange Commission.
Officers, Directors, and beneficial owners of more than 10% of
Nano-Proprietary’s common stock are required by the Securities and Exchange
Commission regulations to furnish Nano-Proprietary with copies of all Section
16(a) forms that they file.
Based
solely on review of the copies of such reports furnished to us, or written
representations that no reports were required, we believe that for the period
from January 1, 2006 through December 31, 2006, all Officers, Directors, and
greater than 10% beneficial owners complied with all Section 16(a) filing
requirements applicable to them.
Page
54
Compensation
Discussion and Analysis
Objectives
of Compensation Program
The
primary objective of our compensation program for employees, including our
compensation program for executive officers, is to attract, retain, and motivate
qualified individuals and reward them in a manner that is fair to all
stakeholders. We strive to provide incentives for every employee that rewards
them for their contribution to the Company, while at the same time promoting
an
ownership mentality.
Elements
of Compensation
There
are three main components to our compensation package - base salaries, bonuses,
and stock based compensation. A fourth, less significant component is other
benefits and perquisites. Our compensation program is designed to be competitive
with other employment opportunities and to align the interests of all employees,
including executive officers, with the long-term interests of our shareholders.
For our executive officers, we link a much higher percentage of total
compensation to incentive compensation such as bonus and stock based
compensation than we do for other employees.
Factors
unique to 2006
We
had three separate chief executive officers during 2006. At the beginning of
the
year, our CEO of 10 years, Marc Eller expressed his desire to spend less time
on
day-to-day operations and focus on his role as Chairman. Accordingly, we
retained a performance-based executive search firm, Christian & Timbers, to
locate a new CEO. As a result of the search, we hired R.D. Burck as CEO,
effective June 1, 2006. Mr. Burck resigned effective November 30, 2006 and
effective December 1, 2006, we hired Thomas F. Bijou as our new CEO. In the
context of this discussion, we will discuss CEO compensation generally, but
also
address differences as they relate to Mr. Eller, Mr. Burck, and Mr.
Bijou.
Base
Salaries
We
provide our executive officers with a level of cash compensation that
facilitates an appropriate lifestyle and provides a reasonable minimum
compensation. We make this determination based on a variety of factors including
professional accomplishments, level of education, past experience and scope
of
responsibilities. The actual amount of base salary paid to each named executive
officer is set forth in the summary compensation table included later in this
section. The salary level for both our chief executive officer and our chief
operating officer was set at a rate of $250,000 per year at the beginning of
2005 and remained at that level in 2006. When Mr. Burck joined us in June 2006,
his annualized salary was also at that rate. When Mr. Bijou joined us in
December 2006, we entered into a slightly modified arrangement. Mr. Bijou is
paid at an annualized rate of $288,000 per year; however that amount represents
a combination of salary and management fee paid to an entity owned by Mr. Bijou.
As part of the management fee, Mr. Bijou assumes responsibility for certain
costs, including basic employee benefits that would normally be paid by us.
We
believe the amount that we pay Mr. Bijou is similar to the amounts paid to
or on
behalf our previous CEOs. The salary level for our chief financial officer
was
set at a rate of $180,000 per year at the beginning of 2005 and remained at
that
level for 2006. The base salary amounts for all three current executive officers
for 2007 remains at 2006 levels.
Bonuses
We
have a formula bonus plan covering all employees, including executive officers.
This plan was established in 2004 and is based solely on the profitability
of
the company. This plan is designed to reward all employees when we are
successful in reaching profitability. No bonuses have ever been paid under
this
plan, since we have incurred losses in each of the years since adoption of
the
plan. The maximum bonuses payable under this plan are $100,000 each for the
chief executive and chief operating officers, and $75,000 for the chief
financial officer. The maximum amounts would be payable if our net income is
equal to, or exceeds $2.5 million. For purposes of this plan, net income is
calculated using the accounting principles in effect at the time the plan was
adopted, meaning stock based compensation using fair value as required by FAS
123R is excluded from the calculation. There are no minimum amounts payable
under the plan and the target amounts are equal to the maximum amounts payable.
The compensation committee of the board of the directors also has the power
to
award discretionary bonuses; however, no such bonuses have been granted since
2002 in the case of the CEO and the CFO, and since 2003 in the case of the
COO.
Page
55
Stock
Based Compensation
All
of our employees participate in our stock based compensation plans and receive
awards of non-qualified stock options annually. We use non-qualified options
because of the favorable tax treatment to us and the near universal expectation
by employees in our industry that they will receive stock options. The
overwhelming majority of these awards are performance based awards that only
vest upon achievement of specific goals. For non-executive officer employees,
these goals tend to be operational oriented goals relating to specific projects
or potential projects. For executive officers, these goals are broad in nature
and involve more substantial accomplishments. Following is a discussion of
the
option grants to executive officers.
In
2004, our then current CEO, Marc Eller; our COO, Dr. Zvi Yaniv; and our CFO,
Doug Baker; all received performance based grants under a multi-year option
program covering the years from 2004 to 2007. The goals associated with these
options related to break-even in various years and certain revenue targets.
To
the extent that any of those grants did not vest because the associated goals
were not achieved in the applicable time period, options associated with those
goals expired. However an equal number of new performance based options were
granted with new or similar goals. The goals associated with these options
were
related to break-even in various years and certain revenue targets.
During
2006, Mr. Eller, Dr. Yaniv, and Mr. Baker each received grants in connection
with the program discussed in the previous paragraph. These grants replaced
grants which expired unvested in 2006. These new grants vest based on two
separate goals - break-even in 2007 using the same adjustment for stock based
compensation as described in the bonus discussion and achievement of an earnings
per share target. In Mr. Eller’s case, the new grants were made after he stepped
down as CEO. Under normal circumstances, unvested options do not continue to
vest, nor are new awards made, after termination of employment. However, in
this
instance, the original awards were part of a multiyear program, and ultimate
achievement of the goals will be, at least in part, as a result of the base
established during the period that Mr. Eller was CEO. As a result, one-half
of
Mr. Eller’s unvested options were allowed the continued possibility of vesting
if the goals are achieved, and one-half of his unvested options were
forfeited.
Upon
commencement of employment as CEO in June 2006, Mr. Burck received options,
the
detail of which is set forth in the tables later in this section. A small
portion of these options were time-based options which vest over a period of
one
year, while the majority were performance based options which vest based on
several revenue, breakeven and profit related goals. Upon commencement of
employment as CEO in December 2006, Mr. Bijou received options, the detail
of
which is also set forth in the tables later in this section. A small portion
of
these options were time-based options which vest over a period of one year,
while the majority were performance based options which vest based on a goal
of
modified break-even cash flow from operations in 2007 and several earnings
per
share targets for 2007 and future years.
