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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C.
FORM 10-QSB/A
(Amendment No.1)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For Quarter Ended March 31, 2007
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Transition Period From ___ to
Commission File Number: 0-28498
PARADIGM MEDICAL INDUSTRIES, INC.
(Exact name of registrant as specified in its charter)
Delaware 87-0459536
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2355 South 1070 West, Salt Lake City, Utah 84119
(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code: (801) 977-8970
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [ ] No [X]
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes [ ] No [ X ]
State the number of shares outstanding of each of the registrant's
classes of common equity, as of the latest practicable date:
Common Stock, $.001 par value 205,986,625
---------------
Title of Class Number of Shares
Outstanding as of
May 14, 2007
ii
PARADIGM MEDICAL INDUSTRIES, INC.
FORM 10-QSB
FOR THE QUARTER ENDED MARCH 31, 2007
INDEX
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements............................................... 1
Condensed Balance Sheet (unaudited) - March 31, 2007............... 1
Condensed Statements of Operations (unaudited) for
the three months ended March 31, 2007 and
March 31, 2006................................................... 2
Condensed Statements of Cash Flows (unaudited) for
the three months ended March 31, 2007 and March 31,
2006 ............................................................ 3
Notes to Condensed Financial Statements (unaudited)................ 4
Item 2. Management's Discussion and Analysis or
Plan of Operation ............................................... 10
Item 3. Controls and Procedures .......................................... 15
PART II - OTHER INFORMATION
Item 1. Legal Proceedings.................................................. 15
Item 2. Unregistered Sales of Equity Securities and Use of
Proceeds......................................................... 16
Item 3. Defaults Upon Senior Securities.................................... 18
Item 4. Submission of Matters to a Vote of Security Holders............... 19
Item 5 Other Information.................................................. 19
Item 6. Exhibits and Reports on Form 8-K................................... 19
Signature Page ............................................................. 21
ii
PARADIGM MEDICAL INDUSTRIES, INC.
CONDENSED BALANCE SHEET
(UNAUDITED)
March 31, 2007
---------------
ASSETS
Current Assets
Cash and Cash Equivalents $ 66,000
Receivables, Net 471,000
Inventory 841,000
Prepaid Expenses 38,000
---------------
Total Current Assets 1,416,000
Intangibles, Net 339,000
Property and Equipment, Net 19,000
---------------
Total Assets $ 1,774,000
===============
LIABILITIES AND STOCKHOLDERS' DEFICIT
Current Liabilities:
Trade Accounts Payable $ 411,000
Accrued Expenses 882,000
---------------
Total Current Liabilities 1,293,000
Convertible Notes Payable 2,653,000
---------------
Total Long-term Liabilities 2,653,000
---------------
Total Liabilities 3,946,000
---------------
Commitments -
Stockholders' Deficit:
Preferred Stock, Authorized:
5,000,000 shares, $.001 par value
Series A
Authorized: 500,000 shares; issued and
outstanding: 5,627 shares at March 31, 2007 -
Series B
Authorized: 500,000 shares; issued and
outstanding: 8,986 shares at March 31, 2007 -
Series C
Authorized: 30,000 shares; issued and
outstanding: zero shares at March 31, 2007 -
Series D
Authorized: 1,140,000 shares; issued and
outstanding: 5,000 shares at March 31, 2007 -
Series E
Authorized: 50,000 shares; issued and
outstanding: 250 shares at March 31, 2007 -
Series F
Authorized: 50,000 shares; issued and
outstanding: 4,398.75 shares at March 31, 2007 -
Series G
Authorized: 2,000,000 shares; issued and
outstanding: 588,235 shares at March 31, 2007 1,000
Common Stock, Authorized:
800,000,000 shares, $.001 par value; issued and
outstanding: 203,986,625 at March 31, 2007 204,000
Additional Paid-in-capital 61,883,000
Accumulated Deficit ($64,260,000)
---------------
Total Stockholders' Deficit ($2,172,000)
---------------
Total Liabilities and Stockholders' Deficit $ 1,774,000
===============
The accompanying notes are an integral part to these
condensed financial statements
1
PARADIGM MEDICAL INDUSTRIES, INC.
CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Ended March 31,
2007 2006
Sales $ 397,000 $ 463,000
Cost of Sales 225,000 222,000
------------- ---------------
Gross Profit 172,000 241,000
Operating Expenses:
General and Administrative 189,000 250,000
Marketing and Selling 115,000 78,000
Research, development and service 64,000 124,000
------------- ---------------
Total Operating Expenses 368,000 452,000
------------- ---------------
Operating Loss (196,000) (211,000)
------------- ---------------
Other Income and (Expense):
Other Income 1,000 2,000
Other Expense (1,000) (3,000)
Interest Expense (52,000) (544,000)
------------- ---------------
Total Other Expense (52,000) (545,000)
Net Loss Before Provision for Income Taxes (248,000) (756,000)
Provision for Income Taxes - -
------------- ---------------
Net Loss $ (248,000) $ (756,000)
============= ===============
Earnings (loss) Per Common Share - Basic $ (0.00) $ (0.01)
------------- ---------------
Earnings (loss) Per Common Share - Diluted $ (0.00) $ (0.01)
------------- ---------------
Weighted Average Common Share - Basic 203,306,000 124,647,000
------------- ---------------
Weighted Average Common Share - Diluted 203,306,000 124,647,000
------------- ---------------
The accompanying notes are an integral part to these
condensed financial statements
2
PARADIGM MEDICAL INDUSTRIES, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Three Months Ended March 31,
2007 2006
Cash Flows from Operating Activities:
------------------------------------
Net Loss $ (248,000) $ (756,000)
Adjustment to Reconcile Net Loss to Net
Cash Used In Operating Activities:
Depreciation and Amortization 2,000 16,000
Stock Option Valuation - 23,000
Beneficial Conversion Interest - 482,000
Issuance of Stock Options and Warrants
for Services - 18,000
Provision for Losses on Receivables (10,000) 1,000
Provision for Losses on Inventory - 25,000
(Increase) Decrease from Changes in:
Accounts Receivable (51,000) 80,000
Inventories 104,000 8,000
Prepaid and Other Expenses (27,000) (50,000)
Increase (Decrease) from Changes in:
Trade Accounts Payable 11,000 (27,000)
Accrued Liabilities 79,000 28,000
------------- ---------------
Net Cash Used in Operating Activities (140,000) (152,000)
------------- ---------------
Cash Flow from Investing Activities:
-----------------------------------
Acquisition of Property and Equipment - (5,000)
------------- ---------------
Net Cash Provided by (Used in)
Investing Activities - (5,000)
------------- ---------------
Cash Flows from Financing Activities:
------------------------------------
Principal Payments on Notes Payable
and Long-term Debt - (9,000)
Proceeds from Issuance of Convertible
Notes - 500,000
------------- ---------------
Net Cash (Used) Provided by Financing
Activities - 491,000
------------- ---------------
Net Change in Cash (140,000) 334,000
Cash, Beginning of Period 206,000 66,000
------------- ---------------
Cash, End of Period $ 66,000 $ 400,000
============= ===============
Supplemental Disclosure of Cash Flow Information:
Cash Paid for Interest $ 1,000 $ 1,000
------------- ---------------
Cash Paid for Income Taxes $ - $ -
------------- ---------------
The accompanying notes are an integral part to these
condensed financial statements
3
PARADIGM MEDICAL INDUSTRIES, INC.
NOTES TO FINANCIAL STATEMENTS
(UNAUDITED)
Significant Accounting Policies
-------------------------------
The accompanying condensed financial statements of the Company have
been prepared by the Company, without audit, pursuant to the rules and
regulations of the Securities and Exchange Commission. Certain information and
disclosures normally included in financial statements prepared in accordance
with accounting principles generally accepted in the United States have been
condensed or omitted pursuant to such rules and regulations. These condensed
financial statements reflect all adjustments (consisting only of normal
recurring adjustments) that, in the opinion of management, are necessary to
present fairly the results of operations of the Company for the periods
presented. These condensed financial statements should be read in conjunction
with the financial statements and the notes thereto included in the Company's
Form 10-KSB for the year ended December 31, 2006. The results of operations for
the three months ended March 31, 2007, are not necessarily indicative of the
results that may be expected for the fiscal year ending December 31, 2007.
