ITEM 1B. UNRESOLVED SEC STAFF COMMENTS
PROPERTIES.
The Company’s principal executive offices are located in Richland, Washington. Advanced Science leases approximately 3,750 square feet of space for rental payments in the amount of $3,500 per month under a yearly lease.
In addition to the Richland, Washington facilities, Advanced Sciences has leased approximately 20,000 square feet of space on five acres in Oak Ridge, TN for its administrative functions, on a three year lease, for a rental payment in the amount of $6,667 per month.
Advanced Sciences also leases approximately 475 square feet of office space in Broomfield, Colorado with an average rental payment of $555 per month over the term of the lease.
The Company has leased approximately 1,600 square feet of space in Alexandria, Virginia from Dr. Shelby T. Brewer, a director and executive officer of the Company, on a month-to-month basis, for a rental payment in the amount of $1,700 per month.
The Company leases approximately 400 square feet of laboratory, office and storage space at Kirtland Air Force Base in Albuquerque, New Mexico for rental payments in the amount of $826 per month, pursuant to a month-to-month lease arrangement.
The Company leases approximately 1000 square feet of exterior uncovered storage space for the Company’s industrial and waste processing equipment in Hobbs, New Mexico for rental payments in the amount of $527 per month, pursuant to a month-to-month lease arrangement.
The Company leases approximately 500 square feet of storage for raw materials to be used in the Company’s waste processing equipment in Mobile, Alabama for rental payments in the amount of $172 per month, pursuant to a month-to-month lease arrangement
The Company leases approximately 500 square feet of office space located in Newport, Rhode Island for a rental payment in the amount of $500 per month, pursuant to a month-to-month lease arrangement.
The Company believes that the foregoing properties will satisfy the business and operational needs of the Company and its subsidiaries in the present and in the foreseeable future.
LEGAL PROCEEDINGS
Indemnification Matters
The Company, along with several other entities, in a prior year guaranteed a performance bond of Separation relating to a contract with the Port of Baltimore. The Company was notified on June 28, 2000 that the performance bond was being called. It is not known, at this time, the amount, if any, the Company’s share of any potential liability would be. There has been no communication with the bond issuer or the Port of Baltimore since 2000, and the matter may no longer be an open issue.
As of April 17, 2007, no litigation or claim has been filed against the Company, or any of the Company’s subsidiaries with respect to this indemnification issue. No amount has been recorded in the financial statements as the Company is unable to determine a loss amount, if any, on the issue of indemnification.
Incidental Matters
The Company and its subsidiaries are involved in ordinary, routine litigation incidental to the conduct of their business. Management believes that none of this litigation, individually or in the aggregate, is material to the Company's financial condition or results of operations.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
MARKET INFORMATION
Shares of the Company’s common stock are quoted on the Over The Counter Bulletin Board of the National Association of Securities Dealers, Inc. (the “OTC Bulletin Board or OTCBB”) under the symbol CXIA.
On August 29, 2005, at the close of business, the Company effectuated a previously approved reverse stock split with the established ratio of 1 for 20. Applied common stock began trading on a reverse-split basis on August 30, 2005. As a result of the reverse stock split, every 20 shares of Applied common stock were combined into one share of Applied common stock. As a result of the reverse stock split, the issued and outstanding shares of Applied common stock were reduced from approximately 156 million shares to approximately 7.8 million shares. The number of authorized shares is not reduced. All stock quotes in the table below have been adjusted for the 1 for 20 reverse split.
The following table sets forth, for the fiscal periods shown, the high and low sale prices (rounded to the nearest cent) for the Company’s common stock as reported on the OTCBB.
As of December 31, 2006 there were 282 shareholders of record of our common stock and approximately 3100 additional shareholders whose shares are held through brokerage firms or other institutions.
Dividends
Exchange Agreement of Series E Preferred Stock and Series F Preferred Stock
On April 12, 2005, the Company authorized the issuance of 550,000 shares of Series I Convertible Preferred Stock (“Series I Preferred”), par value $0.001 per share, each such share of Series I Preferred having a stated value of $10.00 per share. These preferred shares are convertible into common stock at the rate of the average closing price of the Company’s common stock for the previous ten trading days, and the conversion rate is not to exceed $0.57 per share. Cumulative dividends accrue at ten percent, and will be payable quarterly beginning February 2006. The Company has reserved 3,750,000 shares of common stock for the potential conversion of the Series I Convertible Preferred Stock into common stock.
Also on April 12, 2005, a Series E and F preferred stockholder, Shaar Funding agreed to exchange all of their Series E and F preferred stock and all accrued and unpaid dividends thereon, for 395,302 shares of Series I Convertible Preferred Stock. Effective October 1, 2005, 388,302 shares of Series I Preferred were exchanged for 388,302 shares of Series J Preferred. The preferred stockholder has 0 shares of Series I preferred stock at December 31, 2006.
Exchange Agreement of Series I Preferred Stock for Series J Preferred Stock
Effective October 1, 2005, the Company authorized the issuance of 550,000 shares of Series J Convertible Preferred Stock (“Series J Preferred”), par value $0.001 per share, each such share of Series J Preferred having a stated value of $10.00 per share. These preferred shares are convertible into common stock at the rate of the average closing price of the Company’s common stock for the previous ten trading days, and the conversion rate no less than $0.05 and no more than $0.50 per share. Cumulative dividends accrue at ten percent, and were payable quarterly beginning February 2006. The Company has reserved 40,000,000 shares of common stock for the potential conversion of the Series J Convertible Preferred Stock and the Amended and Restated Shaar Note into common stock.
Also, effective October 1, 2005, a Series I Preferred stockholder agreed to exchange 388,302 shares of their Series I Preferred, excluding all accrued and unpaid dividends thereon, for 388,302 shares of Series J Preferred. The preferred stockholder has 388,302 shares of Series J Preferred at December 31, 2006.
Series H Preferred Stock
The holders of the Company’s Series H Convertible Preferred Stock, par value ($0.001) per share (the “Series H Preferred”), are entitled to a dividend rate of 3%. Through December 31, 2006, the Company had not paid cash dividends and the Company has accrued approximately $105 thousand in unpaid dividends. The Company has the option to pay the dividends accrued in all periods in additional shares of Series H Preferred.
Series I Preferred Stock
The holders of the Company’s Series I Convertible Preferred Stock, par value ($0.001) per share (the “Series I Preferred”), are entitled to a dividend of 10%. Through December 31, 2006, the Company has accrued approximately $184 thousand in unpaid dividends. The Company has the option to pay the dividends accrued in all periods after March 31, 2006 in the Company’s common stock rather than cash. During 2006 the Company has not paid any of the accrued dividends on all of the converted Series I Preferred shares to date. The payment of dividends in the form of common stock is subject to limitation, such that no payment in the form of stock can be made that would result in the holder owning 5% or more beneficial ownership of the Company’s common stock.
Series J Preferred Stock
The holders of the Company’s Series J Convertible Preferred Stock, par value ($0.001) per share (the “Series J Preferred”), are entitled to a dividend of 10%. Through December 31, 2006, the Company has accrued approximately $485 thousand in unpaid dividends. The Company has the option to pay the dividends accrued in all periods after March 31, 2006 in the Company’s common stock rather than cash. During 2006, no shares of the Company’s Series J Preferred Stock were converted. The conversion of the Series J Preferred shares into common stock and the payment of dividends in the form of common stock are subject to limitation, such that no conversion or payment in the form of stock can be made that would result in the holder owning 5% or more beneficial ownership of the Company’s common stock.
Common Stock
The Company has never paid cash dividends on its common stock. Any future determination by the Board of Directors of the Company with respect to the payment of cash dividends on the common stock of the Company will depend on the ability of the Company to service its outstanding indebtedness, the Company’s future earnings, capital requirements, the financial condition of the Company and such other factors as the Company's Board of Directors may consider. The Company currently intends to retain its earnings, if any, to finance the growth and development of its business, to repay outstanding indebtedness and does not anticipate paying cash dividends on its common stock in the foreseeable future.
Securities Authorized for Issuance under Equity Compensation Plans
The Company did not issue any shares or options to purchase shares of the Company’s common stock under the 1998 Stock Option Plan during 2006, 2005 or 2004. The Company issued 200,000 warrants to purchase shares of the Company’s common stock during 2005. At December 31, 2006, after removing forfeited options and expired warrants, the Company had the following options outstanding and available for issuance:
Repurchase of Securities
During 2006, neither the Company nor any of its affiliates repurchased common shares of the Company registered under Section R of the Exchange Act.
Issuance of Common Stock Subsequent to December 31, 2006
Recent Sales of Unregistered Securities
On September 5, 2006, the Company issued 220,000 shares of common stock to Aurelius Consulting Group, Inc. / RedChip Companies (“Aurelius”) in partial consideration for the first six months of an agreement for Aurelius to provide investor relations services. The Company recorded investor relations expense of approximately $28 thousand in the quarter ended December 31, 2006, the value of the shares issued at the average market price of $0.13 on the date of issue.
On March 5, 2007, the Company issued 120,000 shares of common stock to Aurelius in additional consideration for the second six months of investor relations services to be provided under the agreement. The Company recorded investor relations expense of approximately $23 thousand in the quarter ended March 31, 2007, the value of the shares issued at the average market price of $0.19 on the date of issue.
SELECTED FINANCIAL DATA.
The following table presents selected financial data of the Company, as of December 31, 2006, 2005, 2004, 2003 and 2002 and for the years then ended. The following selected historical data is derived from the Company's Consolidated Financial Statements and should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Company's Consolidated Financial Statements and Notes thereto included elsewhere in this Annual Report.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
The Company is engaged in providing a range of environmental and technical services to the public and private sectors related to (i) providing services related to, environmental management for on-site and off-site identification, investigation remediation and management of hazardous, mixed and radioactive waste; and (ii) remediating contamination in soils, liquids and other materials and disposing of or reusing certain waste by-products by utilizing SET.
Through Advanced Sciences, formerly Advanced Sciences, Inc., a subsidiary acquired on October 1, 1996, the Company has contracts with various government agencies and private companies in the U.S. As some government contracts are funded in one-year increments, there is a possibility for cutbacks as these contracts constitute a major portion of Advanced Sciences’ revenues, and such a reduction would materially affect operations. However, management believes Advanced Sciences’ existing client relationships will allow the Company to obtain new contracts in the future. The Company has access to technologies related to the separation and destruction of mixed waste, polychlorinated biphenyls (“PCBs”) and chlorofluorocarbons (“CFCs”). The Company is currently working on the commercialization of these technologies through development efforts, licensing arrangements and joint ventures.
The Company has identified two reportable segments in which it operates, based on the guidelines set forth in the Financial Accounting Standards Board’s Statement of Financial Accounting Standards No. 131. These two segments are as follows: Commodore Advanced Sciences, Inc., which primarily provides various environmental sampling, analysis and data management services to Government agencies on a lump sum and fixed cost basis; and Commodore Solutions, Inc., which is commercializing technologies to treat mixed and hazardous waste.
The Company currently requires additional cash to sustain existing operations and to meet current obligations and ongoing capital requirements. The Company’s current monthly operating expenses exceed cash revenues by approximately $110 thousand. Currently, the Company is addressing this cash shortfall through loans from The Shaar Fund, Ltd., but The Shaar Fund, Ltd. is under no obligation to continue to make such advances to the Company. If this lender decided to discontinue advances, the Company would not be able to meet its current obligations. In addition, the Company owes approximately $654 thousand in loans that are currently due or are payable on demand. Although the lenders on these loans have not yet called the loans, the Company does not currently have the ability to pay these loans absent additional financing.
The reports of our independent registered public accounting firms on our fiscal 2004, 2005 and 2006 consolidated financial statements contain a “going concern” qualification in which they express substantial doubt about our ability to continue in business. The Company currently requires additional cash to sustain existing operations and to meet current obligations and ongoing capital requirements.
CRITICAL ACCOUNTING POLICIES
We prepare our financial statements in conformity with U.S. generally accepted accounting principles. As such, we are required to make certain estimates, judgments and assumptions that we believe are reasonable based upon the information available. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the periods presented.
Our accounting policies that are the most important to the portrayal of our financial condition and results, and which require the highest degree of management judgment relate to the reserves for doubtful accounts receivable and the valuation of stock and options issued for services.
Reserves for Doubtful Accounts
Management estimates the amount of required reserves for potential uncollectible accounts receivable based upon the customer’s financial condition, age of the customer’s receivables, changes in payment histories, and consideration of other relevant factors. Because the reserve for doubtful accounts is an estimate of events that have not yet occurred, we could incur additional charges or benefits in the future to reflect differences between estimated and actual collections.
Valuation of Stock, Options and Embedded Derivatives
We value and account for the issuance of equity instruments, embedded or otherwise, to non-employees to acquire goods and services based on the fair value of the goods and services or the fair value of the equity instrument at the time of issuance, whichever is more reliably measurable. The fair value of stock issued for goods or services is determined based on the quoted market price on the date the commitment to issue the stock has occurred. The fair value of stock options, warrants granted to non-employees for goods or services is calculated on the date of grant using the Black-Scholes options pricing model. The fair value of the embedded derivatives consisting of conversion features included in a note payable and in the Series I Convertible Preferred Stock is calculated using the Black-Scholes options pricing model.
Revenue Recognition
Substantially all the Company’s current revenues consist of engineering and scientific services performed for the U.S. Government and prime contractors that serve the U.S. Government under a variety of contracts, most of which provide for unit prices. Revenue under unit price contracts are recorded when the services are provided.
Most of the Company’s historical contracts provided for reimbursement of costs plus fixed fees. Direct and indirect contract costs incurred in reimbursement plus cost contracts are subject to audit by the Defense Contract Audit Agency ("DCAA"). Management does not expect these audits to materially affect the financial statements and has established appropriate allowances to cover potential audit disallowances. Contract revenues have been recorded in amounts which are expected to be realized upon final settlement. The DCAA has audited the Company’s contracts through 1999. An allowance for potential disallowances is recorded as a reduction in revenue based upon the portion of billed and unbilled receivables that management believes may be disallowed upon audit by the DCAA.
RESULTS OF OPERATIONS
Year ended December 31, 2006 compared to Year ended December 31, 2005
Revenues were approximately $7.3 million for the year ended December 31, 2006, compared to approximately $10.3 million for the year ended December 31, 2005. The decrease in revenues is due to the decreases in revenue contribution by Advanced Sciences as certain contracts were closed out during the year.