For
purposes of this discussion of performance based option goals, we consider
the
goals related to revenue items, modified cash-flow from operations, or earnings
per share targets to be part of our confidential strategic plans, and as such
we
do not disclose the specifics of the goals at this time. In general, our
philosophy is to set common goals for all executive officers for all
performance-based option grants. However in 2006, given that the existing
executive officers were in the midst of a multiyear program and that we hired
two new chief executive officers, our goals varied somewhat during the year.
Some of the goals set in 2006 were established to take advantage of specific
strengths of the executive and others, although different, were similar to
existing goals. For example, the concept of breakeven cash flow from operations
is very similar to the concept of break-even excluding stock based compensation.
We would expect that in normal circumstances, future option grants will be
based
on common goals for all executive officers.
At
the present time, we have no formal policy related to stock ownership for
executive officers and in establishing grant levels, we generally do not
consider the equity ownership levels of the executive officer, or the existence
of fully vested prior awards.
Timing
of Option Grants
We
do not have a formal written policy related to the timing of option grants;
however we do have certain time periods when options are normally granted.
At
the present time, we do not have any analysts that follow our stock and the
release of our quarterly financial reports normally has no impact on the price
of our stock. As such, we do not have trading windows, nor do we limit option
grants to any sort of windows. There are two normal situations where options
are
granted. The first would be at the time a new employee, including executive
officers, is hired. If a new employee receives options as part of starting
employment, those options are granted either at, or shortly after, the
employment start date.
Page
56
The
majority of options are performance based awards granted on an annual basis
as
part of a budgeting/goal setting process. For executive officers, the
compensation committee meets annually to establish compensation levels,
including salary, bonus, and options, for the year. This meeting normally occurs
in the month of December prior to the start of the new year - for example in
December 2006 for 2007 compensation. It could, however, occur as early as
November as late as January. For all other employees, the goal setting process
starts in December, but since it involves many more distinct goals and many
more
individuals; it is a longer process and as a result usually is not ready for
submission to the Compensation Committee until January or later. All performance
based awards for employees other than executive officers are annual awards
that
must either vest by the end of the calendar year, or they will expire unvested.
At the time of the proposed award, we consider whether there are any known
upcoming significant events, and have in the past delayed awards as a result
of
expected positive events.
All
option grants for all employees are approved by the compensation committee
of
Board of Directors. The compensation committee does not delegate any of its
powers for granting options to others.
Other
Benefits and Perquisites
Since
we have not yet reached profitability on a consistent basis, we take a
relatively bare-bones approach to benefits for all employees, including
executive officers. There are no benefit plans available to executive officers
that are not available to all employees. Executive officers participate in
the
same benefit plans covering other employees. These benefits include limited
health and dental insurance, group term life insurance, and limited long-term
disability insurance. The only retirement plan that we maintain is a 401K plan
funded entirely by employee elective deferrals. We have no company funded
retirement plans or deferred compensation plans. We also do not provide any
of
the perks common at larger companies. The only perk that we provide is an auto
allowance. We provide an auto allowance of $1,000 per month to our COO and
$500
per month to our CFO. Mr. Eller and Mr. Burck received auto allowances of $750
per month during their tenure as CEO. The amounts paid as auto allowances are
considered in setting the overall level of compensation for the executive
officer. Mr. Bijou receives no auto allowance, but rather, that was considered
in his previously discussed management contract.
Compensation
Approval Process
The
Compensation Committee of the Board of Directors approves all compensation
and
awards to executive officers. Regarding most compensation matters, including
executive compensation, the CFO in consultation with the CEO, provides
recommendations to the Compensation Committee. However, the Compensation
Committee does not delegate any of its functions to others in setting
compensation. We did not make formal use of any compensation consultants in
determining executive compensation levels for any of the executive officers.
We
do, however, intend to undergo a thorough review of our executive compensation
practices in 2007 to insure that our current compensation practices are
reasonable and appropriate for our circumstances. We anticipate that this review
will include benchmarking against other companies. This review may or may not
include an independent analysis by compensation consultants.
As
previously discussed, we hired two new CEOs during 2006. In the case of Mr.
Burck, we used a search firm, Christian & Timbers. In the course of that
search we discussed the compensation of Mr. Eller, our existing CEO, as well
as
a range of possible compensation for a new CEO. Christian & Timbers
indicated that the compensation paid to Mr. Eller fell within the reasonable
range. They indicated that the base salary was on the low end of the range,
however when considering the total package, including options, it fell within
the normal range. We did not hire Christian & Timbers to perform a specific
analysis, nor did we receive any written report or specific recommendations
from
them. We did however consider their comments in setting the compensation of
Mr.
Burck. When we hired Mr. Bijou, we had preliminary discussions and meetings
about the company, but did not discuss compensation. As a result of those
discussions, Mr. Bijou made a proposal to us containing the terms that he was
requesting to accept the CEO position. We believed that proposal to be
reasonable and accepted the terms. The actual goals associated with the
performance based options were the result of negotiation between Mr. Bijou
and
us and were approved by the Compensation Committee.
Compensation
Committee Report
We
have reviewed and discussed with management certain Compensation Discussion
and
Analysis provisions to be included in the Company’s 2006 Annual Report on Form
10-K for the fiscal year ended December 31, 2006, filed pursuant to Section
13
or 15(d) of the Securities Exchange Act of 1934 (“Form 10-K”). Based on the
reviews and discussions referred to above, we recommend to the Board of
Directors that the Compensation Discussion and Analysis referred to above be
included in the Company’s Form 10-K.
Compensation
Committee
Ronald
J. Berman, Eddie Lee
Page
57
The
following table sets forth the total cash compensation paid or to be paid,
as
well as certain other compensation paid or accrued, for services rendered during
the fiscal years ended December 31, 2006, 2005 and 2004 by all individuals
that
served as Chief Executive Officer during 2006, the Chief Financial Officer,
all
individuals that were Named Executive Officers as of the end of the previous
year, and all executive officers whose total annual salary and bonus exceeded
$100,000 for the fiscal year ended December 31, 2006 (the "Named Executive
Officers"):
SUMMARY
COMPENSATION TABLE
|
Name
& Principal Position
|
Year
|
Salary
|
Option
Awards
(1)
|
All
Other
Compensation
(6)
|
Total
|
|||||||||||
|
Thomas
F. Bijou (2)
|
2006
|
$
|
24,000
|
$
|
663,422
|
$
|
0
|
$
|
687,422
|
|||||||
|
Chief
Executive Officer
|
||||||||||||||||
|
R.D.