Going Concern
-------------
The accompanying financial statements have been prepared on a going
concern basis, which contemplates the realization of assets and the satisfaction
of liabilities in the normal course of business. Historically, the Company has
not demonstrated the ability to generate sufficient cash flows from operations
to satisfy its liabilities and sustain operations, and the Company has incurred
significant losses. These factors raise substantial doubt about the Company's
ability to continue as a going concern.
The Company's continuation as a going concern is dependent on its
ability to generate sufficient income and cash flow to meet its obligations on a
timely basis and/or obtain additional financing as may be required. The Company
is actively seeking options to obtain additional capital and financing.
In addition, the Company has taken significant steps to reduce costs
and increase operating efficiencies. Specifically, the Company has significantly
reduced the use of consultants, which has resulted in a large decrease in
expenses. In addition, the Company has reduced the number of its direct sales
representatives, which has resulted in less payroll, travel and other expenses.
Although these cost savings have significantly reduced the Company's losses and
ongoing cash flow needs, if the Company is unable to obtain equity or debt
financing, it may be unable to continue development of its products and may be
required to substantially curtail or cease operations.
Net Loss Per Share
------------------
Net loss per common share is computed on the weighted average number of
common and common equivalent shares outstanding during each period. Common stock
equivalents consist of convertible preferred stock, common stock options and
warrants. Common equivalent shares are excluded from the computation when their
effect is anti-dilutive. Other common stock equivalents consisting of options
and warrants to purchase 32,059,392 and 30,164,690 shares of common stock and
preferred stock convertible into 858,688 and 909,000 shares of common stock at
March 31, 2007 and 2006, respectively, have not been included in loss periods
because they are anti-dilutive.
For the three months ended March 31, 2007, the options and warrants to
purchase 32,059,392 shares of common stock were excluded because of the treasury
stock method.
The following table is a reconciliation of the net loss numerator of
basic and diluted net loss per common share for the three month periods ended
March 31, 2007 and March 31, 2006:
4
Three Months Ended
March 31,
2007 2006
------------- --------------
Basic weighted average shares outstanding 203,306,000 124,647,000
Common stock equivalents - convertible
preferred stock 859,000 909,000
------------- --------------
Diluted weighted average shares outstanding 204,165,000 125,556,000
============= ==============
Convertible Notes
-----------------
April 27, 2005 Sales of $2,500,000 in Convertible Notes. To obtain
funding for the Company's ongoing operations, the Company entered into a
securities purchase agreement with four accredited investors on April 27, 2005
for the sale of (i) $2,500,000 in convertible notes and (ii) warrants to
purchase 16,534,392 shares of its common stock. The sale of convertible notes
and warrants occurred in three traunches and the investors provided the Company
with an aggregate of $2,500,000 as follows:
o $850,000 was disbursed on April 27, 2005;
o $800,000 was disbursed on June 23, 2005 after filing a
registration statement on June 22, 2005 to register the shares of
common stock underlying the convertible notes and the warrants;
and
o $850,000 was disbursed on June 30, 2005, the effective date of the
registration statement.
Under the terms of the securities purchase agreement, the Company
agreed not, without the prior written consent of a majority-in-interest of the
investors, to negotiate or contract with any party to obtain additional equity
financing (including debt financing with an equity component) that involves (i)
the issuance of common stock at a discount to the market price of the common
stock on the date of issuance (taking into account the value of any warrants or
options to acquire common stock in connection therewith), (ii) the issuance of
convertible securities that are convertible into an indeterminate number of
shares of common stock, or (iii) the issuance of warrants during the lock-up
period beginning April 27, 2005 and ending on the later of (a) 270 days from
April 27, 2005, or (b) 180 days from the date the registration statement is
declared effective.
In addition, the Company agreed not to conduct any equity financing
(including debt financing with an equity component) during the period beginning
April 27, 2005 and ending two years after the end of the above lock-up period
unless it first provided each investor an option to purchase its pro-rata share
(based on the ratio of each investor's purchase under the securities purchase
agreement) of the securities being offered in any proposed equity financing.
Each investor must be provided written notice describing any proposed equity
financing at least 20 business days prior to the closing of such proposed equity
financing and the option must be extended to each investor during the 15-day
period following delivery of such notice.
The $2,500,000 in convertible notes bear interest at 8% per annum from
the date of issuance. Interest is computed on the basis of a 365-day year and is
payable quarterly in cash, with six months of interest payable up front. The
interest rate resets to zero percent for any month in which the stock price is
greater than 125% of the initial market price, or $.0945, for each trading day
during that month. Any amount of principal or interest on the convertible notes
that is not paid when due will bear interest at the rate of 15% per annum from
the date due thereof until such amount is paid. The convertible notes mature in
three years from the date of issuance, and are convertible into our common stock
at the selling stockholders' option, at the lower of (i) $.09 or (ii) 60% of the
average of the three lowest intraday trading prices for the common stock on the
OTC Bulletin Board for the 20 trading days before but not including the
conversion date. Accordingly, there is no limit on the number of shares into
which the notes may be converted.
The convertible notes are secured by the Company's assets, including the
Company's inventory, accounts receivable and intellectual property. Moreover,
the Company has a call option under the terms of the notes. The call option
provides the Company with the right to prepay all of the outstanding convertible
notes at any time, provided there is no event of default by the Company and the
Company's stock is trading at or below $.09 per share. An event of default
includes the failure by the Company to pay the principal or interest on the
convertible notes when due or to timely file a registration statement as
required by the Company or obtain effectiveness with the Securities and Exchange
Commission of the registration statement. Prepayment of the convertible notes is
5
to be made in cash equal to either (a) 125% of the outstanding principal and
accrued interest for prepayments occurring within 30 days following the issue
date of the notes; (b) 130% of the outstanding principal and accrued interest
for prepayments occurring between 31 and 60 days following the issue date of the
notes; or (c) 145% of the outstanding principal and accrued interest for
prepayments occurring after the 60th day following the issue date of the notes.
The warrants are exercisable until five years from the date of issuance
at a purchase price of $.20 per share. The investors may exercise the warrants
on a cashless basis if the shares of common stock underlying the warrants are
not then registered pursuant to an effective registration statement. In the
event the investors exercise the warrants on a cashless basis, then the Company
will not receive any proceeds therefrom. In addition, the exercise price of the
warrants will be adjusted in the event the Company issues common stock at a
price below market, with the exception of any securities issued as of the date
of the warrants or issued in connection with the convertible notes issued
pursuant to the Securities Purchase Agreement.
The noteholders have agreed to restrict their ability to convert their
convertible notes or exercise their warrants and receive shares of our common
stock such that the number of shares of common stock held by them in the
aggregate and their affiliates after such conversion or exercise does not exceed
4.99% of the then issued and outstanding shares of common stock. However, the
noteholders may repeatedly sell shares of common stock in order to reduce their
ownership percentage, and subsequently convert additional callable secured
convertible notes. As of March 31, 2007, a total of $854,920 in convertible
notes had been converted pursuant to conversion notices from the noteholders.
February 28, 2006 Sale of $1,500,000 in Convertible Notes. To obtain
additional funding for the Company's ongoing operations, the Company entered
into a second securities purchase agreement on February 28, 2006 with the same
four accredited investors for the sale of (i) $1,500,000 in convertible notes
and (ii) warrants to purchase 12,000,000 shares of its common stock. The sale of
the convertible notes and warrants is to occur in three traunches and the
investors are obligated to provide the Company with an aggregate of $1,500,000
as follows:
o $500,000 was disbursed on February 28, 2006;
o $500,000 was disbursed on June 28, 2006 after the Company filed a
registration statement on June 15, 2006 to register the shares of
common stock underlying the convertible notes. The Registration
Statement was subsequently withdrawn on July 25, 2006 and a new
Registration Statement was filed on September 26, 2006 to register
60,000,000 shares of common stock issuable upon conversion of the
convertible notes.
o $500,000 was disbursed on April 20, 2007, the day prior to the
effective date of the Registration Statement on May 1, 2007.