In the case of Advanced Sciences, revenues were approximately $7.3 million for the year ended December 31, 2006, compared to approximately $10.2 million for the year ended December 31, 2005. Revenues in 2006 were primarily from engineering and scientific services performed for the United States government under two contracts similar to those in place in 2005. Advanced Sciences had one major customer in 2006, which represents more than 10% of annual revenue. Revenue from this customer was approximately $6.5 million or 90% of the Company’s total 2006 revenue. The decrease in revenues at Advanced Sciences is primarily the result of the revision of the EDAM contract at a lower total amount, due to BJC performing more self-assessment tasks and the removal of management of laboratory activities from the contract. This modification to the contract upon renewal results in less pass-through revenues to the Company subcontractors which are at low or no margin. Cost of sales decreased from approximately $9.1 million for 2005 to approximately $7.2 million for 2006. A decrease in cost of sales at Advanced Sciences was the result of decreased revenues due to the completion of the original EDAM contract. The Company’s backlog at December 31, 2006 totals approximately $2.1 million, all of which represents work to be completed during calendar year 2007. This compares to a backlog of approximately $9.8 million at December 31, 2005, not all of which was performed during calendar year 2006. Revenues and associated expenses in relation to the EDAM contract are expected to be lower for calendar 2007 when compared to 2006 as a result of the reduced backlog at the beginning of 2007.
Contracts of the Company may be subjected to audit by the DCAA. Anticipated losses on contracts are provided for by a charge to income during the period such losses are first identified. Subsequent to the end of the period, on January 25, 2007, the Company received a letter from the Department of Energy regarding a DCAA audit of a single contract of Commodore Applied Technologies for the period January 1995 through December 1999. The DCAA asserted that the Company incorrectly overbilled the Government for services rendered under contracts performed during the period under audit. The Company has recorded a liability totaling approximately $376 thousand (included in other accrued liabilities for the years ended December 31, 2006 and 2005) as a reserve to settle any claims, including related legal fees and professional fees, that may be incurred related to this issue. The amount recorded
was estimated based on an assessment of potential liability using an analysis of available information with respect to pending claims, historical experience and, where available, recent and current trends.
In the case of Solution, there were no revenues for the year ended December 31, 2006 as compared with approximately $86 thousand for the year ended December 31, 2005. The decrease is due to the absence of revenue arising from feasibility studies and commercial processing during 2006. Revenues in 2005 were primarily from remediation services performed for a scrap metal recycling company in the U.S. under a subcontract. Solution had one major customer which represented more than 10% of annual revenue. There was $0 revenue from this customer in 2006. Cost of sales was $0 for the year ended December 31, 2006 as compared to approximately $54 thousand for the year ended December 31, 2005. Should the Company be successful in securing contract revenues for its SET technology, Solution would reflect revenues once again.
For the year ended December 31, 2006, the Company did not incur any research and development related costs compared to $5 thousand for the year ended December 31, 2005. 100% of the research and development costs are attributable to the operations of Advanced Sciences in 2005.
General and administrative expenses for the year ended December 31, 2006 were approximately $1.4 million as compared to approximately $2.1 million for the year ended December 31, 2005. This decrease reflects the impact of the reduction to general and indirect costs due to the reduction in the EDAM contract and some of the restructuring steps in the Company throughout 2006.
In the case of Advanced Sciences, general and administrative costs decreased to approximately $369 thousand for the year ended December 31, 2006 from approximately $618 thousand for the year ended December 31, 2005. This decrease reflects decreases sales and marketing costs as the Company made efforts to reduce costs to match reduced revenues. Advanced Sciences’ focused its sales and marketing efforts on the bid and proposal activities to achieve a higher contract base and seek new contracting opportunities. Solution did not incur any general and administrative costs for the year ended December 31, 2006 as compared with approximately $16 thousand for the year ended December 31, 2005. This decrease was due to a decreased sales and marketing effort for Solution’s services.
Interest expense decreased to approximately $659 thousand in 2006 from approximately $1.2 million in 2005, or 44%, due to lower balances on the Company’s line of credit, and a decrease in non-cash expenses related to the amortization of the embedded derivative debt discount on the convertible note payable. During the year ended December 31, 2005, the Company amended the Amended and Restated Shaar Note, removing the provisions of the agreement that required embedded derivative liability accounting.
For the year ended December 31, 2006, the Company incurred a net loss of approximately $1.8 million as compared to a net loss of approximately $2.7 million for the year ended December 31, 2005. The decrease in the net loss was a direct result of the decrease in non-cash expenses associated with the embedded derivative features concerning various financial instruments of the Company for the year ended December 31, 2006 compared to the year ended December 31, 2005. On April 11, 2005, Applied, through the issuance of the Series I Preferred and the Amended and Restated Shaar Note, recorded an embedded derivative liability due to the conversion feature of these financial instruments pursuant to SFAS No. 133 and EITF 00-19. Effective as of October 1, 2005, the Company issued Series J Preferred in exchange for the Series I Preferred as well as further amending the Amended and Restated Shaar Note, and the Company reclassified the derivative liability into equity as a result of the changes.
Year ended December 31, 2005 compared to Year ended December 31, 2004
Revenues were approximately $10.3 million for the year ended December 31, 2005, compared to approximately $738 thousand for the year ended December 31, 2004. The increase in revenues is due to the increases in revenue contribution by Advanced Sciences as certain contracts were renewed and other contracts were initiated.
In the case of Advanced Sciences, revenues were approximately $10.2 million for the year ended December 31, 2005, compared to approximately $698 thousand for the year ended 2004. Revenues in 2004 were primarily from engineering and scientific services performed for the United States government under two contracts similar to those in place in 2003. Advanced Sciences had a major customer in 2005, which represented more than 10% of annual revenue. The combined revenue for this customer was approximately $9.4 million, or 91%, of the Company’s total 2005 revenue. The increase in revenues at Advanced Sciences is primarily the result of the award of the EDAM
contract, renewal of existing contracts, and overall, more subcontract work being performed in 2005. Cost of sales increased from approximately $548 thousand for 2004 to approximately $9.1 million for 2005. An increase in cost of sales at Advanced Sciences was the result of greater revenues due to the operation of the EDAM contract. The Company has a substantial backlog for a similar volume of work for the EDAM contract for the calendar year 2006. Revenues and associated expenses in relation to the EDAM contract are expected to be consistent with those observed in calendar year 2005. All other operating expenses remained constant as a direct result of operating efficiencies on the remaining contracts. Anticipated losses on contracts are provided for by a charge to income during the period such losses are first identified.
In the case of Solution, revenues were approximately $86 thousand for the year ended December 31, 2005 as compared with approximately $40 thousand for the year ended December 31, 2004. The decrease is primarily due to the decrease in feasibility studies and commercial processing. Revenues in 2005 were primarily from remediation services performed for a scrap metal recycling company in the U.S. under a subcontract. Solution had one major customer which represented more than 10% of annual revenue. The revenue for this customer was approximately $86 thousand, or 100%, of Solution’s total 2005 revenue. The increase in revenues at Solution is primarily the result of marginally greater subcontract work being performed in 2005. Cost of sales was approximately $54 thousand for the year ended December 31, 2005 as compared to approximately $371 thousand for the year ended December 31, 2004. The decrease in cost of sales is attributable to less machinery and equipment refurbishment costs relating to the revenues produced for subcontract work being performed in 2005. Anticipated losses on engagements, if any, will be provided for by a charge to income during the period such losses are first identified.
For the year ended December 31, 2005, the Company incurred research and development costs of approximately $5 thousand, as compared to approximately $9 thousand for the year ended December 31, 2004. 100% of the research and development costs are attributable to the operations of Advanced Sciences in 2005 and Solutions in 2004. In 2005, the Company invested less money in laboratory work than it had in 2004.
General and administrative expenses for the year ended December 31, 2005 were approximately $2.1 million as compared to approximately $1.7 million for the year ended December 31, 2004. This increase reflects the impact of the EDAM contract and some of the restructuring steps in the Company throughout 2005.
In the case of Advanced Sciences, general and administrative costs increased from approximately $308 thousand for the year ended December 31, 2004 to approximately $618 thousand for the year ended December 31, 2005. This increase reflects increased sales and marketing focus and the costs associated with bid and proposal efforts as Advanced Sciences continues to expand its contract base and seek new contracting opportunities. Solution incurred general and administrative costs of approximately $16 thousand for the year ended December 31, 2005 as compared with approximately $120 thousand for the year ended December 31, 2004. This decrease was primarily due to a decreased sales and marketing effort for Solution’s services. All expenditures for the year ended December 31, 2005 were directly related to bid and proposal expenses, which may result in contracts that will produce revenue in 2006 and beyond.
The increase in interest expense of approximately $779 thousand from 2004 to 2005 is primarily related to (i) greater balances on the Amended and Restated Shaar Note, (ii) higher balances on the Company’s line of credit, and (iii) non-cash expenses related to the amortization of the embedded derivative debt discount on the associated convertible note payable.
For the year ended December 31, 2005, the Company incurred a net loss of approximately $2.7 million as compared to a net loss of approximately $2.4 million for the year ended December 31, 2004. The increase in the net loss was a direct result of the recognition of non-cash expenses associated with the embedded derivative features concerning various financial instruments of the Company for the year ended December 31, 2005 compared to the year ended December 31, 2004. On April 11, 2005, Applied, through the issuance of the Series I Preferred and the Amended and Restated Shaar Note, recorded an embedded derivative liability due to the conversion feature of these financial instruments pursuant to SFAS No. 133 and EITF 00-19. Applied recorded a non-cash other expense of approximately $543 thousand for the year ended December 31, 2005. The fair value of the embedded derivatives consisting of conversion features included in a note payable and in the Series I Convertible Preferred Stock is calculated using the Black-Scholes options pricing model. Effective as of October 1, 2005, the Company issued Series J Preferred in exchange for the Series I Preferred as well as further amending the Amended and Restated Shaar Note, and the Company reclassified the derivative liability into equity as a result of the changes. Overall, the Company has experienced significantly greater revenues and has improved its results from operations from a loss of
approximately $2.0 million to a loss of approximately $988 thousand for the year ended December 31, 2005 compared to the year ended December 31, 2004.
OFF-BALANCE SHEET ARRANGEMENTS
There are no off-balance sheet arrangements, such as financing or variable interest entities, that either have, or are reasonably likely to have, a current or future material effect on financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.
QUARTERLY RESULTS OF OPERATIONS
The following table sets forth certain unaudited quarterly statement of operations data for the last eight quarters. This information has been derived from our unaudited consolidated financial statements, which, in management’s opinion, have been prepared on the same basis as the audited financial statements and include all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the information for the quarters presented. This information should be read in conjunction with the audited consolidated financial statements and related notes included elsewhere in this Form 10-K. The operating results for any quarter are not necessarily indicative of the operating results for any future period.
Fluctuations in Quarterly Results
Factors that may affect quarterly results include:
· 	
the award and successful operation of the EDAM contract in Oak Ridge, TN;
· 	
the renewal of the EDAM contract in the third quarter of 2006 which removed the no-margin and low-margin revenues related to invoicing pass-through revenues on behalf of BJC for 13 subcontracted laboratories;
· 	
the recognition of non-cash expenses associated with the embedded derivative from the conversion features on the Series I Preferred and the New Shaar Note;
· 	
the interest expense associated with the increased amounts of notes payables;
· 	
the introduction, development, timing, competitive pricing and market acceptance of our environmental services and those of our competitors; and
· 	
changes in general economic conditions that could affect customer expenditures for environmental services.
The June 30, 2005 and September 30, 2005 information above varies from the amounts previously reported on Form 10Q/A and 10Q, respectively. Instead of recording the initial value of the embedded derivative of approximately $8.6 million as other expense, the above information records the embedded derivative as a debt discount of approximately $4.4 million and a deemed dividend of approximately $3.7 million. The debt discount was amortized by approximately $227 thousand and approximately $273 thousand in the three months ended June 30, 2005 and September 30, 2005, respectively, in the above information.
As a result of the factors listed above and elsewhere in the “Forward-Looking Statements” and “Risk Factors” sections of this Form 10-K, it is possible that in some future periods our results of operations may fall below management’s expectations as well as the expectations of public market analysts and investors. If revenue falls below management’s expectations in any quarter and we are unable to reduce expenses, our operating results will be lower than expected.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 2006 and December 31, 2005 Advanced Sciences had a $0 and approximately $141 thousand outstanding balance, respectively, on its two million dollar, receivables revolving line of credit. The line of credit is credit collateralized by worthy receivables of Advanced Sciences.
The Company currently requires additional cash to sustain existing operations and to meet current obligations and ongoing capital requirements. The Company's current monthly operating expenses exceed cash revenues by approximately $110 thousand at December 31, 2006. Currently, the Company is addressing this cash shortfall though loans from The Shaar Fund, Ltd., but The Shaar Fund, Ltd. is under no obligation to continue to make such advances to the Company. If this lender decided to discontinue advances, the Company would not be able to meet its current obligations. In addition, the Company owes approximately $654 thousand in loans that are currently due or are payable on demand as of December 31, 2006. Although the lenders on these loans have not yet called the loans, the Company does not currently have the ability to pay these loans absent additional financing.
The Company has experienced a significant decrease in total assets for the year ended December 31, 2006. The majority of the decrease was attributable to a reduction in accounts receivable, net. Accounts receivable, net, for the period ended December 31, 2006 was approximately $802 thousand as compared to approximately $2.1 million for the year ended December 31, 2005. The decrease in accounts receivable, net, is due to the decreases in revenue contribution by Advanced Sciences from the EDAM contract in Oak Ridge, TN.
The reports of our independent registered public accounting firms on our fiscal 2004, 2005 and 2006 consolidated financial statements contain a “going concern” qualification in which they express substantial doubt about our ability to continue in business. The Company currently requires additional cash to sustain existing operations and to meet current obligations and ongoing capital requirements.
For the year ended December 31, 2006, the Company incurred a net loss of approximately $1.8 million as compared to a net loss of approximately $2.7 million for the year ended December 31, 2005. The decrease in the net loss was a direct result of the recognition of non-cash expenses associated with the embedded derivative features
concerning various financial instruments of the Company for the year ended December 31, 2005 compared to the year ended December 31, 2006.
On April 11, 2005, Applied, through the issuance of the Series I Preferred and the Amended and Restated Shaar Note, recorded an embedded derivative liability due to the conversion feature of these financial instruments pursuant to SFAS No. 133 and EITF 00-19. Applied recorded a non-cash other expense of approximately $543 thousand for the year ended December 31, 2005. The fair value of the embedded derivatives consisting of conversion features included in a note payable and in the Series I Convertible Preferred Stock is calculated using the Black-Scholes options pricing model. Effective as of October 1, 2005, the Company issued Series J Preferred in exchange for the Series I Preferred as well as further amending the Amended and Restated Shaar Note, and the Company reclassified the derivative liability into equity as a result of the changes.