Burck (3)
|
2006
|
$
|
145,833
|
$
|
933,980
|
$
|
4,500
|
$
|
1,084,313
|
|||||||
|
Chief
Executive Officer
|
||||||||||||||||
|
Marc
W. Eller (4)
|
2006
|
$
|
125,000
|
$
|
135,989
|
$
|
99,500
|
$
|
360,489
|
|||||||
|
Chief
Executive Officer
|
2005
|
$
|
250,000
|
$
|
1,005,430
|
$
|
9,000
|
$
|
1,264,430
|
|||||||
|
2004
|
$
|
200,000
|
$
|
1,323,660
|
$
|
9,000
|
$
|
1,532,660
|
||||||||
|
Dr.
Zvi Yaniv
|
2006
|
$
|
250,000
|
$
|
265,369
|
$
|
12,000
|
$
|
527,369
|
|||||||
|
Chief
Operating Officer
|
2005
|
$
|
250,000
|
$
|
1,005,430
|
$
|
12,000
|
$
|
1,267,430
|
|||||||
|
2004
|
$
|
200,000
|
$
|
1,323,660
|
$
|
12,000
|
$
|
1,535,660
|
||||||||
|
Douglas
P. Baker
|
2006
|
$
|
180,000
|
$
|
132,684
|
$
|
6,000
|
$
|
318,684
|
|||||||
|
Chief
Financial Officer
|
2005
|
$
|
180,000
|
$
|
502,715
|
$
|
6,000
|
$
|
688,715
|
|||||||
|
2004
|
$
|
150,000
|
$
|
694,605
|
$
|
6,000
|
$
|
850,605
|
||||||||
|
John
Ruberto (5)
|
2006
|
$
|
67,500
|
$
|
90,206
|
$
|
80,000
|
$
|
237,706
|
|||||||
|
Vice
President
|
2005
|
$
|
120,000
|
$
|
827,806
|
$
|
0
|
$
|
947,806
|
|||||||
(1)
Amounts included in the option awards column are calculated utilizing the
provisions of Statement of Financial Accounting Standards (“SFAS”) No. 123R,
“Share-Based Payments.” See Note 8 of the consolidated financial statements
included in this annual report for the assumptions underlying valuation of
equity awards. The amounts are calculated based on all options granted during
the year without regard to whether the options vest or expire. As discussed
in
the Compensation Discussion and Analysis, the majority of options granted are
performance based options associated with specific goals. To the extent that
the
goals are not achieved, the options do not vest and expire. The amount included
for 2004 is based on the number of options awarded to Mr. Eller, Dr. Yaniv,
and
Mr. Baker of 750,000, 750,000, and 400,000, respectively. For Mr. Eller, 50,000
of those options ultimately vested, 650,000 of those options expired, and 50,000
options are still outstanding, but not yet vested. For Dr. Yaniv, 50,000 of
those options ultimately vested, 600,000 of those options expired, and 100,000
options are still outstanding, but not yet vested. For Mr. Baker, 50,000 of
those options ultimately vested, 300,000 of those options expired, and 50,000
options are still outstanding, but not yet vested.
The
amount included for 2005 is based on the number of options awarded to Mr. Eller,
Dr. Yaniv, Mr. Baker, and Mr. Ruberto of 700,000, 700,000, 350,000 and 535,000,
respectively. For Mr. Eller, 200,000 of those options ultimately vested and
500,000 of those options expired. For Dr. Yaniv, 200,000 of those options
ultimately vested and 500,000 of those options expired. For Mr. Baker, 100,000
of those options ultimately vested and 250,000 of those options expired. For
Mr.
Ruberto, 235,000 of those options ultimately vested and 300,000 of the options
expired. All of the options granted to executive officers in 2004 and 2005
are
priced significantly above the current market price of the stock and none of
the
vested options have been exercised.
None
of the options granted in 2006 to Mr. Eller, Mr. Bijou, Dr. Yaniv, or Mr. Baker
have vested as of February 28, 2007. The amount included for Mr. Burck for
2006
is based on 600,000 options awarded. A total of 50,000 of these options were
vested, 450,000 of these options expired, and 100,000 options are still
outstanding, but not yet vested. The amount included in 2006 for Mr. Ruberto
is
based on changing the vesting terms in 2006 related to 100,000 of the options
originally granted in 2005. Without this change in terms, the options would
not
have vested and would have expired.
(2)
Mr. Bijou began employment as CEO on December 1, 2006.
Page
58
(3)
Mr. Burck began employment as CEO on June 1, 2006 and resigned effective
November 30, 2006.
(4)
Mr. Eller was CEO until May 31, 2006 and remained an employee until June 30,
2006. We entered into a consulting contract with Mr. Eller, effective July
1,
2006. The contract called for payments of $10,000 per month through December
2006. In addition, a $35,000 lump sum payment was made to Mr. Eller in December
2006. The “All Other Compensation” column includes $95,000 in 2006 related to
this contract. Mr. Eller also received an additional payment on March 1, 2007
of
$30,000 for services rendered in 2007.
(5)
Mr. Ruberto began employment on May 1, 2005 and ended employment on May 15,
2006. We also entered into a consulting contract with Mr. Ruberto that calls
for
payments of $10,000 per month from May 2006 through April 2007. The “All Other
Compensation” column includes $80,000 in 2006 related to this
contract.
(6)
The “All Other Compensation” column includes the following items. For Mr. Burck,
Dr. Yaniv, and Mr. Baker, all amounts for all years represent payment of
automobile allowances. For Mr. Eller, payments of $95,000 under a consulting
contract in 2006 are included. All other amounts in all years represent payment
of an automobile allowance. For Mr. Ruberto, all amounts in this column
represent payments under a consulting agreement.