Under the terms of the securities purchase agreement, the Company
agreed not, without the prior written consent of a majority-in-interest of the
investors, to negotiate or contract with any party to obtain additional equity
financing (including debt financing with an equity component) that involves (i)
the issuance of common stock at a discount to the market price of the common
stock on the date of issuance (taking into account the value of any warrants or
options to acquire common stock in connection therewith), (ii) the issuance of
convertible securities that are convertible into an indeterminate number of
shares of common stock, or (iii) the issuance of warrants during the lock-up
period beginning February 28, 2006 and ending on the later of (a) 270 days from
February 28, 2006, or (b) 180 days from the date the registration statement is
declared effective.
In addition, the Company agreed not to conduct any equity financing
(including debt financing with an equity component) during the period beginning
February 28, 2006 and ending two years after the end of the above lock-up period
unless it first provided each investor an option to purchase its pro-rata share
(based on the ratio of each investor's purchase under the Securities Purchase
Agreement) of the securities being offered in any proposed equity financing.
Each investor must be provided written notice describing any proposed equity
financing at least 20 business days prior to the closing of such proposed equity
financing and the option must be extended to each investor during the 15-day
period following delivery of such notice.
The $1,500,000 in convertible notes bears interest at 8% per annum from
the date of issuance. Interest is computed on the basis of a 365-day year and is
payable quarterly in cash, with six months of interest payable up front. The
interest rate resets to zero percent for any month in which the stock price is
greater than 125% of the initial market price, or $.0275, for each trading day
during that month. Any amount of principal or interest on the convertible notes
that is not paid when due will bear interest at the rate of 15% per annum from
the date due thereof until such amount is paid. The convertible notes mature in
three years from the date of issuance, and are convertible into our common stock
at the noteholders' option, at the lower of (i) $.02 or (ii) 60% of the average
of the three lowest intraday trading prices for the common stock on the OTC
Bulletin Board for the 20 trading days before but not including the conversion
date. Accordingly, there is no limit on the number of shares into which the
notes may be converted.
6
The convertible notes are secured by the Company's assets, including
the Company's inventory, accounts receivable and intellectual property.
Moreover, the Company has a call option under the terms of the notes. The call
option provides the Company with the right to prepay all of the outstanding
convertible notes at any time, provided there is no event of default by the
Company and the Company's stock is trading at or below $.02 per share. An event
of default includes the failure by the Company to pay the principal or interest
on the convertible notes when due or to timely file a registration statement as
required by the Company or obtain effectiveness with the Securities and Exchange
Commission of the registration statement. Prepayment of the convertible notes is
to be made in cash equal to either (a) 125% of the outstanding principal and
accrued interest for prepayments occurring within 30 days following the issue
date of the notes; (b) 130% of the outstanding principal and accrued interest
for prepayments occurring between 31 and 60 days following the issue date of the
notes; or (c) 145% of the outstanding principal and accrued interest for
prepayments occurring after the 60th day following the issue date of the notes.
The warrants are exercisable until five years from the date of issuance
at a purchase price of $.10 per share. The investors may exercise the warrants
on a cashless basis if the shares of common stock underlying the warrants are
not then registered pursuant to an effective registration statement. In the
event the investors exercise the warrants on a cashless basis, then the Company
will not receive any proceeds therefrom. In addition, the exercise price of the
warrants will be adjusted in the event the Company issues common stock at a
price below market, with the exception of any securities issued as of the date
of the warrants or issued in connection with the convertible notes issued
pursuant to the securities purchase agreement.
The noteholders have agreed to restrict their ability to convert their
convertible notes or exercise their warrants and receive shares of our common
stock such that the number of shares of common stock held by them in the
aggregate and their affiliates after such conversion or exercise does not exceed
4.99% of the then issued and outstanding shares of common stock. However, the
noteholders may repeatedly sell shares of common stock in order to reduce their
ownership percentage, and subsequently convert additional callable secured
convertible notes. The Company is required to register 60,000,000 shares of its
common stock issuable upon the conversion of the convertible notes that were
issued to the noteholders pursuant to the securities purchase agreement dated
February 28, 2006.
Simple Conversion Calculation
-----------------------------
The number of shares of common stock issuable upon conversion of the
convertible notes is determined by dividing that portion of the principal of the
notes to be converted and interest, if any, by the conversion price. For
example, assuming conversion of the $3,145,080 principal amount of notes on
March 31, 2007 (consisting of $4,000,000 in convertible notes that were sold to
the four investors pursuant to the securities purchase agreements dated April
27, 2005 and February 25, 2006, less $854,920 in notes that were converted
during the period from June 30, 2005 to March 31, 2007) and a conversion price
of $.012 per share, the number of shares issuable upon conversion would be:
$3,145,080/$.012= 262,090,000 shares.
The Company's obligation to issue shares upon conversion of the
convertible notes is essentially limitless. The following is an example of the
amount of shares of common stock that are issuable upon conversion of $3,145,080
principal amount of convertible notes, based on market prices 25%, 50%, and 75%
below the market price, as of March 22, 2007 of $.02.
% Below Price Per With 40% Number of % of
Market Share Discount Shares Issuable Outstanding*
------ ----- -------- --------------- ------------
25% $.015 $.009 349,453,333 171.3%
50% $.01 $.006 524,180,000 257.0%
75% $.005 $.003 1,048,360,000 513.9%
*Based on 203,986,625 shares outstanding as of March 31, 2007.
As illustrated, the number of shares of common stock issuable upon
conversion of the Company's callable secured convertible notes will increase if
the market price of the Company's common stock declines, which will cause
dilution to existing stockholders.
7
Adjustable Conversion Price of Convertible Notes
------------------------------------------------
The callable secured convertible notes are convertible into shares of
the Company's common stock at a 40% discount to the trading price of the common
stock prior to the conversion. The significant downward pressure on the price of
the common stock as the noteholders convert and sell material amounts of common
stock could encourage short sales by investors. This could place further
downward pressure on the price of the common stock. The noteholders could sell
common stock into the market in anticipation of covering the short sale by
converting their securities, which could cause further downward pressure on the
stock price. In addition, not only the sale of shares issued upon conversion or
exercise of notes, warrants and options, but also the mere perception that these
sales could occur, may have a depressive effect on the market price of the
common stock.
Possible Dilution to Stockholders
---------------------------------
The issuance of shares upon conversion of convertible notes and
exercise of warrants may result in substantial dissolution to the interests of
other stockholders since the holders of the convertible notes may ultimately
convert and sell the full amount issuable upon conversion. Although the
noteholders may not convert their callable secured convertible notes and/or
exercise their warrants if such conversion or exercise price would cause them to
own more than 4.99% of the Company's outstanding common stock, this restriction
does not prevent the noteholders from converting and/or exercising some of their
holdings and then converting the rest of their holdings. In this way, the
noteholders could sell more than this limit while never holding more than this
limit. There is no upper limit on the number of shares that may be issued, which
will have the effect of further diluting the proportionate equity interest and
voting power of holders of the Company's common stock.
Failure to Repay Convertible Notes May Require Company Operations to Cease
--------------------------------------------------------------------------
On April 27, 2005, the Company entered into a securities purchase
agreement for the sale of an aggregate of $2,500,000 principal amount of
convertible notes. On February 28, 2006, the Company entered into another
securities purchase agreement for the sale of an aggregate of $1,500,000
principal amount of convertible notes. These callable secured convertible notes
are all due and payable, with 8% interest, three years from the date of
issuance, unless sooner converted into shares of the Company's common stock. The
Company currently has $3,145,080 in convertible notes outstanding. Any event of
default such as the Company's failure to repay the principal or interest when
due on the notes, the Company's failure to issue shares of common stock upon
conversion by the noteholders, the Company's breach of any covenant,
representation or warranty in the securities purchase agreement or related
convertible notes, the assignment or appointment of a receiver to control a
substantial part of the Company's property or business, the filing of a money
judgment, writ or similar process against the Company in excess of $50,000, the
commencement of a bankruptcy, insolvency, reorganization or liquidation
proceeding against the Company, and the delisting of the Company's common stock
could require the early repayment of the convertible notes, including a default
interest rate of 15% on the outstanding principal balance of the notes if the
default is not cured within the specified grace period.
