ITEM 1. BUSINESS
Overview
e.Digital Corporation (referred to as “e.Digital”, the “Company”, “we”, “our” or “us”) is a holding company incorporated under the laws of Delaware that operates through a wholly-owned California subsidiary of the same name. We license and enforce rights to our Flash-R™ portfolio of flash memory patents for use in portable devices produced by electronic product manufacturers. We are also developing new licensable intellectual property related to context and interpersonal awareness systems (“Nunchi” technology), data distribution and other technologies. During fiscal 2013 we were granted six U.S. patents and filed three new U.S. patent applications related to these technologies. Additionally, we have one pending U.S. patent application related to digital data distribution and one related to data security technologies. We also market and service our eVU mobile entertainment system business for the travel industry.
We are commercializing our Flash-R™ patent portfolio and Nunchi technology through licensing, and we aggressively pursue enforcement by litigating against targeted parties that we believe are infringing our patents. In fiscal years 2011 and 2012 we entered into license and settlement agreements with nine companies during the course Flash-R related enforcement activities including litigation.
In September 2012, we retained the law firm of Handal and Associates to handle our Flash-R patent enforcement matters on a partial contingent fee basis and in March 2013, engaged IPmetrics Intellectual Property Consulting to manage the valuation and monetization of our Nunchi technology. During fiscal 2013 we commenced new enforcement actions with respect to our Flash-R patent portfolio by filing complaints in the U.S. District Court for the Southern District of California, asserting that products made and sold by the defendant companies infringe our U.S. patents. During 2013 we commenced enforcement action by filing 22 lawsuits, each one concerning alleged acts of infringement by manufacturers and their related distributors.
We expect to file future complaints against additional companies and license additional companies related to our Flash-R portfolio. We may also be required to enforce our Nunchi technology patents in a similar manner in the future. There can be no assurance of the timing or amounts of any related license revenue from our technologies.
Our strategy is to also continue to market our eVU products and services to U.S. and international companies for use in the airline and other travel industries. We employ direct sales and also sales through value added resellers (VARs) that provide marketing, logistic and/or content services to corporate customers.
Our principal executive offices and primary operating facilities are located at 16870 West Bernardo Drive, Suite 120, San Diego, California 92127 and our telephone number is (858) 304-3016. Our Internet site is located at www.edigital.com. Information contained on our internet site is not part of this annual report.
Our Company, then known as Norris Communications, was incorporated in the Province of British Columbia, Canada on February 11, 1988 and on November 22, 1994 changed its domicile to the Yukon Territory, Canada. On August 30, 1996, we filed articles of continuance to change our jurisdiction to the State of Wyoming, then on September 4, 1996, reincorporated in the State of Delaware. On January 13, 1999, the stockholders approved a name change to e.Digital Corporation.
History of Technical Innovations
We have a record of pioneering technical innovations and achievements in developing portable electronic products and other innovative technologies. These innovations and achievements include:
- 1990 - Invented the technology of combined microphone and speaker earpieces without feedback. (This was the first product in what ultimately became today’s line of Jabra hands-free communication products.)
- 1993 - Developed the first portable digital player/recorder with removable flash memory. Resulted in five U.S. patents on the use of flash memory in portable devices.
- 1996 - Developed the first high-speed download device to store digital voice recordings on a personal computer in compressed format.
- 1998 - Developed the first multi-codec (including MP3) portable digital music player.
- 1999 - Delivered an integrated digital voice recorder and computer docking station system for medical transcription of voice and data for Lanier Healthcare, LLC.
- 2002 - Developed the first voice controlled MP3 player using our VoiceNav® speech navigation system.
- 2002 - Bang & Olufsen introduced a branded digital audio player (BeoSound 2) developed by us pursuant to a license agreement.
- 2003 - Designed, developed and delivered wireless MP3 headsets employing our MicroOS™ operating system to Hewlett-Packard for use at Disneyworld in Orlando, Florida.
- 2003 - Licensed our digital audio platform to a multi-billion dollar Asian OEM for branding to Gateway Computers.
- 2003 - Developed the first hard drive-based Hollywood studio-approved portable inflight entertainment (“IFE”) device.
- 2006 - Introduced eVU, a next generation dedicated mobile entertainment device with 12+ hours of playback, wireless capability and proprietary content encryption approved by major studios.
- 2007 - Introduced eVU-ER, an improved dedicated portable IFE player featuring a new power management technology providing an industry-leading 20+ hours of continuous video playback from a single battery. eVU is available in either a 7" or 8" high resolution LCD screen with 160 GB to 200 GB of rugged and reliable storage.
- 2009 -Added new features to eVU including an advanced touch screen interface.
- 2010- 2013 - Developed new technology in the areas of context and interpersonal awareness, cloud technology, information security, user authentication and digital data distribution.
- 2012 - 2013 - Granted six patents for context and interpersonal awareness systems technologies.
We have accumulated a body of proprietary technology some covered by patents, both issued and pending, along with other technology protected by trade secrets and copyrights.
Technologies
Flash-R Technology
Our Flash-R patent portfolio covers certain aspects of the use of flash memory, addressing today's large and growing portable electronic products market. In 1993, we began marketing the first digital voice recorder with removable flash memory. In 1996, we produced and marketed the first digital voice recorder interface for downloading and managing voice recordings on the personal computer. The Flash-R patent portfolio is protected through the years 2014 - 2016 and includes the following U.S. patents:
- US5491774: Handheld record and playback device with flash memory
- US5742737: Method for recording voice messages on flash memory in a hand held recorder
- US5787445: Operating system including improved file management for use in devices utilizing flash memory as main memory
- US5839108: Flash memory file system in a handheld record and playback device
- US5842170: Method for editing in hand held recorder
We believe our Flash-R patent portfolio covers fundamental technology related to and is essential to many consumer electronics products that utilize flash memory including cell phones, digital cameras, camcorders, PDAs and other popular devices.
Nunchi Technology - - Context and Interpersonal Awareness Systems
Our Nunchi patent portfolio covers certain aspects of advanced context awareness, addressing emerging products, services and revenue models. Our Nunchi technology includes a patent portfolio of six U.S. patents:
- US8306514: System and Method for Managing Mobile Communications
- US8311522: System and Method for Managing Mobile Communications
- US8311523: System and Method for Managing Mobile Communications
- US8311524: System and Method for Managing Mobile Communications
- US8315618: System and Method for Managing Mobile Communications
- US8315619: System and Method for Managing Mobile Communications
We have also filed additional continuations of some of the above patents.
We believe our portfolio covers important aspects of integrating cloud-based servers, existing communication networks and relational databases, to both understand and anticipate the needs of people.
MicroOS
Our proprietary MicroOS operating system is the software foundation for our DVAP (Digital Video/Audio Platform) technology. MicroOS was originally developed for use in digital voice recorder technology, but was adapted to support audio and video storage and playback and wireless utilities. MicroOS manages the user interface functions, battery and power control, the volume and equalizer functions, the LCD interfaces, processes a wide variety of audio and video formats and manages the decoding process. It interacts with a variety of digital rights management schemes and supports most popular media storage formats. We believe MicroOS efficiently manages multiple functions within a single device, utilizing less power, space and operating capacity than many alternative solutions.
Data Security Technology
We have designed and developed a family of proprietary hardware and software data security systems including encryption, decryption, digital rights management (“DRM”) and key management technologies for content protection. Our eVU product incorporates an implementation of this family of technology and has been tested and approved by major Hollywood movie studios. We currently have one U.S. patent pending on data security technology related to securely transmitting data to a multimedia device.
Other Technology
We continue to focus on adding to our intellectual property portfolio. There can be no assurance we can exploit any new innovations in future periods.
Intellectual Property Portfolio Licensing and Enforcement
While we are adding new intellectual property, we believe we have an important portfolio of patents (Flash-R patent portfolio and Nunchi technology) and we are actively engaged in a strategy to monetize our patent portfolio through licensing and enforcement.
In June 2006 we engaged an intellectual property consultant to investigate, document and develop the Flash-R portfolio and to liaison with outside legal counsel. We, and our advisors, have performed due diligence on our patents and we believe we have strong licensable intellectual property rights. Under U.S. law, an inventor or patent owner has the right to exclude others from making, selling or using their patented invention. Unfortunately, in the majority of cases, infringers are generally unwilling, at least initially, to negotiate or pay reasonable royalties for their unauthorized use of third-party patents and will typically fight any allegations of patent infringement. Inventors and/or patent holders without sufficient financial or expert technical resources to bring legal action may lack credibility in dealing with unwilling licensees and as a result, are often ignored.
As a result of the common reluctance of patent infringers to negotiate and ultimately take a patent license for the use of third-party patented technologies without at least the threat of legal action, patent licensing and enforcement often begins with the filing of patent enforcement litigation. However, the majority of patent infringement contentions settle out of court based on the strength of the patent claims, validity, and persuasive evidence and clarity that the patent is being infringed.
We execute patent licensing arrangements with users of our patented technologies through willing licensing negotiations and through the negotiation of license and settlement arrangements in connection with the filing of patent infringement litigation. We also discuss licenses without the filing of patent infringement litigation and may enter into some future licenses with licensees without the filing of a specific patent infringement action against such licensee. We anticipate bringing additional patent enforcement actions in the future.
Some license agreements include nonexclusive cross licenses and our policy is to value these only if directly used in operations. To date we have not valued any cross licenses received as they were considered part of the licensee’s overall license and settlement strategy and are not currently used in our products.
Flash-R Enforcement and Licensing Progress
In March 2007 we engaged the international law firm Duane Morris LLP to handle certain patent enforcement matters on a contingent fee basis. In October 2007 we commenced enforcement action with respect to our patent portfolio and filed a total of 27 complaints against manufacturers. Through September 2012, with the assistance of Duane Morris LLP, we licensed and settled with 19 defendants, realizing gross license fees aggregating approximately $15 million. In September 2012 we terminated the services of Duane Morris LLP and retained Handal & Associates as our intellectual property (IP) counsel for license enforcement of our Flash-R™ patent portfolio.
On June 28, 2011, the United States District Court for the District of Colorado issued an Opinion and Order Regarding Claim Construction following a January 28, 2011 Markman hearing (a proceeding under U.S. patent law where both sides present to the Court their arguments on how they believe patent terms should be construed). The Opinion construed claim terms in United States Patent 5,491,774 (the ‘774 patent”) one of the Company’s Flash-R patents, more narrowly than we had proposed. This Markman ruling could negatively affect future licensing prospects with respect to the ‘774 patent.
In September 2012 we announced that the United States Patent and Trademark Office (USPTO) had completed the reexamination of our U.S. Patent Nos. 5,491,774 (the ‘774) and 5,742,737 (the ‘737). While we were required to supplement one claim of the ‘737 patent and modify certain claims of the ‘774 patent, we believe the reexam process reaffirmed important patent claims as we continue our Flash-R™ patent portfolio monetization activities.
During fiscal 2013 we commenced enforcement action with respect to our Flash-R patent portfolio by filing complaints in the U.S. District Court for the Southern District of California, asserting that products made and sold by the defendant companies infringe our U.S. patents. We have commenced enforcement by filing 22 lawsuits, each one concerning alleged acts of infringement by manufacturers and their related distributors. As of June 6, 2013, seven defendants had agreed to license and settlement terms during the course of related litigation.
Although most fees, costs and expenses of the litigation are covered under our partial contingent fee arrangement with Handal and Associates, we incur support and related expenses for this litigation. In addition to support from our management team, we currently have one outside consultant assigned to assist, monitor and support Handal and Associates in our Flash-R litigation and licensing activities.
Technology Licensing and Enforcement Strategy
We are expanding our intellectual property portfolio. During fiscal years 2011 through 2013 we filed seven new U.S. patent applications for technologies related to context and interpersonal awareness systems and digital data distribution. In November 2012, six of these patents were granted by the United States Patent and Trademark Office (USPTO). In fiscal 2013 we filed three new U.S. patent applications for technologies related to our Nunchi context and interpersonal awareness systems, and may file additional patent applications in the future related to these or other technologies. Our strategy is to select and prioritize new technologies and when deemed appropriate, to develop functional systems employing one or more technologies. Currently we have no plans to introduce new products but seek strategic partners or licensees for commercialization of products and services, based on our technologies.
We use the services of officers, employees and intellectual property consultants to assist us in investigating and evaluating prospective licensees and strategic partners for our intellectual property. With respect to our Flash-R patent portfolio this has included documenting possible current and past infringement. While we have identified a large number of products and companies that we believe are using our Flash-R technology, this is an ongoing process as new products and companies are identified from our research. To date we have filed patent infringement litigation and sought licenses from 49 companies and related distributors with 26 agreeing to license terms as of June 6, 2013.
With respect to our Nunchi context and interpersonal awareness technologies, in March 2013 we retained IPmetrics Intellectual Property Consulting to manage the valuation and monetization of the Nunchi patent portfolio. We may elect or be required to enforce this portfolio of intellectual property in a similar manner to the Flash-R portfolio if we identify parties we believe are infringing on our patented technology.
We believe we are building a track record of demonstrating the strength, validity and clarity of our various patent claims and the value of our intellectual property and we believe that we can build a growing licensing business from our intellectual property portfolios. The timing of future litigation or licensing is subject to many factors, some of which are not within our control.
eVU Mobile Entertainment System Business
Since 2003 we have produced and delivered over 13,000 eVU portable audio/video players designed to securely play encrypted content for the airline and other travel markets. The primary use of eVU is for inflight entertainment (IFE). We offer eVU models with 7” or 8” high resolution LCD screens, storage ranging from 160 GB (Gigabytes) to 200 GB, high audio fidelity, dual stereo headphone jacks, optional embedded credit card reader/processor, optional touch screen capabilities, a full feature graphical user interface, patent-pending hardware security technology, and 20 plus hours of high resolution video playback on a single battery charge.
We produce eVU players under a turnkey domestic manufacturing relationship with a qualified contract manufacturer and have additional relationships for producing eVU accessories. The loss of our manufacturers or the disruption in supply from manufacturers or in the supply of components by suppliers could have a material adverse effect on our financial condition, results of operations and cash flows.
We market and sell our eVU portable mobile entertainment device to corporate airline customers directly and through VARs. We sell accessory products including e.Digital battery charging stations and e.Digital content loading stations to upload graphical interfaces and content to multiple players.
We also earn revenues from the provision of content integration, graphical user interface (“GUI”) customization, warranty and technical support and related services to our customers and VARs. Our services allow protected content on eVU players to be periodically updated.