As shown in the consolidated financial statements for the years ended December 31, 2006, 2005, and 2004, the Company incurred losses of approximately $1.8 million, $2.7 million and $2.4 million, respectively. The Company has also experienced net cash outflows from operating activities of approximately $596 thousand, $1.3 million and $1.5 million for the years ended December 31, 2006, 2005 and 2004, respectively.
As of December 31, 2006 and 2005, the Company had a stockholders’ deficit of approximately $12.1 million and $9.9 million, respectively. The Company’s net increase in stockholders’ deficit from December 31, 2005 to December 31, 2006 is primarily due to the loss for the year ended December 31, 2006. At December 31, 2006 and 2005 the Company had working capital deficit of approximately $5.7 million and $4.6 million, respectively. The increase in the working capital deficit from December 31, 2005 to December 31, 2006 is mainly due to the decrease in Company’s accounts receivable, net.
Certain prior-year amounts have been reclassified to conform to the current year presentation.
Capital Stock:
On August 29, 2005, at the close of business, the Company effectuated the previously approved reverse stock split with the established a ratio of 1-for 20. Applied common stock began trading on a reverse-split basis on August 30, 2005. As a result of the reverse stock split, every 20 shares of Applied common stock were combined into one share of Applied common stock. As a result of the reverse stock split, the issued and outstanding shares of Applied common stock were reduced from approximately 156 million shares to approximately 7.8 million shares. The number of authorized shares is not reduced. The effects of the reverse split have been presented retroactively.
The reverse stock split affected all shares of common stock, stock options and warrants of Applied outstanding as of immediately prior to the effective time of the reverse stock split. Fractional shares of common stock of the Company were not issued as a result of the reverse stock split, but instead, holders of pre-split shares of common stock who otherwise would have been entitled to receive a fractional share as a result of the reverse split received one whole share. Shares of Applied common stock trade on the NASD OTCBB Market under the symbol CXIA.
For the year ended December 31, 2005, the Company issued 291,707 shares of the Company’s common stock upon conversion of 5,500 shares of Series E Preferred by the holders thereof. On April 12, 2005, the Company entered into an exchange agreement with The Shaar Fund, LTD (the “Shaar Exchange Agreement”). Under terms of the Shaar Exchange Agreement, the Company agreed that Shaar will exchange all of its right, title and interest in and to the remaining outstanding shares of the Series E Preferred and Series F Preferred (including all other accrued and unpaid dividends thereon) for 395,302 shares of the Company’s Series I Preferred.
For the year ended December 31, 2005, the Company issued 439,206 shares of the Company’s common stock upon conversion of 7,000 shares of Series I Preferred by the holders thereof. For the year ended December 31, 2006, the Company paid no dividends on the Series I Preferred Stock. The Company had accrued dividends payable on the Series I Preferred at December 31, 2006 of approximately $184 thousand, which is included in Other Accrued Liabilities.
Effective October 1, 2005, the Company entered into an exchange agreement with The Shaar Fund, LTD (the “New Shaar Exchange Agreement”). Under terms of the Shaar Exchange Agreement, the Company agreed that Shaar will exchange all of its right, title and interest in and to 388,302 shares of the Series I Preferred (excluding all other accrued and unpaid dividends thereon) for 388,302 shares of the Company’s Series J Preferred.
For the year ended December 31 2006, the Company converted no shares of Series H Preferred and issued no stock with respect to accrued dividends pertaining to the Series H Preferred. For the year ended December 31, 2006, the Company paid no accrued dividends on the Series H Preferred Stock. The Company had accrued dividends payable on the Series H Preferred at December 31, 2006 of approximately $105 thousand, which is included in Other Accrued Liabilities.
For the year ended December 31 2006, the Company converted no shares of Series J Preferred and issued no stock with respect to accrued dividends pertaining to the Series J Preferred. For the year ended December 31, 2006, the Company paid no dividends on the Series J Preferred. The Company accrued dividends on Series J Preferred for the year ended December 31, 2006 of approximately $388 thousand, increasing the total dividends accrued on Series J to approximately $485 thousand at December 31, 2006, which is included in Other Accrued Liabilities.
In November 2000, the Company completed $500 thousand in financing in the form of a loan (the “Weiss Group Note”) from a group of four investors. The Weiss Group Note bears interest at 12% per annum and was due and payable on February 12, 2001. All holders of the Weiss Group Note have granted payment extensions to the Company until January 15, 2005 in exchange for warrants for 125,000 shares of the Company’s common stock at an exercise price of $0.57. The current principal balance of the Weiss Group Note is approximately $252 thousand as of December 31, 2006 and remains unpaid. The Company is in default of this note.
Effective February 14, 2004, the members of the Weiss Group Note voluntarily cancelled all issued warrants to purchase 75,000 shares at an exercise price of $1.00 per share of the Company’s common stock in connection with the Weiss Group Note.
Effective February 15, 2004, the Company issued warrants to purchase 125,000 shares of its common stock at an exercise price of $0.57 per share to all holders of the Weiss Group Note in consideration of the extension of the due date of such loans by such persons from May 31, 2002 to January 15, 2005. The Company believes that this transaction is exempt from the registration requirements of the Securities Act under Section 4(2) thereof as a transaction not involving any public offering of securities.
Mr. Blum, a director of the Company, provided cash installments in the form of a loan to the Company through February 2004 (the “Blum Demand Note”). The Blum Demand Note bears interest at 9% per annum and is payable on demand. The current principal balance of the Blum Demand Note is approximately $312 thousand as of December 31, 2006 and remains unpaid as of April 17, 2007.
On November 19, 2003, the Company issued a warrant to purchase 1,367,790 shares of its common stock at an exercise price of $0.57 per share (the closing price of our common stock on the OTCBB on such date) to the Blum Asset Trust, a company controlled by Bentley Blum, a Director of the Company, in consideration for the loans made to the Company and the usage of office space and personnel of the Blum Asset Trust over the last five years. The Company believes that this transaction is exempt from the registration requirements of the Securities Act under Section 4(2) thereof as a transaction not involving any public offering of securities.
Effective as of April 12, 2005, the Company authorized the issuance of 550,000 shares of Series I Convertible Preferred Stock (“Series I Preferred”), par value $0.001 per share, each such share having a stated value of $10.00 per share.
The Series I Preferred have the following rights, privileges, and limitations:
a) 	
The conversion feature shall be exercisable immediately.
b) 	
The conversion price shall be determined by the average closing price of Company’s common stock in the previous 10 trading days, but in no event shall the conversion price be more than $0.57 per share.
c) 	
If the Company’s common stock is not listed on an exchange at the time of the conversion, the conversion price would be 50% of the market price at that time.
d) 	
The Series I Preferred has a cumulative annual dividend of 10%, payable in cash or shares of the Company’s common stock at the Company’s election.
e) 	
Dividends were to be paid quarterly commencing May 15, 2005, to the holders of record of shares of the Series I Preferred Stock. Dividends until February 14, 2006 would accrue but shall not be payable until February 15, 2006. As of December 31, 2006, no dividends had yet been paid under these terms.
f) 	
The Company reserved 3,750,000 shares of its common stock for the conversion of the Series I Preferred.
g) 	
The payment of dividends in the form of common stock is subject to limitation, such that no payment in the form of stock can be made that would result in the holder owning 5% or more beneficial ownership of the Company’s common stock.
h) 	
The Company accrued approximately $184 thousand of dividends in 2005 on the Series I Preferred prior to its exchange, all of which is outstanding at December 31, 2006.
During the year ended December 31, 2005, 7000 shares were converted to 439,206 shares of common stock.
Effective October 1, 2005, the Company entered into the New Shaar Exchange Agreement, in which the Company agreed that Shaar will exchange all of its right, title and interest in and to the remaining outstanding shares of the Series I Preferred (excluding all other accrued and unpaid dividends thereon) for 388,302 shares of the Company’s Series J Preferred Stock, which represents all of the Series J preferred stock outstanding at December 31, 2006.
Additionally, under the Shaar Exchange Agreement, the Company issued an Amended and Restated Secured Promissory Note, amending and restating a note originally issued June 13, 2001. The Note had an outstanding principal balance as of April 12, 2005 of approximately $3.3 million (“Old Shaar Note”).
On April 11, 2005 The Shaar Fund, LTD (“Shaar”) executed a purchase agreement (“Milford Capital Purchase Agreement”) to Milford Capital & Management (“Milford”). In accordance with the terms of the Milford Capital Purchase Agreement, Shaar purchased a secured promissory note of the Company, initially issued to Milford on June 13, 2001, in the original principal amount of $500 thousand, which had an outstanding principal balance on March 22, 2005 of approximately $188 thousand (“Old Milford Note”), together with (i) all interest, additional obligations, forbearance fees, exit fees, penalties and other amounts due and payable from time to time under or in connection with the Old Milford Note, and (ii) the Forbearance Amount in connection with the Forbearance Agreement, dated January 30, 2004, between Milford and the Company, and Shaar in which Shaar agreed to forgive payment from the Company to Shaar of approximately $300 thousand of accrued and unpaid dividends on shares of the Company’s Series E Preferred held by Shaar (“Forgiven Dividends”) and consented to the transfer of the dollar value of the Forgiven Dividends to Milford as part of the forbearance fee payable to Milford under the Forbearance Agreement of 2004.
Shaar and the Company exchanged the outstanding principal amount of the Old Shaar Note and the Old Milford Note (including all accrued and unpaid interest, unpaid fees and Forgiven Dividends) for the Company’s newly issued 10% convertible secured promissory note (“New Shaar Convertible Note”).
The New Shaar Convertible Note has the following rights, privileges, and limitations:
a) 	
The New Shaar Convertible Note bears an interest rate of 10% per annum, which is payable in cash or shares of the Company’s common stock at the Company’s election.
b) 	
Interest shall accrue on the principal amount for a one year period (“Deferral Period”). On March 22, 2006, the Company will make a single lump sum payment to the holder in an amount equal to all interest that accrued during the Deferral Period
c) 	
Beginning April 15, 2006, and monthly thereafter on the 15th day of each month until March 22, 2009 (“Maturity Date”), the Company shall pay to Shaar all accrued and unpaid interest (“Interest Payments”) on the principal balance of the note accruing during the prior month.
d) 	
On the Maturity Date, the Company shall make a single lump sum payment to Shaar equal to the outstanding principal balance of the New Shaar Convertible Note (“Principal Balance”), together with all accrued and unpaid interest.
e) 	
At the option of Shaar, the outstanding Principal Balance may be converted, either in whole or in part, into shares of the Company’s common stock.
f) 	
The conversion price of the payment of the Principal Balance, the Deferral Period, and the Interest Payments shall be determined by the average closing price of Company’s common stock in the 10 trading days preceding the conversion date,, but in no event shall the conversion price be more than $0.57 per share (“Conversion Price”).
g) 	
Both the conversion of the note into common stock and the payment of interest in the form of common stock were subject to limitation, such that no conversion or payment in the form of stock could be
exercised or made that would result in the holder owning 5% or more beneficial ownership of the Company’s common stock.
h) 	
If the Company’s common stock is not listed on an exchange at the time of the conversion, then the conversion price will be 50% of the market price at that time.
i) 	
The New Shaar Convertible Note may not be prepaid by the Company prior to the Maturity Date.
On April 11, 2005, through the issuance of the Series I Preferred and the Amended and Restated Shaar Note, the Company recorded an embedded derivative liability due to the conversion feature of these financial instruments pursuant to ETIF 00-19. Applied recorded a loss of approximately $543 thousand of non-cash expense for the year ended December 31, 2005.
On April 27, 2005, a private investor purchased $100 thousand of the Company’s unregistered common stock at the market price. The Company issued the private investor 500,000 shares of unregistered common stock of the Company as a result of the equity purchase. In connection with the purchase of the shares of the Company’s common stock, the Company issued the private investor a 3-year warrant for 200,000 shares of the Company’s common stock at an exercise price of $0.20 per share. The Company believes that this transaction is exempt from the registration requirements of the Securities Act under Section 4(2) thereof as a transaction not involving any public offering of securities.
Effective as of October 1, 2005, the Company authorized the issuance of 550,000 shares of Series J Convertible Preferred Stock (“Series J Preferred”), par value $0.001 per share, each such share having a stated value of $10.00 per share.
The Series J Preferred shall have the following rights, privileges, and limitations:
a) 	
The conversion feature shall be exercisable immediately.
b) 	
The conversion price shall be determined by the average closing price of Company’s common stock in the previous 10 trading days, but in no event shall the conversion price be more than $0.50 per share or less than $0.05 per share.
c) 	
If the Company’s common stock is not listed on an exchange at the time of the conversion, then the conversion price will be 50% of the market price at that time.
d) 	
The Series J Preferred shall have a cumulative annual dividend of 10%, payable in cash or shares of the Company’s common stock at the Company’s election.
e) 	
Dividends were to be paid quarterly commencing March 31, 2006, to the holder of the shares of the Series J Preferred Stock. As of December 31, 2006, no dividends had yet been paid under these terms, and the holder has agreed to a deferral of payment until June 30, 2007 without consequence to the Company. f) Both the conversion of the Series J Preferred into common stock and the payment of dividends in the
form of common stock are subject to limitation, such that no conversion or payment in the form of stock can be exercised or made that would result in the holder owning 5% or more beneficial ownership of the Company’s common stock.
Effective October 1, 2005, the Company entered into the New Shaar Exchange Agreement, in which the Company agreed that Shaar will exchange all of its right, title and interest in and to the remaining outstanding shares of the Series I Preferred (excluding all other accrued and unpaid dividends thereon) for 388,302 shares of the Company’s Series J Preferred Stock, which represents all of the Series J preferred stock outstanding at December 31, 2006.
Upon liquidation, dissolution or winding up of Applied, holders of Series J Convertible Preferred Stock are entitled to receive liquidation distributions equivalent to a stated value of $10.00 per share, plus 30% of the stated value, plus the aggregate of all accrued and unpaid dividends, the total of such distributions to be made before any distribution to holders of the common stock.
Effective as of October 1, 2005, the Company entered into an exchange agreement with The Shaar Fund, LTD (the “New Shaar Exchange Agreement”). Under terms of the New Shaar Exchange Agreement, Shaar exchanged all of its right, title and interest in and to the remaining outstanding shares of the Series I Preferred (excluding all other accrued and unpaid dividends thereon) for 388,302 shares of the Company’s Series J Preferred.