The Company anticipates that the full amount of convertible notes will
be converted into shares of its common stock, in accordance with the terms of
the convertible notes. If the Company is required to repay the convertible
notes, it would be required to use its limited working capital and raise
additional funds. If the Company were unable to repay the notes when required,
the noteholders could commence legal action against the Company and foreclose on
all of its assets to recover the amounts due. Any such action would require the
Company to curtail or cease operations.
Preferred Stock Conversions
---------------------------
Under the Company's Certificate of Incorporation, holders of the
Company's Class A and Class B preferred stock have the right to convert such
stock into shares of the Company's common stock at the rate of 1.2 shares of
common stock for each share of preferred stock. During the three months ended
March 31, 2007 no shares of Series A preferred stock and no shares of Series B
preferred stock were converted to the Company's common stock.
Holders of Series D preferred have the right to convert such stock into
shares of the Company's common stock at the rate of one share of common stock
for each share of preferred stock. During the three months ended March 31, 2007
no shares of Series D preferred stock were converted to the Company's common
stock.
8
Holders of Series E preferred have the right to convert such stock into
shares of the Company's common stock at the rate of 53.3 shares of common stock
for each share of preferred stock. During the three months ended March 31, 2007
no shares of Series E preferred stock were converted to the Company's common
stock.
Holders of Series F preferred have the right to convert such stock into
shares of the Company's common stock at the rate of 53.3 shares of common stock
for each share of preferred stock. During the three months ended March 31, 2007,
200 shares of Series F preferred stock were converted to 10,667 shares of the
Company's common stock.
Holders of Series G preferred have the right to convert such stock into
shares of the Company's common stock at the rate of one share of common stock
for each share of preferred stock. During the three months ended March 31, 2007,
no shares of Series G preferred stock were converted to shares of the Company's
common stock.
Warrants
--------
The fair value of warrants granted as described herein is estimated at
the date of grant using the Black-Scholes option pricing model. The exercise
price per share is reflective of the then current market value of the stock. No
grant exercise price was established at a discount to market. All warrants are
fully vested, exercisable and nonforfeitable as of the grant date. As a result
of the financing the Company completed on April 27, 2005 involving the sale of
$2,500,000 in convertible notes, the Company granted warrants to the noteholders
to purchase 16,534,392 shares of its common stock. The warrants have an exercise
price of $.20 per share and expire on April 27, 2010. As a result of the
financing the Company completed on February 28, 2006 involving the sale of
$1,500,000 in convertible notes, the Company granted that warrants to the
noteholders to purchase 12,000,000 shares of its common stock. The warrants have
an exercise price of $.10 per share and expire on February 27, 2011.
9
Related Party Transactions
--------------------------
Payments for legal services to the firm of which the Company's Chairman
of the Board is a partner were $0 and $33,000 for the three months ended March
31, 2007 and 2006, respectively.
Accrued Expenses
----------------
Accrued expenses consist of the following at March 31, 2007:
Accrued consulting and litigation reserve $ 616,000
Accrued payroll and employee benefits 40,000
Sales taxes payable 11,000
Customer deposits 40,000
Warranty and return allowance 154,000
Other accrued expenses 21,000
---------------
Total $ 882,000
===============
Item 2: Management's Discussion and Analysis or Plan of Operation
This report contains forward-looking statements and information
relating to the Company that is based on beliefs of management as well as
assumptions made by, and information currently available to management. These
statements reflect its current view respecting future events and are subject to
risks, uncertainties and assumptions, including the risks and uncertainties
noted throughout the document. Although the Company has attempted to identify
important factors that could cause the actual results to differ materially,
there may be other factors that cause the forward-looking statements not to come
true as anticipated, believed, projected, expected or intended. Should one or
more of these risks or uncertainties materialize, or should underlying
assumptions prove incorrect, actual results may differ materially from those
described herein as anticipated, believed, projected, estimated, expected or
intended.
Critical Accounting Policies
Revenue Recognition. The Company recognizes revenue in compliance with
Staff Accounting Bulletin 101, Revenue Recognition in Financial Statements (SAB
101), as revised by Staff Accounting Bulletin No. 104, Revenue Recognition (SAB
104). SAB 101 and SAB 104 detail four criteria that must exist before revenue is
recognized:
1. Persuasive evidence of an arrangement exits. Prior to shipment of
product, the Company required a signed purchase order and, depending upon the
customer, a down payment toward the final invoiced price or full payment in
advance with certain international product distributors.
2. Delivery and performance have occurred. Unless the purchase order
requires specific installation or customer acceptance, the Company recognizes
revenue when the product ships. If the purchase order requires specific
installation or customer acceptance, the Company recognizes revenue when such
installation or acceptance has occurred. Title to the product passes to its
customer upon shipment. This revenue recognition policy does not differ among
its various different product lines. The Company guarantees the functionality of
its product. If its product does not function as marketed when received by the
customer, the Company either makes the necessary repairs on site or has the
product shipped to the Company for the repair work. Once the product has been
repaired and retested for functionality, it is re-shipped to the customer. The
Company provides warranties that generally extend for one year from the date of
sale. Such warranties cover the necessary parts and labor to repair the product
as well as any shipping costs that may be required. The Company maintains a
reserve for estimated warranty costs based on its historical experience and
management's current expectations.
10
3. The sales price is fixed or determinable. The purchase order
received from the customer includes the agreed-upon sales price. The Company
does not accept customer orders, and therefore does not recognize revenue, until
the sales price is fixed.
4. Collectibility is reasonably assured. With limited exceptions, the
Company requires down payments on product prior to shipment. In some cases the
Company requires payment in full prior to shipment. The Company also performs
credit checks on new customers and ongoing credit checks on existing customers.
The Company maintains an allowance for doubtful accounts receivable based on
historical experience and management's current expectations.
Recoverability of Inventory. Since its inception, the Company has
purchased several complete lines of inventory. In some circumstances the Company
has been able to utilize certain items acquired and others remain unused. On a
quarterly basis, the Company attempts to identify inventory items that have
shown relatively no movement or very slow movement. Generally, if an item has
shown little or no movement for over a year, it is determined not to be
recoverable and a reserve is established for that item. In addition, if the
Company identifies products that have become obsolete due to product upgrades or
enhancements, a reserve is established for such products. The Company intends to
make efforts to sell these items at significantly discounted prices. If items
are sold, the cash received would be recorded as revenue, but there would be no
cost of sales on such items due to the reserve that has been recorded. At the
time of sale, the inventory would be reduced for the item sold and the
corresponding inventory reserve would also be reduced.
Recoverability of Goodwill and Other Intangible Assets. The Company's
intangible assets consist of goodwill, product and technology rights,
engineering and design costs, and patent costs. Intangibles with a determined
life are amortized on a straight-line basis over their determined useful life
and are also evaluated for potential impairment if events or circumstances
indicate that the carrying amount may not be recoverable. Intangibles with an
indefinite life, such as goodwill, are not amortized but are tested for
impairment on an annual basis or when events and circumstances indicate that the
asset may be impaired. Impairment tests include comparing the fair value of a
reporting unit with its carrying net book value, including goodwill. To date,
the Company's determination of the fair value of the reporting unit has been
based on the estimated future cash flows of that reporting unit.
Allowance for Doubtful Accounts. The Company records an allowance for
doubtful accounts to offset estimated uncollectible accounts receivable. Bad
debt expense associated with the increases in the allowance for doubtful
accounts is recorded as part of general and administrative expense. The
Company's accounting policy generally is to record an allowance for receivables
over 90 days past due unless there is significant evidence to support that the
receivable is collectible.
General
The following Management's Discussion and Analysis of Financial
Condition and Results of Operations, contains forward-looking statements, which
involve risks and uncertainty. The Company's actual results could differ
materially from those anticipated in these forward-looking statements as a
result of certain factors discussed in this section. The Company's fiscal year
is from January 1 through December 31.
The Company is engaged in the design, development, manufacture and sale
of high technology diagnostic and surgical eye care products. Given the "going
concern" status of the Company, management has focused efforts on those products
and activities that will, in its opinion, achieve the most resource efficient
short-term cash flow. As seen in the results for the three months ended March
31, 2006, diagnostic products have been the major focus and the Photon(TM) and
other extensive research and development projects have been put on hold pending
future evaluation when the Company's financial position improves. The Company
does not focus on a specific diagnostic product or products but, instead, on the
entire diagnostic product group.