GRANTS
OF PLAN-BASED AWARDS TABLE
|
Name
|
Grant
Date
|
Approval
Date
|
Estimated
Future Payouts Under
Equity
Incentive Plan
Awards
(Shares) (1)
|
All
Other Option
Awards
Number
of Shares
Underlying
Options
|
Exercise
Price
of
Option
Awards
(2)
|
||
|
Threshold
|
Target
|
Maximum
|
|||||
|
Thomas
F. Bijou
|
11/30/2006
|
11/27/2006
|
200,000
|
$1.19
|
|||
|
11/30/2006
|
11/27/2006
|
0
|
300,000
|
300,000
|
$1.19
|
||
|
11/30/2006
|
11/27/2006
|
0
|
125,000
|
125,000
|
$1.19
|
||
|
11/30/2006
|
11/27/2006
|
0
|
125,000
|
125,000
|
$1.19
|
||
|
11/30/2006
|
11/27/2006
|
0
|
125,000
|
125,000
|
$1.19
|
||
|
11/30/2006
|
11/27/2006
|
0
|
125,000
|
125,000
|
$1.19
|
||
|
R.D.
Burck
|
06/01/2006
|
05/30/2006
|
100,000
|
$2.38
|
|||
|
06/01/2006
|
05/30/2006
|
0
|
100,000
|
100,000
|
$2.38
|
||
|
06/01/2006
|
05/30/2006
|
0
|
100,000
|
100,000
|
$2.38
|
||
|
06/01/2006
|
05/30/2006
|
0
|
100,000
|
100,000
|
$2.38
|
||
|
06/01/2006
|
05/30/2006
|
0
|
100,000
|
100,000
|
$2.38
|
||
|
06/01/2006
|
05/30/2006
|
0
|
100,000
|
100,000
|
$2.38
|
||
|
Marc
W. Eller
|
11/30/2006
|
11/27/2006
|
0
|
100,000
|
100,000
|
$1.19
|
|
|
11/30/2006
|
11/27/2006
|
0
|
100,000
|
100,000
|
$1.19
|
||
|
Dr.
Zvi Yaniv
|
11/30/2006
|
11/27/2006
|
0
|
200,000
|
200,000
|
$1.19
|
|
|
11/30/2006
|
11/27/2006
|
0
|
200,000
|
200,000
|
$1.19
|
||
|
Douglas
P. Baker
|
11/30/2006
|
11/27/2006
|
0
|
100,000
|
100,000
|
$1.19
|
|
|
11/30/2006
|
11/27/2006
|
0
|
100,000
|
100,000
|
$1.19
|
||
|
John
Ruberto
|
05/16/2006
|
05/16/2006
|
100,000
|
$2.30
|
|||
(1)
Performance-based option awards that vest upon the achievement of established
goals.
(2)
The exercise price of the options are all greater than or equal to the market
price on the date of the grant.
Page
59
OUTSTANDING
EQUITY AWARDS AT FISCAL YEAR-END TABLE
The
following table sets forth information concerning the outstanding equity awards
held by the Named Executive Officers at December 31, 2006.
|
Option
Awards
|
|||||
|
Number
of Securities Underlying
Unexercised
Options
|
Equity
Incentive Plan
Awards:
Number of
Securities
Underlying
Unexercised
Unearned
Options
|
||||
|
Name
|
Number
Exercisable
|
Number
Unexercisable
|
Option
Exercise
Price
|
Option
Expiration
Date
|
|
|
Thomas
F. Bijou
|
-
|
200,000
|
$1.19
|
11/30/2016
|
|
|
-
|
-
|
300,000
|
$1.19
|
11/30/2016
|
|
|
-
|
-
|
125,000
|
$1.19
|
11/30/2016
|
|
|
-
|
-
|
125,000
|
$1.19
|
11/30/2016
|
|
|
-
|
-
|
125.000
|
$1.19
|
11/30/2016
|
|
|
-
|
-
|
125,000
|
$1.19
|
11/30/2016
|
|
|
R.D.
Burck
|
50,000
|
-
|
$2.38
|
06/01/2016
|
|
|
100,000
|
$2.38
|
06/01/2016
|
|||
|
Marc
W. Eller (1)
|
200,000
|
-
|
$2.73
|
12/31/2013
|
|
|
50,000
|
-
|
$2.17
|
12/31/2014
|
||
|
200,000
|
-
|
$2.17
|
01/01/2015
|
||
|
4,167
|
-
|
$1.39
|
07/31/2016
|
||
|
-
|
-
|
50,000
|
$2.93
|
01/23/2014
|
|
|
-
|
-
|
100,000
|
$1.19
|
11/30/2016
|
|
|
-
|
-
|
100,000
|
$1.19
|
11/30/2016
|
|
|
Dr.
Zvi Yaniv (1)
|
100,000
|
-
|
$0.50
|
01/11/2009
|
|
|
30,000
|
-
|
$1.50
|
02/02/2010
|
||
|
200,000
|
-
|
$1.50
|
06/27/2010
|
||
|
30,000
|
-
|
$0.96
|
07/28/2013
|
||
|
250,000
|
-
|
$2.73
|
12/31/2013
|
||
|
50,000
|
-
|
$2.17
|
12/31/2014
|
||
|
200,000
|
-
|
$2.17
|
01/01/2015
|
||
|
-
|
-
|
100,000
|
$2.93
|
01/23/2014
|
|
|
-
|
-
|
200,000
|
$1.19
|
11/30/2016
|
|
|
-
|
-
|
200,000
|
$1.19
|
11/30/2016
|
|
|
Douglas
P. Baker (1)
|
30,000
|
-
|
$1.50
|
02/02/2010
|
|
|
50,000
|
-
|
$1.50
|
06/27/2010
|
||
|
100,000
|
-
|
$0.63
|
03/02/2011
|
||
|
100,000
|
-
|
$0.92
|
07/16/2011
|
||
|
150.000
|
-
|
$0.73
|
12/05/2011
|
||
|
32,000
|
-
|
$0.58
|
02/12/2012
|
||
|
13,000
|
-
|
$0.96
|
07/28/2013
|
||
|
200,000
|
-
|
$2.73
|
12/31/2013
|
||
|
50,000
|
-
|
$2.17
|
12/31/2014
|
||
|
100,000
|
-
|
$2.17
|
01/01/2015
|
||
|
-
|
-
|
50,000
|
$2.93
|
01/23/2014
|
|
|
-
|
-
|
100,000
|
$1.19
|
11/30/2016
|
|
|
-
|
-
|
100,000
|
$1.19
|
11/30/2016
|
|
|
John
Ruberto
|
35,000
|
-
|
$2.30
|
05/15/2009
|
|
|
100,000
|
-
|
$2.30
|
05/15/2009
|
||
|
50,000
|
-
|
$2.30
|
05/15/2009
|
||
|
50,000
|
-
|
$2.30
|
05/15/2009
|
||
(1)
Includes options still outstanding that were previously transferred by gift
and
reported on Form 4 by the Named Executive Officer.