Effective as of October 1, 2005, Shaar and the Company amended the New Shaar Convertible Note (the “Amended New Shaar Convertible Note”). The Amended New Shaar Convertible Note has the following rights, privileges, and limitations:
a) 	
The Amended New Shaar Convertible Note bears an interest rate of 10% per annum, which is payable in cash or shares of the Company’s common stock at the Company’s election.
b) 	
Interest shall accrue on the principal amount for a one year period (“Deferral Period”). On March 22, 2006, the Company was to make a single lump sum payment to the holder in an amount equal to all interest that accrued during the Deferral Period. This payment was not made and has been extended to June 30, 2007.
c) 	
Beginning April 15, 2006, and monthly thereafter on the 15th day of each month until March 22, 2009 (“Maturity Date”), the Company shall pay to Shaar all accrued and unpaid interest (“Interest Payments”) on the principal balance of the note accruing during the prior month. These payments have not been made during 2006, and have been extended to June 30, 2007.
d) 	
On the Maturity Date, the Company shall make a single lump sum payment to Shaar equal to the outstanding principal balance of the Amended New Shaar Convertible Note (“Principal Balance”), together with all accrued and unpaid interest.
e) 	
At the option of Shaar, the outstanding Principal Balance may be converted, either in whole or in part, into shares of the Company’s common stock.
f) 	
The conversion price of the payment of the Principal Balance, the Deferral Period, and the Interest Payments shall be determined by the average closing price of Company’s common stock in the 10 trading days preceding the conversion date, but in no event shall the conversion price be more than $0.50 per share or less than $0.05 per share (“Conversion Price”).
g) 	
If the Company’s common stock is not listed on an exchange at the time of the conversion, then the conversion price will be 50% of the market price at that time.
h) 	
Both the conversion of the note into common stock and the payment of interest in the form of common stock are subject to limitation, such that no conversion or payment in the form of stock can be exercised or made that would result in the holder owning 5% or more beneficial ownership of the Company’s common stock.
i) 	
The Amended New Shaar Convertible Note may not be prepaid by the Company prior to the Maturity Date.
j) 	
The Company has reserved 40,000,000 shares of its common stock for the conversion of the Amended New Shaar Convertible Note and the Series J Preferred.
The current principal balance of the New Shaar Note is approximately $6.5 million as of December 31, 2006 and remains unpaid as of April 17, 2007.
The recipient of securities in this transaction represented its intention to acquire the securities for investment only and not with a view to, or for sale in connection with, any distribution thereof, and appropriate restrictive legends were affixed to the warrants and the certificates representing the shares issued in this transaction. The Company made available to The Shaar Fund Ltd., written information about the Company in accordance with Rule 502 of the Securities Act and advised such recipient of the limitations on resale of such securities. In addition, The Shaar Fund Ltd. was offered the opportunity, prior to exchanging and/or purchasing any securities, to ask questions of, and receive answers from, the Company concerning the terms and conditions of the transaction and to obtain additional relevant information about the Company. Based upon the facts above, the Company believed this transaction to be exempt from the registration requirements of the Securities Act in reliance on Section 4 (2) thereof as a transaction not involving any public offering of securities.
The holders of all series of convertible preferred stock have the right, voting as a class, to approve or disapprove of the issuance of any class or series of stock ranking senior to or on a parity with the convertible preferred stock with respect to declaration and payment of dividends or the distribution of assets on liquidation, dissolution or winding-up.
Cumulative unpaid dividends on all series of preferred stock are approximately $773 thousand and $361 thousand at December 31, 2006 and 2005, respectively.
CONTRACTUAL OBLIGATIONS, MATURITIES AND COMMITMENTS
The following table summarizes the Company's contractual obligations, maturities and commitments. See Notes 7 and 14 of the Notes to Consolidated Financial Statements for additional information regarding long-term debt and operating leases, in thousands.
The Company hopes to meet its short-term capital requirements (including its approximately $110 thousand monthly operating deficit) through continued loans from The Shaar Fund, Ltd., although this lender is under no obligation to continue to make advances to the Company. The Company intends to negotiate a forbearance arrangement with other lenders on loans that are currently due. Ultimately, the Company intends to reduce its cash shortfall and intends to meet its long term capital needs through obtaining additional contracts that will generate funds from operations and obtaining additional debt or equity financing as necessary or engaging in merger or sale transactions. There can be no assurance that such sources of funds will be available to the Company or that it will be able to meet its short or long term capital requirements.
NET OPERATING LOSS CARRYFORWARDS
The Company has net operating loss carryforwards (the “NOLs”) of approximately $42.5 million as of December 31, 2006, which expire in the years 2010 through 2026. The amount of NOLs that can be used in any one year will be limited by the applicable tax laws that are in effect at the time such NOLs can be utilized. The unused NOLs balances may be accumulated and used in subsequent years. A full valuation allowance has been established to offset any benefit from the net operating loss carryforwards. It cannot be determined when or if the Company will be able to utilize the NOLs.
NEW ACCOUNTING PRONOUNCEMENTS
In February 2006, the Financial Accounting Standards Board ("FASB") issued SFAS No. 155, Accounting for Certain Hybrid Instruments ("SFAS 155"). SFAS 155 amends SFAS 133 and SFAS No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities ("SFAS 140"). SFAS 155 allows financial instruments that have embedded derivatives to be accounted for as a whole, eliminating the need to bifurcate the derivative from its host, if the holder elects to account for the whole instrument on a fair value basis. In addition, among other changes, SFAS 155 (i) clarifies which interest-only strips and principal-only strips are not subject to the requirements of SFAS 133; (ii) establishes a requirement to evaluate interests in securitized financial assets to identify interests that are freestanding derivatives or that are hybrid financial instruments that contain an embedded derivative requiring bifurcation; (iii) clarifies that concentrations of credit risk in the form of subordination are not embedded derivatives; and (iv) eliminates the prohibition on a qualifying special-purpose entity ("QSPE") from holding a derivative financial instrument that pertains to a beneficial interest other than another derivative financial interest. SFAS 155 will be applied prospectively and is effective for all financial instruments acquired or issued for fiscal years beginning after September 15, 2006. SFAS 155 is not expected to have a material impact on the Company's consolidated financial statements. The FASB has issued additional guidance relating to derivative financial instruments as follows:
In June 2006, the FASB issued FASB interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109.” Fin 48 clarifies the accounting for uncertainty in income taxes recognized in a company’s financial statements and prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in an income tax
return. FIN 48 also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FIN 48 is effective beginning in fiscal 2008. The Company is currently evaluating the impact of adopting FIN 48.
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements required under other accounting pronouncements, but does not change existing guidance as to whether or not an instrument is carried at fair value. SFAS 157 is effective for the Company’s fiscal year 2008. The Company is currently evaluating the impact of adopting SFAS 157.
In September 2006, the FASB issued SFAS No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans (an amendment of Financial Accounting Standards Board (FASB) Statements No. 87, 88, 106 and 132R)”. SFAS 158 requires companies with defined benefit plans and certain other plans to recognize on the balance sheet the difference between benefit obligations and any plan assets of those benefit plans. The Company does not have any plans of this nature; therefore FASB 158 is not applicable to the Company and will have no impact.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not applicable.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Report of Independent Registered Public Accounting Firm
Board of Directors
Commodore Applied Technologies, Inc.
We have audited the accompanying consolidated balance sheet of Commodore Applied Technologies, Inc. and its subsidiaries as of December 31, 2006, and the related consolidated statement of operations, changes in stockholders' deficit and cash flows for the year then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our 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 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 audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Commodore Applied Technologies, Inc. and its subsidiaries as of December 31, 2006, and the consolidated results of their operations and their cash flows for the year then ended, in conformity with accounting principles generally accepted in the United States of America.
The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 2 to the financial statements, the Company has negative working capital, and an accumulated deficit that raise substantial doubt about its ability to continue as a going concern. Management's plans in regard to these matters are also described in Note 2. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of Commodore Applied Technologies, Inc. and subsidiaries
We have audited the consolidated balance sheet of Commodore Applied Technologies, Inc. and subsidiaries (the Company) as of December 31, 2005, and the related consolidated statements of operations, stockholders’ deficit and cash flows for the years ended December 31, 2005 and 2004. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated 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 audits 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 Commodore Applied Technologies, Inc. and subsidiaries as of December 31, 2005, and the results of their operations and their cash flows for the years ended December 31, 2005 and 2004, in conformity with U.S. generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 2 to the consolidated financial statements, the Company has a working capital deficit and has suffered recurring losses. These factors raise substantial doubt about the Company’s ability to continue as a going concern. Management’s plans regarding those matters are also described in Note 2. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
The accompanying notes are an integral part of these consolidated financial statements.
The accompanying notes are an integral part of these consolidated financial statements.
The accompanying notes are an integral part of these consolidated financial statements.
Commodore Applied Technologies, Inc. and Subsidiaries Consolidated Statements of Cash Flows For the years ended December 31, 2006, 2005 and 2004
(Amounts in thousands, except shares)
Non-Cash Investing and Financing Activities:
· The Company recorded $412 in accrued dividends payable to holders of preferred stock.
· 	
The Company recorded $291 in accrued dividends payable to holders of preferred stock.
· 	
The Company purchased equipment in the amount of $8 with a note payable.
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
1. Summary of Significant Accounting Policies
Background
Commodore Applied Technologies, Inc. and subsidiaries ("Applied" or the “Company”) is engaged in the destruction and neutralization of hazardous waste from other materials. Applied owns technologies related to the separation and destruction of polychlorinated biphenyls (“PCBs”) and chlorofluorocarbons (“CFCs”). Applied is currently working on the commercialization of these technologies through development efforts, licensing arrangements and joint ventures.
Through Commodore Advanced Sciences, Inc. ("Advanced Sciences"), a subsidiary acquired on October 1, 1996, Applied has contracts with various government agencies and private companies in the United States and abroad.
Principles of Consolidation
The consolidated financial statements include the accounts of Applied and its majority-owned subsidiaries. All significant intercompany balances and transactions have been eliminated.
Cash and Cash Equivalents
Applied considers cash and highly liquid debt instruments with original maturities of three months or less at the date of purchase to be cash equivalents.
Concentration of Credit Risk and Significant Customers
Applied maintains its cash in bank deposit accounts which, at times, may exceed federally insured limits. Applied has not experienced any losses in such accounts.
With respect to trade receivables, Applied generally does not require collateral as the majority of Applied's services are performed for the U.S. Government and prime contractors that serve the U.S. Government. Applied believes it is not exposed to any significant credit risk on cash, cash equivalents and trade receivables. Sales to major customers which exceeded 10 percent of revenues are as follows, in thousands:
Customer A accounts for approximately 93% of the accounts receivable balance as of December 31, 2006.
Accounts receivable
Trade receivables are carried at original invoice amount less an estimate made for doubtful receivables based on a review of all outstanding amounts on a monthly basis. Management determines the allowance for doubtful accounts by identifying troubled accounts and by using historical experience applied to an aging of accounts. Trade receivables are written off when deemed uncollectible. Recoveries of trade receivables previously written off are recorded when received.
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
1. Summary of Significant Accounting Policies, Continued:
Accounts receivable, Continued:
A trade receivable is considered to be past due if any portion of the receivable balance is outstanding for more than 90
days, not counting retainages billed, which are due at the end of the particular phase of the master government contract.
At December 31, 2006 and 2005, retainages of approximately $568 thousand and $501 thousand were included in trade
accounts receivable, respectively, all expected to be collected within one year. Interest is not charged on trade
receivables.
Property and Equipment
Property and equipment are recorded at cost, less accumulated depreciation. Improvements which substantially increase
the useful lives of assets are capitalized. Maintenance and repairs are expensed as incurred. Upon retirement or disposal,
the related cost and accumulated depreciation are removed from the respective accounts and any gain or loss is recorded
in the Statement of Operations. Depreciation is computed on the straight-line method based on the estimated useful lives
of the assets which range from 3 to 5 years.
Impairment of Long-Lived Assets
Applied reviews its long-lived assets for impairment whenever events or changes in circumstances indicate that the
carrying amount of the assets may not be recoverable. The Company evaluates, at each balance sheet date, whether
events and circumstances have occurred which indicate possible impairment. The carrying value of a long-lived asset is
considered impaired when the estimated cumulative undiscounted cash flows of the related asset or asset group is less
than the carrying value. In that event, a loss is recognized based on the amount by which the carrying value exceeds the
estimated fair market value of the long-lived asset.
Revenue Recognition
Substantially all of Applied's revenues are generated by its subsidiary, Advanced Sciences. Advanced Sciences’ revenues
consist of engineering and scientific services performed for the U.S. Government and prime contractors that serve the
U.S. Government under a variety of contracts, most of which provide for unit prices. Revenue under unit price contracts
is recorded when a contract or arrangement exists, the fees to be charged are fixed or determinable, the services have
been provided, and collection of the billed amounts is reasonably assured.
Research and Development
Research and development expenditures are charged to operations as incurred.
Income Taxes
Income taxes are determined in accordance with Statement of Financial Accounting Standards ("SFAS") 109, which
requires recognition of deferred income tax liabilities and assets for the expected future tax consequences of events that
have been included in the financial statements or tax returns. Under this method, deferred income tax liabilities and
assets are determined based on the difference between financial statement and tax bases of assets and liabilities using
enacted tax rates in effect for the year in which the differences are expected to reverse. SFAS 109 also provides for the
recognition of deferred tax assets if it is more likely than not that the assets will be realized in future years.
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
1. Summary of Significant Accounting Policies, Continued:
Fair Value of Financial Instruments
The fair value of financial instruments is determined by reference to various market data and other valuation techniques as appropriate. Accounts receivable, cash equivalents, accounts payable, other accrued liabilities, long term debt and the line of credit are financial instruments that are subject to possible material market variations from the recorded book value. The fair value of these financial instruments approximates the recorded book value as of December 31, 2006 and 2005.