Results of Operations
Three Months Ended March 31, 2007 Compared to Three Months Ended March
31, 2006.
Net sales for the three months ended March 31, 2007 decreased by
$66,000, or 14%, to $397,000 as compared to $463,000 for the same period of
2006. This reduction in sales was primarily due to decreased sales of the Blood
Flow Analyzer(TM), LD400 and TKS 5000 autoperimeters, and the CT 200 Corneal
Topographer.
11
For the three months ended March 31, 2007, sales from the Company's
diagnostic products totaled $370,000, or 93% of total revenues, compared to
$413,000, or 89% of total revenues, for the same period of 2006. The remaining
7% of sales, or $27,000 during the three months ended March 31, 2007, was from
parts, disposables, and service revenue.
Sales of the P60 UBM Ultrasound Biomicroscopes increased to $154,000
during the three months ended March 31, 2007, or 39% of total quarterly revenues
for the period, compared to $60,000, or 13% of total revenues, for the same
period last year. Sales of the Blood Flow Analyzer(TM) decreased by $21,000 to
$30,000, or 8% of total revenues, for the three months ended March 31, 2007,
compared to net sales of $51,000, or 11% of total revenues, during the same
period in 2006. Sales from the P37, P37-II and P2700 A/B Scan Ocular Ultrasound
Diagnostic increased to $117,000, or 29% of total revenues, for the three month
period ended March 31, 2007, compared to $82,000, or 18% of total revenues, for
the same period last year. Combined sales of the LD 400 and TKS 5000
autoperimeters and the CT 200 Corneal Topographer were $69,000, or 17% of the
total revenues, for the three months ended March 31, 2007, compared to $208,000,
or 45% of total revenues, for the same period of 2006.
Sales have been lower during the three months ended March 31, 2007 for
the Company due to a variety of reasons. Sales of the P60 UBM Ultrasound
Biomicroscope decreased primarily as a result of ongoing software development
and hardware configuration problems with the new P60, which received FDA 510(k)
premarket approval on May 26, 2005 that allowed the device to be sold in the
United States. The hardware configuration problems have since been resolved and
the Company continues to work on resolving the software development problems.
The Company anticipates reversing the downward trend in sales through additional
efforts by the Company to gain more widespread support for the P60 through
increased clinical awareness, product development and improved marketing plans
and a new software package that is in the final stages of development.
Sales of surgical products are at a standstill pending FDA approval of
the Photon(TM) laser system. In the three month period ended March 31, 2007, the
Company realized no sales in the surgical line consisting of the Precissionist
Thirty Thousand(TM) and the Photon(TM) laser system. There were also no sales in
the surgical line for the comparable period of 2006.
Gross profit for the three months ended March 31, 2007 decreased to 43%
of total revenues, compared to 52% of total revenues for the same period in
2006. This decrease in gross profit for the three months ended March 31, 2007
was mainly due to increase costs of parts and labor expenses. There was no
increase or decrease to cost of sales as a result of a change to the reserve for
obsolete inventory in 2006.
Marketing and selling expenses increased by $37,000, or 47%, to
$115,000, for the three months ended March 31, 2007, from $78,000 for the
comparable period in 2006. This increase was due primarily to an increase in
both domestic and international sales staff.
General and administrative expenses decreased by $61,000, or 24%, to
$189,000 for the three months ended March 31, 2007, from $250,000 for the
comparable period in 2006. The reduction in general and administrative expenses
was primarily due to a reduction in management salaries and in the number of
employees, and enhanced operating efficiencies.
Also during 2006, the Company collected $4,000 in receivables that were
previously allowed in the allowance for doubtful accounts. During 2006, the
Company increased allowance for doubtful accounts by $1,000.
Research, development and service expenses decreased by $60,000, or
48%, to $64,000 for the three months ended March 31, 2007, compared to $124,000
in the same period of 2006. This reduction was mainly due to decrease costs
relating to the development of the new P60 UBM.
Due to our ongoing cash flow difficulties, the Company's vendors and
suppliers were contacted during 2006 and 2005 with attempts to negotiate reduced
payments and settlement of outstanding accounts payable. While some vendors
refused to negotiate and demanded payment in full, some vendors were willing to
settle for a reduced amount. The accounts payable forgiven by vendors and
suppliers resulted in a gain of $34,000 and $12,000 during the years ended
December 31, 2006 and 2005, respectively. In 2007 the Company is continuing its
negotiations with some vendors and suppliers.
12
Liquidity and Capital Resources
The Company used $140,000 in cash in operating activities for the three
months ended March 31, 2007, compared to $152,000 for the three months ended
March 31, 2006. The reduction in cash used for operating activities for the
three months ended March 31, 2007 was primarily attributable to the Company's
net loss and decreases in accounts payable, accounts receivable and inventory
and a significant reduction in the beneficial conversion feature of the
convertible notes. The Company used $0 in investing activities for the three
months ended March 31, 2007, compared to $5,000 used for the three months ended
March 31, 2006. Net cash received in financing activities was $0 for the three
months ended March 31, 2007, versus cash provided from financing activities of
$491,000 in the same period in 2006. The Company had working capital of $123,000
as of March 31, 2007, compared to a working capital of $431,000 as of March 31,
2006. In the past, the Company has relied heavily upon sales of the Company's
common and preferred stock to fund operations. There can be no assurance that
such equity funding will be available on terms acceptable to the Company in the
future.
As of March 31, 2007, the Company had net operating loss carry-forwards
(NOLs) of approximately $56 million. These loss carry-forwards are available to
offset future taxable income, if any, and have begun to expire in 2001 and
extend for twenty years. The Company's ability to use net operating loss
carryforwards (NOLs) to offset future income is dependant upon certain
limitations as a result of the pooling transaction with Vismed and the tax laws
in effect at the time of the NOLs can be utilized. The Tax Reform Act of 1986
significantly limits the annual amount that can be utilized for certain of these
carryforwards as a result of a change of ownership.
As of March 31, 2007, the Company had accounts payable of $411,000, a
significant portion of which was over 90 days past due, compared to accounts
payable of $432,000 as of March 31, 2006. The Company has contacted many of the
vendors or companies that have significant amounts of payables past due in an
effort to delay payment, renegotiate a reduced settlement payment, or establish
a longer-term payment plan. While some companies have been willing to
renegotiate the outstanding amounts, others have demanded payment in full. Under
certain conditions, including but not limited to judgments rendered against the
Company in a court of law, a group of creditors could force the Company into
bankruptcy due to its inability to pay the liabilities arising out of such
judgments at that time. In addition to the accounts payable noted above, the
Company also has non-cancelable capital lease obligations and operating lease
obligations that require the payment of $14,000 in 2006, and $218,000 in 2007.
The Company has taken numerous steps to reduce costs and increase
operating efficiencies. These steps consist of the following:
1. The Company closed its San Diego facility. In so doing, numerous
manufacturing, accounting and management responsibilities were consolidated. In
addition, such closure resulted in significant headcount reductions as well as
savings in rent and other overhead costs.
2. The Company reduced the size of its manufacturing facility and
corporate offices in Salt Lake City. In doing so, management responsibilities
were consolidated. Such reduction in space resulted in a reduction in the number
of employees, as well as savings in rent and other overhead expenses.
3. The Company significantly reduced the use of consultants, which
resulted in a large reduction of these expenses.
4. The Company reduced its direct sales force to three representatives,
which resulted in less payroll, travel and other selling expenses.
Because the Company has significantly fewer sales representatives, its
ability to generate sales has been reduced.
The Company has taken measures to reduce the amount of uncollectible
accounts receivable such as more thorough and stringent credit approval,
improved training and instruction by sales personnel, and frequent direct
communication with the customer subsequent to delivery of the system. The
allowance for doubtful accounts was 12% of total outstanding receivables as of
March 31, 2007 and 15% as of December 31, 2006 compared to 24% of total
outstanding receivables as of March 31, 2006. The allowance for doubtful
accounts decreased from $72,000 at December 31, 2006 to $62,000 at March 31,
2007.