The advent and growth of portable personal entertainment and computing devices such as the iPad, as well as the increasing offering and availability of satellite programming and wireless internet access onboard airlines, has negatively impacted the sale of our eVU IFE products and services. eVU product and services revenues have declined significantly each year since fiscal 2011 to $430,745 for fiscal 2013. While we continue to provide content services to current customers and seek to sell eVU products and services to existing and new customers, we do not believe this business, given industry economics and technology innovations, will be a source of future revenue growth and revenues may continue to decline. However we have no immediate plans to discontinue this business segment as we continue to support an existing customer base.
Customer Concentration
Revenues from four customers accounted for 31%, 22%, 14% and 11% of revenues for the year ended March 31, 2013 (2012 - four licenses accounted for more than 10% of revenues). Historically, our product revenues have relied on a few major customers. There is no assurance we will obtain any revenues from existing customers in fiscal 2013. We are seeking to expand our eVU customer base and reduce reliance on a few customers in future periods. We also seek to license new targeted companies that we believe infringe our patent portfolio.
Research and Development Costs
For the years ended March 31, 2013 and 2012, we spent $544,767 and $672,913, respectively, on research and development. We anticipate that we will continue to devote substantial resources to research and development activities.
Intellectual Property
We have five issued U.S. patents covering the use of flash memory in portable digital devices. Our MicroOS and other software are also protected by copyrights. We have six issued U.S. patents covering technology related to our Nunchi context and interpersonal awareness systems. We have designed and developed proprietary hardware encryption technology for content protection. This technology has been used in our products and has been tested and approved by major Hollywood movie studios. We currently have one U.S. patent pending for this technology.
We rely primarily on a combination of patents, copyright and trade secret protection together with licensing arrangements and nondisclosure and confidentiality agreements to establish and protect our proprietary rights. We may file additional patent applications in the future related to these or other technologies.
The patent position of any item for which we have filed a patent application is uncertain and may involve complex legal and factual issues. Although we have filed certain U.S. patent applications, we do not know whether any of these applications will result in the issuance of patents, or, for any patents already issued or issued in the future, whether they will provide significant proprietary protection or will be circumvented or invalidated. Additionally, since an issued patent does not guarantee the right to practice the claimed invention, there can be no assurance others will not obtain patents that we would need to license or design around in order to practice our patented technologies, or that licenses that might be required would be available on reasonable terms. Further there can be no assurance that any unpatented manufacture, use, or sale of our technology or products will not infringe on patents or proprietary rights of others. We have made reasonable efforts in the design and development of our products not to infringe on other known patents.
We also rely on trade secret laws for protection of our intellectual property, but there can be no assurance others will not independently develop substantially equivalent proprietary information and techniques or otherwise gain access to our trade secrets or disclose such technology, or that we can protect our rights to unpatented trade secrets.
We also file for trade name and trademark protection when appropriate. We are the owner of U.S. federally registered trademarks including e.Digital®, eVU®, VoiceNav®, Music Explorer®, Odyssey®, Smart Solutions for a Digital World®, and Nunchi® as registered trade names. We intend to make every reasonable effort to protect our proprietary rights to make it difficult for competitors to market equivalent competing products without being required to conduct the same lengthy testing and development conducted by us and not to use any of our innovative and novel solutions to overcome the many technical obstacles involved in developing portable devices using flash memory and other portable storage formats.
Competition
While we do not compete with others on licensing our specific patents, we compete generally for the attention and for funds from prospective licensees many of which are approached frequently regarding licenses and/or are sued for patent infringement both with and without merit. Regardless of the merits of any infringement claim many companies find it more economical, especially in the early stage of litigation, to defend the litigation rather than license. Long-term licensing success may be dependent upon prevailing in new litigation and possible appeal. Technological advances could also render the use of our patented methods obsolete prior to expiration of the term of our patents thus reducing amounts of future infringement. There can be no assurance that we will generate any new licensing or settlement revenue in the future.
We believe our existing know-how, contracts, patents, copyrights, trade secrets and potential future patents and copyrights, will be significant in enabling us to compete successfully and license our intellectual property.
Competition in the IFE industry comes from embedded IFE systems and from portable entertainment devices manufactured by companies such as Sony, Samsung, Apple, Panasonic, or Audiovox, who may sell such products to travelers or airlines or rental outfits and various custom portable IFE hardware specifically targeted for airline use. The IFE industry has also been impacted by the rapid consumer adoption of portable devices. As described above, our IFE business has been significantly and negatively impacted by competition and industry factors.
Seasonality
Our current business is not seasonal.
Executive Officers
The current executive officers of e.Digital Corporation and their ages and business experience are set forth below.
Alfred H. Falk - age 58, was promoted and appointed as President and Chief Executive Officer of the Company by the Board of Directors on January 20, 2009. Mr. Falk had been the Company’s Vice President of corporate development since July 2004. He formerly served as President and a member of the Board of the company from January 1997 (and from July 1998 as Chief Executive Officer) until July 2004. From March 1995 to January 1997, he served as Vice President of corporate development and Vice President of OEM and international sales. Prior to joining the Company, Falk worked for Resources Internationale as director of U.S. sales from 1993 to 1995. From 1988 to 1993, he was the manager of OEM sales and technology licensing for Personal Computer Products, Inc. From 1978 to 1988, he held several management positions at DH Technology.
MarDee Haring-Layton - age 37, was appointed Chief Financial Officer of the Company by the Board of Directors on December 5, 2011. Ms. Haring-Layton had been with the Company, on a part-time consulting basis, since July 2010. Previously, she was employed as a consultant with Resources Global Professionals, a multinational professional services firm, from 2007 to 2011. From 2005 to 2006, she was the Corporate Audit Manager at Royale Energy, Inc. Prior to Royale Energy, Ms. Haring-Layton was employed by Charlotte Russe, Inc. as Systems Control and Reporting Manager and Deloitte & Touche, LLP as an audit professional. Ms. Haring-Layton holds a B.S. in Business Administration from San Diego State University.
Eric M. Polis - age 42, was appointed a Director in October 2008 and Secretary in December 2010. He has been employed as an asset manager for privately-held Davric Corporation since 1997. He was Secretary, Treasurer and a Director of ASI Technology Corporation, a publicly traded specialty finance company, from July 2000 to May 2010. Mr. Polis is also a private investor and serves on the board of several Las Vegas non-profit organizations. He obtained a B.S. in Business Administration from the University of Arizona in 1993.
Employees
As of March 31, 2013, we employed approximately seven full-time employees, of whom three were in production and testing, one in research, development and engineering, and four were in sales, general and administrative. None of our employees are represented by a labor union, and we are not aware of any current efforts to unionize the employees. Management considers the relationship between the Company and its employees to be good.
We also engage consultants or lease engineering personnel on a temporary basis from time to time and use other outside consultants for various services.
Environmental Compliance and Government Regulation
Our operations are subject to various foreign, federal, state and local regulatory requirements relating to environmental, waste management, health and safety matters and there can be no assurance that material costs and liabilities will not be incurred or that past or future operations will not result in exposure or injury or claims of injury by employees or the public. Some risk of costs and liabilities related to these matters are inherent in our business, as with many similar businesses. Management believes its business is operated in substantial compliance with applicable environmental, waste management, health and safety regulations, the violation of which could have a material adverse effect on our operations. In the event of violation, these requirements provide for civil and criminal fines, injunctions and other sanctions and, in certain instances, allow third parties to sue to enforce compliance. In addition, new, modified or more stringent requirements or enforcement policies could be adopted which could adversely affect our operations.
Available Information
We file with the Securities and Exchange Commission (“SEC”) our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports, proxy statements and registration statements. The public may read and copy any material we file with the SEC at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. The public may also obtain information from the Public Reference Room by calling the SEC at 1-800-SEC-0330. In addition, the SEC maintains an Internet site at http://www.sec.gov that contains reports, proxy and information statements and other information regarding issuers, including us, that file electronically.
Our Internet website address is http://www.edigital.com. Our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) are available free of charge through our Company’s website as soon as reasonably practical after those reports are electronically filed with, or furnished to, the SEC. In addition, copies of the written charters for the committees of our board of directors, our Code of Conduct, Corporate Governance, Communication and Whistleblower policies are also available on this website under the About Us and Management links. We will provide any person, without charge, a copy of our charters, codes and/or policies upon written request to Investor Relations, e.Digital Corporation, 16870 West Bernardo Drive, Suite 120, San Diego, California 92127. We may post amendments or waivers of our charters, codes, or policies, if any, on our website. This website address is intended to be an inactive textual reference only, and none of the information contained on our website is part of this report or is incorporated in this report by reference.
ITEM 1A.
ITEM 1A. RISK FACTORS
Cautionary Note on Forward Looking Statements
In addition to the other information in this annual report the factors listed below should be considered in evaluating our business and prospects. This annual report contains a number of forward-looking statements that reflect our current views with respect to future events and financial performance. These forward-looking statements are subject to certain risks and uncertainties, including those discussed below and elsewhere herein, that could cause actual results to differ materially from historical results or those anticipated. In this report, the words “anticipates,” “believes,” “expects,” “intends,” “future” and similar expressions identify forward-looking statements. Readers are cautioned to consider the specific factors described below and not to place undue reliance on the forward-looking statements contained herein, which speak only as of the date hereof. We undertake no obligation to publicly revise these forward-looking statements, to reflect events or circumstances that may arise after the date hereof.
Financial Risks
We Have a History of Losses and May Incur Future Losses. Except for a profit in fiscal 2009 and fiscal 2012, historically we have incurred significant losses and negative cash flow from operations and we have an accumulated deficit of $81.3 million at March 31, 2013. Our profitability in fiscal years 2009 and 2012 was the result of one-time patent licensing revenues and there is no assurance of future licensing revenues from new licensees. Accordingly, we could continue to incur losses in the future until product, service and/or licensing revenues are sufficient to sustain continued profitability. Failure to achieve or maintain profitability will likely negatively impact the value of our securities
If We Encounter Unforeseen Difficulties and Cannot Obtain and Required Additional Funding on Favorable Terms, Our Business May Suffer. Our consolidated cash and cash equivalents on hand totaled $1.7 million at March 31, 2013. To date, we have relied primarily upon the sale of equity securities, product and service revenues and payments from licensees to generate the funds needed to finance our operations. If we incur losses in future periods or we encounter unforeseen difficulties in the future, including difficulties arising as a result of the outside influences identified below, we may deplete our capital resources more rapidly than anticipated. As a result, we may be required to obtain additional financing in the future through debt or equity financings or otherwise. If we are required to raise additional capital in the future, such additional financing may not be available on favorable terms, if at all, or may be dilutive to our existing stockholders. If we fail to obtain additional capital as and when needed, such failure could have a material adverse impact on our business, results of operations and financial condition.
General Economic Conditions May Reduce Our Revenues and Harm Our Business. Our business is exposed to adverse changes in general economic conditions and financial markets in the United States, Europe and Asia. Because use of our products is entertainment-oriented and generally discretionary, the current slowdown or a further decline in U.S. and foreign economic growth could adversely affect consumer confidence, disposable income and spending. As a result, sales of our products to customers and the use by consumers may not grow as rapidly as in prior periods or may decrease, which could adversely affect our future revenues.
We Expect Our Operating Results to Fluctuate Significantly. Our quarterly and annual operating results have fluctuated significantly in the past and we expect that they will continue to fluctuate in the future. This fluctuation is a result of a variety of factors, including the following:
- Uncertainty regarding the timing and amount of any future patent licensing revenues
- Unpredictable demand and required pricing to secure customers for our products and services
- Market acceptance of our products by our customers and their end users
- Uncertainties with respect to future customer product orders, their timing and the margins to be received, if any
- Fluctuations in product costs and operating costs
- Changes in research and development costs
- Changes in general economic conditions
- Risks and costs of warranty claims
- Changes in technology
- The possibility of excessive or obsolete inventory and materials
We do not Anticipate Paying Dividends. We have never paid any cash dividends on our common stock and do not anticipate paying any cash dividends in the foreseeable future. We currently intend to retain any future earnings to fund the development and growth of our business. An investment in our common stock, therefore, may be more suitable for an investor that is seeking capital appreciation rather than current yield and, as a consequence, may be more speculative. Accordingly, investors should not purchase our common stock with an expectation of receiving regular dividends.
Risks Related to our Patent Licensing and Enforcement Strategy
We Face Uncertain Revenue Prospects from our Patent Enforcement Strategy. Our portfolio has not been thoroughly tested in court and there is no assurance we can prevail in any current or future patent litigation. On June 28, 2011, the United States District Court for the District of Colorado issued an Opinion and Order Regarding Claim Construction following the January 28, 2011 Markman hearing (a proceeding under U.S. patent law where both sides present to the Court their arguments on how they believe patent terms should be construed). The Opinion construed claim terms in United States Patent ‘774, one of the Company’s Flash-R patents, more narrowly than proposed by the Company. The Markman ruling could negatively affect future licensing prospects and future rulings from reexamination of certain Flash-R patent claims by the USPTO could have a significant positive or negative impact on future licensing activity in 2014 and beyond. The licensing demand for our patent portfolio is subject to fluctuation based upon the rate at which target infringers agree to pay royalties or settle future enforcement actions, if any. There can be no assurance of future revenues from our strategy of enforcing our Flash-R patent portfolio. Due to the nature of our licensing business and uncertainties regarding the amount and timing of the receipt of future license fees, if any, from potential infringers, stemming primarily from uncertainties regarding the outcome of enforcement actions, rates of adoption of our patented technologies, the growth rates of our prospective licensees and other factors, our revenues may vary significantly in the future, which could make our business difficult to manage, adversely affect our business and operating results, cause our quarterly and annual results to be below market expectations and adversely affect the market price of our common stock.
Our Fee Arrangement with Patent Enforcement Counsel Subjects Us to Certain Risks and Substantial Costs and Fees and Could Limit Our Net Proceeds From Any Successful Patent Enforcement Actions. Our agreement for legal services and partial contingent fee arrangement with Handal and Associates provides that Handal is our exclusive legal counsel in connection with the assertion of our flash memory related patents against infringers (“Patent Enforcement Matters”). Handal is advancing certain costs and expenses including travel expenses and court costs. We have agreed to pay Handal a monthly retainer fee of $30,000 and a fee equal to 1/3 of any license or litigation recovery related to Patent Enforcement Matters, after recovery of expenses, and 40% of recovery if appeal is necessary. We are not in control of the timing, costs and fees, which could be substantial and we could be required to pay substantial litigation support costs without any recovery. Costs and fees paid by Handal could also limit our share of proceeds, if any, from future patent enforcement actions. There can be no assurance Handal will diligently and timely pursue patent enforcement actions on our behalf.