Page
60
OPTION
EXERCISE AND STOCK VESTED TABLE
There
were no options exercised in 2006 by Named Executive Officers and no restricted
stock awards that vested. As such no table is included.
PENSION
BENEFITS TABLE
We
maintain no retirement plans covering Named Executive Officers or other
employees, except for a 401K plan funded solely by elective employee
contributions. As such no pension benefits table is included.
NON-QUALIFIED
DEFERRED COMPENSATION TABLE
We
do not maintain any non-qualified deferred compensation plans covering Named
Executive Officers or other employees. As such, no deferred compensation table
is included.
POTENTIAL
PAYMENTS UPON TERMINATION OR CHANGE IN CONTROL
None
of the named executive officers have employment contracts, and therefore, there
are no formal payments due on change in control or other employment termination.
Our 2002 Equity Compensation Plan, which includes all employees, including
executive officers, includes a provision which accelerates the vesting of all
unvested options upon certain change in control events. Unvested options held
by
Named Executive Officers as of December 31, 2006 are reflected in the
Outstanding Equity Awards at Fiscal Year-End Table included in this
item.
It
is our policy to pay severance upon termination when termination is initiated
by
us and is for other than cause. We have no formal guidelines, but rather each
case is handled on an individual basis. Factors considered include position,
length of service, reason for termination, possible future relationships, as
well as other potential factors. Payments may be made in a lump sum or in
periodic installments and are usually accompanied by a severance agreement
that
includes a release, a non-disparagement clause, and possibly a non-compete
agreement. There are no minimum amounts payable to any of the executive
officers; however, it is likely that if any of the Named Executive Officers
were
terminated by the Company for other than cause, payments would be made in
connection with that termination.
DIRECTOR
COMPENSATION
|
Name
|
Fees
Earned or Paid in Cash
|
Option
Awards (1)
|
Total
|
|||
|
Chuck
Bailey
|
$
600
|
$39,659
|
$
40,259
|
|||
|
Ronald
J. Berman
|
$
650
|
$39,659
|
$
40,309
|
|||
|
Bradford
S. Lamb (2)
|
$
50
|
-
|
$
50
|
|||
|
Eddie
Lee
|
$
600
|
$39,659
|
$
40,259
|
|||
|
Dr.
Robert Ronstadt
|
$
400
|
$39,659
|
$
40,059
|
|||
|
David
R. Sincox (3)
|
$
300
|
$39,659
|
$
39,959
|
(1)
Amounts included in the option awards column are calculated utilizing the
provisions of Statement of Financial Accounting Standards (“SFAS”) No. 123R,
“Share-Based Payments.” See Note 8 of the consolidated financial statements
included in this annual report for the assumptions underlying valuation of
equity awards. See the table titled “Security Ownership of Management” included
in Item 12 of this report for stock option grants outstanding at year held
by
each Director.
(2)
Mr. Lamb was appointed to the Board of Directors on December 1,
2006.
(3)
Mr. Sincox retired as a member of the Board of Directors effective July 31,
2006.
Page
61
All
Directors who are not employees of the Company receive $150 per board meeting
or
committee meeting attended in person, and $50 per telephonic meeting. Reasonable
expenses incurred by each Director in connection with his duties as a Director
are also reimbursed by Nano-Proprietary.
All of
Nano-Proprietary’s outside Directors participate in the 2002 Equity Compensation
Plan, under which Nano-Proprietary may grant stock options to any Director.
On
July 31, 2006, each of the five outside Directors was granted an automatic
grant
of 50,000 options under the 2002 Equity Compensation Plan with an exercise
price
of $1.39 per share. These grants became exercisable in full on the date of
the
grant.
All
of the Directors have retained the right to pursue additional business
activities that are not competitive with the business of Nano-Proprietary,
and
do not adversely affect their performance as Directors. If, as, and when
conflicts of interest arise, the nature of the conflict must be fully disclosed
to the Board of Directors, and the person who is subject to the conflict must
abstain from participating in any decision that may impact on his conflict
of
interest. Except for this disclosure and abstention policy, the Directors will
not be in breach of any fiduciary duties owed to Nano-Proprietary or the
shareholders by virtue of their participation in such additional business
activities.
The
compensation that we pay to our outside Directors is heavily weighted toward
stock based compensation to minimize the amount of cash that we use, and it
is
designed to compensate the Directors for the risk that they assume as directors
of a public company. The level of 50,000 options per year was set by the Board
of Directors in April 2001, and ratified each successive year since then by
the
compensation committee of the Board of Directors. We intend to do a review
of
our compensation practices for Outside Directors in 2007, including benchmarking
against other companies.
Compensation
Committee Interlocks and Insider Participation
The
Compensation Committee currently consists of Mr. Lee and Mr. Berman. Neither
of
them is or has been an officer or employee of Nano-Proprietary, nor does either
have any relationships requiring disclosure under Item 404 of Regulation S-K.
No
interlocking relationship existed during the fiscal year ended December 31,
2006, between Nano-Proprietary’s Board of Directors or Compensation Committee
and the board of directors or compensation committee of any other
company.
Page
62
CERTAIN
BENEFICIAL OWNERS
The
only persons or entities known to be the beneficial owner of 5% or more of
the
outstanding voting stock of the common stock of Nano-Proprietary, Inc. stock
as
of February 28, 2007, are listed below. For the purposes of this Annual Report
on Form 10-K, beneficial ownership of securities is defined in accordance with
the rules of the SEC to mean generally the power to vote or dispose of
securities, regardless of any economic interest therein.
|
Beneficial
Ownership
|
Percent
of Outstanding Common
Stock
|
|||
|
Pinnacle
Fund, L.P.
|
9,368,946
|
8.99%
|
||
|
Barry
Kitt, General Partner
4965
Preston Park Blvd.,Suite 240
Plano,
TX 75093
|
SECURITY
OWNERSHIP OF MANAGEMENT
Set
forth below is certain information with respect to beneficial ownership of
Nano-Proprietary’s common stock as of February 28, 2007, by each Director, each
Named Executive Officer and by the directors and executive officers as a group.