The Company intends to continue its efforts to reduce the allowance for
doubtful accounts as a percentage of accounts receivable. The Company has
ongoing efforts to collect a significant portion of the sales price in advance
13
of the sale or in a timely manner after delivery. During the three months ended
March 31, 2007, the Company made no additions to the allowance for doubtful
accounts. The Company believes that by requiring a large portion of payment
prior to shipment, it has greatly improved the collectibility of its
receivables.
The Company carried an allowance, for obsolete or estimated
non-recoverable inventory of $1,320,000 at March 31, 2007 and $1,382,000 at
March 31, 2006, or 61% and 63% of total inventory, respectively. The Company's
means of expansion and development of product has been largely from acquisition
of businesses, product lines, existing inventory, and the rights to specific
products. Through such acquisitions, the Company has acquired substantial
inventory, some of which the eventual use and recoverability was uncertain. In
addition, the Company has a significant amount of inventory relating to the
Photon(TM) laser system, which does not yet have FDA approval in order to sell
the product domestically. Therefore, the allowance for inventory was established
to reserve for these potential eventualities.
On a quarterly basis, the Company attempts to identify inventory items
that have shown relatively no movement or very slow movement. Generally, if an
item has shown little or no movement for over a year, it is determined not to be
recoverable and a reserve is established for that item. In addition, if the
Company identifies products that have become obsolete due to product upgrades or
enhancements, a reserve is established for such products. The Company intends to
make efforts to sell these items at significantly discounted prices. If items
are sold, the cash received would be recorded as revenue, but there would be no
cost of sales on such items due to the reserve that has been recorded. At the
time of sale, the inventory would be reduced for the item sold and the
corresponding inventory reserve would also be reduced.
At this time, the Company's Photon(TM) Laser Ocular Surgery Workstation
requires regulatory FDA approval in order to be sold in the United States. Any
possible future efforts to complete the clinical trials on the Photon(TM) in
order to file for FDA approval would depend on the Company obtaining adequate
funding. The Company estimates that the funds needed to complete the clinical
trials in order to obtain the necessary regulatory approval on the Photon(TM) to
be approximately $225,000.
Effect of Inflation and Foreign Currency Exchange
The Company has not realized a reduction in the selling price of its
products as a result of domestic inflation. Nor has it experienced unfavorable
profit reductions due to currency exchange fluctuations or inflation with its
foreign customers. All sales transactions to date have been denominated in U.S.
dollars. The Company has experienced a higher cost for equipment manufactured
for the Company by Tinsley in England due to the exchange rate value of the
pound sterling.
Impact of New Accounting Pronouncements
In February 2006, the FASB issued SFAS No. 155, Accounting for Certain
Hybrid Financial Instruments. This statement is an amendment of FASB Statements
Nos. 133 and 140 to address what had been characterized as a temporary exemption
from the application of the bifurcation requirements of Statement No. 133 to
beneficial interests in securitized financial assets. Prior to the effective
date of Statement No. 133, the FASB received inquiries on the application of the
exception in paragraph 14 of Statement No. 133 to beneficial interests in
securitized financial assets. In response to the inquiries, Implementation Issue
D1 indicated that, pending issuance of further guidance, entities may continue
to apply the guidance related to accounting for beneficial interests in
paragraphs 14 and 362 of Statement No. 140. Those paragraphs indicate that any
security that can be contractually prepaid or otherwise settled in such a way
that the holder of the security would not recover substantially all of its
recorded investment should be subsequently measured like investments in debt
securities classified as available-for-sale or trading under FASB Statement No.
115, Accounting for Certain Investments in Debt and Equity Securities, and may
not be classified as held-to-maturity. Further, Implementation Issue D1
indicated that holders of beneficial interests in securitized financial assets
that are not subject to paragraphs 14 and 362 of Statement No. 140 are not
required to apply Statement No. 133 to those beneficial interests until further
guidance is issued. The Company believes the adoption of new standards will not
have a material effect on its financial position, results of operations, cash
flows, or previously issued financial reports.
In March 2006, the FASB issued SFAS No. 156, Accounting for Servicing
of Financial Assets. This statement amends FASB Statement No. 140, Accounting
for Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities, with respect to the accounting for separately recognized servicing
assets and servicing liabilities. In this statement the board decided to broaden
the scope of the project to include all servicing assets and servicing
liabilities. Servicing assets and servicing liabilities may be subject to
significant interest rate and prepayment risks, and many entities use financial
instruments to mitigate those risks. Currently, servicing assets and servicing
liabilities are amortized over the expected period of estimated net servicing
14
income or loss and assessed for impairment or increased obligation at each
reporting date. The board acknowledged that the application of the lower of
carrying amount or fair value measurement attribute to servicing assets results
in asymmetrical recognition of economic events, because it requires recognition
of all decreases in fair value but limits recognition of increases in fair value
to the original carrying amount.
Statement No. 156 requires that all separately recognized servicing
assets and servicing liabilities be initially measured at fair value, if
practicable. The board concluded that fair value is the most relevant
measurement attribute for the initial recognition of all servicing assets and
servicing liabilities, because it represents the best measure of future cash
flows. This statement permits, but does not require, the subsequent measurement
of servicing assets and servicing liabilities at fair value. An entity that uses
derivative instruments to mitigate the risks inherent in servicing assets and
servicing liabilities is required to account for those derivative instruments at
fair value. Under this statement, an entity can elect subsequent fair value
measurement of its servicing assets and servicing liabilities by class, thus
simplifying its accounting and providing for income statement recognition of the
potential offsetting changes in fair value of the servicing assets, servicing
liabilities, and related derivative instruments. An entity that elects to
subsequently measure servicing assets and servicing liabilities at fair value is
expected to recognize declines in fair value of the servicing assets and
servicing liabilities at fair value is expected to recognize declines in fair
value of the servicing assets and servicing liabilities more consistently than
by reporting other-than-temporary impairments. The Company believes the adoption
of new standards will not have a material effect on its financial position,
results of operations, cash flows, or previously issued financial reports.
In September 2006, the FASB issued SFAS No. 158, Employers' Accounting
for Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB
Statements No. 87, 88, 106, and 132(R) ("SFAS 158"). Under SFAS 158, companies
must recognize a net liability or asset to report the funded status of their
defined benefit pension and other postretirement benefit plans on their balance
sheets. The effective date of the recognition and disclosure provisions for
calendar-year public companies is for calendar years ending after December 15,
2006. The Company is currently evaluating the impact of this new standard but it
is not expected to have a significant effect on the consolidated financial
statements for the year ended December 31, 2006.
In September 2006, the FASB issued SFAS No. 157, Fair Value
Measurements ("SFAS 157"). SFAS 157 defines fair value, establishes a framework
for measuring fair value, and expands disclosures about fair value measurements.
SFAS 157 will be applied prospectively and is effective for fiscal years
beginning after November 15, 2007, and interim periods within those fiscal
years. SFAS 157 is not expected to have a material impact on the Company's
consolidated financial statements.
Item 3. Controls and Procedures
a) Evaluation of disclosure controls and procedures.
Under the supervision and with the participation of the Company's
management, including its principal executive officer and principal financial
officer, the Company evaluated the effectiveness of the design and operation of
its disclosure controls and procedures, as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934, as of March 31, 2007. Based
on this evaluation, the Company's principal executive officer and principal
financial officer concluded that, as of the end of the period covered by this
report, the Company's disclosure controls and procedures were effective and
adequately designed to ensure that the information required to be disclosed by
the Company in the reports it files or submits under the Securities Exchange Act
of 1934 is recorded, processed, summarized and reported within the time periods
specified in applicable rules and forms.
b) Changes in internal controls over financial reporting.
During the three months ended March 31, 2007, there has been no change
in the Company's internal control over financial reporting that has materially
affected, or is reasonably likely to materially affect, the Company's internal
control over financial reporting.
PART II Other Information
Item 1. Legal Proceedings
An action was brought against the Company in March 2000 by George
Wiseman, a former employee, in the Third District Court of Salt Lake County,
State of Utah. The complaint alleges that the Company owes Mr. Wiseman 6,370
15
shares of its common stock plus costs, attorney's fees and a wage penalty (equal
to 1,960 additional shares of its common stock) pursuant to Utah law. The action
is based upon an extension of a written employment agreement. The Company
believes the claim is without merit and intends to vigorously defend against the
action.