We May Not Be Successful in Marketing or Licensing our Nunchi or Other Technologies. We have entered into an exclusive marketing agreement with IPmetrics Intellectual Property Consulting related to licensing our Nunchi technology. There can be no assurance we can be successful in monetizing this or any other technologies we are developing.
New Legislation, Regulations or Rules Related to Enforcing Patents Could Significantly Decrease Our Prospect for Revenue and Increase the Time and Costs Associated with Patent Enforcement. If new legislation, regulations or rules are implemented either by Congress, the United States Patent and Trademark Office, or the courts that impact the patent application process, the patent enforcement process or the rights of patent holders, these changes could negatively affect our revenue prospects and increase the costs of enforcement. For example, new rules regarding the burden of proof in patent enforcement actions could significantly increase the cost of our enforcement actions, and any new standards or limitations on liability for patent infringement could negatively impact revenue derived from such enforcement actions. While we are not aware that any such changes are likely to occur in the foreseeable future that impact our current patents, we cannot assure that such changes will not occur.
Should Litigation Be Required to Enforce Our Patents, Trial Judges and Juries Often Find It Difficult to Understand Complex Patent Enforcement Litigation, and as a Result, We May Need to Appeal Adverse Decisions By Lower Courts In Order to Successfully Enforce Our Patents. It is difficult to predict the outcome of patent enforcement litigation at the trial level. It is often difficult for juries and trial judges to understand complex, patented technologies, and as a result, there is a higher rate of successful appeals in patent enforcement litigation than more standard business litigation. Such appeals are expensive and time consuming, resulting in increased costs and delayed revenue. Although we intend to diligently pursue enforcement litigation if necessary to monetize our patents, we cannot predict with significant reliability the decisions made by juries and trial courts.
Federal Courts are Becoming More Crowded, and as a Result, Patent Enforcement Litigation is Taking Longer. Any patent enforcement actions we may be required to take to monetize our patents will most likely be prosecuted in federal court. Federal trial courts that hear patent enforcement actions also hear other cases that may take priority over any actions we may take. As a result, it is difficult to predict the length of time it will take to complete any enforcement actions.
As Patent Enforcement Litigation Becomes More Prevalent, It May Become More Difficult for Us to Voluntarily License Our Patents. We believe that the more prevalent patent enforcement actions become, the more difficult it will be for us to voluntarily license our patents to major electronic firms as they may increasingly become more reluctant to settle and license. As a result, we may need to increase the number of our patent enforcement actions and/or expend additional resources on enforcement actions to cause infringing companies to license our patents or pay damages for lost royalties. This may increase the risks associated with an investment in our Company.
In Connection With Patent Enforcement Actions That We May Conduct, A Court May Rule That We Have
Violated Certain Statutory, Regulatory, Federal, Local Or Governing Rules Or Standards, Which May Expose Us
To Certain Material Liabilities. In connection with any of our patent enforcement actions, it is possible that a defendant may request and/or a court may rule that we have violated statutory authority, regulatory authority, federal rules, local court rules, or governing standards relating to the substantive or procedural aspects of such enforcement actions. In such event, a court may issue monetary sanctions against us or award attorney’s fees and/or expenses to a defendant(s), which could be material, and if we are required to pay such monetary sanctions, attorneys’ fees and/or expenses, such payment could materially harm our operating results and our financial position.
Our Flash-R Patents Have Limited Time Available for Enforcement Prior to Expiration. The five patents in the Flash-R portfolio expire in the years 2014 to 2016 and we will therefore have limited time to collect license fees for future infringement and may also be limited in enforcing past infringement beyond certain periods and these limitations may make enforcement more difficult and limit any recoveries and therefore increase the risks associated with an investment in our Company.
Risks Related to Product Sales, Marketing and Competition
We May Be Unable to Successfully Compete in the Electronic Products Market Which is Highly Competitive and Subject to Rapid Technological Change. We compete in the market for electronics products that is intensely competitive and subject to rapid technological change. The market is also impacted by evolving industry standards, rapid price changes and rapid product obsolescence. Our competitors include a number of large foreign companies with U.S. operations and a number of domestic companies, many of which have substantially greater financial, marketing, personnel and other resources. Our current competitors or new market entrants have introduced new and enhanced technologies or products with features that has rendered our technology or products less marketable and our products could become obsolete in the future.
We Rely on a Limited Number of Customers for Revenue. Historically, a substantial portion of our product and service revenues has been derived primarily from a limited number of customers. The failure to receive orders for products or a further decline in the economic prospects of our airline customers may have a material adverse effect on our operations.
Risks Related to Operations
If We Lose Key Personnel or Are Unable to Attract and Retain Additional Highly Skilled Personnel Required For the Expansion of Our Activities Our Business Will Suffer. Our future success depends to a significant extent on the continued service of our key technical, sales and senior management personnel and their ability to execute our strategy. The loss of the services of any of our senior level management, or certain other key employees or our intellectual property consultant may harm our business. Our future success also depends on our ability to attract, retain and motivate highly skilled employees and consultants. Competition for employees in our industry is intense. We may be unable to retain our key employees or to attract, assimilate and retain other highly qualified employees in the future. We have from time to time in the past experienced, and we expect to continue to experience in the future, difficulty in hiring and retaining highly skilled employees with appropriate qualifications.
Risks Related to Intellectual Property and Government Regulation
Failing to Protect Our Proprietary Rights to Our Technology Could Harm Our Ability to Compete, as well as Our Results of Our Operations. Our success and ability to compete substantially depends on our internally developed software, technologies and trademarks, which we protect through a combination of patent, copyright, trade secret and trademark laws. Patent applications or trademark registrations may not be approved. Even when they are approved, our patents or trademarks may be successfully challenged by others or invalidated. If our trademark registrations are not approved because third parties own such trademarks, our use of these trademarks would be restricted unless we enter into arrangements with the third-party owners, which may not be possible on commercially reasonable terms or at all. We generally enter into confidentiality or license agreements with our employees, consultants and strategic and industry partners, and generally control access to and distribution of our software, technologies, documentation and other proprietary information. Despite our efforts to protect our proprietary rights from unauthorized use or disclosure, parties may attempt to disclose, obtain or use our solutions or technologies. The steps we have taken may not prevent misappropriation of our solutions or technologies, particularly in foreign countries where laws or law enforcement practices may not protect our proprietary rights as fully as in the United States. We have licensed, and we may license in the future, certain proprietary rights to third parties. While we attempt to ensure that our business partners maintain the quality of our brand, they may take actions that could impair the value of our proprietary rights or our reputation. In addition, these business partners may not take the same steps we have taken to prevent misappropriation of our solutions or technologies.
We May Face Intellectual Property Infringement Claims That May Be Difficult to Defend and Costly to Resolve, Which Could Harm Our Business. Although we do not believe we infringe the proprietary rights of any third parties, we cannot assure you that third parties will not assert such claims against us in the future or that such claims will not be successful. We could incur substantial costs and diversion of management resources to defend any claims relating to proprietary rights, which could harm our business. In addition, we are obligated under certain agreements to indemnify the other party for claims that we infringe on the proprietary rights of third parties. If we are required to indemnify parties under these agreements, our business could be harmed. If someone asserts a claim relating to proprietary technology or information against us, we may seek licenses to this intellectual property. We may not be able to obtain licenses on commercially reasonable terms, or at all. The failure to obtain the necessary licenses or other rights may harm our business.
Risks Related to Government Regulation, Content and Intellectual Property Government Regulation May Subject Us to Liability and Require Us to Change the Way We Do Business. Our business is subject to rapidly changing laws and regulations. Although our operations are currently based in California, the United States government and the governments of other states and foreign countries have attempted to regulate activities on the Internet. Evolving areas of law that are relevant to our business include privacy law, copyright law, proposed encryption laws, content regulation and import/export regulations. Because of this rapidly evolving and uncertain regulatory environment, we cannot predict how these laws and regulations might affect our business. In addition, these uncertainties make it difficult to ensure compliance with the laws and regulations governing the Internet. These laws and regulations could harm us by subjecting us to liability or forcing us to change how we do business. We are also subject to regulations for portable electronic devices in various countries and for the emissions of such devices in aircraft. Failure to comply with these many regulations could harm our business or require us to repurchase products from customers.
Compliance With Current And Future Environmental Regulations May Be Costly, Which Could Impact Our Future Earnings. We are subject to environmental and other regulations due to our production and marketing of products in certain states and countries. Various environmental regulations may require us to reengineer our existing products to comply with environmental regulations or discontinue sale of such products.
We May Incur Liability from Our Requirement to Indemnify Certain Customers Regarding Litigation and Certain Intellectual Property Matters. Our contracts with major airlines are subject to future performance by us and product warranties and intellectual property indemnifications including certain remedies, ranging from modification to product substitution or refund. Should our products be deemed to infringe on the intellectual property of others the costs of modification, substitution or refund could be material and could harm our business and adversely impact our operations.
Risks Related to Trading in Our Common Stock
Our Disclosure Controls and Procedures May Not Prevent or Detect All Acts of Fraud. Our disclosure controls and procedures are designed to reasonably assure that information required to be disclosed in reports filed or submitted under the Securities Exchange Act is accumulated and communicated to management and is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Our management expects that our disclosure controls and procedures and internal controls and procedures, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Because of the inherent limitations in all control systems, they cannot provide absolute assurance that all control issues and instances of fraud, if any, within our company have been prevented or detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by an unauthorized override of the controls. The design of any systems of controls also is based in part upon certain assumptions about the likelihood of future events, and we cannot assure that any design will succeed in achieving its stated goals under all potential future conditions. Accordingly, because of the inherent limitations in a cost effective control system, misstatements due to error or fraud may occur and not be detected.
Failure to Maintain an Effective System of Internal Control Over Financial Reporting Could Harm Stockholder and Business Confidence In Our Financial Reporting, Our Ability to Obtain Financing and Other Aspects of Our Business. Maintaining an effective system of internal control over financial reporting is necessary for us to provide reliable financial reports. Section 404 of the Sarbanes-Oxley Act of 2002 and the related rules and regulations promulgated by the SEC require us to include in our Form 10-K a report by management regarding the effectiveness of our internal control over financial reporting. The report includes, among other things, an assessment of the effectiveness of our internal control over financial reporting as of the end of the respective fiscal year, including a statement as to whether or not our internal control over financial reporting is effective. This assessment must include disclosure of any material weaknesses in our internal control over financial reporting identified by management. While our management has concluded that we did not have any material weaknesses as of March 31, 2013, material weaknesses have been identified in prior years and it is possible that material weaknesses will be identified in the future. In addition, components of our internal control over financial reporting may require improvement from time to time. If management is unable to assert that our internal control over financial reporting is effective in any future period, investors may lose confidence in the accuracy and completeness of our financial reports, which could have an adverse effect on its stock price.
Evolving Regulation of Corporate Governance and Public Disclosure May Result In Additional Expenses and Continuing Uncertainty. Changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of 2002, the Dodd-Frank Wall Street Reform and Consumer Protection Act, conversion to International Financial Reporting Standards, XBRL interactive SEC filings, and new SEC regulations are creating uncertainty for public companies. We continually evaluate and monitor developments with respect to new and proposed rules and cannot predict or estimate the amount of the additional costs we may incur or the timing of such costs. These new or changed laws, regulations and standards are subject to varying interpretations, in many cases due to their lack of specificity, and as a result, their application in practice may evolve over time as new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices.
We are committed to maintaining high standards of corporate governance and public disclosure. If our efforts to comply with new or changed laws, regulations and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to practice, regulatory authorities may initiate legal proceedings against us and we may be harmed.
Sales of Common Stock Issuable on the Exercise of Outstanding Options May Depress the Price of Our Common Stock. The issuance of shares of common stock issuable upon the exercise of outstanding stock options could cause substantial dilution to holders of common stock, and the sale of those shares in the market could cause the market price of our common stock to decline. The potential dilution from these shares could negatively affect the terms on which we could obtain any future equity financing.
Investing in a Technology Stock (Such as Ours) May Involve Greater Risk Than Other Investments Due to Market Conditions, Stock Price Volatility and Other Factors. The trading price of our common stock has been subject to significant fluctuations to date, and will likely be subject to wide fluctuations in the future due to:
·Quarter-to-quarter variations in operating results
·Announcements of technological innovations by us, our customers or competitors
·New products or significant design achievements by us or our competitors
·General conditions in the markets for our products or in the electronics industry
·The price and availability of products and components
·Changes in operating factors including delays of shipments, orders or cancellations
·General financial market conditions
·Market conditions for technology stocks
·Litigation or changes in operating results or estimates by analysts or others
·Other events or factors
In addition, potential dilutive effects of future sales of shares of common stock by stockholders and by the Company and subsequent sale of common stock by the holders of warrants and options could have an adverse effect on the market price of our shares.
We do not endorse and accept any responsibility for the estimates or recommendations issued by stock research analysts or others from time to time or comments on any electronic chat boards. The public stock markets in general, and technology stocks in particular, have experienced extreme price and trading volume volatility. This volatility has significantly affected the market prices of securities of many high technology companies for reasons frequently unrelated to the operating performance of the specific companies. These broad market fluctuations may adversely affect the market price of our common stock in the future.
Low-Price Stocks and Stocks Traded on the OTC Electronic Bulletin Board are Subject to Special Regulations and may have Increased Risk. Our shares of common stock are traded on the OTC Electronic Bulletin Board, an electronic, screen-based trading system operated by the National Association of Securities Dealers, Inc. (“NASD”). Securities traded on the OTC Electronic Bulletin Board are, for the most part, thinly traded and are subject to special regulations not imposed on securities listed or traded on the NASDAQ system or on a national securities exchange. As a result, an investor may find it difficult to dispose of, or to obtain accurate quotations as to the price of, our common stock. Sales of substantial amounts of our outstanding common stock in the public market could materially adversely affect the market price of our common stock. To date, the price of our common stock has been extremely volatile with the sale price fluctuating from a low of $0.024 to a high of $0.19 in the last fiscal year. In addition, our common stock is subject to Rules 15g-1-15g-6 promulgated under the Exchange Act that imposes additional sales practice requirements on broker-dealers who sell such securities to persons other than established customers and accredited investors (generally, a person with assets in excess of $1,000,000, excluding the value of such person’s primary residence, or annual income exceeding $200,000 or $300,000 together with his or her spouse). For transactions covered by this rule, the broker-dealer must make a special suitability determination for the purchaser and have received the purchaser’s written consent to the transaction prior to sale. Consequently, the rule may affect the ability of broker-dealers to sell the Company’s securities and may affect the ability of investors to sell their securities in the secondary market. The SEC has also adopted regulations which define a “penny stock” to be any equity security that has a market price (as defined) of less than $5.00 per share or an exercise price of less than $5.00 per share, subject to certain exceptions. For any transaction involving a penny stock, unless exempt, the regulations require the delivery, prior to the transaction, of a disclosure schedule prepared by the SEC relating to the penny stock market. The broker-dealer must also disclose the commissions payable to both the broker-dealer and the registered representative, current quotations for the securities and, if the broker-dealer is the sole market maker, the broker-dealer must disclose this fact and the broker-dealer’s presumed control over the market. Finally, monthly statements must be sent disclosing recent price information for the penny stock in the account and information on the limited market in penny stocks.