Unless otherwise indicated, each person or member of the group listed has sole
voting and investment power with respect to the shares of common stock
listed.
|
Name
|
Options
Included
in
Beneficial
Ownership
(1)
|
Common
Stock
Beneficial
Ownership
|
Percentage
of
Class
|
|
Dr.
Robert Ronstadt
|
175,000
|
175,000
|
*
|
|
Bradford
S. Lamb
|
-
|
89,944
|
*
|
|
Thomas
F. Bijou
|
50,000
|
151,429
|
*
|
|
Charles
C. Bailey
|
268,333
|
268,333
|
*
|
|
Marc
W. Eller
|
454,167
|
471,667
|
*
|
|
Eddie
Lee
|
266,667
|
266,667
|
*
|
|
Ronald
J. Berman
|
735,000
|
1,154,925
|
1.10%
|
|
Dr.
Zvi Yaniv
|
760,000
|
956,000
|
*
|
|
Douglas
P. Baker
|
725,000
|
752,500
|
*
|
|
R.D.
Burck (2)
|
50,000
|
50,000
|
*
|
|
John
Ruberto
|
235,000
|
235,000
|
*
|
|
All
Executive Officers and
Directors
as a group (11 persons)
|
3,719,167
|
4,571,465
|
4.23%
|
|
*
|
Less
than 1%
|
|
(1)
|
This
column lists shares that are subject to options exercisable within
sixty
(60) days of February 28, 2007, and are included in common stock
beneficial ownership pursuant to Rule 13d-3(d)(1) of the Exchange
Act.
|
Page
63
SECURITIES
AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION
PLANS
|
Equity
Compensation
Plans
Not Approved by
the
Shareholders of
Nano-Proprietary
|
Number
of Securities to
be
issued upon exercise
of
outstanding options
|
Weighted-average
exercise
price of
outstanding
options
|
Number
of Securities
remaining
available
for future
issuance under
equity
compensation
plans
(3)
|
|
|
(a)
|
(b)
|
(c)
|
|
1992
Employee Plan (1)
|
977,000
|
$1.01
|
-
|
|
1992
Outside Directors
Plan (2)
|
323,333
|
$1.10
|
-
|
|
1998
Directors and
Officers Plan
|
500,000
|
$0.46
|
-
|
|
2002
Equity
Compensation Plan
|
5,913,579
|
$1.80
|
944,965
|
|
Total
|
7,713,912
|
$1.59
|
944,965
|
|
(1)
|
The
1992 Employee Plan was originally approved by shareholders and authorized
3.0 million shares. The plan was subsequently amended twice by the
Board
to increase the authorized number of shares and is therefore classified
as
a plan not approved by our shareholders.
|
|
(2)
|
The
1992 Outside Directors Plan was originally approved by shareholders
and
authorized 500,000 shares. The plan was subsequently amended by the
Board
to increase the authorized number of shares and is therefore classified
as
a plan not approved by our shareholders
|
|
(3)
|
This
column excludes securities reflected in column
(a)
|
There
are no equity compensation plans approved by shareholders at the present
time.
The
1992 Employee Plan was created in 1992 for the purpose of granting incentive
or
non-qualified stock options to employees of, or contractors for, the Company.
A
total of 6.5 million shares were authorized under the plan. All options granted
under this plan were priced at the fair market value of our common stock on
the
date of grant, or greater, and have a life of ten (10) years from their date
of
grant, subject to earlier termination as set forth in such plan. The plan
expired in 2002; however, options granted prior to such plan’s expiration remain
exercisable, subject to the terms of the respective option grants.
The
1992 Outside Directors’ Plan was established in 1992 for the purpose of granting
non-qualified options to non-employee Directors of the Company. A total of
1.0
million options were authorized under the plan. All options granted under this
plan were priced at the fair market value of our common stock or greater on
the
date of grant and have a life of ten (10) years from their date of grant,
subject to earlier termination as set forth in such plan. The plan expired
in 2002; however, options granted prior to such plan’s expiration remain
exercisable, subject to the terms of the respective option grants.
In
1998, the Company’s Board of Directors established the 1998 Directors’ and
Officers Plan to award non-qualified options to Officers and Directors. All
options granted under this plan were priced at the fair market value of our
common stock, or greater, on the date of grant and have a life of ten (10)
years
from their date of grant, subject to earlier termination as set forth in such
plan. A total of 2.5 million options were granted under this plan; however
no options remain available for granting under this plan.
Page
64
In
2002, the Company’s Board of Directors established the 2002 Equity Compensation
Plan for the purpose of granting incentive or non-qualified stock options to
employees or directors of the Company. All options granted under this plan
were
priced at the fair market value of our common stock, or greater, on the date
of
grant and have a life of up to ten (10) years from their date of grant, subject
to earlier termination as set forth in such plan. A total of 5,000,000
options were initially authorized under this plan. This plan was amended
December 31, 2004 to increased the authorized shares by 3,000,000 to a total
of
8,000,000 shares.
For
a further description of each of the stock option plans described above, please
see Note 8 to the Consolidated Financial Statements herein.
It
is our written policy that all material related party transactions be approved
by the Board of Directors, with any member of the Board affected by the related
party transaction abstaining from the vote.
In
October 1998, EBT entered into a Patent Assignment and Royalty Agreement with
Advanced Technology Incubator, Inc., (“ATI”) a corporation based in Austin,
Texas and owned by Dr. Zvi Yaniv, the Company’s President and Chief Operating
Officer. Under the terms of the agreement, ATI agreed to assign U.S. Patent
No.
5,469,187 related to certain LCD technology to EBT in exchange for an initial
payment of $200,000. In addition, ATI was entitled to receive a royalty of
5% of
gross revenue related to products using this patent. EBT could terminate this
assignment at any time upon 30 days written notice to ATI. The assignment could
have been terminated by ATI if, within two years of the first sale or lease
of a
display unit using this technology, cumulative royalty payments under the
agreement did not total $500,000, or if payments did not equal $500,000 in
any
one-year period following the initial two-year period. If the assignment was
terminated by ATI, EBT would have been granted a non-exclusive worldwide license
to use the technology under terms similar to those contained in this agreement.
There have been no sales or leases of display units using this technology;
therefore, the two year period that could have resulted in minimum payments
being due never started.
In
2006, we sold the intellectual property of EBT. The purchaser was interested
in
acquiring all intellectual property, including this patent, as part of the
package, but not in assuming the agreement that we had with ATI. In order to
complete the transaction, we were required to acquire the remaining interest
in
the patent and settle all potential future obligations to ATI. To do this,
we
issued 200,000 shares of our common stock, valued at $400,000 to ATI. We also
paid $25,000 to ATI for additional services related to this transaction during
the year.