Use of Estimates
The preparation of consolidated financial statements in conformity with U.S. Generally Accepted Accounting Principles (“GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Recent Accounting Pronouncements
In February 2006, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards No. 155, “Accounting for Certain Hybrid Financial Instruments, and Amendment of FASB No. 133 and 140” (“SFAS 155”), which establishes the accounting for certain derivatives embedded in other instruments. It simplifies accounting for certain hybrid financial instruments by permitting fair value remeasurement for any hybrid instrument that contains an embedded derivative, that otherwise would require bifurcation under SFAS No. 133, as well as eliminating a restriction on the passive derivative instruments that a qualifying special-purpose entity ("SPE") may hold under SFAS No. 140. This statement allows a public entity to irrevocably elect to initially, and subsequently, measure a hybrid instrument that would be required to be separated into a host contract and derivative in its entirety at fair value (with changes in fair value recognized in earnings) so long as that instrument is not designated as a hedging instrument pursuant to the statement. SFAS No.140 previously prohibited a qualifying special-purpose beneficial interest, other than another derivative financial instrument. The statement is effective for fiscal years beginning after September 15, 2006, with early adoption permitted as of the beginning of an entity's fiscal year. Management believes the adoption of this statement will have no immediate impact on the Company's financial condition or results of operations.
In June 2006, the FASB issued FASB interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109.” Fin 48 clarifies the accounting for uncertainty in income taxes recognized in a company’s financial statements and prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in an income tax return. FIN 48 also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FIN 48 is effective beginning in fiscal 2007. The Company is currently evaluating the impact of adopting FIN 48.
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair-value measurements required under other accounting pronouncements, but does not change existing guidance as to whether or not an instrument is carried at fair value. SFAS 157 is effective for the Company’s fiscal year 2008. The Company is currently evaluating the impact of adopting SFAS 157.
In September 2006, the FASB issued SFAS No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans (an amendment of Financial Accounting Standards Board (FASB) Statements No. 87, 88, 106 and 132R)”. SFAS 158 requires companies with defined benefits plans and certain other plans to recognize on the balance sheet the difference between benefit obligations and any plan assets of those benefit plans. The Company does not have any plans of this nature; therefore FASB 158 is not applicable to the Company and will have no impact.
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
1. 	
Summary of Significant Accounting Policies, Continued:
Derivatives
From time to time, the Company enters into transactions which contain conversion privileges, the settlement of which may entitle the holder or the Company to settle obligations by issuance of Company securities. These transactions, the value of which may be derived from the fair value of Company securities, are accounted for in accordance with EITF No. 00-27 “Application of Issue No. 98-5 to Certain Convertible Instruments”, and EITF 00-19 "Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in, a Company's Own Stock". Additionally, the Company applies EITF No. 98-5, “Accounting for Convertible Securities with Beneficial Conversion Features or Contingently Adjustable Conversion Ratios”, and APB 14, “Accounting for Convertible Debt and Debt Issued with Stock Purchase Warrants”. Fair value considerations required by these pronouncements is estimated using the Black-Scholes option pricing model. Note 10 “Embedded Derivative Liability” of these consolidated financial statements contains details of application of these pronouncements to the Series I Preferred stock issued by the Company in 2005. No transactions in 2006 meet the definition of a derivative.
Stock-Based Compensation
Effective January 1, 2006, the Company adopted the fair value recognition provisions of Statement of Financial Accounting Standards (“SFAS”) No. 123 (Revised), “Share-Based Payment,” using the modified-prospective transition method. Under this transition method, the Company recognizes stock-based compensation expense for stock-based awards granted subsequent to the year ended December 31, 2005 in accordance with the provisions of SFAS No. 123R, and the estimated expense for the portion vesting in the period for options granted prior to, but not vested as of December 31, 2005, based on the grant date fair value estimated in accordance with the original provisions of SFAS No. 123.
At December 31, 2006 and 2005, the Company had a stock plan for key employees, non-employee directors and management consultants, described more fully in Note 11 “Share-Based Compensation”. Management’s adoption of SFAS 123R resulted in recognition of $0 of stock-based compensation expense in 2006.
Reclassifications
Certain amounts in prior years have been reclassified to conform to the current year presentation.
2. 	
Going Concern
The accompanying consolidated financial statements have been prepared under the assumption that Applied will continue as a going concern. Such assumption contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. As shown in the consolidated financial statements, Applied incurred losses and negative cash flows from operating activities for the years ended December 31, 2006, 2005 and 2004. Applied also has a working capital deficit of approximately $5.7 million and an accumulated deficit of approximately $81.1 million at December 31, 2006 and several of the Company’s notes payable are in default. These factors raise substantial doubt about the Company’s ability to continue as a going concern. The consolidated financial statements do not include any adjustments that might be necessary should Applied be unable to continue as a going concern.
Applied's continuation as a going concern is dependent upon its ability to generate sufficient cash flow to meet its obligations on a timely basis, to obtain additional financing as may be required, and ultimately to attain profitability. Potential sources of cash include new contracts, external debt, the sale of shares of Company stock or alternative methods such as mergers or sale transactions. No assurances can be given, however, that Applied will be able to obtain any of these potential sources of cash. Applied currently requires additional cash funding from outside sources to sustain existing operations and to meet current obligations and ongoing capital requirements.
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
3. Accounts Receivable
The components of Applied’s trade receivables as of December 31, 2006 and 2005 are as follows, in thousands:
Substantially all of Advanced Sciences’ trade receivables are pledged to collateralize its line of credit (see Note 6).
4. Property and Equipment
Property and equipment consist of the following as of December 31, 2006 and 2005, in thousands:
During the year ended December 31, 2006, $123 thousand of fully depreciated machinery and equipment was sold, resulting in a recognized gain of $3 thousand. The Company also abandoned $52 thousand of fully depreciated machinery and equipment. Cost and related accumulated depreciation have been removed from the respective accounts.
(1) 	
Liability accrued for payroll, payroll taxes and employee benefits earned by company employees but paid subsequent to the close of the year of accrual.
(2) 	
Liability accrued for compensation deferred by certain members of the Company’s executive management; not pursuant to any qualified deferred compensation plan or arrangement.
(3) 	
Liability accrued for services performed by subcontractors for the Company under its contracts with the Department of Energy or Department of Defense.
(4) 	
Interest accrued on short term notes, long term debt and related party payables.
(5) 	
Accrual for potential liability related to an ongoing DCAA audit of one of the Company’s completed contracts (see Note 14).
(6) 	
Accrual for dividends payable on Series H, Series I and Series J Preferred stock.
(7) 	
Amounts payable to parties related to the Company by past ownership of an acquired company.
(8) 	
Accruals for other general liabilities of the Company.
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
(1) 	
Notes payable to The Shaar Fund, Ltd. with interest at 10%, interest only due in aggregate monthly installments beginning in June 30, 2007, maturing in March 2009, no prepayment option, and collateralized by property and equipment and patents. The note is convertible into common stock at any time, and the interest can be paid in cash or stock, at the option of either the Company or the holder. Both the conversion and the payment of interest in the form of common stock are subject to a limitation, such that no conversion or payment in the form of stock can be exercised or made that would result in the holder owning 5% or more beneficial ownership of the Company’s common stock. The conversion price is the average closing price of the ten days preceding the conversion date, but shall not be more than $0.50 per share or less than $0.05 per share. See Note 9. Also, these notes payable restrict the Company’s ability to declare or pay dividends on and repurchase common stock, materially change the Company’s business, enter a business combination, or transfer or sell assets.
(2) 	
Notes payable to individuals bearing 12% interest and are in default as of January 15, 2005, collateralized by accounts receivable.
(3) 	
Note payable to Bentley Blum with interest at 9%, not collateralized and in default since June 30, 2003.
(4) 	
Note payable to Sterling Lending financing certain of the Company’s insurance policies, with interest at 6%, payable in calendar 2007.
Future maturities of notes payable and long-term debt as follows, in thousands:
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
Applied provides for deferred income taxes on temporary differences which represent tax effects of transactions reported for tax purposes in periods different than for book purposes.
The provision for income taxes for the years ended December 31, 2006 and 2005 results in an effective tax rate which differs from federal income tax rates as follows, in thousands:
The components of the net deferred tax assets as of December 31, 2006 and 2005 are as follows, in thousands:
Management estimates that our combined federal and state tax rates will be 36.3% . Applied conducts a periodic examination of its valuation allowance. Factors considered in the evaluation include recent and expected future earnings and Applied's liquidity and equity positions. As of December 31, 2006 and 2005, Applied has established a valuation allowance for the entire amount of net deferred tax assets, due to the Company’s belief that it is more likely than not that the deferred tax asset will not be realized.
Applied has net operating loss ("NOL") carryforwards at December 31, 2006 of approximately $42 million which expire in years 2010 through 2026. The NOL carryforwards are limited to use against future taxable income due to changes in ownership and control.
9. Stockholders’ Deficit
Reverse Stock Split
On August 29, 2005, the Company effected the previously approved 1-for-20 reverse common stock split. As a result of the reverse stock split, the issued and outstanding shares of the Company’s common stock were reduced from approximately 156 million shares to approximately 7.8 million shares. The reverse stock split, including the effect on loss per share, has been presented retroactively as if it had occurred on January 1, 2004.
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
9. Stockholders’ Deficit, Continued:
Series E Convertible Preferred Stock
Effective November 4, 1999 Applied issued 335,000 shares of Series E Convertible Preferred Stock with a stated value of $10 per share. This stock had a dividend rate of 12% per annum through April 30, 2000 and thereafter 5% per annum paid quarterly. In addition the stock had a special dividend at the rate of 7.5% per annum which began to accrue on May 1, 2000 and continued to accrue until paid, and was payable on May 1, 2001. The Company accrued $28 thousand and $124 thousand of dividends in 2005 and 2004, respectively.
The Series E Convertible Preferred Stock was convertible into common stock at any time on or after April 30, 2000 at a conversion price equal to the arithmetic mean of the closing prices of common stock as reported in the respective stock exchange for the ten trading days immediately preceding the date of conversion.
During the years ended December 31, 2005 and 2004, 5,500 and 32,500 shares of Series E Convertible Preferred Stock were converted into 291,629 and 807,196 shares of common stock, respectively. As of December 31, 2006 and 2005 there are no shares of Series E Convertible Preferred Stock outstanding.
On April 12, 2005, the Company entered into the Shaar Exchange Agreement, in which the Company agreed that Shaar would exchange all of its right, title and interest in and to the remaining outstanding shares of the Series E and Series F Preferred (including all other accrued and unpaid dividends thereon) for 395,302 shares of the Company’s Series I Preferred Stock.
Series F Convertible Preferred Stock
In March 2000, Applied issued 266,700 shares of Series F Convertible Preferred Stock with a stated value of $10 per share. Transaction costs on the issuance totaled $230 thousand resulting in net proceeds to Applied of $1.8 million.
The stock had a dividend rate of 12% per annum through September 30, 2000 and thereafter 5% per annum paid quarterly. In addition the stock had a special dividend at the rate of 7.5% per annum which began to accrue October 1, 2000 and continued to accrue until paid, payable on October 1, 2001. The Company accrued $41 thousand and $148 thousand of dividends in 2005 and 2004, respectively.
The Series F Convertible Preferred Stock had a liquidation preference of $10 per share. In connection with the issuance of Series F Convertible Preferred Stock, Applied issued warrants to purchase 18,174 shares of common stock at $38.78 per share. These warrants expired on March 16, 2005.
The Series F Convertible Preferred Stock was convertible into common stock at any time on or after September 30, 2000. On conversion, the investor was to receive for each converted preferred share the greater number of common stock as determined by (1) the face value per share ($10) plus accrued dividends divided by the average of the closing prices over a ten consecutive trading day period ending on the trading day immediately preceding the conversion date, or (2) $7.50 (the cash invested for each preferred share) divided by $1.93875.
On April 12, 2005, the Company entered into the Shaar Exchange Agreement, in which the Company agreed that Shaar would exchange all of its right, title and interest in and to the remaining outstanding shares of the Series E and Series F Preferred (including all other accrued and unpaid dividends thereon) for 395,302 shares of the Company’s Series I Preferred Stock.
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
9. Stockholders’ Deficit, Continued: Series H Convertible Preferred Stock
Applied issued 800,000 shares of Series H Preferred Stock (the “Series H Preferred”), par value $0.001 per share, having a stated value of $1 per share. The Series H Preferred shall have the following rights, privileges, and limitations:
a) The conversion feature was exercisable on or after June 30, 2003.
b) No Series H Preferred could be converted prior to June 30, 2003. Until July 31, 2005, only 80,000 shares could be convertible in any calendar quarter. The balance of any unconverted shares may be converted at any time on or after August 1, 2005.
c) The conversion price is determined by the average closing price of Company’s common stock in the previous 30 trading days, but in no event shall the conversion price be less than $4.00 per share.
e) The Series H Preferred has a non-cumulative annual dividend of 3%, payable in cash or Series H Preferred within 30 days of the end of Applied’s fiscal year, at Applied’s election. Dividends of $24 thousand and $24 thousand were accrued during 2006 and 2005 respectively, and total accumulated dividends of $104 thousand had been accrued at December 31, 2006.
f) The Series H Preferred is not transferable.
There have been no shares of Series H Preferred stock converted into common shares as of December 31, 2006.
In the event of liquidation, dissolution or winding up of Applied, holders of Series H Convertible Preferred Stock are entitled to receive liquidation distributions equivalent to $1.00 per share, and no more, before any distribution to holders of the common stock.
Series I Convertible Preferred Stock
Effective as of April 12, 2005, the Company authorized the issuance of 550,000 shares of Series I Convertible Preferred Stock (“Series I Preferred”), par value $0.001 per share, each such share having a stated value of $10.00 per share.
The Series I Preferred have the following rights, privileges, and limitations:
a) The conversion feature was exercisable immediately upon issuance of the shares.
b) The conversion price is determined by the average closing price of the Company’s common stock in the previous 10 trading days, but in no event shall the conversion price be more than $0.57 per share.
c) If the Company’s common stock is not listed on an exchange at the time of the conversion, the conversion price would be 50% of the market price at that time.
d) The Series I Preferred has a cumulative annual dividend of 10%, payable in cash or shares of the Company’s common stock at the Company’s election.
e) The payment of dividends in the form of common stock is subject to limitation, such that payment in the form of stock can be exercised or made that would result in the holder owning 5% or more beneficial ownership of the Company’s common stock.
f) Dividends were to be paid quarterly commencing May 15, 2005, to the holders of record of shares of the Series I Preferred Stock. Dividends until February 14, 2006 would accrue but shall not be payable until February 15, 2006. As of December 31, 2006, no dividends had yet been paid under these terms.
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
During the year ended December 31, 2005, 7,000 shares were converted to 439,206 shares of common stock.