Important Factors Related to Forward-Looking Statements and Associated Risks. This prospectus contains certain forward-looking statements within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act and we intend that such forward-looking statements be subject to the safe harbors created thereby. These forward-looking statements include our plans and objectives of management for future operations, including plans and objectives relating to the products and our future economic performance. The forward-looking statements included herein are based upon current expectations that involve a number of risks and uncertainties. These forward-looking statements are based upon assumptions that we will design, manufacture, market and ship new products on a timely basis, that competitive conditions within the computer and electronic markets will not change materially or adversely, that the computer and electronic markets will continue to experience growth, that demand for the our products will increase, that we will obtain and/or retain existing development partners and key management personnel, that future inventory risks due to shifts in market demand will be minimized, that our forecasts will accurately anticipate market demand and that there will be no material adverse change in our operations or business. Assumptions relating to the foregoing involve judgments with respect, among other things, to future economic, competitive and market conditions and future business decisions, all of which are difficult or impossible to predict accurately and many of which are beyond our control. Although we believe that the assumptions underlying the forward-looking statements are reasonable, any of the assumptions could prove inaccurate and, therefore, there can be no assurance that the results contemplated in forward-looking information will be realized. In addition, as disclosed above, our business and operations both from product sales and licensing are subject to substantial risks which increase the uncertainty inherent in such forward-looking statements. Any of the other factors disclosed above could cause our net sales or net income (or loss), or our growth in net sales or net income (or loss), to differ materially from prior results. Growth in absolute amounts of costs of sales and selling and administrative expenses or the occurrence of extraordinary events could cause actual results to vary materially from the results contemplated in the forward-looking statements. Budgeting and other management decisions are subjective in many respects and thus susceptible to interpretations and periodic revisions based on actual experience and business developments, the impact of which may cause us to alter our marketing, capital expenditure or other budgets, which may in turn affect our results of operations. In light of the significant uncertainties inherent in the forward-looking information included herein, the inclusion of such information should not be regarded as a representation by us or any other person that our objectives or plans will be achieved.
ITEM 1B.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None
ITEM 2.
ITEM 2. PROPERTIES
In January 2012, we entered into a sixty-two month facility lease for our corporate office location, commencing May 1, 2012, for approximately 3,253 square feet at 16870 West Bernardo Drive, Suite 120, San Diego, California. The aggregate monthly payment is $5,693 excluding utilities and costs. The aggregate payments adjust annually with maximum payments totaling $7,157 in the forty-ninth through sixty-second months. Future lease commitments at March 31, 2013 total $331,484.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
The Company engages in litigation from time to time as part of its Flash-R™ portfolio licensing and enforcement activities. In October and November 2012 the Company commenced enforcement action with respect to its patent portfolio by filing six complaints in the U.S. District Court for the Southern District of California, asserting that products made and sold by the defendant companies infringe the Company’s U.S. patents covering the use of flash memory technologies. The Company filed an additional 16 complaints from December 2012 through April 2013, and subsequently entered into license and settlement agreements with seven defendants, won a stipulated judgment against one defendant, and dismissed one defendant without prejudice. The Company currently has lawsuits against SanDisk Corporation; GPX Inc., et al; Osram Sylvania, Inc., et al; Woodman Labs, Inc., et al; Pantech Wireless, Inc., et al; Philips Electronics North America Corporation; Mach Speed Technologies, LLC, et al; FUJIFILM Corporation, et al.; JVC Americas Corp., et al; Motorola Mobility LLC; Apple Inc.; Research in Motion Limited, dba Blackberry, et al; Huawei Technologies Co., Ltd, et al; and ZTE Corporation, et al.
ITEM 4.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
PART II
ITEM 5.
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Market Information
Our common stock trades in the over-the-counter market on the OTC Electronic Bulletin Board. The following table sets forth, for the periods indicated, the high and low closing bid prices for our common stock, as reported by the National Quotation Bureau, for the quarters presented. Bid prices represent inter-dealer quotations without adjustment for markups, markdowns, and commissions.
Holders
At June 1, 2013 there were 293,186,908 shares of common stock outstanding and approximately 2,842 stockholders of record.
Dividends
We have never paid any dividends to our common stockholders. Future cash dividends or special payments of cash, stock or other distributions, if any, will be dependent upon our earnings, financial condition and other relevant factors. The Board of Directors does not intend to pay or declare any dividends on our common stock in the foreseeable future, but instead intends to have the Company retain all earnings, if any, for use in the business.
Equity Compensation Plan Information
The following table sets forth information as of March 31, 2013, with respect to compensation plans (including individual compensation arrangements) under which our equity securities are authorized for issuance, aggregated as follows:
Recent Sales of Unregistered Securities
No unregistered securities were issued during the fiscal year that were not previously reported in a Quarterly Report on Form 10-Q or Current Report on Form 8-K.
Issuer Purchases of Equity Securities
Not applicable.
ITEM 6.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
Not applicable.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with our consolidated financial statements and the notes thereto and includes forward-looking statements with respect to the Company’s future financial performance. Actual results may differ materially from those currently anticipated and from historical results depending upon a variety of factors, including those described elsewhere in this Annual Report and under the sub-heading, “Risk Factors - Important Factors Related to Forward-Looking Statements and Associated Risks.”
General
We are a holding company incorporated under the laws of Delaware that operates through a wholly-owned California subsidiary of the same name. We are developing and marketing an intellectual property portfolio including licensing and enforcing our Flash-R™ portfolio of patents related to the use of flash memory in portable devices. We also market our eVU™ mobile entertainment system for the travel industry.
With the inception of patent license revenue in September 2008, we determined that we have two operating segments: (1) products and services and (2) patent licensing and enforcement. Our products and services revenue is derived from the sale of eVU products and accessories to customers, warranty and technical support services and content integration fees and related services. Our patent licensing and enforcement revenue consists of intellectual property revenues from our Flash-R patent portfolio.
We are commercializing our Flash-R patent portfolio through licensing and we are aggressively pursuing enforcement by litigating against targeted parties that we believe are infringing our patents. Since September 2012, the law firm of Handal and Associates has been handling our patent enforcement matters on a partial contingent fee basis.
Currently, we have active lawsuits filed against 14 defendants believed to infringe patents covering the use of our flash memory technologies. In October and November 2012 we commenced enforcement action with respect to our patent portfolio by filing six complaints in the U.S. District Court for the Southern District of California, asserting that products made and sold by the defendant companies infringe our U.S. patents. We filed an additional 16 complaints from December 2012 through April 2013, and subsequently entered into license and settlement agreements with seven companies, won a stipulated judgment against one defendant, and dismissed one defendant without prejudice.
While we expect to file future complaints against additional companies and license additional companies, there can be no assurance of the timing or amounts of any related license revenue. We also are developing new intellectual property for possible licensing in the areas of context and interpersonal awareness systems.
Our business is high risk in nature. There can be no assurance we can achieve sufficient eVU or patent license revenues to sustain profitability. We continue to be subject to the risks normally associated with introducing new products, services and technologies, including unforeseeable expenses, delays and complications. Accordingly, there is no guarantee that we can or will report operating profits in future periods.
Overall Performance and Trends
We focused significant efforts on developing, licensing and enforcing our patent portfolio in the fiscal years ended March 31, 2013 and 2012. We have successfully completed two rounds of enforcement litigation and are in the process of additional enforcement actions. There is a reluctance of patent infringers to negotiate and ultimately take a patent license without at least the threat of legal action. However, the majority of patent infringement contentions settle out of court, based on the strength of the patent claims, validity, and persuasive evidence and clarity that the patent is being infringed. We believe we are building a track record of demonstrating the strength, validity and clarity of our patent claims and that we can result in significant future revenues from our patent portfolio.
Our eVU IFE business remained slow during both fiscal 2013 and 2012 primarily due to increased competition and airline economics. We are unable to predict future sales levels in this market as orders have been are expected to continue to be sporadic from both existing and new customers.
We reported a loss for the fiscal year ended March 31, 2013 (fiscal 2013), and we expect to incur losses in the future until licensing revenues and product/service revenues are sufficient to sustain continued profitability.
For the year ended March 31, 2013:
- We recognized a net loss of $1,483,296 compared to net income of $1,195,072 for fiscal 2012. The difference in results was primarily attributable to lower license revenues due to the timing and amount of individual license agreements.
- Our revenues were $442,414 in fiscal 2013 compared to $4.7 million in fiscal 2012. During fiscal 2012 we licensed seven companies from the second round of litigation and licensed an additional company outside of the litigation. During fiscal 2013 we had no new license agreements. As a result of the timing of such license agreements, our licensing revenues in fiscal 2013 were $11,669 compared to $4.1 million in fiscal 2012. eVU product and service revenues were $430,745 in fiscal 2013 compared to $626,772 in fiscal 2012.
- Operating expenses were $1.98 million for fiscal 2013 reduced from the $3.4 million in fiscal 2012 primarily as a result of decreased contingent legal fees and expenses related to the patent license litigation.
Management faces challenges in fiscal 2014 to execute our plan to increase Flash-R patent portfolio license fees and monetize our Nunchi technology. The failure to obtain additional patent license revenues and a continued decline in eVU business could have a material adverse impact on our operations. Our patent licensing business is subject to significant uncertainties as to the timing and amount of future license revenues, if any.
Critical Accounting Policies and Estimates
The discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including but not limited to those related to revenue recognition, bad debts, inventory valuation, intangible assets, financing operations, warranty obligations, stock-based compensation, fair values, derivatives, income taxes, contingencies and litigation. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
We believe that, of the significant accounting policies discussed in Note 2 to our consolidated financial statements, the following accounting policies require our most difficult, subjective or complex judgments:
·revenue recognition;
·stock-based compensation expense; and
·income taxes.
We discuss below the critical accounting assumptions, judgments and estimates associated with these policies. Historically other than our estimate of foreign tax expense incurred in fiscal 2009 and recovered in fiscal 2011 as discussed below, our assumptions, judgments and estimates relative to our critical accounting policies have not differed materially from actual results. For further information on our critical accounting policies, refer to Note 2 to the consolidated financial statements included herein.
Revenue Recognition
As described below, significant management judgments must be made and used in connection with the revenue recognized in any accounting period. Material differences may result in the amount and timing of revenue recognized or deferred for any period, if management made different judgments.
We recognize revenue in accordance with ASC Topic 605, Revenue Recognition. Revenue is recognized when (i) persuasive evidence of an arrangement exists, (ii) all obligations have been substantially performed pursuant to the terms of the license agreement, (iii) amounts are fixed or determinable and (iv) collectability of amounts is reasonably assured.
We make estimates and judgments when determining whether the collectability of product, service or license fees receivable from customers is reasonably assured. We assess the collectability of our receivables based on a number of factors, including past transaction history and the credit-worthiness of customers. Management estimates regarding collectability impact the actual revenues recognized each period and the timing of the recognition of revenues. Our assumptions and judgments regarding future collectability could differ from actual events, thus materially impacting our financial position and results of operations.
Certain license agreements provide for the payment of contractually determined paid-up license fees in consideration for the grant of a non-exclusive, retroactive and future license to manufacture and/or sell products covered by our patented technologies. Generally, the execution of these license agreements also provide for the release of the licensee from certain past and future claims, and the dismissal of any pending litigation. Pursuant to the terms of these agreements, we have no further obligation with respect to the grant of the non-exclusive retroactive and future license and related releases, including no express or implied obligation to maintain or upgrade the technology, or provide future support or services. Generally, the agreements provide for the grant of the license and releases upon execution of the agreement. As such, the earnings process is generally complete upon the execution of the agreement, and as a result, revenue is recognized upon execution of the agreement, when collectability is reasonably assured, and all other revenue recognition criteria have been met. While most licenses contain similar standard provisions, management must evaluate each agreement and make judgments to assure that substantial delivery of contract elements has occurred, whether any significant ongoing obligations exist subsequent to contract execution, whether amounts due are collectible and the appropriate period or periods, in which, or during which, respectively, the completion of the earning process occurs. Depending on the magnitude of specific license agreements, if different judgments, assumptions and estimates are made regarding contracts executed in any specific period, our periodic financial results may be materially affected.
In fiscal 2010 we entered into our first licenses providing for future royalties based on future licensee activities. Licensees that pay license fees on a periodic basis are required to report to us actual activity after the activity takes place. The amount of license fees due under these license agreements each period cannot be reasonably estimated by management. Consequently, we will recognize revenue from these licensing agreements on a lag basis as royalties are reported provided amounts are fixed or determinable and collectability is reasonably assured. The lag method allows for the receipt of licensee royalty reports prior to the recognition of revenue. Differences between amounts recognized and amounts that could subsequently be audited or reported as an adjustment to those amounts will be recognized in the period such adjustment is determined as a change in accounting estimate.
Some license agreements include nonexclusive cross licenses and our policy is to value these only if directly used in operations. To date the we have not valued any cross licenses received as they were considered part of the licensee’s overall license and settlement strategy and are not used in our products. However we must evaluate each license with cross license rights to determine what is being cross licensed and if it is used in our products and this requires management to make judgments that affect our operations.
Stock-Based Compensation
ASC Topic 718, “Compensation - Stock Compensation,” or ASC 718, sets forth the accounting requirements for “stock-based” compensation payments to employees, non-employee directors and consultants and requires all stock based-payments to be recognized as expense in the statement of operations. The compensation cost for all stock-based awards is measured at the grant date, based on the fair value of the award (determined using a Black-Scholes option pricing model), and is recognized as an expense over the requisite service period (generally the vesting period of the equity award). Determining the fair value of stock-based awards at the grant date requires significant estimates and judgments, including estimating the market price volatility of our common stock, future employee stock option exercise behavior and requisite service periods. Due to our limited exercise history we applied the simplified method prescribed by SEC Staff Accounting Bulletin 110, Share-Based Payment: Certain Assumptions Used in Valuation Methods - Expected Term, to estimate expected life.
Options or stock awards issued to non-employees who are not directors are recorded at their estimated fair value at the measurement date and are periodically revalued as the options vest and are recognized as expense over the related service period on a graded vesting method. Stock options issued to consultants with performance conditions are measured and recognized when the performance is complete.