Audit
Fees
The
aggregate fees billed to the Company by Sprouse & Anderson, L.L.P. for the
audit of Nano-Proprietary’s annual financial statements and for the review of
the financial statements included in its quarterly reports on Form 10-Q for
the
Fiscal Years ended December 31, 2006 and 2005 totaled $57,200 and $$42,700,
respectively.
Audit-Related
Fees
Nano-Proprietary
did not incur or pay any fees to Sprouse & Anderson, L.L.P., and Sprouse
& Anderson, L.L.P. did not provide any services related to audit-related
fees in the last two fiscal years.
Tax
Fees
There
were no fees billed to Nano-Proprietary by Sprouse & Anderson, L.L.P. for
services rendered to Nano-Proprietary during the last two fiscal years for
tax
compliance, tax advice, or tax planning.
All
Other Fees
There
were no fees billed to Nano-Proprietary by Sprouse & Anderson, L.L.P. for
services rendered to Nano-Proprietary during the last two fiscal years, other
than the services described above under “Audit Fees.”
Page
65
It
is the audit committee’s policy to pre-approve all services provided by Sprouse
& Anderson, L.L.P. All services provided by Sprouse & Anderson, L.L.P.
during the years ended December 31, 2006 and 2005 were pre-approved by the
audit
committee.
As
of the date of this filing, Nano-Proprietary current policy is to not engage
Sprouse & Anderson, L.L.P. to provide, among other things, bookkeeping
services, appraisal or valuation services, or internal audit services. The
policy provides that Nano-Proprietary engage Sprouse & Anderson, L.L.P. to
provide audit, tax, and other assurance services, such as review of SEC reports
or filings.
The
Audit Committee considered and determined that the provision of the services
other than the services described under “Audit Fees” is compatible with
maintaining the independence of the independent auditors.
Page
66
PART
IV
|
(a)
|
The
following documents are filed as part of this Annual Report on Form
10-K:
|
|
|
(1)
|
All
Financial Statements
|
The
response to this portion of Item 15 is set forth in Item 8 of Part II
hereof.
|
|
(2)
|
Financial
Statement Schedules
|
Schedules
for which provision is made in the applicable accounting regulations of the
Securities and Exchange Commission are not required under the related
instructions or are inapplicable, and therefore have been omitted.
|
|
(3)
|
Exhibits
|
See
accompanying Index to Exhibits on page 68 for a descriptive response to this
item. The Company will furnish to any shareholder, upon written request, any
exhibit listed in the accompanying Index to Exhibits upon payment by such
shareholder of the Company’s reasonable expenses in furnishing any such exhibit.
|
(b)
|
Reference
is made to Item 15(a)(3) above.
|
|
(c)
|
Reference
is made to Item 15 (a)(2) above.
|
SIGNATURES
Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of
1934, the registrant has caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
|
|
NANO-PROPRIETARY,
INC.
By:
/s/
Thomas F.
Bijou
Thomas
F. Bijou, Chief Executive Officer
March 6,
2007
|
Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has
been
signed by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.
|
Signature
|
Title
|
Date
|
|
/s/
Thomas
F. Bijou
Thomas
F. Bijou
|
Chairman,
Chief Executive
Officer
(Principal Executive Officer and Director)
|
March
6, 2007
|
|
/s/
Douglas P. Baker
Douglas
P. Baker
|
Vice
President and Chief Financial Officer
(Principal
Financial Officer and Principal Accounting Officer and
Director)
|
March
6, 2007
|
|
Marc
W. Eller*
Dr.
Robert Ronstadt*
Bradford
S. Lamb*
Eddie
Lee*
Ronald
J. Berman*
Charles
G. Bailey*
Dr. Zvi
Yaniv*
|
Directors
|
March
6, 2007
|
*By:
//s// Douglas P. Baker
(Douglas P. Baker,
Attorney-in-Fact)
Page
67
INDEX
TO EXHIBITS
The
exhibits indicated by an asterisk (*) have been previously filed with the
Securities
and
Exchange Commission and are incorporated herein by reference.
|
EXHIBIT
NUMBER
|
DESCRIPTION
OF EXHIBIT
|
|
3(i).1
|
Restated
Articles of Incorporation of Company, as filed March 1, 2006 with
the
Secretary of State for the State of Texas.
|
|
3(ii).1
|
Amended
and Restated Bylaws of the Company.
|
|
4.1
*
|
Form
of Certificate for shares of the Company’s common stock (Exhibit 4.1 to
the Company’s Registration Statement on Form SB-2[No.33-51446-FW] dated
January 7, 1993).
|
|
4.2*
|
Amended
and Restated Rights Agreement dated as of November 16, 2000, between
the
Company and American Securities Transfer, Incorporated, as Rights
Agent,
which includes as Exhibit A the form of Statement of Resolution
establishing and designating series of preferred stock as “Series H
Junior Participating Preferred Stock” and fixing and determining the
relative rights and preferences thereof, as Exhibit B the form
of Rights
Certificate, and as Exhibit C the Summary of Rights to Purchase
Preferred
Shares. (Exhibit 4.1 to the Company’s Current Report on Form 8-K dated as
of November 16, 2000).
|
|
4.3*
|
Form
of Regulation D Subscription agreement by and between the Company
and the
participants of private placements. (Exhibit 4.3 to the Company’s Annual
Report on Form 10-K for the fiscal year ended December 31,
2004)
|
|
4.4*
|
Form
of Registration Rights Agreement by and between the Company and
the
participants of private placements. (Exhibit 4.4 to the Company’s Annual
Report on Form 10-K for the fiscal year ended December 31,
2004)
|
|
10.1*
|
Amended
and Restated 1992 Outside Directors’ Stock Option Plan (Exhibit 4.2 to the
Company’s Registration Statement on Form S-8 [No. 333-56547] dated June
9,
1998).
|
|
10.2*
|
1998
Directors and Officers Stock Option Plan (Exhibit 4.3 to the Company’s
Registration Statement on Form S-8 [No. 333-56547] dated June 9,
1998).
|
|
10.3*
|
Amended
and Restated 1992 Stock Option Plan (Exhibit 4.1 to the Company’s
Registration Statement on Form S-8 [No. 333-56457] dated June 9,
1998)
|
|
10.4*
|
Amended
and Restated 2002 Equity Compensation Plan. (Exhibit 10.4.to the
Company’s
Annual Report on Form 10-K for the fiscal year ended December 31,
2004)
|
|
10.5*
|
Patent
Assignment and Royalty Agreement between Electronic Billboard Technology,
Inc. and Advanced Technology, Incubator, Inc. dated as of October
6, 1998.