Effective October 1, 2005, the Company entered into the New Shaar Exchange Agreement, in which Shaar exchanged all of its right, title and interest in and to the remaining outstanding shares of the Series I Preferred (excluding all other accrued and unpaid dividends thereon) for 388,302 shares of the Company’s Series J Preferred Stock, which represents all of the Series J preferred stock outstanding at December 31, 2006.
Series J Convertible Preferred Stock
Effective October 1, 2005, the Company authorized the issuance of 550,000 shares of Series J Convertible Preferred Stock (“Series J Preferred”), par value $0.001 per share, each such share having a stated value of $10.00 per share.
The Series J Preferred have the following rights, privileges, and limitations:
a) 	
The conversion feature was exercisable immediately upon issuance of the shares.
b) 	
The conversion price is determined by the average closing price of the Company’s common stock in the
previous 10 trading days, but in no event shall the conversion price be more than $0.50 per share or less than $0.05 per share.
c) If the Company’s common stock is not listed on an exchange at the time of the conversion, then the conversion price will be 50% of the market price at that time.
d) The Series J Preferred have a cumulative annual dividend of 10%, payable in cash or shares of the Company’s common stock at the Company’s election.
e) Dividends were to be paid quarterly commencing March 31, 2006, to the holder of the shares of the Series J Preferred Stock. As of December 31, 2006, no dividends had yet been paid under these terms, and the holder has agreed to a deferral of payment until June 30, 2007 without consequence to the Company.
f) The Company has reserved 40,000,000 shares of its common stock for the conversion of the Series J Preferred and the Amended New Shaar Convertible Note.
g) Both the conversion and the payment of dividends in the form of common stock are subject to limitation, such that no conversion or payment in the form of stock can be exercised or made that would result in the holder owning 5% or more beneficial ownership of the Company’s common stock.
h) The Company accrued approximately $388 thousand and $97 thousand of dividends in 2006 and 2005 on the Series J Preferred. Accumulated dividends totaled approximately $485 thousand through December 31, 2006.
Upon liquidation, dissolution or winding up of Applied, holders of Series J Convertible Preferred Stock are entitled to receive liquidation distributions equivalent to a stated value of $10.00 per share, plus 30% of the stated value, plus the aggregate of all accrued and unpaid dividends, the total of such distributions to be made before any distribution to holders of the common stock.
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
9. Stockholders’ Deficit, Continued:
Rights and Dividends
The holders of all series of convertible preferred stock have the right, voting as a class, to approve or disapprove of the issuance of any class or series of stock ranking senior to or on a parity with the convertible preferred stock with respect to declaration and payment of dividends or the distribution of assets on liquidation, dissolution or winding up.
Cumulative unpaid dividends on all series of preferred stock are approximately $773 thousand and $361 thousand at December 31, 2006 and 2005, respectively.
Warrants
Each outstanding warrant is exercisable into one share of the Company’s common stock. A summary of the warrants outstanding as of December 31, 2006, 2005 and 2004 and changes during the periods then ended is presented below:
In 2003, 75,000 warrants originally issued with debt were repriced and extended, and 50,000 warrants were newly issued, both to extend the related debt. The Company recorded a debt discount of approximately $30 thousand at December 31, 2003. Also in 2003, 12,500 warrants were issued to extend the related debt. A debt discount of approximately $5 thousand was recorded, with approximately $3 thousand of the debt discount amortized during 2004.
As of December 31, 2006 there was no unrecognized expense related to non-vested warrants granted under our plans.
As of December 31, 2006 all remaining outstanding warrants are exercisable.
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
A summary of stock options outstanding as of December 31, 2006, 2005 and 2004 and changes during the periods then ended is presented below:
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
12. 	
Basic and Diluted Loss Per Share
Basic loss per share is computed by dividing net loss available to common shareholders by the weighted average number of shares outstanding during the period. Diluted loss per share is computed using the weighted average number of shares determined for the basic computations plus the number of shares that would be issued assuming all contingently issuable shares having a dilutive effect on earnings per share were outstanding for the period. Options and warrants to purchase 5,930,762, 6,029,463 and 5,919,721 shares of common stock as of December 31, 2006, 2005 and 2004, respectively. Additionally, exercise of a convertible note, interest, Series J Preferred and dividends would result in issuance of 63,953,329 shares of common stock, subject to provisions that limit the total of these conversions to less than 5% beneficial ownership by the holder. The shares issuable upon exercise of options, warrants and convertible debt and instruments were excluded from the calculation of diluted loss per share as the effect would have been anti-dilutive as the Company has experienced net losses.
13. 	
Related Party Transactions
Applied had the following related party transactions not fully disclosed elsewhere:
Operating Leases
Applied and its subsidiaries are committed under non-cancellable operating leases for office space and other equipment. Future obligations under the leases are as follows, in thousands:
Rent expense was approximately $198 thousand, $156 thousand and $126 thousand in 2006, 2005 and 2004, respectively.
Commodore Applied Technologies, Inc. and Subsidiaries Notes to Consolidated Financial Statements
14. Commitments and Contingencies, Continued:
DCAA Audit
On January 25, 2007, the Company received a letter from the Department of Energy regarding the DCAA audit of Commodore Applied Technologies for the period January 1995 through December 1999. The DCAA asserted that the Company incorrectly overbilled the Government for services rendered under contracts performed during said period. The Company has recorded a liability totaling approximately $376 thousand (included in other accrued liabilities for the years ended December 31, 2006 and 2005) as a reserve to settle any claims, including related legal fees and professional fees, that may be incurred related to this issue. The amount recorded was estimated based on an assessment of potential liability using an analysis of available information with respect to pending claims, historical experience and, where available, recent and current trends.
Guarantee
Applied, along with several other entities, in a prior year, guaranteed a performance bond of Commodore Separation Technologies, Inc. relating to a contract with the Port of Baltimore. Applied was notified on June 28, 2000, that the performance bond was being called. It is not known at this time the amount, if any, Applied’s share will be. No liability has been reflected in the financial statements as of December 31, 2006 or 2005 related to this bond, as the Company feels an adverse determination is not probable, and the amount of loss is not determinable.
to government agencies on a cost plus basis.
2. Solution, which, through Advanced Sciences, has equipment to treat mixed and hazardous waste through a patented process using sodium and anhydrous ammonia.
Common overhead costs are allocated between segments based on a record of time spent by executives. Applied evaluates segment performance based on the segment's net income (loss). The accounting policies of the segments are the same as those described in the summary of significant accounting policies. Summarized financial information concerning Applied's reportable segments is shown in the following tables.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
(a) 	
(1) Previous Independent Registered Public Accounting Firm
(i) 	
On February 6, 2007, Commodore Applied Technologies, Inc. (the “Registrant”) dismissed Tanner LC (Tanner) as the Registrant’s independent registered public accounting firm.
(ii) 	
Tanner conducted the Registrant’s audits as of and for the years ended December 31, 2005 and December 31, 2004. Tanner’s reports on those audits did not contain an adverse opinion or disclaimer of opinion, nor were they qualified or modified as to uncertainty, audit scope or accounting principles, except for the addition of an explanatory paragraph expressing substantial doubt about the Registrant’s ability to continue as a going concern.
(iii) 	
The Audit Committee of the Registrant’s Board of Directors approved dismissing Tanner by a resolution of the Committee.
(iv) 	
During the audited fiscal years ended December 31, 2005 and December 31, 2004 and the subsequent interim periods through the dismissal date, there were no disagreements with Tanner on any matter of accounting principals or practices, financial statement disclosure, or auditing scope or procedures, which disagreements, if not resolved to the satisfaction of Tanner, would have caused Tanner to make reference to the subject matter of the disagreement in its reports on the Registrant’s financial statements for such periods.
(v) 	
There were no reportable events (as defined in Regulation S K Item 304(a)(1)(iv)) during the years ended December 31, 2005 and 2004 or the subsequent interim period through February 6, 2007, except that Tanner reported in letters to the Registrant’s audit committee and board of directors, dated April 6, 2006, November 18, 2005 and January 21, 2005, that it had identified deficiencies that existed in the design or operation of the Company's internal control over financial reporting that it considered to be "significant deficiencies" and "material weaknesses." These significant deficiencies and material weaknesses in the Registrant’s internal control consisted of (1) lack of controls over the identification and analysis of potential embedded derivatives in certain debt and equity instruments and any required accounting entries and disclosures pertaining to embedded derivatives, (2) lack of segregation of incompatible duties in the accounting function, and (3) lack of certain closing entries including appropriate consolidation closing entries. Tanner, through the previously mentioned letters, informed the board of directors and the audit committee of the board of directors that the lack of these internal controls could lead to the Registrant not being in a position to develop reliable financial statements. The Registrant also disclosed these significant deficiencies and material weaknesses to the Registrant’s audit committee and board of directors. The Registrant has authorized Tanner to respond fully to any inquiries by DeCoria, Maichel & Teague regarding these significant deficiencies and material weaknesses in internal control.
(2) New Independent Registered Public Accounting Firm
The Registrant has engaged DeCoria, Maichel & Teague of Spokane, Washington as its independent registered public accounting firm to provide the requisite audit services for the Registrant. This firm commenced its engagement effective February 8, 2007 as requested and approved by the Audit Committee of the Registrant’s Board of Directors. At the time of reporting there has been no need to consult the new independent auditor on any matters relating to Item 304 (2)(i) of Regulation S-K or any events as defined in paragraph (A) through (D) of Item 304 (2)(ii) of Regulation S-K. The registrant did not consult with DeCoria, Maichel & Teague at any time prior to the engagement.
(b) No conditions in paragraphs (b)(1) through (b)(3) of Item 304 of Regulation S-K exist on which to report.
CONTROLS AND PROCEDURES
CONCLUSIONS OF MANAGEMENT REGARDING EFFECTIVENESS OF DISCLOSURE CONTROLS AND PROCEDURES
Under the supervision and with the participation of its management, including the Chief Executive Officer and Chief Financial Officer, the Company has evaluated the effectiveness of its disclosure controls and procedures pursuant to Exchange Act Rule 15d-15(e) as of the end of the period covered by this report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that there were material weaknesses affecting the Company’s internal control over financial reporting and, as a result of those weaknesses, the Company’s disclosure controls and procedures were not effective as of December 31, 2006.
REPORT OF MANAGEMENT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Company management is responsible for establishing and maintaining adequate internal control over financial reporting for the Company. Internal control over financial reporting is a process to provide reasonable assurance regarding the reliability of the Company’s financial reporting for external purposes in accordance with accounting principles generally accepted in the United States of America. Internal control over financial reporting includes maintaining records that in reasonable detail, accurately and fairly reflect our transactions; providing reasonable assurance that transactions are recorded as necessary for preparation of our financial statements; providing reasonable assurance that receipts and expenditures of company assets are made in accordance with management authorization; and providing reasonable assurance that unauthorized acquisition, use or disposition of company assets that could have a material effect on the Company’s financial statements would be prevented or detected on a timely basis. Because of its inherent limitations, internal control over financial reporting is not intended to provide absolute assurance that a misstatement of the Company’s financial statements would be prevented or detected.
Management conducted an evaluation of the effectiveness of the Company’s internal control over financial reporting based on a general framework developed by management with reference to general business, accounting and financial reporting principles.
Based upon this evaluation, management determined that there were material weaknesses affecting the Company’s internal control over financial reporting and, as a result of those weaknesses, the Company’s disclosure controls and procedures were not effective as of December 31, 2006. These material weaknesses are as follows:
· 	
Adequate segregation of duties was not present in certain of the Company’s financial processes related to the treasury function; cash receipts, disbursements, cash reconciliations and related activities. The Company has limited personnel resources due to its small size. However, segregation of treasury duties must be improved by reassignment of incompatible duties and by bringing new resources to bear on processes that by their nature are incompatible with each other when performed by the same person
· 	
As noted in communications from the prior registered independent public accounting firm, the Company failed to identify and analyze the conversion features embedded in the Series I Preferred Stock issuance, which resulted in material audit adjustments. While this circumstance has been remedied, a nuance of the Series J Preferred Stock financing was noted by the independent auditors that potentially could have resulted in a material audit adjustment in the current year. The preferred stock has a provision which dictates that preferred dividends are to accrue at a default rate significantly higher than the ‘normal’ dividend rate. The Company failed to identify this issue. The circumstances surrounding this matter indicate a material weakness in the Company’s communication and monitoring internal controls as it relates to review and approval of financing arrangements.
MANAGEMENT'S REMEDIATION INITIATIVES
Management has dedicated resources to spearhead remediation efforts and began addressing these material weaknesses in November of 2006. In late 2006, management employed a new CFO, Ted R. Sharp, who has proven experience in executive management positions, including CFO of two public companies. Mr. Sharp assumed CFO responsibilities effective January 1, 2007. Management also plans to consult with independent experts when complex debt or equity transactions are entered into and will document, communicate monitor internal controls relating to the initiation, approval
and implementation of debt and equity instruments. Management believes that actions taken and the follow up that will occur during 2007 collectively will minimize the potential for a reoccurrence of these material weaknesses.
During 2007, management also plans to conduct an assessment of the Company’s controls over financial reporting using criteria established in "Internal Control-Integrated Framework" issued by the Committee of Sponsoring Organizations of the Treadway Commission ("COSO"). In connection with this assessment, management will document all significant accounting procedures and determine whether they are designed effectively and are operating as designed.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
Except as noted above, there have been no changes during the quarter ended December 31, 2006 in the Company's internal controls over financial reporting that have materially affected, or are reasonably likely to materially affect, internal controls over financial reporting.
AUDITORS' REPORT
DeCoria, Maichel & Teague P.S. did not audit this assessment of the Company’s internal control over financial reporting.
OTHER INFORMATION
None.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
EXECUTIVE OFFICERS AND DIRECTORS
The names and ages of the executive officers and directors of the Company, and their positions with the Company as of March 31, 2007 are as follows:
Dr. Shelby T. Brewer - Chairman of the Board and Chief Executive Officer
Dr. Brewer has served as Chairman of the Board and Chief Executive Officer of the Company since April 2003. Prior to that Dr. Brewer served as President of the Company from January 2001 to April 2003. Since April 2000, Mr. Brewer served as Chairman and CEO of Solutions, a wholly owned subsidiary of the Company. From 1996 to March 2000, Dr. Brewer was President of S. Brewer Enterprises, a privately held consulting firm he founded that is engaged in supporting mergers and acquisitions, arranging private and public financing, and forming joint ventures abroad. He served as President and CEO of the nuclear power businesses of ABB Combustion Engineering, a public company, from 1985 to 1995. From 1981 to 1984, he served as Assistant Secretary of Energy in the Reagan administration, holding the top nuclear post in the US government. Dr. Brewer holds Ph.D. and M.S. degrees in nuclear engineering from Massachusetts Institute of Technology; he holds a B.S. degree in mechanical engineering and a B.A. in humanities from Columbia University.