ASC Topic 718 requires stock-based compensation expense to be recorded only for those awards expected to vest using an estimated pre-vesting forfeiture rate. As such, ASC Topic 718 requires us to estimate pre-vesting option forfeitures at the time of grant and reflect the impact of estimated pre-vesting option forfeitures on compensation expense recognized. Estimates of pre-vesting forfeitures must be periodically revised in subsequent periods if actual forfeitures differ from those estimates. We consider several factors in connection with our estimate of pre-vesting forfeitures including types of awards, employee class, and historical pre-vesting forfeiture data. The estimation of stock awards that will ultimately vest requires judgment, and to the extent that actual results differ from our estimates, such amounts will be recorded as cumulative adjustments in the period the estimates are revised. If actual results differ significantly from these estimates, stock-based compensation expense and our results of operations could be materially impacted.
Refer to Notes 2 and 8 to our consolidated financial statements included in this report for more information.
Income Taxes
In preparing our consolidated financial statements, we estimate our income taxes in each of the countries in which we operate. While we believe we operate only in the United States, certain licensees have withheld taxes on license payments in foreign countries. During fiscal 2012 a total of $57,025 of foreign taxes was withheld and we determined that it was unlikely we can recover a refund of such foreign taxes withheld and that we can only use the foreign taxes as a future credit against U.S. taxes. Matters regarding foreign taxes require us to make judgments and estimates based on various assumptions and these affect our reported operations.
Our determination of income tax expense or benefit requires estimates including an assessment of the current tax expense and the effects of temporary differences resulting from the different treatment of transactions for tax and financial accounting purposes. These differences result in deferred tax assets and liabilities, which are included in our consolidated balance sheet. The Company accounts for deferred income taxes utilizing an asset and liability method, whereby deferred tax assets and liabilities are recognized based on the tax effects of temporary differences between the financial statements and the tax bases of assets and liabilities, as measured by current enacted tax rates. Deferred tax assets are reduced by a valuation allowance if it is more likely than not that some portion or all of the deferred tax asset will not be realized. We evaluate the realizability of our deferred tax assets by assessing our valuation allowance and by adjusting the amount of such allowance, if necessary. At March 31, 2013, we had net deferred tax assets primarily resulting from temporary differences between the book and tax bases of assets and liabilities, and loss and credit carry forwards. We continue to provide a 100% valuation allowance our deferred tax assets based on an assessment of the likelihood of their realization. In reaching our conclusion, we evaluated certain relevant criteria including deferred tax liabilities that can be used to offset deferred tax assets, estimates of future taxable income of appropriate character within the carry-forward period available under the tax laws, and tax planning strategies. Our judgments regarding future taxable income may change due to market conditions, changes in U.S. or international tax laws, our business and results of operations, and other factors. These changes, if any, may require material adjustments to these deferred tax assets, resulting either in a tax benefit, if it is estimated that future taxable income is likely, or a reduction in the value of the deferred tax assets, if it is determined that their value is impaired, resulting in a reduction in net income or an increase in net loss in the period when such determinations are made.
Our income tax provision is based on calculations and assumptions that will be subject to examination by the taxing authorities in the jurisdictions in which we operate. Should the actual results differ from our estimates, we would have to adjust the income tax provision in the period in which the facts and circumstances that give rise to the revision become known. Tax law and rate changes are reflected in the income tax provision in the period in which such changes are enacted.
Other
We do not have off-balance sheet transactions, arrangements or obligations. Inflation has not had any significant impact on our business.
Recently Issued Accounting Standards
See Note 2 to our consolidated financial statements included herein for a description of significant recent accounting standards. Other accounting standards have been issued or proposed by the FASB or other standards-setting bodies that do not require adoption until a future date and are not expected to have a material impact on our consolidated financial statements upon adoption.
Results of Operations
Year ended March 31, 2013 Compared to Year ended March 31, 2012
Operating income (loss) before provision for income taxes
The operating loss before income tax benefit in fiscal 2013 resulted from limited patent licensing revenues. The operating income before provision for taxes in fiscal 2012 resulted from patent license revenues. Since a significant majority of patent license revenues to date have been one-time with each licensee, they are non-recurring and accordingly there is no assurance of any future patent license revenues.
Revenues
Revenues for the year ended March 31, 2013 included $11,669 of royalty-based patent license revenues and $430,745 of eVU product and service revenues. Our product revenues have been sporadic in part as a result of industry economics including the rapid consumer adoption of portable devices resulting in reduced IFE activity. Our service revenues declined and vary depending on repair and content services provided to a changing customer mix. Loss of customers for which we provide content or maintenance and service revenue, generally without long-term agreements, would negatively impact future service revenues.
Revenues for the year ended March 31, 2012 included $4,082,500 of one-time non-recurring patent license revenue, $17,879 of royalty-based patent license revenues and $626,772 of eVU product and service revenues.
In the prior year we entered into a total of eight licenses and in the current year, there were no new licenses. License fee revenues recognized fluctuate significantly from period to period primarily based on the following factors:
·the dollar amount of agreements executed each period, which is primarily driven by the magnitude of infringement associated with a specific licensee;
·the specific terms and conditions of agreements executed each period and the periods of infringement contemplated by the respective payments; and
·fluctuations in the number of agreements executed.
In the future the following additional factors could also impact revenue variability:
·fluctuations in the sales results or other royalty per unit activities of our licensees that impact the calculation of license fees due;
·the timing of the receipt of periodic license fee payments and/or reports from licensees.
We are targeting new patent licensees but our results will continue to be dependent on the timing and amount of future patent licensing arrangements, if any.
Operating Expenses
Operating costs and expenses include cost of revenues associated with products and services and costs associated with our patent licensing and enforcement activities. Product and service costs vary depending on the related revenues and were 78% and 73% of related revenues for the fiscal years ended March 31, 2013 and 2012, respectively. Our results vary depending on the amount of revenues and margins on various arrangements along with variances in the costs required to perform related services.
Patent licensing and litigation costs of revenues include the costs and expenses incurred in connection with our licensing and enforcement activities, including contingent and non-contingent litigation costs and related enforcement support costs. Non-contingent licensing and litigation costs and related enforcement support costs may be incurred without any directly related revenues in a respective period. Generally contingent costs relate to revenues during a respective period but can vary depending on our share of certain costs and expenses.
Prior to fiscal 2013 substantially all patent licensing cost of revenues consisted of contingent legal fees and costs. Due to a change in legal representation, we incurred additional non-contingent patent licensing and litigation costs in fiscal 2013. We reclassified $90,000 of operating expenses for fiscal 2012 to patent licensing and litigation costs to conform to the current year presentation. This reclassification had no effect on previously reported operating income, results of operations or accumulated deficit.
Selling and administrative costs decreased by $96,740 from fiscal 2012 to fiscal 2013. The decrease is primarily due to no annual shareholder meeting costs in fiscal 2013 as compared to $60,000 in fiscal 2012, and reduced selling and administrative expenses including reduced rent expense of $74,495 as compared to $95,927 in fiscal 2012, a decrease of $21,432.
Research and related expenditures decreased by $128,146 from fiscal 2012 to fiscal 2013, primarily due to the decrease in patent legal fees of $161,122 due to the end of the patent reexamination cases, offset by increased consulting fees of $112,500 in fiscal 2013 compared to $90,000 in fiscal 2012. We expect future research and development costs to be comparable to the most recent year due to current staffing levels and projects. Should we elect to develop significant new products or major revisions to our existing products we may require increased internal and external research and development costs.
Income Taxes
We had a tax benefit of $59,200 for the current period reflecting an adjustment of state tax accruals related to a change in state tax apportionment factors compared to the prior year income tax expense of $117,025.
Income (loss)
The net loss for the year ended March 31, 2013 included the net loss of $1,483,296. The net income for the year ended March 31, 2012 was $1,195,072.
Liquidity and Capital Resources
At March 31, 2013, we had working capital of $1.66 million compared to working capital of $3.2 million for the prior year. We had $175,930 and $168,018 of working capital invested in accounts receivable at March 31, 2013 and 2012, respectively. Our terms to customers vary but at times we may require payment prior to shipment of product and any such payments are recorded as deposits. We expect certain airline customers to demand commercial terms such as 30 or 60 days in the future and this could increase our need for working capital. Patent license payments are normally due at signing of the license or within 30-45 days. We currently have no credit lines or debt arrangements to provide working capital other than from cash as generated from operations.
Operating Activities
For the year ended March 31, 2013, net cash decreased by $1,383,910. Cash used by operating activities was $1,395,093. Cash used by operating activities included the net loss of $1,483,296 decreased by net non-cash expenses of $25,630. Components providing operating cash were a reduction of inventory of $61,569, and increased accrued and other liabilities of $61,761, primarily resulting from an increase in deferred revenue. Components using operating cash included a $32,652 decrease in accounts payable and a $20,193 decrease in deposits and prepaids.
For the year ended March 31, 2012, net cash increased by $1,319,000. Cash provided by operating activities was $1,336,000. Cash provided by operating activities included the net income of $1,195,012 increased by net non-cash expenses of $139,000. Components providing operating cash were increases in accounts payable of $75,000 and accrued and other liabilities of $60,000, and a reduction of inventory of $70,000. Components using operating cash included a $70,000 increase in accounts receivable.
Investing Activities
The Company’s efforts are primarily on operations and currently we have no significant investing capital needs. We have no commitments requiring investment capital.
Financing Activities
We received $11,183 of proceeds from stock option exercises in fiscal 2013 and we had no investing activity transactions during the year ended March 31, 2012.
We currently have no sources of financing funding other than the potential exercise of options that generally will be dependent on higher stock prices and thus substantial uncertainty.
Debt and Other Commitments
We have no debt other than normal trade payables and accruals outstanding. We have no credit lines or access or commitments for any future debt financing.
We are committed for our office lease as more fully described in Note 10 to our consolidated financial statements.
Our legal firm, Handal and Associates, provides IP legal services in connection with licensing and prosecuting claims of infringement of our flash memory patent portfolio. Pursuant to a partial contingent fee arrangement, we are paying a monthly retainer fee of $30,000 to Handal creditable against future contingency recoveries. Handal has agreed to advance related expenses excluding experts and prior art search firms. We have agreed to pay Handal a fee equal to 33% of any license fee or settlement related to Patent Enforcement Matters, less prior retainers and expenses, and 40% if litigation is required and successful. We may terminate the representation at any time but would be obligated to pay fees and advances.
Cash Requirements
Other than cash on hand and accounts receivable, we have no material unused sources of liquidity at this time. Based on our cash position at March 31, 2013 and current planned expenditures and level of operation we believe we have sufficient capital resources for the next twelve months. Actual results could differ significantly from management plans. We believe we may be able to obtain additional funds from future patent licensing and eVU product sales and services but the timing of licenses and shipments and the amount and quantities of shipments, orders and reorders are subject to many factors and risks, many outside our control. Our operating plans may require additional funds in future periods and should additional funds not be available, we may be required to curtail or scale back operations. Potential sources of such funds include exercise of outstanding options, or debt financing or new equity offerings. However, there is no assurance that options will be exercised or that debt or equity financing will be available if and when needed. Any future financing may be dilutive to existing stockholders.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Consolidated Financial Statements of the Company required to be included in this Item 8 are set forth in a separate section of this report following Item 15 and the Signature Page commencing on Page.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
There have been no disagreements or any reportable events requiring disclosure under Item 304(b) of Regulation S-K.
ITEM 9A.
ITEM 9A. CONTROLS & PROCEDURES
We are required to maintain disclosure controls and procedures designed to ensure that material information related to us, including our consolidated subsidiaries, is recorded, processed, summarized and reported within the time periods specified in the SEC rules and forms.
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls (as defined in Rule 13a-15(e) of the Exchange Act) and procedures that are designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Management, which, by their nature, can provide only reasonable assurance regarding management’s control objectives. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
At the conclusion of the period ended March 31, 2013, we carried out an evaluation, under the supervision and with the participation of our management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures, as defined in Rule 13a-15(e) of the Exchange Act, were effective at a reasonable assurance level.
Management’s Report on Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting as of March 31, 2013 based on the guidelines established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Our internal control over financial reporting includes policies and procedures that provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external reporting purposes in accordance with generally accepted accounting principles in the United States. Based on this evaluation, management has concluded that the Company’s internal control over financial reporting was effective as of March 31, 2013.
This annual report does not include an attestation report of the Company’s independent registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by the Company’s independent registered public accounting firm pursuant to rules of the SEC that permit the company to provide only management’s report in this annual report.
Inherent Limitations on Effectiveness of Controls
Our management does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all error and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. The design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Further, because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that misstatements due to error or fraud will not occur or that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Projections of any evaluation of controls effectiveness to future periods are subject to risks. Over time, controls may become inadequate because of changes in conditions of deterioration in the degree of compliance with policies or procedures.
Changes in Internal Control Over Financial Reporting
No change in our internal controls over financial reporting occurred during our last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
ITEM 9B.
ITEM 9B. OTHER INFORMATION
None
PART III
Certain information required by this Part III is omitted from this Annual Report as we intend to file our definitive Proxy Statement for the 2013 Annual Meeting of Stockholders (the “Proxy Statement”) pursuant to Regulation 14A of the Securities Exchange Act of 1934, as amended, not later than 120 days after the end of the fiscal year covered by this Annual Report, and certain information included in the Proxy Statement is incorporated herein by reference.
ITEM 10.
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.
Directors and Executive Officers
Set forth below is information concerning our executive officers and directors as of June 1, 2013:
* Allen Cocumelli as Chairman of our Board of Directors, is technically considered as an executive officer under our bylaws. However, we do not believe that he meets the definition of an “executive officer” under Rule 16a-1(f) of the Securities Exchange Act of 1934 in that he does not perform any policy-making functions for our Company, nor is he compensated for this position.
There are no arrangements or understandings between our Company and any other person pursuant to which he was or is to be selected as a director, executive officer or nominee.
Alfred H. Falk - was promoted and appointed as President and Chief Executive Officer of the Company by the Board of Directors on January 20, 2009 when he was also appointed as a Director. Mr. Falk had been the Company’s Vice President of Corporate Development since July 2004. He formerly served as President and a member of the Board of the Company from January 1997 (and from July 1998 as Chief Executive Officer) until July 2004. From March 1995 to January 1997, he served as Vice President of Corporate Development and Vice President of OEM and International Sales. Prior to joining the Company, Mr. Falk worked for Resources Internationale as director of U.S. sales from 1993 to 1995. From 1988 to 1993, he was the manager of OEM sales and technology licensing for Personal Computer Products, Inc. From 1978 to 1988, he held several management positions at DH Technology. Mr. Falk’s extensive business experience and background, prior sales experience, and his long service with the Company including as Chief Executive Officer since 2009, qualifies him to serve on our Board.