(Exhibit 10.18 to the Company’s Current Report on Form 10-KSB dated as of
March 31, 1999).
|
|
10.6*
|
Lease
agreement between the Company and Industrial Properties Corporation
dated
as of February 15, 2004. (Exhibit 10.11 to the Company’s Annual Report on
Form 10-KSB for the fiscal year ended December 31,
2004).
|
|
10.7
|
Amendment
No. 1 to the lease agreement between the Company and Industrial
Properties
Corporation dated as of December 15, 2006.
|
|
10.8*
|
Agreement
of Research and Development by and between the Applied Nanotech,
Inc. and
Futaba Corporation (Exhibit 10.1 to the Company’s Current Report on Form
8-K dated as of January 1, 2001).
|
|
10.9*
|
Agreement
of Research and Development by and between the Applied Nanotech,
Inc. and
Futaba Corporation for Phase II development (Exhibit 10.14 to the
Company’s Annual Report on From 10-KSB for the fiscal year ended December
31, 2001).
|
|
10.10*
|
Research/Development
and License Agreement entered into by Applied Nanotech, Inc. dated
as of
September 11, 2002 (Exhibit 10.1 to the Company’s Current Report on Form
8-K dated as of September 27, 2002).
|
|
10.11*
|
Agreement
for HyFED™ Development Team Phase II by and between Field Emission Picture
Element Technology, Inc. and Electrovac Ges.m.b.H. (Exhibit 10.2
to the
Company’s Current Report on Form S-2 date August 24,
2001)
|
Page
68
|
EXHIBIT
NUMBER
|
DESCRIPTION
OF EXHIBIT
|
|
10.12*
|
Agreement
for HyFED™ Development Team Phase II by and between Field Emission Picture
Element Technology, Inc. and Imaging System Technology, Inc. (Exhibit
10.3
to the Company’s Current Report on Form S-2 date August 24,
2001)
|
|
10.13*
|
Agreement
for HyFED™ Development Team Phase II by and between Field Emission Picture
Element Technology, Inc. and Supertex, Inc. (Exhibit 10.4 to the
Company’s
Current Report on Form S-2 date August 24, 2001)
|
|
10.14*
|
Agreement
for HyFED™ Development Team Phase II by and between Field Emission Picture
Element Technology, Inc. and Schott Fiber Optics. (Exhibit 10.5
to the
Company’s Current Report on Form S-2 date August 24,
2001)
|
|
10.15*
|
Agreement
for HyFED™ Development Team Phase II by and between Field Emission Picture
Element Technology, Inc. and Lead Sangyo Co., Ltd. (Exhibit 10.6
to the
Company’s Current Report on Form S-2 date August 24,
2001)
|
|
10.16*
|
Agreement
for HyFED™ Development Team Phase II by and between Field Emission Picture
Element Technology, Inc. and Shanghai Novel Color Picture Tube
Co., Ltd.
(Exhibit 10.7 to the Company’s Current Report on Form S-2 date August 24,
2001)
|
|
10.17*
|
Agreement
for HyFED™ Development Team Phase II by and between Field Emission Picture
Element Technology, Inc. and Shanghai Vacuum Electron Devices Co.,
Ltd.
(Exhibit 10.8 to the Company’s Current Report on Form S-2 date August 24,
2001)
|
|
10.18*
|
Nano-Proprietary,
Inc. Audit Committee Charter (Exhibit 10.23 to the Company’s Annual Report
on Form 10-KSB for the fiscal year ended December 31,
2002)
|
|
10.19*
|
Nano-Proprietary,
Inc. Compensation Committee Charter (Exhibit 10.18 to the Company’s
Current Report on Form 10-K for the fiscal year ended December
31,
2005).
|
|
10.20*
|
Nano-Proprietary,
Inc. Nominating Committee Charter (Exhibit 10.19 to the Company’s Current
Report on Form 10-K for the fiscal year ended December 31,
2005).
|
|
10.21*
|
Patent
License Agreement between SI Diamond Technology, Inc. and Till
Keesmann
(Exhibit 10 to the Company’s Quarterly Report on Form 10-QSB for the
quarter ended June 30, 2000)
|
|
10.22*
|
Second
Addendum to Patent License Agreement by and among Nano-Proprietary,
Inc.
and Till Keesmann (Exhibit 10.1 to the Company’s Current Report on Form
8-K dated as of November 18, 2002).
|
|
10.23*
|
Development,
Purchase, and License Agreement for Hydrogen Sensor Products and
related
Services between, Nano-Proprietary, Inc. Applied Nanotech, Inc.
and Kelman
Ltd. (Exhibit 10.1 to the Company’s Current Report on Form 8-K dated as of
July 13, 2005).
|
|
10.24*
|
Asset
Purchase Agreement between Novus Communication Tehcnologies, Inc.,
Novus
Displays, LLC, Electronic Billboard Technology, Inc. and Nano-Proprietary,
Inc. (Exhibit 10.1 to the Company’s Current Report on Form 8-K dated as of
June 22, 2006)
|
|
10.25*
|
Asset
Purchase Agreement between Novus Communication Tehcnologies, Inc.,
Electronic Billboard Technology, Inc. and Nano-Proprietary, Inc.
(Exhibit
10.1 to the Company’s Current Report on Form 8-K dated as of June 22,
2006)
|
|
11
|
Computation
of (Loss) per Common Share
|
|
14*
|
Nano-Proprietary,
Inc. Code of Ethics (Exhibit 14 to the Company’s Annual Report on Form
10-KSB for the fiscal year ended December 31, 2004)
|
|
21
|
Subsidiaries
of the Company
|
|
24
|
Powers
of Attorney.
|
|
31.1
|
Rule
13a-14(a)/15d-14(a) Certificate of Thomas F. Bijou, Chief Executive
Officer
|
|
31.2
|
Rule
13a-14(a)/15d-14(a) Certificate of Douglas P. Baker, Chief Financial
Officer
|
|
32.1
|
Section
1350 Certificate of Thomas F. Bijou, Chief Executive
Officer
|
|
32.2
|
Section
1350 Certificate of Douglas P. Baker, Chief Financial
Officer
|