O. Mack Jones - Director, President and Chief Operating Officer
Mr. Jones has served as President and C.O.O. of the Company since April 2003. Since February 2001, Mr. Jones has served as Acting President of Advanced Sciences, a wholly owned subsidiary of the Company from April 1998 to February 2001. He has also has served as Vice President of Field Operations of the Company since April 1998, managing its field treatability studies and commercial projects. From June 1996 to April 1998, Mr. Jones served as a consultant to the Company assisting in the commercialization of the solvated electron technology. From 1991 to February 1998, Mr. Jones served as the founder and principal executive officer of a privately held environmental consulting company, Florida Vector Services, which provided both consulting and hands-on remediation services primarily in TSCA-related areas. From 1986 to 1991, Mr. Jones was Vice President-Operations with Quadrex Environmental Company, a public company, managing the company’s field remediation businesses. Mr. Jones held several managerial and operating positions in power generation and distribution arenas during his twenty-six years of service to General Electric Company, a public company. Mr. Jones holds a degree in mechanical engineering from Mississippi State University and is registered as a professional mechanical engineer.
Ted R. Sharp - Chief Financial Officer, Treasurer and Secretary
Mr. Sharp began his employment with the Company in November 2006 and has served as Chief Financial Officer and Treasurer of the Company since January 2007. Mr. Sharp serves as principal of Sharp Executive Associates, a private executive management consulting firm located in Nampa, Idaho. Mr. Sharp also served as executive management for Key Technologies, a public company, including Chief Financial Officer, Managing Director of European Operations (Netherlands) and Corporate Controller from January 1989 to March 2003. Mr. Sharp received a BBA degree in Accounting from Boise State University and currently holds active CPA licenses in both Idaho and Washington. Mr. Sharp is a member of the American Institute of Certified Public Accountants, the Washington Society of CPA’s and Financial Executive International.
Bentley J. Blum - Director
Mr. Blum has served as director of the Company since March 1996. Prior to that Mr. Blum served as Chairman of the Board of Environmental, a public company, from 1984 to November 1996 and is its principal stockholder. Currently he serves as a director of Separation, a wholly owned subsidiary of Environmental. Currently he also serves as a director of Solution, a wholly owned subsidiary of the Company. Mr. Blum is the sole stockholder and director of a number of corporations that hold real estate interests, oil drilling and other corporate interests that are privately held companies. Mr. Blum is the brother-in-law of Paul E. Hannesson, a director of the Company.
Dr. Frank E Coffman - Director
Mr. Coffman has served as a director of the Company since June 2002. Mr. Coffman also currently serves as Senior Vice President, of Metcalf & Eddy, a public company, involved in construction and engineering (August 1997 - Present). Mr. Coffman served as Senior Vice President, Government & Commercial Programs, IT Corporation, a public company, from January 1995 to May 1997 and as Vice President, Government & Commercial Programs, IT Corporation from 1984 to 1995. Mr. Coffman served as Deputy Assistant Secretary for Waste Management for the Department of Energy (“DOE”) from 1981 to 1984, Director of the Office of Advanced Nuclear Systems, DOE from 1980 to 1981 and as a Director of the Division of Fusion Development and Technology, DOE from 1978 to 1980. Mr. Coffman served as Chief of the Energy Research Development Agency, Fusion Systems and Applications Studies Branch from 1970 to 1975. Mr. Coffman serves on the Board of Directors of Holmes and Narver, a public company. Mr. Coffman holds a Ph.D. in nuclear physics and a MA degree in plasma physics from Vanderbilt University. Mr. Coffman holds a BS degree in physics from Western Kentucky University.
James M. DeAngelis - Director and Senior Vice President, Strategic Development
Mr. DeAngelis has served as a director of the Company since June 2002 and has also served as Senior Vice President, Strategic Development since January 2007. Concurrent with being named to the latter position, Mr. DeAngelis resigned as Chief Financial and Administrative Officer and Treasurer and Secretary. Mr. DeAngelis was appointed Vice President -Finance and Treasurer of the Company in 1998 and promoted to Chief Financial and Administrative Officer and Secretary in December 1998. Mr. DeAngelis also served as Senior Vice President - Sales & Marketing of Separation, a public company, since July 1996. He also served as the President of CFC Technologies, formerly a wholly owned subsidiary of the Company, since September 1994. He holds a MBA from the American Graduate School of International Management. He holds B.S. degrees in Biology and Physiology from the University of Connecticut.
Paul E Hannesson - Director
Mr. Hannesson has served as a director of the Company since March 1996. Mr. Hannesson served as Chairman, CEO and President of the Company from 1996 to January 2001. He also served as a Director and Officer of Environmental, a public company, from 1996 to July 1998. He served as Chairman of the Board and CEO of Separation, a wholly owned subsidiary of the Company from May 1997 to December 2004. Mr. Hannesson is the brother-in-law of Bentley Blum, a director of the Company.
Vice Admiral Michael P. Kalleres - Director
Vice Admiral (VADM) Kalleres has served as a director of the Company since June 2002. VADM Kalleres currently serves as President of Dare to Excel Inc., a privately held financial management and consulting firm (1998 to present). He also served as President and Chief Executive Officer of Global Associates, Ltd., Technology Services Group, a privately held financial and corporate consulting firm, from 1994 to 1998. VADM Kalleres retired from active duty in September 1994 after 32 years as a naval officer. VADM Kalleres was awarded 18 personal/unit military/combat decorations including the Defense Distinguished Service Medal (2 awards) and the U.S. Navy Distinguished Service Medal. He is also a recipient of the Congressional, Ellis Island Medal of Honor. VADM Kalleres is a former member (1994-1998) of the Defense Science Board, the Naval Studies Board of the National Academy of Science. He is also a board member of the Dean's Advisory Council at the Krannert School of Management-Purdue University, and the National Board of the Salvation Army. VADM Admiral Kalleres was awarded a BS degree in Industrial Management and Engineering from the Krannert School of Management-Purdue University, and a MS degree in Political and International Affairs from George Washington University.
Ambassador William A. Wilson - Director
Mr. Wilson has been a director of the Company since June 2002. Mr. Wilson has been active in ranching and farming in California and Mexico from 1980 to 1997. Mr. Wilson was active in real estate development in California from 1961 through 1985. Mr. Wilson served as Chief Engineer of Wilson Oil Tools, a privately held company, from 1938 through 1955 and as Chairman from 1955 to 1961. Mr. Wilson served as the Presidential Envoy to the Holy See from 1980 to 1984 and as Ambassador to the Holy See from 1984 to 1986. Mr. Wilson served on the Board of Directors of Jorgensen Steel Co., a public company, from 1973 to 1984 and again from 1986 to 1991. Mr. Wilson also served on the Board of Directors of Pennzoil Company, a public company, from 1983 to 1987. Mr. Wilson holds a BA in Mechanical Engineering from Stanford University and a Doctor of Laws, Honoris Causa from Assumption College, Barry University, and Pepperdine University.
For personal reasons, on July 21, 2006 Robert A. Maczewski resigned as Director and as member of the committees on which he served.
Each director is elected to serve for a term of one year or until his or her successor is duly elected and qualified. The Company’s officers are elected by, and serve at the pleasure of, the Board of Directors, subject to the terms of any employment agreements. Messrs. Hannesson and Blum are brothers-in-law. No family relationship exists among any other directors or executive officers of the Company.
KEY EMPLOYEES
The names and ages of the key employees of the Company not listed above, and their positions with the Company as of March 31, 2007, are as follows:
Mr. Foutz was appointed Vice President of Operations of Advanced Sciences in April 2005. Previously, Mr. Foutz served as Advanced Sciences’ Western Regional Manager from January of 2002. Previously, Mr. Foutz has been a Sr. Project Manager with corporate and management responsibilities for Advanced Sciences from December 2000 to January 2002. From 1991 to 2000 Mr. Foutz was the Environmental Program Manager for MDM Services Corporation, managing environmental task-order contracts with numerous government clients. From 1986-1991 Mr. Foutz was the lead Senior Environmental Geologist on RFI/CMS and RI/FS projects at Dyess Air Force Base, Texas; Fallon Naval Air Station, Nevada; Kansas City DOE Plant, Arizona Air National Guard Base, Tucson; US Army Kwajelein Atoll, Marshall Islands.
Mr. Foutz received his B.S. in Geology in 1981. He has 24 years of progressive professional experience in geological, hydro-geological, and environmental consulting and contract management as a Department of Energy contractor.
BOARD COMMITTEES
The Company's Board of Directors has (i) an Audit Committee and (ii) a Compensation, Stock Option and Benefits Committee. The Company no longer maintains an Executive and Finance Committee (the “Finance Committee”). On August 30, 2000, the Board of Directors unanimously voted to abolish the Finance Committee and determined that the entire Board of Directors would perform its function.
As of December 31, 2006, the Compensation, Stock Option and Benefits Committee, was composed of Dr. Frank E. Coffman, as Chairman, Michael P. Kalleres, Ambassador William A. Wilson and Dr. Shelby T. Brewer. The Compensation, Stock Option, and Benefits Committee has responsibility for establishing and reviewing employee and consultant/advisor compensation, bonuses and incentive compensation awards, administering and interpreting the Company's 1998 Stock Option Plan, as amended (the “1998 Plan”), and determining the recipients, amounts and other terms (subject to the requirements of the 1998 Plan) of options which may be granted under the 1998 Plan and outside the 1998 Plan, from time to time and providing guidance to management in connection with establishing additional benefit plans.
As of December 31, 2006, the Audit Committee was composed of Michael P. Kalleres as Chairman, Dr. Frank E. Coffman, Ambassador William A. Wilson and James M. DeAngelis. The responsibilities of the Audit Committee include selecting, engaging and determining the compensation of the firm of independent accountants to be retained by the Company, reviewing with the Company's independent accountants the scope and results of their audits, reviewing with the independent accountants and management the Company's accounting and reporting principles, policies and practices, as well as the Company's accounting, financial and operating controls and staff, supervising the Company's policies relating to business conduct and dealing with conflicts of interest relating to officers and directors of the Company.
AUDIT COMMITTEE AND FINANCIAL EXPERT
Michael P. Kalleres currently serves as the Chairman of the Audit Committee and the Board of Directors has determined him to be an audit committee financial expert for the Company.
COMPENSATION OF DIRECTORS
The Company pays non-management directors a director's fee in the amount of $375 per meeting for attendance at the meetings of the Board of Directors, and the Company reimburses the directors for actual expenses incurred in respect of such attendance. The Company does not separately compensate employees for serving as directors.
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT
Section 16(a) of the Exchange Act requires the Company's directors and executive officers, and persons who own more than 10% of the outstanding shares of the Company's common stock, to file initial reports of beneficial ownership and reports of changes in beneficial ownership of shares of common stock with the Commission. Such persons are required by regulations promulgated under the Exchange Act to furnish the Company with copies of all Section 16(a) forms filed with the Commission.
Based on representations from the officers and directors, the Company believes that no director, executive officer or holder of more than 10% of the outstanding shares of common stock failed to file on a timely basis the reports required by Section 16(a) of the Exchange Act during, or with respect to, the year ended December 31, 2006.
CODE OF ETHICS
The Company’s Board of Directors has established and adopted a code of ethics in 2004 applicable to its senior executives, financial officers and directors. See Exhibit 14.01 - “Code of Ethics of Commodore Applied Technologies, Inc.”
EXECUTIVE COMPENSATION.
SUMMARY COMPENSATION
The following table sets forth the amount of all compensation paid by the Company and/or its affiliates and allocated to the Company's operations for services rendered during each of 2006, 2005 and 2004 to all persons serving as the Company's Chief Executive Officer during 2006, 2005, and 2004 and to each of the Company's four most highly compensated executive officers other than the Chief Executive Officer whose total salary and bonus compensation exceeded $100 thousand during any such year.
No options were granted during the year ended December 31, 2006 to any individuals listed in the Summary Compensation Table pursuant to the Company's 1998 Stock Option Plan, as amended, (the "1998 Plan") and no options were granted to any individuals outside of the 1998 Plan. The Company has no outstanding stock appreciation rights and granted no stock appreciation rights during the year ended December 31, 2006.
The following table sets forth certain information concerning the exercise of options and the value of unexercised options held under the 1998 Plan and outside of the 1998 Plan at December 31, 2006 by the individuals listed in the Summary Compensation Table.
Aggregated Option Exercises in Last Fiscal Year and Fiscal Year-End Option Values
(1) There were no outstanding in-the-money options at year end. The last reported sale price of the common stock on March 31, 2007 was $0.18 and the exercise prices of the options range from $0.57 to $1.40.
EMPLOYMENT AGREEMENTS
The Company has no employment contracts.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The individuals who served as members of the Compensation, Stock Option and Benefits Committee (the "Compensation Committee") during the year ended December 31, 2006 were Ambassador William A. Wilson (Chairman), Dr. Frank E. Coffman, Paul E. Hannesson and Michael P. Kalleres.
REPORT OF THE COMPENSATION COMMITTEE ON EXECUTIVE COMPENSATION
The Compensation Committee was established in November 1996 and is responsible for, among other things, establishing the compensation policies applicable to executive officers of the Company. The Compensation Committee was composed of Dr. Frank E. Coffman (Chairman), VADM Michael P. Kalleres, Ambassador William A. Wilson and Dr. Shelby T. Brewer at December 31, 2006, all of whom, with the exception of Dr. Shelby T. Brewer, were non-employee Directors of the Company. All decisions of the Compensation Committee relating to the compensation of the Company's executive officers are reviewed by, and are subject to the final approval of, the full Board of Directors of the Company. Set forth below is a report prepared by Mr. Coffman, Mr. Kalleres and Mr. Wilson in their capacities as members of the Compensation Committee at December 31, 2006, addressing the Company's compensation policies for 2006 as they affected the Company's executive officers.
Overview and Philosophy
The Company's executive compensation program is designed to be linked to corporate performance and returns to stockholders. Of particular importance to the Company is its ability to grow and enhance its competitiveness for the rest of the decade and beyond. Shorter-term performance, although scrutinized by the Compensation Committee, stands behind the issue of furthering the Company's strategic goals. To this end, the Company has developed an overall compensation strategy and specific compensation plans that tie a significant portion of executive compensation to the Company's success in meeting specified performance goals.