MarDee Haring-Layton - was appointed Chief Financial Officer of the Company by the Board of Directors on December 5, 2011. She has been with the Company, on a part-time consulting basis, since July 2010. Previously, she was employed as a consultant with Resources Global Professionals, a multinational professional services firm, from 2007 to 2011. From 2005 to 2006, she was the Corporate Audit Manager at Royale Energy, Inc. Prior to Royale Energy, Ms. Haring-Layton was employed by Charlotte Russe, Inc. as Systems Control and Reporting Manager and Deloitte & Touche, LLP as an audit professional. Ms. Haring-Layton holds a B.S. in Business Administration from San Diego State University.
Eric M. Polis - was appointed a Director in October 2008 and Secretary in December 2010. He has been employed as an asset manager for privately-held Davric Corporation since 1997. He was Secretary, Treasurer and a Director of ASI Technology Corporation, a publicly traded specialty finance company, from July 2000 to May 2010. Mr. Polis is also a private investor and serves on the board of several Las Vegas non-profit organizations. He obtained a B.S. in Business Administration from the University of Arizona in 1993. Mr. Polis’ prior public company executive experience and broad general investment and business experience qualify him to serve on our Board.
Allen Cocumelli - was appointed Chairman of the Board in October 2008. He also previously served as Chairman of the Board from April 2000 to November 2002. Mr. Cocumelli has been Secretary and General Counsel of SimpleNet, Inc. since 2004. And since 1995 he has had a part-time solely owned law practice. Prior thereto, he was a Director of Website Services at Yahoo! Inc. from 2000 to 2004. Prior to joining Yahoo! Inc., Mr. Cocumelli was General Counsel of Simplenet Network Communications Inc. from 1996 and Chief Operating Officer of Simplenet Network Communications Inc. from November 1997 until 1999. Prior to joining Simplenet Network Communications Inc., Mr. Cocumelli was in the private practice of law. He previously served as a manager in the Components Manufacturing Group and as Director of Corporate Training and Development at Intel. Mr. Cocumelli obtained a B.A. degree in Industrial Psychology from the University of California, Los Angeles and a J.D. from the Thomas Jefferson School of Law. Mr. Cocumelli is a member of the California Bar Association. The Board believes that Mr. Cocumelli’s technology experience and legal background will continue to be valuable as the Company pursues its patent enforcement and licensing strategy.
Renee Warden - Ms. Warden has served as the Corporate Controller of Avantair, Inc. since 2013, and from 2011 through 2012, provided consulting services to MetLife,Inc. as a professional financial advisor. From 2009 to 2011, she served as Controller for VeriFone. From 2007 to 2009, Ms. Warden was Director of Accounting for Revolution Money, Inc. Prior to its acquisition by Crown Castles in 2007, Ms. Warden was Manager Special Projects/SOX for Global Signal, Inc. From 2005 to 2006, Ms. Warden was Vice President and Controller for Kintera, Inc. Previously, Ms. Warden was an executive officer of e.Digital Corporation. Ms. Warden joined e.Digital Corporation in 1991 as Accounting Manager, was appointed Controller and Corporate Secretary in 1997 and served as Chief Accounting Officer and Secretary from 2003 through 2005. From 1993 to 2003 Ms. Warden also held the positions of Chief Accounting Officer, Secretary and Director of Human Resources for American Technology Corporation. Ms. Warden obtained a B.S. degree in Business Accounting from the University of Phoenix in 1999. Ms. Warden’s broad financial and accounting experience positions her well to serve as a director and to fill the critical role of Audit Committee “financial expert.”
Code of Business Conduct and Ethics
We have adopted a Code of Conduct Policy applicable to all our employees, including our principal executive officer, principal financial officer and principal accounting officer. We will provide any person, without charge, a copy of our Code of Conduct Policy upon written request to Investor Relations, e.Digital Corporation, 16870 West Bernardo Drive, Suite 120, San Diego, California 92127. We also post on our website a copy of or Code of Conduct Policy at www.edigital.com.
Section 16(a) Beneficial Ownership Reporting Compliance
Based solely on a review of copies of such reports furnished to our Company and representation that no other reports were required during the fiscal year ended March 31, 2013, we believe that all persons subject to the reporting requirements pursuant to Section 16(a) filed the required reports on a timely basis with the Securities and Exchange Commission.
Stockholder Recommendations for Director Nominations
We have no nominating committee of the Board of Directors and no formal procedure for director nominations. Accordingly, there has been no change in the procedures by which security holders may recommend nominees to our board of directors since our last shareholders meeting in September 2011.
Audit Committee and Audit Committee Financial Expert
The Audit Committee, currently consisting of Ms. Warden and Mr. Cocumelli, assists our Board of Directors in discharging its responsibilities to oversee the integrity of our financial statements, our compliance with legal and regulatory requirements and the independent auditor’s qualifications and independence. It reviews the audit and control functions of the Company, the Company’s accounting principles, policies and practices and financial reporting, the scope of the audit conducted by our Company’s auditors, the fees and all non-audit services of the independent auditors and the independent auditors’ opinion and letter of comment to management and management’s response thereto. The Audit Committee is governed by a written charter adopted in 2000 and updated in 2013. The Audit Committee held four meetings during the fiscal year ended March 31, 2013.
Our Board of Directors has determined that each member of the Audit Committee is able to read and understand fundamental financial statements, including our Company’s balance sheet, income statement and cash flow statement. Our Board of Directors has also determined that Ms. Warden qualifies as an “audit committee financial expert,” as defined in applicable Securities Exchange Commission rules. The Board has determined that the Ms. Warden meets the audit committee member independence requirements applicable Securities Exchange Commission rules for exchange listed companies, Mr. Cocumelli, while determined to be an independent director, would not meet the audit committee member independence requirements for audit committee members due to his consulting with the company on legal matters (see Item 11
ITEM 11. EXECUTIVE COMPENSATION.
Compensation of our Named Executive Officers
We have identified Alfred H. Falk and MarDee Haring-Layton as our named executive officers. Allen Cocumelli, as Chairman of our Board of Directors, is technically considered as an executive officer under our bylaws. However, we do not believe that he meets the definition of an “executive officer” under Rule 16a-1(f) of the Securities Exchange Act of 1934 in that he does not perform any policy-making functions for our Company, nor is he compensated for this position. Mr. Polis serves as corporate Secretary, an executive officer position, but is not compensated for this role and is not considered an employee. He is considered a non-employee director (see “Director Compensation” below).
Summary Compensation Table
(1)Represents actual cash compensation.
(2)The value listed in the above table represents the fair value of the options granted during the year and valued under ASC 718. Fair value is calculated as of the grant date using a Black-Scholes option-pricing model. The determination of the fair value of share-based payment awards made on the date of grant is affected by our stock price as well as assumptions regarding a number of complex and subjective variables. Our assumptions in determining fair value are described in our audited consolidated financial statements for the year ended March 31, 2013, included herein.
In September 2012 the Company adopted a defined contribution plan (401(k)) covering executive officers and employees. Refer to Note 10 in our consolidated financial statements. We do not have any annuity, pension or deferred compensation plan or other arrangements for our executive officers or any employees. No named executive officer received any form of non-cash compensation from us in the fiscal year ended March 31, 2013, or currently receives any such compensation. No named executive officer received a restricted stock award, a stock appreciation right or a long-term incentive plan payout in the fiscal year ended March 31, 2013.
Outstanding Equity Awards at Fiscal Year-End
(1)These options vest 25% every six months after grant.
Option Exercises and Stock Vested Table
There were no options exercised by the Named Executive Officers during fiscal 2013. There are no pension benefits for any Named Executive Officer.
Potential Payments Upon Termination, Death, Disability, or Retirement
We have no executive employee contracts at this time. Every officer and employee is an at will employee.
Director Compensation
Our directors are reimbursed for reasonable out-of-pocket expenses incurred in attending meetings of the Board of Directors and committee meetings. Employee directors do not receive any cash compensation for services as directors and have not received any equity compensation grants designated for such services. In addition, members of the Board of Directors who are not employees receive equity compensation grants as consideration for Board and committee service from time to time. There is no established policy as to frequency or amount of equity compensation grants for non-employee directors.
The following table sets forth the compensation paid to our non-employee directors in 2013.
During fiscal 2013 the Company paid the Law Office of Allen Cocumelli, owned by director Allen Cocumelli a total of $44,000 to provide legal and consulting advice to management primarily related to managing outside legal work including patent enforcement matters. The Company has retained the Law Office of Allen Cocumelli through August 2013 at the rate of $3,000 per month for future services but the arrangement is cancellable on 30-day notice.
Compensation Committee Interlocks and Insider Participation
The Compensation Committee, currently comprised of two non-employee Board members, Allen Cocumelli and Eric M. Polis (appointed as Secretary on December 20, 2010 an uncompensated non-employee officer position), assists our Board of Directors in discharging its responsibilities in respect of compensation of our executive officers and directors. It reviews and recommends to the Board the salaries, bonuses and perquisites of our Company’s executive officers. The Compensation Committee also reviews and recommends to the Board any new compensation or retirement plans and administers such plans. No executive officer of our Company serves as a member of the Board of Directors or compensation committee of any other entity that has one or more executive officers serving as a member of our Company’s Board of Directors or Compensation Committee. The Compensation Committee held one meeting during the fiscal year ended March 31, 2013.
Our Compensation Committee has not adopted a formal charter. The Compensation Committee performs the following functions regarding compensation for the named executive officers (“ NEOs”):
·Review and approve our Company’s goals relating to Principal Executive Officer (“PEO”) compensation.
·Evaluate the PEO’s performance in light of the goals.
·Make recommendations to the Board regarding compensation to be paid to any other NEOs.
·Annually review, for all NEOs, annual base salary, bonus, long-term incentives, employment-related agreements and special benefits.
The Committee’s compensation policies are particularly designed to align executive officer and senior management salaries and bonus compensation to the individual’s performance in the short-term and to emphasize compensation from equity, primarily employee stock options, for long-term incentives.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
Common Stock
The following security ownership information is set forth, as of June 1, 2013, with respect to (i) each stockholder known by us to be beneficial owners of more than 5% of our outstanding Common Stock, (ii) each of the current directors and nominees for election as directors, (iii) each of the named executive officers reflected in the Summary Compensation Table below and (iv) all current directors, nominees and executive officers as a group (five persons). Beneficial ownership is determined under the rules of the SEC and generally includes voting or investment power over securities. Other than as set forth below, we are not aware of any other stockholder who may be deemed to be a beneficial owner of more than 5% of our Company’s Common Stock.
(1)Includes 550 shares held by son to which Mr. Falk disclaims beneficial ownership. Includes options exercisable to purchase 1,300,000 shares.
(2)Includes options exercisable to purchase 900,000 shares.
(3)Consists of options exercisable.
(4)Includes options exercisable to purchase 850,000 shares. Also includes (i) 1,888,601 shares of common stock held a Family Trust of which Mr. Polis is Trustee, (ii) 1,008,236 shares of common stock held by the Polis Family LLC of which Mr. Polis is a managing member, (iii) 25,000 shares of common stock held in a personal IRA, and (iv) 80,000 shares of common stock held as custodian for minor children. Mr. Polis disclaims beneficial ownership of the shares held as custodian for the minor children.
(5)Includes options exercisable to purchase 4,040,000 shares.
* Less than 1%
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR INDEPENDENCE.
Transactions with Related Persons
On occasion we engage in certain related party transactions. Related parties include directors and executive officers and their immediate family members and certain security holders and their immediate family members. For purposes of this disclosure related party security holders include any beneficial owner of more than five percent of either our common or preferred shares. The following are related party transactions with respect to the two fiscal years ended March 31, 2013.
On November 29, 2011, directors Allen Cocumelli, Renee Warden and Eric M. Polis were each granted options to acquire 250,000 shares of common stock exercisable at $0.022 per share until November 29, 2015, vesting 25% at grant and 25% each six months and subject other standard option plan conditions.
During the fiscal year ended March 31, 2013 there were no other (and there are no currently proposed) transactions in which the amount involved exceeded the lesser of $120,000 or 1% of the average of total assets at year end for the last two completed fiscal years to which we were (or are to be) a participant and in which any executive officer, director, nominee for director, 5% beneficial owner of our common stock or other series of voting stock or member of the immediate family of any of the foregoing persons had (or will have) a direct or indirect material interest.
Director Independence
For a director to be considered “independent,” the Board must affirmatively determine that the director has no material relationship with the Company (directly or as a partner, stockholder or officer of an organization that has a relationship with the Company). In each case, the Board considers all relevant facts and circumstances. We consider Allen Cocumelli and Renee Warden as independent.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES.
The following table describes fees for professional audit services rendered by SingerLewak LLP, our principal accountant, for the audit of our annual financial statements for the years ended March 31, 2013 and March 31, 2012 and fees billed for other services rendered by SingerLewak LLP during those periods. These amounts include fees paid to SingerLewak LLP.
1.Audit Fees include the aggregate fees paid by us during the fiscal year indicated for professional services rendered by SingerLewak LLP for the audit of our annual financial statements and review of financial statements included in our Forms 10-Q.
2.Audit Related Fees include the aggregate fees paid by us during the fiscal year indicated for assurance and related services by SingerLewak LLP that are reasonably related to the performance of the audit or review of our financial statements and not included in Audit Fees.
3.Tax Fees include the aggregate fees paid by us during the fiscal year for professional services for tax compliance, tax advice and tax planning. No such fees were billed by SingerLewak LLP for the respective periods.
4.All Other Fees include the aggregate fees paid by us during the fiscal year indicated for products and services other than the services reported above. No such fees were billed by SingerLewak LLP for the respective periods.
Audit Committee Pre-Approval Policies and Procedures
The Audit Committee on an annual basis reviews audit and non-audit services performed by the independent auditor. All audit and non-audit services are pre-approved by the Audit Committee, which considers, among other things, the possible effect of the performance of such services on the auditors’ independence. The Audit Committee has considered the role of SingerLewak LLP in providing services to us for the fiscal year ended March 31, 2013 and has concluded that such services are compatible with their independence as our Company’s auditors. The Audit Committee has established its pre-approval policies and procedures, pursuant to which the Audit Committee approved the foregoing audit services provided by SingerLewak LLP in fiscal year 2013.
PART IV
ITEM 15.