An action was brought against the Company on September 11, 2000 by
PhotoMed International, Inc. and Daniel M. Eichenbaum, M.D. in the Third
District Court of Salt Lake County, State of Utah. The action involves an amount
of royalties that are allegedly due and owing to PhotoMed International, Inc.
and Dr. Eichenbaum under a license agreement dated July 7, 1993, with respect to
the sale of certain equipment, plus costs and attorneys' fees. Certain discovery
has taken place and the Company has paid royalties of $15,717, which the Company
believes brings all payments current as of the date of last payment on January
7, 2005. The Company has been working with PhotoMed and Dr. Eichenbaum to ensure
that the calculations have been correctly made on the royalties paid as well as
the proper method of calculation for the future.
It is anticipated that once the parties can agree on the correct
calculations on the royalties, the legal action will be dismissed. An issue in
dispute concerning the method of calculating royalties is whether royalties
should be paid on returned equipment. Since July 1, 2001, only one Photon(TM)
laser system has been sold and no systems returned. Thus, the amount of
royalties due, according to the Company's calculations, is $981. The Company
made payment of this amount to Photomed and Dr. Eichenbaum on January 5, 2005
and, as a result, seeks to have the legal action dismissed. However, if the
parties are unable to agree on a method for calculating royalties, there is a
risk that PhotoMed and Dr. Eichenbaum might amend their complaint to request
termination of the license agreement and, if successful, the Company would lose
its right to manufacture and sell the Photon(TM)laser system.
An action was filed on June 20, 2003, in the Third Judicial District
Court, Salt Lake County, State of Utah (Civil No. 030914195) by CitiCorp Vendor
Finance, Inc., formerly known as Copelco Capital, Inc. The complaint claims that
$49,626 plus interest is due for the leasing of three copy machines that were
delivered to the Company's Salt Lake City facilities on or about April of 2000.
The action also seeks an award of attorney's fees and costs incurred in the
collection. The Company filed an answer to the complaint disputing the amounts
allegedly owed due to machine problems and a claimed understanding with the
vendor. The Company returned two of the machines. The Company was engaged in
settlement discussions with CitiCorp until counsel for CitiCorp withdrew from
the case. New counsel for CitiCorp was appointed. After an initial meeting with
new counsel, the Company provided initial disclosures to the new counsel.
On September 10, 2003, an action was filed against the Company by Larry
Hicks in the Third Judicial District Court, Salt Lake County, State of Utah,
(Civil No. 030922220), for payments due under a consulting agreement with the
Company. The complaint claims that monthly payments of $3,083 are due for the
months of October 2002 to October 2003 under the consulting agreement and, if
the agreement is terminated, for the sum of $110,000 minus whatever the Company
has paid Mr. Hicks prior to such termination, plus costs, attorney's fees and a
wage penalty pursuant to Utah law. The Company has filed an answer in which it
denies any liability to Mr. Hicks. Formal discovery in the matter has commenced.
The Company disputes the amount allegedly owed and intends to vigorously defend
against such action.
In December 2006, a hearing on the motion for summary judgment in the
Todd Smith case (Third Judicial District Court, Salt Lake County, State of Utah,
Civil No. 030924951CN) was held. At the hearing the court granted the motion
dismissing the case in its entirety against the Company and three of its
directors. A notice of appeal was filed on behalf of Mr. Smith and then
subsequently withdrawn.
Also in December 2006, a hearing on the motion for summary judgment in
the Corinne Powell case (Third Judicial District Court, Salt Lake County, State
of Utah, Civil No. 030918364) was held. At the hearing the court granted the
motion dismissing the case in its entirety against the Company and one of the
directors. The appeal time has expired with no appeal being filed.
The Company is not a party to any other material legal proceedings
outside the ordinary course of its business or to any other legal proceedings,
which, if adversely determined, would have a material adverse effect on its
financial condition or results of operations.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Callable Secured Convertible Notes and Warrants
16
February 28, 2006 Sale of $1,500,000 in Convertible Notes. To obtain
funding for the Company's ongoing operations, the Company entered into a
securities purchase agreement on February 28, 2006 with four accredited
investors for the sale of (i) $1,500,000 in convertible notes and (ii) warrants
to purchase 12,000,000 shares of its common stock. The sale of the convertible
notes and warrants is to occur in three traunches and the investors are
obligated to provide the Company with an aggregate of $1,500,000 as follows:
o $500,000 was disbursed on February 28, 2006;
o $500,000 was disbursed on June 28, 2006 after the Company filed a
registration statement on June 15, 2006 to register the shares of
common stock underlying the convertible notes. The registration
statement was subsequently withdrawn on July 25, 2006 and a new
registration statement was filed on September 26, 2006 to register
60,000,000 shares of common stock issuable upon conversion of the
convertible notes; and
o $500,000 was disbursed on April 30, 2007, the day prior to the
effective date of the registration statement on May 1, 2007.
Under the terms of the securities purchase agreement, the Company
agreed not, without the prior written consent of a majority-in-interest of the
investors, to negotiate or contract with any party to obtain additional equity
financing (including debt financing with an equity component) that involves (i)
the issuance of common stock at a discount to the market price of the common
stock on the date of issuance (taking into account the value of any warrants or
options to acquire common stock in connection therewith), (ii) the issuance of
convertible securities that are convertible into an indeterminate number of
shares of common stock, or (iii) the issuance of warrants during the lock-up
period beginning February 28, 2006 and ending on the later of (a) 270 days from
February 28, 2006, or (b) 180 days from the date the registration statement is
declared effective.
In addition, the Company agreed not to conduct any equity financing
(including debt financing with an equity component) during the period beginning
February 28, 2006 and ending two years after the end of the above lock-up period
unless it first provided each investor an option to purchase its pro-rata share
(based on the ratio of each investor's purchase under the Securities Purchase
Agreement) of the securities being offered in any proposed equity financing.
Each investor must be provided written notice describing any proposed equity
financing at least 20 business days prior to the closing of such proposed equity
financing and the option must be extended to each investor during the 15-day
period following delivery of such notice.
The $1,500,000 in convertible notes bears interest at 8% per annum from
the date of issuance. Interest is computed on the basis of a 365-day year and is
payable quarterly in cash, with six months of interest payable up front. The
interest rate resets to zero percent for any month in which the stock price is
greater than 125% of the initial market price, or $.0275, for each trading day
during that month. Any amount of principal or interest on the convertible notes
that is not paid when due will bear interest at the rate of 15% per annum from
the date due thereof until such amount is paid. The convertible notes mature in
three years from the date of issuance, and are convertible into our common stock
at the noteholders' option, at the lower of (i) $.02 or (ii) 60% of the average
of the three lowest intraday trading prices for the common stock on the OTC
Bulletin Board for the 20 trading days before but not including the conversion
date. Accordingly, there is no limit on the number of shares into which the
notes may be converted.
The convertible notes are secured by the Company's assets, including
the Company's inventory, accounts receivable and intellectual property.
Moreover, the Company has a call option under the terms of the notes. The call
option provides the Company with the right to prepay all of the outstanding
convertible notes at any time, provided there is no event of default by the
Company and the Company's stock is trading at or below $.02 per share. An event
of default includes the failure by the Company to pay the principal or interest
on the callable secured convertible notes when due or to timely file a
registration statement as required by the Company or obtain effectiveness with
the Securities and Exchange Commission of the registration statement. Prepayment
of the convertible notes is to be made in cash equal to either (a) 125% of the
outstanding principal and accrued interest for prepayments occurring within 30
days following the issue date of the notes; (b) 130% of the outstanding
principal and accrued interest for prepayments occurring between 31 and 60 days
following the issue date of the notes; or (c) 145% of the outstanding principal
and accrued interest for prepayments occurring after the 60th day following the
issue date of the notes.
The warrants are exercisable until five years from the date of issuance
at a purchase price of $.10 per share. The investors may exercise the warrants
on a cashless basis if the shares of common stock underlying the warrants are
not then registered pursuant to an effective registration statement. In the
event the investors exercise the warrants on a cashless basis, then the Company
17
will not receive any proceeds therefrom. In addition, the exercise price of the
warrants will be adjusted in the event the Company issues common stock at a
price below market, with the exception of any securities issued as of the date
of the warrants or issued in connection with the callable secured convertible
notes issued pursuant to the securities purchase agreement.