The objectives of the Company's executive compensation program are to:
· 	
attract, motivate and retain the highest quality executives;
· 	
motivate them to achieve tactical and strategic objectives in a manner consistent with the Company's corporate values; and
· 	
link executive and stockholder interest through equity-based plans and provide a compensation package that recognizes individual contributions as well as overall business results.
To achieve these objectives, the Company's executive compensation program is designed to:
· 	
focus participants on high priority goals to increase stockholder value;
· 	
encourage behavior that exemplifies the Company's values relating to customers, quality of performance, employees, integrity, teamwork and good citizenship;
· 	
assess performance based on results and pre-set goals that link the business activities of each individual to the goals of the Company; and
· 	
increase stock ownership to promote a proprietary interest in the success of the Company.
Executive Officer Compensation
Each year the Compensation Committee conducts a full review of the Company's executive compensation program. This review includes a comprehensive evaluation of the competitiveness of the Company's compensation program and a comparison of the Company's executive compensation to certain other public companies, which in the view of the
Compensation Committee represent the Company's most direct competitors for executive talent. It is the Compensation Committee's policy to target overall compensation for executive officers of the Company taking into account the levels of compensation paid for such positions by such other public companies. A variety of other factors, however, including position and time in position, experience, and both Company performance and individual performance, will have an impact on individual compensation amounts.
The key elements of the Company's executive compensation program in 2006 consisted of base salary, annual incentive compensation and long-term incentive compensation in the form of stock options. The Compensation Committee's policies with respect to each of these elements, including the basis for the compensation awarded to the Company's Chief Executive Officer, are discussed below.
Base Salaries. Base salaries for executive officers are established by evaluating, on an annual basis, the performance of such individuals (which evaluation involves management's consideration of such factors as responsibilities of the positions held, contribution toward achievement of the Company's strategic plans, attainment of specific individual objectives and interpersonal managerial skills), and by reference to the marketplace for executive talent, including a comparison to base salaries for comparable positions at other similar public companies.
In 2006, total compensation was paid to executives primarily based upon individual performance and the extent to which the business plans for their areas of responsibility were achieved or exceeded. On balance, performance goals were substantially met or exceeded and therefore compensation was paid accordingly.
Mr. Brewer, the Chairman of the Board, and Chief Executive Officer of the Company received annual compensation based upon, among other things, individual performance and the extent to which the business plans for his areas of responsibility were achieved or exceeded. Mr. Brewer received a base salary at an annual rate of $285,000 in 2006, of which $76,988 was deferred until December 31, 2006, and remains unpaid as of March 31, 2007.
The members of the Compensation Committee establish the amount actually received by Mr. Brewer each year as base salary for services rendered to the Company and its affiliates. In establishing Mr. Brewer's base salary for 2006, the Compensation Committee took into account the salaries of chief executive officers at other similar public companies, future objectives and challenges, and Mr. Brewer's individual performance, contributions and leadership. The Compensation Committee reviewed in detail Mr. Brewer's achievement of his 2006 goals and his individual contributions to the Company and its affiliates. The Compensation Committee concluded that he had achieved his 2006 goals and had provided a leadership role in achieving the Company's and its affiliates' strategic priorities for 2006. The Compensation Committee also considered Mr. Brewer's decisive management of operational and strategic issues, his drive to reinforce a culture of innovation and his ability and dedication to enhance the long-term value of the Company and its affiliates for their respective stockholders. In making its salary decisions with respect to Mr. Brewer, the Compensation Committee exercised its discretion and judgment based on the above factors, and no specific formula was applied to determine the weight of each factor.
Mr. Brewer’s base salary was not increased in 2006 and remains $285,000 per year.
Annual Incentive Bonus. Annual incentive bonuses for executive officers are intended to reflect the Compensation Committee's belief that a significant portion of the annual compensation of each executive officer should be contingent upon the performance of the Company. During 2006, no annual incentive bonuses were paid to the individuals named in the Summary Compensation Table.
Stock Options. The Compensation Committee has the power to grant stock options under the 1998 Plan and outside of the 1998 Plan. Generally, the executives must be employed by the Company at the time the options vest in order to exercise the options and, upon announcement of a Change in Control (pursuant to and as defined in the 1998 Plan), such options become immediately exercisable. The Compensation Committee believes that stock option grants provide an incentive that focuses the executives' attention on managing the Company from the perspective of an owner with an equity stake in the business. The Company's stock options are tied to the future performance of the Company's stock and will provide value to the recipient only when the price of the Company's stock increases above the option grant price.
There were no stock options granted pursuant to the 1998 Plan and outside the 1998 Plan in 2006, 2005, and 2004 respectively.
The Compensation Committee's policy is to structure compensation awards for executive officers that will be consistent with the requirements of Section 162(m) of the Internal Revenue Code of 1986, as amended (the "Code"). Section 162(m) limits the Company's tax deduction to $1.0 million per year for certain compensation paid in a given year to the Chief Executive Officer and the four highest compensated executives other than the Chief Executive Officer named in the Summary Compensation Table. According to the Code and corresponding regulations, compensation that is based on attainment of pre-established, objective performance goals and complies with certain other requirements will be excluded from the $1.0 million deduction limitation. The Company's policy is to structure compensation awards for covered executives that will be fully deductible where doing so will further the purposes of the Company's executive compensation program. However, the Compensation Committee also considers it important to retain flexibility to design compensation programs that recognize a full range of performance criteria important to the Company's success, even where compensation payable under such programs may not be fully deductible. The Company expects that all compensation payments in 2006 to the individuals listed in the Summary Compensation Table will be fully deductible by the Company.
Conclusion
The Compensation Committee believes that the quality of executive leadership significantly affects the long-term performance of the Company and that it is in the best interest of the stockholders to compensate fairly executive leadership for achievement meeting or exceeding the high standards set by the Compensation Committee, so long as there is a corresponding risk when performance falls short of such standards. A primary goal of the Compensation Committee is to relate compensation to corporate performance. Based on the Company's performance in 2006, the Compensation Committee believes that the Company's current executive compensation program meets such standards and has contributed, and will continue to contribute, to the Company's and its stockholders' long-term success.
The Report of the Compensation Committee on Executive Compensation shall not be deemed incorporated by reference by any general statement incorporating by reference this Annual Report into any filing under the Securities Act, or under the Exchange Act, except to the extent that the Company specifically incorporates this information by reference, and shall not otherwise be deemed filed under such Acts.
COMPENSATION, STOCK OPTION AND BENEFITS COMMITTEE
Dr. Frank E. Coffman (Chairman)
VADM Michael P. Kalleres
Ambassador William A. Wilson
Dr. Shelby T. Brewer
The Report of the Compensation Committee on Executive Compensation shall not be deemed incorporated by reference by any general statement incorporating by reference this Annual Report into any filing under the Securities Act, or under the Exchange Act, except to the extent that the Company specifically incorporates this information by reference, and shall not otherwise be deemed filed under such Acts.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information regarding the beneficial ownership of shares of the Company’s common stock as of March 31, 2007 by each person who is known by the Company to beneficially own more than 5% of its issued and outstanding shares of common stock, its named executive officers, its directors and all of its executive officers and directors as a group. As used herein, the term beneficial ownership with respect to a security is defined by Rule 13d-3 under the Exchange Act as consisting of sole or shared voting power (including the power to vote or direct the disposition of) with respect to the security through any contract, arrangement, understanding, relationship or otherwise, including a right to acquire such power(s) during the next 60 days. Unless otherwise noted, beneficial ownership consists of sole ownership, voting and investment rights.
(9)
Consists of 22,500 shares of common stock acquirable upon exercise of option exercisable before December 15, 2008. All amounts adjusted for the 1 for 20 reverse split of the Company’s common stock on August 29, 2005.
Messrs. Blum and Hannesson are brothers-in-law.
Other than as described below, the Company has no knowledge of any other arrangements, including any pledge by any person of its securities, the operation of which may at a subsequent date result in a change in control of the Company.
·
The Shaar Fund holds a convertible note, together with accrued interest thereon, and convertible Series J Preferred stock, together with accrued dividends on the Series H, I and J Preferred stock. The payment of accrued interest and dividends may be made in cash or common stock. The conversion of the note and the Series J Preferred stock, and the payment of interest and dividends in the form of common stock are subject to limitation, such that no conversion or payment in the form of stock can be exercised or made that would result in the holder owning 5% or more beneficial ownership of the Company’s common stock. Should this limitation be removed, as much as an additional 63,953,329 shares of the Company’s common stock could be issued, which would result in a change in control of the Company.
We are not, to the best of our knowledge, directly or indirectly owned or controlled by another corporation or foreign government.
EQUITY COMPENSATION PLAN INFORMATION
The following table reflects the number of shares of our common stock that, as of December 31, 2006, were outstanding and available for issuance under compensation plans that have previously been approved by our stockholders as well as compensation plans that have not previously been approved by our stockholders.
The following is a brief description of the material features of the equity compensation plans not approved by our stockholders that are reflected in the chart above.
On November 19, 2003, our Board of Directors approved the issuance of stock options outside of the Company’s 1998 Stock Option Plan, as amended, and warrants for the Company’s common stock to executive officers and directors of the Company. A total of 3,854,068 fully vested, non-qualified stock options were issued with an exercise price of $0.57 and an expiration date of December 14, 2008 (as described in footnote 3 above). A warrant for a total of 1,367,790 shares of the
Company’s common stock was issued to a director with an exercise price of $0.57 and an expiration date of November 18, 2008 (as described in footnote 4 above). The purpose of these options and warrant is to advance the interests of our stockholders by enhancing our ability to attract, retain and motivate persons who make important contributions to the Company by providing them with equity ownership opportunities that better align their interests with those of our stockholders.
Ten Year Option Repricings
The following table sets forth information regarding options held by the Commodore Named Executive Officers and Directors that were voluntarily surrendered by such persons, after which the Company issued new options to such persons at current fair market value. The Compensation Committee approved these transactions in order to restore the incentive value of such options.
SHAREHOLDER RETURN PERFORMANCE
This graph compares our total stockholder returns, the Standard and Poor’s 500 Composite Stock Index, and the Russell 2000 Composite Stock Index. The graph assumes $100 invested at the per share closing price of the common stock of Commodore Applied Technologies, Inc. on the American Stock Exchange, from January 1, 2003 through March 6, 2003, and then on the Over the Counter Bulletin Board from that point forward.
Comparison of initial $100 investment in index versus the common stock of the Company.
Executive Officers and Key Employees
The executive officers of the Company are Dr. Shelby T. Brewer, who serves as Chairman of the Board and Chief Executive Officer, O. Mack Jones, who serves as President and Chief Operating Officer, and Ted R. Sharp, who serves as Chief Financial and Administrative Officer and Secretary and Treasurer.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
On October 2, 2002, Mr. Bentley Blum, a Director of the Company, had previously loaned the Company $125 thousand of cash installments over the period of one year (the “Blum Loan”). The Company elected to convert the Blum Loan to the Company’s common stock using the conversion feature of the 5-day average closing price of the Company’s common stock prior to October 2, 2002. On October 2, 2002, Blum issued a conversion notice for $125 thousand of the outstanding principal of the Blum Loan into 125,000 shares. Mr. Blum continued to provide cash installments in the form of a loan to the Company through February 2004 (the “Blum Demand Note”). The Blum Demand Note bears interest at 9% per annum and is due on demand. The current principal balance of the Blum Demand Note is approximately $312 thousand as of December 31, 2006 and remains unpaid as of April 17, 2007. See “MD&A - Liquidity and Capital Resources.”
On November 19, 2003, the Company issued a warrant to purchase 1,367,790 shares of its common stock at an exercise price of $0.57 per share (the closing price of our common stock on the OTCBB on such date) to the Blum Asset
Trust, a company controlled by Bentley Blum, a Director of the Company, in consideration for the loans made to the Company and the usage of office space and personnel of the Blum Asset Trust over the last five years.
In November 2000, the Company completed $500 thousand in financing in the form of a loan (the “Weiss Group Note”) from a group of four investors. The Weiss Group Note bears interest at 12% per annum and was due and payable on February 12, 2001. All holders of the Weiss Group Note have granted payment extensions to the Company until January 15, 2005 in exchange for warrants for 125,000 shares of the Company’s common stock at an exercise price of $0.57. The current principal balance of the Weiss Group Note is approximately $252 thousand as of December 31, 2006 and remains unpaid as of March 31, 2007. See “MD&A - Liquidity and Capital Resources.”
Effective February 14, 2004, the members of the Weiss Group Note voluntarily cancelled all issued warrants to purchase 75,000 shares at an exercise price of $1.00 per share of the Company’s common stock in connection with the Weiss Group Note.
Effective February 15, 2004, the Company issued warrants to purchase 125,000 shares of its common stock at an exercise price of $0.57 per share to all holders of the Weiss Group Note in consideration of the extension of the due date of such loans by such persons from May 31, 2002 to January 15, 2005.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The following is a summary of the fees billed to the Company by its principal accountants during the years ended December 31, 2006 and December 31, 2005:
Fees for audit services include fees associated with the annual audit, the reviews of our quarterly reports on Form 10 Q, assistance with and review of documents filed with the SEC and comfort letters. Audit-related fees consist of fees related to the edgarization and filing of SEC forms.
Tax fees include tax compliance and tax consultations.
The board of directors has adopted a policy that requires advance approval of all audit, audit-related, tax services, and other services performed by our independent registered public accountants. The policy provides for pre-approval by the board of directors of specifically defined audit and non-audit services. Unless the specific service has been previously pre-approved with respect to that year, the board of directors must approve the permitted service before the independent registered public accountants are engaged to perform it.
Financial Information Systems Design and Implementation Fees
There were no fees billed by Tanner LC or DeCoria, Maichel & Teague for services rendered in connection with financial information systems design and implementation services described in Paragraph (c)(4)(ii) of Rule 2-01 of Regulation S-X during the fiscal year ended December 31, 2006.
Principal Accountant Independence
The Audit Committee has determined that the provision of all non-audit services performed by the principal accountants were compatible with maintaining their independence.
SIGNATURES
Pursuant to the requirements to Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
COMMODORE APPLIED TECHNOLOGIES, INC.
By:/s/ Ted R. Sharp
Ted R. Sharp
Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
SUPPLEMENTALINFORMATION TO BE FURNISHED WITH REPORTS FILED PURSUANT TO SECTION 15(d) OF THE ACT BY REGISTRANTS WHICH HAVE NOT REGISTERED SECURITIES PURSUANT TO SECTION 12 OF THE ACT
The Company did not send an annual report or proxy material to its security holders during the 2006 fiscal year.