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
The following documents are filed as part of this Annual Report on Form 10-K:
(a) Consolidated Financial Statements
See “Index to Consolidated Financial Statements” on page.
(b) Exhibits
Each exhibit marked with an asterisk is filed with this Annual Report on Form 10-K. Each exhibit not marked with an asterisk is incorporated by reference to the exhibit of the same number (unless otherwise indicated) previously filed by the Company as indicated below.
*Filed concurrently herewith.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Date: June 27, 2013
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.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors
e.Digital Corporation
San Diego, CA
We have audited the accompanying consolidated balance sheets of e.Digital Corporation and subsidiary (the “Company”) as of March 31, 2013 and 2012, and the related consolidated statements of operations, stockholders’ equity and cash flows for the years then ended. 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 audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, 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 the Company as of March 31, 2013 and 2012, and the results of their operations and their cash flows for the years then ended in conformity with U.S. generally accepted accounting principles.
/s/ SingerLewak LLP
Los Angeles, CA
June 27, 2013
e.Digital Corporation and subsidiary
CONSOLIDATED BALANCE SHEETS
[See Note 1 - Nature of Operations and Basis of Presentation]
See accompanying notes to consolidated financial statements
e.Digital Corporation and subsidiary
CONSOLIDATED STATEMENTS OF OPERATIONS
[See Note 1 - Nature of Operations and Basis of Presentation]
See accompanying notes to consolidated financial statements
e.Digital Corporation and subsidiary
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
[See Note 1 - Nature of Operations and Basis of Presentation]
See accompanying notes to consolidated financial statements
e.Digital Corporation and subsidiary
CONSOLIDATED STATEMENTS OF CASH FLOWS
[See Note 1 - Nature of Operations and Basis of Presentation]
See accompanying notes to consolidated financial statements
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
1. NATURE OF OPERATIONS AND BASIS OF PRESENTATION
e.Digital Corporation is a holding company incorporated under the laws of Delaware that operates through a wholly-owned California subsidiary of the same name. The Company is developing and marketing an intellectual property portfolio including licensing and enforcing its Flash-R™ portfolio of patents related to the use of flash memory in portable devices. The Company also markets the eVU™ mobile entertainment system for the travel industry.
2. SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant accounting policies used in the preparation of these consolidated financial statements:
Reclassifications
Certain amounts included in the prior year financial statements have been reclassified to conform to the current year’s presentation. These reclassifications have no effect on the reported net income (loss).
Principles of Consolidation
These consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary, e.Digital Corporation (a company incorporated in the State of California). All significant intercompany accounts and transactions have been eliminated.
Use of Estimates
The preparation of consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods. Some of the estimates needed to be made by management include the allowance for doubtful accounts, valuation of inventory, estimated useful lives of property and equipment and intangible assets, warranty reserve, valuation of equity instruments associated with share-based compensation and for services rendered and the valuation allowance for the Company’s deferred tax asset. Actual results could materially differ from these estimates.
Segment Information
With the inception of patent license revenue in fiscal 2009, the Company determined that it has two operating segments: (1) products and services and (2) patent licensing and enforcement. Products and services consist of sales of the Company’s electronic eVU mobile entertainment device and related content services and patent licensing and enforcement consists of intellectual property revenues from the Flash-R patent portfolio. Segment information and related disclosures about the Company’s products, services, geographical areas and major customers is contained in Note 9.
Fair Value of Financial Instruments
Cash and cash equivalents are measured at fair value in the Company’s financial statements. Accounts receivable are financial assets with carrying values that approximate fair value due to the short-term nature of these assets. Accounts payable, deferred revenue and accrued and other liabilities are financial liabilities with carrying values that approximate fair value due to the short-term nature of these liabilities. Effective April 1, 2008 the Company adopted and follows Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 820, Fair Value Measurements and Disclosures (“ASC 820”) that established a fair value hierarchy that requires the company to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. A financial instrument’s categorization within the hierarchy is based on the lowest level of input that is significant to the fair value measurement. ASC 820 establishes three levels of inputs that may be used to measure fair value:
·Level 1: inputs are unadjusted quoted prices in active markets for identical assets or liabilities.
·Level 2: inputs other than level 1 that are observable, either directly or indirectly, such as quoted prices in active markets for similar assets and liabilities, quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of assets or liabilities.
·Level 3: unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
The Company’s financial assets measured at fair value on a recurring basis at March 31, 2013 are as follows:
(1)Included in cash and cash equivalents on the accompanying consolidated balance sheet.
Income (Loss) per Share
Basic earnings per common share is computed by dividing income (loss) attributable to common shareholders by the weighted-average number of shares of common stock outstanding during the period. Diluted earnings per common share is computed by dividing income (loss) attributable to common shareholders by the weighted-average number of shares of common stock outstanding during the period increased to include the number of additional shares of common stock that would have been outstanding if the potentially dilutive securities had been issued. Potentially dilutive securities consist of stock options.
At March 31, 2013, stock options exercisable into 7,145,000 shares of common stock were outstanding (2012- options exercisable into 7,355,000 shares of common stock were outstanding). Dilutive securities were not included in the computation of diluted loss per share for the year ended March 31, 2013 because they are antidilutive. Dilutive securities could potentially dilute earnings (loss) per share in future years.
The following table presents the calculation of basic and diluted net income (loss) per share:
Employee equity share options, granted by the Company are treated as potential common shares outstanding in computing diluted earnings per share. Diluted shares outstanding include the dilutive effect of in-the-money options. The dilutive effect of such equity awards is calculated based on the average share price for each fiscal period using the treasury stock method. Under the treasury stock method, the amount the employee must pay for exercising stock options, the amount of compensation cost for future service that the Company has not yet recognized, and the amount of tax benefits that would be recorded in additional paid-in capital when the award becomes deductible are collectively assumed to be used to repurchase shares.
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
Concentration of Credit Risk and Sources of Supply
Financial instruments that potentially subject the Company to concentration of credit risk consist principally of cash and cash equivalents and trade receivables. The Company maintains cash and cash equivalent accounts with Federal Deposit Insurance Corporation (“FDIC”) insured financial institutions. Certain of the Company’s accounts are each insured up to $250,000 by the FDIC. The Company’s exposure for amounts in excess of FDIC insured limits at March 31, 2013 was approximately $1.5 million. The Company has not experienced any losses in such accounts. The Company does not believe that it is subject to any unusual financial risk beyond the normal risk associated with commercial banking relationships. The Company performs periodic evaluations of the relative credit standing of these financial institutions. The Company has not experienced any significant losses on its cash equivalents.
Concentrations of credit risk with respect to trade accounts receivable are limited due to the number and nature of customers comprising the Company’s customer base and their geographic dispersion. The Company has not incurred any significant credit related losses.
The Company relies on one third-party contract manufacturer to produce its eVU mobile entertainment product and generally relies on single suppliers for batteries, charging stations and other components. The Company also relies on one legal firm to represent it in patent licensing and enforcement matters.
Guarantees and Indemnifications
The Company enters into standard indemnification agreements in the ordinary course of business. Some of the Company’s product sales and services agreements include a limited indemnification provision for claims from third parties relating to the Company’s intellectual property. Such indemnification provisions are accounted for in accordance with ASC 450, Contingencies. The indemnification is generally limited to the amount paid by the customer. To date, there have been no claims under such indemnification provisions.
The Company provides a one-year limited warranty for most of its products.
Revenue Recognition
The Company recognizes revenue in accordance with ASC Topic 605, Revenue Recognition. Revenue is recognized when (i) persuasive evidence of an arrangement exists, (ii) all obligations have been substantially performed pursuant to the terms of the license agreement, (iii) amounts are fixed or determinable and (iv) collectability of amounts is reasonably assured. The Company’s segments have the following revenue recognition policies:
Products and Services
The Company recognizes product revenue upon shipment of a product to the customer, FOB shipping point, or upon acceptance by the customer depending on the specific contract terms, if a signed contract exists, the fee is fixed and determinable, collection of resulting receivables is probable and there are no resulting obligations. Service revenue is recognized once the services have been delivered, the fee is fixed and determinable, collection of the resulting receivable is probable and there are no resulting obligations. If all of the service or product has been delivered and there is one element that is more than perfunctory to the services or product that has not been delivered, revenue will be deferred and recognized evenly over the remaining term of the undelivered element.
Service revenues may include revenue from coding, encrypting and integrating content for periodic uploading to hardware players. Revenue is recognized upon acceptance of the content master file by the customer if the fee is fixed and determinable, collection of the resulting receivables is probable and there are no resulting obligations.
Revenue from separately priced extended warranty or product replacement arrangements is deferred and recognized to income on a straight-line basis over the contract period. The Company evaluates these arrangements to determine if there are excess costs greater than future revenues to be recorded as a loss.
Funds received in advance of meeting the criteria for revenue recognition are deferred and are recorded as revenue as they are earned. Any amounts related to periods beyond twelve months are considered long-term deferred revenue.
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
Patent Licensing and Enforcement
The Company’s patent licensing operations include the licensing and enforcement of its patented technologies. These activities include the negotiation of licensing arrangements with users of patented technologies to realize a fair and reasonable license fee for all applicable periods (periods prior to and subsequent to the execution of the license agreement). In most instances to date, the Company has initiated patent litigation against infringers who are otherwise unwilling to engage in licensing negotiations, or in cases where a disagreement exists regarding whether or not infringement exists.
Revenues generated from license agreements are recognized in the period earned, provided that amounts are fixed or determinable and collectability is reasonably assured. The Company applies the guidance of SEC Staff Accounting Bulletin Topic 13.A.3(f), Nonrefundable Up-Front Fees, to its patent license and settlement agreements using the specific performance method analogous to the sale of an asset in such literature as ASC 840, Leases and ASC 926-605, Entertainment - Films, Revenue Recognition. At the time the Company enters into a contract and provides the customer with the licensed technology the Company has performed all of its obligations under contract, the rights to the Company’s technology have been transferred and no significant performance obligations remain. The Company’s licences are perpetual in nature, extending until the expiration of the related patents. The execution of license agreements also provides for the release of the licensee from certain claims, the dismissal of any pending litigation and covenants not to sue. Pursuant to the terms of these agreements, the Company has no further obligation with respect to the grant of the license and related releases, including no express or implied obligation to maintain or upgrade the technology, or provide future support or services.
Most of the Company’s patent licenses have provided for a contractually determined one time fully paid up license in consideration for the grant of a non-exclusive, retroactive and future license to manufacture and/or sell products covered by patented technologies owned by the Company. The Company also has license agreements providing for future royalties based on future licensee activities. Licensees that pay license fees on a periodic basis generally report actual activity after the activity takes place. The amount of license fees due under these license agreements each period cannot be reasonably estimated by management. Consequently, the Company recognizes revenue from these licensing agreements on a lag basis as royalties are reported provided amounts are fixed or determinable and collectability is reasonably assured. The lag method allows for the receipt of licensee royalty reports prior to the recognition of revenue.
The Company considers its licensing and enforcement activities as one unit of accounting under ASC 605-25, Multiple-Element Arrangements as the delivered items do not have value to customers on a stand alone basis, there are no undelivered elements and there is no general right of return relative to the license. Under ASC 605-25, the appropriate recognition of revenue is determined for the combined deliverables as a single unit of accounting and revenue is recognized upon delivery of the final elements, including the license for past and future use and the release. Also due to the fact that the settlement element and license element for past and future use are the major business activities of the Company’s licensing segment, the Company does not present these two elements as different revenue streams in its consolidated statement of operations. The Company does not expect to provide licenses that do not provide some form of settlement or release.
The Company evaluates each new license agreement for revenue recognition in accordance with the above criteria and applicable literature.
The Company values nonexclusive cross licenses received only if directly used in operations. To date the Company has not valued any cross licenses received as they were considered part of the customer’s overall license and settlement strategy and are not used in the Company’s products.
Costs of Revenues
Patent licensing and litigation costs of revenues include the costs and expenses incurred in connection with the Company’s licensing and enforcement activities, consisting mostly of non-contingent litigation costs and related enforcement support costs. Contingent legal fees and expenses are expensed in the period that the related revenues are recognized however legal fees and costs advanced or required to be paid in the event no recoveries are obtained are expensed as incurred and included in patent licensing and litigation costs in the consolidated statement of operations.
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
Prior to fiscal 2013 substantially all patent licensing cost of revenues consisted of contingent legal fees and costs. Due to a change in legal representation, the Company began incurring additional outside non-contingent patent licensing and litigation costs in fiscal 2013. In connection with this change we also changed the reporting of related internal litigation support costs as licensing and litigation costs. The Company reclassified $90,000 of operating expenses for fiscal 2012 to patent licensing and litigation costs to conform to the current year presentation. This reclassification had no effect on previously reported operating income, results of operations or accumulated deficit.
Deferred Revenue, Deposits and Prepaid Expenses
Deferred revenue and deposits relates primarily to prepaid extended warranty arrangements and product sales or services paid but not delivered at period end. The Company has certain customer arrangements providing for multiple year content services. To the extent deferred services are to be provided beyond twelve months they are treated as long-term. Prepaid expenses are recorded at amounts paid to suppliers or others. Amounts recorded are evaluated for impairment each reporting period.
Shipping and Handling Costs and Sales Taxes
Amounts paid by customers for shipping and handling and for sales taxes are included in product revenues. Actual shipping and handling costs and sales taxes are included in product cost of revenues.
Inventory
Inventory is recorded at the lower of cost and net realizable value. The cost of substantially all our inventory is determined by the weighted average cost method. Carrying value of inventory is periodically reviewed and impairments, if any, are recognized when the expected benefit is less than carrying value. The Company writes its inventory down for estimated obsolescence or lack of marketability equal to the difference between cost of inventory and the net realizable value based upon assumptions about future selling prices, demand, technology developments and market conditions. We also maintain a substantial number of finished goods that we have determined to be slow-moving and have classified this portion of inventory as a long-term asset.
Property and Equipment
Property and equipment are recorded at cost. Depreciation and amortization are provided on the straight-line method over the estimated useful lives of the related assets, ranging from 3 to 7 years or, in the case of leasehold improvements, over the lesser of the useful life of the related asset or the lease term. When assets are sold or retired, the cost and accumulated depreciation are removed from the respective accounts and any gain or loss on the disposition is credited or charged to income. Maintenance and repair costs are charged to operations when incurred. The Company reviews the carrying amount of fixed assets whenever events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable in accordance with ASC 360-10-35, Impairment or Disposal of Long-Lived Assets.
Intangible Assets
Intangible assets are recorded at cost, less accumulated amortization. These costs are capitalized and amortized on a
straight-line basis over the estimated periods benefited by the asset. The Company assesses the recoverability of any affected long-lived assets in accordance with ASC 350-30-35-14 by determining whether the carrying value of such assets can be recovered through undiscounted future operating cash flows.