The noteholders have agreed to restrict their ability to convert their
convertible notes or exercise their warrants and receive shares of our common
stock such that the number of shares of common stock held by them in the
aggregate and their affiliates after such conversion or exercise does not exceed
4.99% of the then issued and outstanding shares of common stock. However, the
noteholders may repeatedly sell shares of common stock in order to reduce their
ownership percentage, and subsequently convert additional callable secured
convertible notes. The Company is required to register the 60,000,000 shares of
its common stock issuable upon the conversion of the callable secured
convertible notes that were issued to the noteholders pursuant to the securities
purchase agreement dated February 28, 2006.
The Company's obligation to issue shares upon conversion of the
callable secured convertible notes is essentially limitless. The following is an
example of the amount of shares of common stock that are issuable upon
conversion of $3,145,080 principal amount of callable secured convertible notes
(excluding accrued interest), based on market prices 25%, 50%, and 75% below the
market price, as of March 22, 2007 of $.02.
% Below Price Per With 40% Number of % of
Market Share Discount Shares Issuable Outstanding*
------ ----- -------- --------------- -----------
25% $.015 $.009 340,453,333 171.3%
50% $.01 $.006 524,180,000 257.0%
75% $.005 $.003 1,048,360,000 513.9%
*Based on 203,986,625 shares outstanding as of March 31, 2007.
As illustrated, the number of shares of common stock issuable upon
conversion of the Company's convertible notes will increase if the market price
of the Company's common stock declines, which will cause dilution to existing
stockholders.
Adjustable Conversion Price of Convertible Notes
------------------------------------------------
The callable secured convertible notes are convertible into shares of
the Company's common stock at a 40% discount to the trading price of the common
stock prior to the conversion. The significant downward pressure on the price of
the common stock as the noteholders convert and sell material amounts of common
stock could encourage short sales by investors. This could place further
downward pressure on the price of the common stock. The noteholders could sell
common stock into the market in anticipation of covering the short sale by
converting their securities, which could cause further downward pressure on the
stock price. In addition, not only the sale of shares issued upon conversion or
exercise of notes, warrants and options, but also the mere perception that these
sales could occur, may have a depressive effect on the market price of the
common stock.
Possible Dilution to Stockholders
---------------------------------
The issuance of shares upon conversion of convertible notes and
exercise of warrants may result in substantial dissolution to the interests of
other stockholders since the holders of the convertible notes may ultimately
convert and sell the full amount issuable upon conversion. Although the
noteholders may not convert their callable secured convertible notes and/or
exercise their warrants if such conversion or exercise price would cause them to
own more than 4.99% of the Company's outstanding common stock, this restriction
does not prevent the noteholders from converting and/or exercising some of their
holdings and then converting the rest of their holdings. In this way, the
noteholders could sell more than this limit while never holding more than this
limit. There is no upper limit on the number of shares that may be issued, which
will have the effect of further diluting the proportionate equity interest and
voting power of holders of the Company's common stock.
Item 3. Defaults Upon Senior Securities
None
18
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
------------
The following Exhibits are filed herewith pursuant to Rule 601 of
Regulation S-B or are incorporated by reference to previous filings.
Exhibit
No. Document Description
------- --------------------
2.1 Amended Agreement and Plan of Merger between Paradigm Medical
Industries, Inc., a California corporation and Paradigm
Medical Industries, Inc., a Delaware corporation(1)
3.1 Certificate of Incorporation(1)
3.2 Amended Certificate of Incorporation(13)
3.3 Bylaws(1)
4.1 Specimen Common Stock Certificate (2)
4.2 Specimen Series C Convertible Preferred Stock Certificate(3)
4.3 Certificate of the Designations, Powers, Preferences and
Rights of the Series C Convertible Preferred Stock(3)
4.4 Specimen Series D Convertible Preferred Stock Certificate (4)
4.5 Certificate of the Designations, Powers, Preferences and
Rights of the Series D Convertible Preferred Stock (5)
4.6 Certificate of Designations, Powers, Preferences and Rights of
the Series G Convertible Preferred Stock (6)
10.1 Exclusive Patent License Agreement with PhotoMed(1)
10.2 Consulting Agreement with Dr. Daniel M. Eichenbaum(1)
10.3 1995 Stock Option Plan (1)
10.4 Securities Purchase Agreement with AJW Partners, LLC, AJW
Offshore, Ltd., AJW Qualified Partners, LLC and New Millennium
Capital Partners II, LLP (the "Purchasers")(7)
10.5 Form of Convertible Note with each purchaser(7)
10.6 Form of Stock Purchase Warrant with each purchaser(7)
10.7 Security Agreement with Purchasers(7)
10.8 Intellectual Property Security Agreement with Purchasers(7)
10.9 Registration Rights Agreement with Purchasers(7)
10.10 Stock Purchase Agreement with Mackey Price Thompson &
Ostler(8)
10.11 Employment Agreement with Raymond P.L. Cannefax(9)
10.12 Securities Purchase Agreement with AJW Partners, LLC, AJW
Offshore, Ltd., AJW Qualified Partners, LLC and New Millennium
Capital Partners II, LLP(10)
10.13 Form of Callable Secured Convertible Note with each
purchaser(10)
10.14 Form of Stock Purchase Warrant with each purchaser(10)
10.15 Security Agreement with Purchasers(10)
10.16 Intellectual Property Security Agreement with Purchasers(10)
10.17 Registration Rights Agreement with Purchasers(10)
10.18 Settlement Agreement with Dr. Joseph W. Spadafora (11)
10.19 Worldwide OEM Agreement with MEDA Co., Ltd. (12)
10.20 Second Amendment to the Registration Rights Agreement dated
April 27, 2005 (14)
10.21 Second Amendment to the Registration Rights Agreement dated
February 28, 2006 (14)
31.1 Certification pursuant to 18 U.S.C. Section 1350, as enacted
by Section 302 of the Sarbanes-Oxley Act of 2002
31.2 Certification pursuant to 18 U.S.C. Section 1350, as enacted
by Section 302 of the Sarbanes-Oxley Act of 2002
19
32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
-----------------
(1) Incorporated by reference from Registration Statement on Form
SB-2, as filed on March 19, 1996.
(2) Incorporated by reference from Amendment No. 1 to Registration
Statement on Form SB-2, as filed on May 14, 1996.
(3) Incorporated by reference from Annual Report on Form 10-KSB,
as filed on April 16, 1998.
(4) Incorporated by reference from Registration Statement on Form
SB-2, as filed on April 29, 1999.
(5) Incorporated by reference from Report on Form 10-QSB, as filed
on August 16, 2000.
(6) Incorporated by reference from Report on Form 10-QSB, as filed
on November 14, 2003.
(7) Incorporated by reference from Current Report on Form 8-K, as
filed on May 18, 2005.
(8) Incorporated by reference from Registration Statement on Form
SB-2, as filed on June 22, 2005.
(9) Incorporated by reference from Current Report on Form 8-K, as
filed on January 18, 2006.
(10) Incorporated by reference from Current Report on Form 8-K, as
filed on March 1, 2006.
(11) Incorporated by reference from Registration Statement on Form
SB-2, as filed on June 15, 2006.
(12) Incorporated by reference from Current Report on Form 8-K, as
filed on June 19, 2006.
(13) Incorporated by reference from Registration Statement on Form
SB-2, as filed on September 15, 2006.
(14) Incorporated by reference from Registration Statement on Form
SB-2, as filed on April 16, 2007.
(b) Reports on Form 8-K
No reports on Form 8-K were filed by the Company during the quarter
ended March 31, 2007.
20
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned thereunto duly
authorized.
PARADIGM MEDICAL INDUSTRIES, INC.
May 22, 2007 /s/ Raymond P.L. Cannefax
---------------------------------------------
Raymond P.L. Cannefax
President and Chief Executive Officer
May 22, 2007 /s/ Luis A. Mostacero
---------------------------------------------
Luis A. Mostacero, Vice President of Finance,
Treasurer and Secretary
21
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