Advertising
Advertising costs are charged to expense as incurred. The Company expensed $180 and $0 for the years ending March 31, 2013 and 2012, respectively.
Research and Development Costs
Research and development costs are expensed as incurred.
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
Warranty Liability
The Company warrants its products to be free from defects in materials and workmanship for a period ranging up to one year from the date of purchase, depending on the product. The warranty is generally a limited warranty, and in some instances imposes certain shipping costs on the customer. The Company currently provides warranty service directly and through subcontractors. Some agreements with customers require certain quantities of product be made available for use as warranty replacements. International market warranties are generally similar to the U.S. market.
The Company establishes a warranty reserve based on anticipated warranty claims at the time product revenue is recognized. Factors affecting warranty reserve levels include the number of units sold and anticipated cost of warranty repairs and anticipated rates of warranty claims. The Company evaluates the adequacy of the provision for warranty costs each reporting period. See Note 5 for additional information regarding warranties.
Leases
Leases entered into are classified as either capital or operating leases. Leases, which substantially transfer all benefits and risks of ownership of property to the Company, are accounted for as capital leases. At the time a capital lease is entered into, an asset is recorded together with its related long-term obligation to reflect the purchase and financing. Rental payments under operating leases are expensed as incurred.
Income Taxes
The Company accounts for income taxes using the asset and liability method, the objective of which is to establish deferred tax assets and liabilities for the temporary differences between the amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards at enacted tax rates expected to be in effect when such amounts are realized or settled. A valuation allowance related to deferred tax assets is recorded when it is more likely than not that some portion or all of the deferred tax assets will not be realized. The Company provides a full valuation reserve related to its net deferred tax assets. In the future, if sufficient evidence of an ability to generate sufficient future taxable income in certain tax jurisdictions becomes apparent, the Company may be required to reduce the valuation allowances, resulting in income tax benefits in the consolidated statement of operations. The Company evaluates the realizability of the deferred tax assets and assesses the need for valuation allowance quarterly. The utilization of the net operating loss carry forwards could be substantially limited due to restrictions imposed under federal and state laws upon a change in ownership. The Company has experienced various ownership changes as a result of past financings and could experience future ownership changes.
Upon the adoption of accounting for uncertainty in income taxes, as of April 1, 2007 the Company recognized no adjustment for uncertain tax provisions and the total amount of unrecognized tax benefits as of April 1, 2007 was $-0-. At the adoption date of April 1, 2007, deferred tax assets were fully reserved by a valuation allowance to reduce the deferred tax assets to zero, the amount that more likely than not is expected to be realized.
The Company recognizes interest and penalties related to uncertain tax positions as part of the provision for income taxes. As of March 31, 2013, the Company had not recorded any provisions for accrued interest and penalties related to uncertain tax positions.
The tax years 2008 through 2012 remain open under the statute of limitations to examination by the major tax jurisdictions to which we are subject. However, due to net operating loss carryforwards (“NOL”) from prior periods, the Internal Revenue Service (IRS) could potentially review the losses related to NOL-generating years back to 1994.
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
Stock-based Compensation
The Company has adopted stock plans as summarized in Note 8. The Company measures all employee stock-based compensation awards using a fair-value method and recording of such expense in the consolidated financial statements over the requisite service period. The Company records the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award. That cost is recognized over the period during which an employee is required to provide service in exchange for the award-the requisite service period (usually the vesting period). Options or stock awards issued to non-employees who are not directors of the Company are recorded at their estimated fair value at the measurement date and are periodically revalued as the options vest and are recognized as expense over the related service period on a graded vesting method. Stock options issued to consultants with performance conditions are measured and recognized when the performance is complete.
The Company recorded $20,221 and $12,681 of stock-based compensation expense for the years ended March 31, 2013 and 2012, respectively. The amounts of stock-based compensation expense are classified in the consolidated statements of operations as follows:
While certain research and development personnel costs are allocated to cost of revenues for proportionate time spent on product and content services, the amounts of related stock-based compensation costs are not considered significant.
Comprehensive Income (Loss)
Comprehensive income (loss) is defined to include all changes in equity except those resulting from investments by owners and distributions to owners. For the years ended March 31, 2013 and 2012, there were no material differences between comprehensive income (loss) and net income (loss) for the respective years.
New Accounting Pronouncements
There have been no recent accounting pronouncements or changes in accounting pronouncements during the year ended March 31, 2013, or subsequently thereto, that the Company believes are of potential significance to its financial statements.
3. INVENTORIES
Inventories consist of the following:
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
The foregoing is net of an aggregate lower-of-cost-or-market inventory adjustment of $84,150 at March 31, 2013 and $65,459 at March 31, 2012.
4. PROPERTY, EQUIPMENT AND INTANGIBLES
Property and equipment consisted of the following:
Intangible assets consisted of the following:
5. ACCRUED AND OTHER LIABILITIES
Accrued liabilities consisted of the following:
Details of the estimated warranty liability are as follows:
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
6. INCOME TAXES
Details of the income tax provision (benefit) for the years ended March 31, 2013 and 2012 are as follows:
Details of tax provision (benefit) are as follows:
The Company recorded a tax benefit of $59,200 reflecting an adjustment of state tax accruals related to a change in state tax apportionment factors.
The Company has U.S. federal NOL carryforwards available at March 31, 2013 of approximately $24,000,000 (2012 - $22,000,000) that will begin to expire in 2013. The Company has state net operating loss carryforwards of $16,500,000 (2012 - $18,000,000) that will begin to expire in 2013. The difference between federal and state net operating loss carryforwards is due to certain percentage limitations of California loss carryforwards and to expired California carryforwards. The foreign taxes paid create a foreign tax credit carryover that will be available to offset federal tax expense in future years, subject to certain limitations. The foreign tax credit carryover expires beginning in 2021.
Utilization of the NOL and any R&D credit carryforwards may be subject to a substantial annual limitation under Section 382 of the Internal Revenue Code (“IRC”) of 1986 and similar state provisions, due to changes in ownership of the Company that have occurred previously or that could occur in the future. These ownership changes may limit the amount of NOL and R&D credit carryforwards that can be utilized annually to offset future taxable income and tax, respectively. In general, an ownership change, as defined by Section 382, results from transactions increasing the ownership of certain shareholders or public groups in the stock of a corporation by more than 50 percentage points over a three-year period. Since the date of currently available NOLs from fiscal 1996, the Company has raised capital through the issuance of capital stock using multiple types of securities on multiple occasions which, the Company believes, caused multiple ownership changes as defined by Section 382. The Company has performed a 382 analysis to assess whether ownership changes have occurred which would limit the Company’s utilization of its NOLs and any R&D credits carryforwards. Based on this analysis, the Company determined that no ownership changes have occurred since March 31, 2000. Accordingly, NOL carryforwards generated during the 2001 through 2013 fiscal years, are generally not subject to Section 382 limitations and the Company will be able to utilize such NOLs and any R&D carryforwards provided it generates sufficient future earnings. Future ownership changes may limit the Company’s ability to fully utilize these tax benefits. Accordingly, the Company has recorded the deferred tax assets associated with such federal NOLs, related state NOLs, and R&D tax credits along with a corresponding valuation allowance.
During the year ended March 31, 2010 the Company completed a study of prior year R&D credits and updated its related unrecognized tax benefits. Due to the existence of the valuation allowance, this change and future changes in the Company’s unrecognized tax benefits will not impact its effective tax rate.
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
Significant components of the Company’s deferred tax assets as of March 31, 2013 and 2012 are shown below. A valuation allowance of $11,166,000 and $10,705,000 was established at March 31, 2013 and 2012 respectively, to offset the net deferred tax assets as realization is uncertain. When and if the Company can sustain consistent profitability and management determines that it is more likely than not that the Company will be able to utilize the deferred tax assets prior to their expiration, the valuation allowance may be reduced or eliminated.
The difference between the provision for income taxes (benefit) and the amount computed by applying the U.S. federal income tax rate for the years ended March 31, 2013 and 2012 is as follows:
7. CAPITAL STOCK
Authorized Capital
The authorized capital of the Company consists of 350,000,000 common shares with a par value of $.001 per share and 5,000,000 preferred shares with a par value of $10.00 per share. The issued common stock of the Company consisted of 293,186,908 and 293,003,158 common shares as of March 31, 2013 and 2012, respectively. The Company has no shares of preferred stock outstanding at March 31, 2013 or 2012.
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
8. BENEFIT PLANS AND STOCK-BASED COMPENSATION
Stock Plan and Awards
The Company has stock options outstanding under its 2005 Equity-Based Compensation Plan covering a maximum of 10,000,000 common shares. The Company may grant incentive options, nonstatutory options, stock appreciation rights or restricted stock awards to employees, directors or consultants until 2015. At March 31, 2013 there were options outstanding on 7,145,000 common shares pursuant to the 2005 Plan with options on 2,296,750 shares available for future grant under the 2005 Plan plus any future forfeitures or cancellations from the 2005 Plan options currently outstanding.
Stock-Based Compensation
The grant-date fair value of employee share options and similar instruments is estimated using a Black-Scholes option-pricing model. The following table sets forth the weighted-average key assumptions and fair value results for stock options granted during the year ended March 31, 2012 (annualized percentages). No options were granted during the year ended March 31, 2013.
The dividend yield of zero is based on the fact that the Company has never paid cash dividends and has no present intention to pay cash dividends. Expected volatility is based on the historical volatility of the common stock over the period commensurate with the expected life of the options. The Company has a small number of option grants and limited exercise history and accordingly has for all new option grants applied the simplified method prescribed by SEC Staff Accounting Bulletin 110, Share-Based Payment: Certain Assumptions Used in Valuation Methods - Expected Term, to estimate expected life (computed as vesting term plus contractual term divided by two). The expected forfeiture rate is estimated based on historical experience and is assumed at 0.0% for nonemployees and certain long-term employees and 5.0% for other employees. Additional expense is recorded when the actual forfeiture rates are lower than estimated and a recovery of prior expense will be recorded if the actual forfeitures are higher than estimated.
Since the Company has a net operating loss carryforward as of March 31, 2013, no excess tax benefit for the tax deductions related to stock-based awards was recognized for the year ended March 31, 2013. Additionally, no incremental tax benefits were recognized from stock options exercised during the year ended March 31, 2013 or 2012 that would have resulted in a reclassification to reduce net cash provided by operating activities with an offsetting increase in net cash provided by financing activities.
As of March 31, 2013 total estimated compensation cost of options granted but not yet vested was approximately $2,645 and is expected to be recognized over the weighted average period of 0.2 years.
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
Stock Option Summary Information
The following table summarizes stock option transactions:
The following table summarizes the number of options exercisable at March 31, 2013 and the weighted average exercise prices and remaining contractual lives of the options.
9. SEGMENT INFORMATION
With the inception of patent license revenue in fiscal 2009, the Company determined that it has two operating segments: (1) products and services and (2) patent licensing and enforcement. Products and services consist of sales of the Company’s electronic eVU mobile entertainment device and related content services and patent licensing and enforcement consists of intellectual property revenues from patent licensing.
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
Reportable segment information for the years ended March 31, 2013 and 2012 is as follows:
As described in Note 2, the Company reclassified $90,000 of operating expenses for fiscal 2012 to patent licensing and litigation costs to conform to the current year presentation thereby reducing the previously reported segment income by the same amount. This reclassification had no effect on previously reported operating income, results of operations or accumulated deficit.
The Company does not have significant assets employed in the patent license segment and does not track capital expenditures, assets, research or selling and administrative costs by reportable segment. Consequently there is no disclosure of this information.
Revenue by geographic region is determined based on the location of the Company’s direct customers or distributors for product sales and services. Patent license revenue is considered United States revenue as payments are for licenses for United States operations irrespective of the location of the licensee’s or licensee’s parent home domicile.
Revenues from four customers (31%, 22%, 14% and 11%) each accounted for more than 10% of revenues for the year ended March 31, 2013. Revenues from four licensees (21%, 21%, 22% and 10%) each accounted for more than 10% of revenues for the year ended March 31, 2012. Accounts receivable from three parties comprised 45%, 29% and 10% of net accounts receivable at March 31, 2013. Accounts receivable from three parties comprised 45%, 22% and 14% of net accounts receivable at March 31, 2012.
e.Digital Corporation
Notes to Consolidated Financial Statements
March 31, 2013
10. COMMITMENTS AND CONTINGENCIES
Legal Matters
Intellectual Property Litigation
In October 2012 the Company commenced new rounds of enforcement action with respect to its patent portfolio and to date has active a total of fourteen complaints in the U.S. District Court for the Southern District of California, asserting that products made and sold by the defendant companies infringe the Company’s U.S. patents covering the use of Flash-R portfolio.
Commitment Related to Intellectual Property Legal Services
In September 2012 the Company terminated the legal representation of Duane Morris LLP related to Flash-R™ patent enforcement activities. The Company remains obligated to pay contingency fees on certain future royalty payments from previous matters.
In September 2012 the Company engaged Handal and Associates (“Handal”) to provide IP legal services in connection with licensing and prosecuting claims of infringement of the Company’s flash memory patent portfolio (“Patent Enforcement Matters”). Pursuant to a partial contingent fee arrangement, the Company is paying a monthly retainer fee of $30,000 to Handal creditable against future contingency recoveries. Handal has agreed to advance related expenses excluding experts and prior art search firms. The Company has agreed to pay Handal a fee equal to 33% of any license fee or settlement related to Patent Enforcement Matters, less prior retainers and expenses, and 40% if litigation is required and successful. The Company may terminate the representation at any time but would be obligated to pay fees and advances.
Facility Lease
In January 2012, the Company entered into a sixty-two month facility lease for its corporate office location, commencing May 1, 2012, for approximately 3,253 square feet at 16870 West Bernardo Drive, Suite 120, San Diego, California. The aggregate monthly payment is $5,693 excluding utilities and costs. The aggregate payments adjust annually with maximum payments totaling $7,157 in the forty-ninth through sixty-second months. Future lease commitments at March 31, 2013 total $331,484. The Company recognizes rent expense by the straight-line method over the lease term. As of March 31, 2013, deferred rent totaled $28,708.
Employee Benefit - 401K Plan
In September 2012, the Company adopted a defined contribution plan (401(k)) covering its employees. Matching contributions are made on behalf of all participants, according to the Safe Harbor provision. The Company matches 100% (dollar for dollar) on deferrals of up to 4% of employee compensation deferred. As of March 31, 2013, the Company made matching contributions totaling $9,603.