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NEONODE, INC - 10-K - MANAGEMENT'S
(Edgar Glimpses Via Acquire Media NewsEdge)
DISCUSSION AND
ANALYSIS OF
FINANCIAL CONDITION
AND RESULTS OF
OPERATIONS
The following Management's Discussion and Analysis of Financial Condition and
Results of Operations contains forward-looking statements that involve risks and
uncertainties. Words such as "believes," "anticipates," "expects," "intends" and
similar expressions are intended to identify forward-looking statements, but are
not the exclusive means of identifying such statements. Readers are cautioned
that the forward-looking statements reflect our analysis only as of the date
hereof, and we do not assume any obligation to update these statements. Actual
events or results may differ materially from the results discussed in or implied
by the forward-looking statements. The following discussion should be read in
conjunction with the Company's consolidated financial statements for the years
ended December 31, 2011 and 2010 and the related notes included therein.
Overview
Neonode Inc provides optical infrared touchscreen solutions for handheld and
small to midsized consumer and industrial electronic devices. We license our
touchscreen technology to Original Equipment Manufacturers ("OEMs") and Original
Design Manufacturers ("ODMs") who imbed our touchscreen technology into
electronic devices that they develop and sell. The cornerstone of our solution
is our innovative optical infrared touchscreen technology zForce®. zForce can be
applied on any flat surface such as Liquid Crystal Displays (LCD), Electronic
Paper Displays (EPD) or as a Mouse Pad and can be incorporated into all types of
devices, enabling touch detection for any type of object (finger, pen, glove or
brush). In addition the zForce touch solution has a low total weight and
building height, thus enabling greater industrial design flexibility. Since
nothing is layered on top of the display, the zForce solution provides 100%
optical transparency, which improves image quality, reduces glare, and improves
battery life.
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We have recently developed our Multi-Sensing technology to help OEMs and device
manufacturers differentiate themselves in a competitive market. Ready to be
implemented into a wide range of commercial devices such as smart phones,
tablets and automotive displays, our Multi-Sensing technology can be used for,
but is not limited to, intuitive gaming, industrial design, and 3D modeling.
Our technology licensing model allows us to focus on the development of
solutions for multi-touch enabled screens and thus we do not have to contend
with the financial and logistical burden of manufacturing products, which is
handled by our ODM/OEM clients. We license the right to use zForce and software
which, together with standard components from partners, create a complete
optical touchscreen solution. zForce is currently being integrated into products
such as mobile phones, automotive products, e-Readers, printers, GPS devices and
Tablet PC's. It should be noted that our licensing model provides the added
benefit of allowing us to grow revenues exponentially without the need of
increasing costs at anywhere near the same rate to support the revenue growth.
We have incurred net operating losses and negative operating cash flows since
inception. As of December 31, 2011, we had an accumulated deficit of $129.3
million. During the years ended December 31, 2011 and 2010, we raised
approximately $15.5 million and $4.0 million, respectively, of net cash proceeds
though the sale of our securities and convertible debt. We may incur additional
losses on a quarterly basis during 2012, but do expect to generate net income
and positive operating cash flows for the year ended December 31, 2012. We
believe we have sufficient cash to operate for the remainder of 2012, and
thereafter, expect to receive sufficient cash from customer license agreements
currently in place to operate for at least the next twelve months.
Our success is dependent on our obtaining sufficient capital or operating cash
flows to fund our operations and to develop our technology and bringing such
technology to the worldwide market. To achieve our objectives, we may be
required to raise additional capital through public or private financings or
other arrangements. It cannot be assured that such financings will be available
on terms attractive to us, if at all. Such financings may be dilutive to
stockholders and may contain restrictive covenants.
In addition, we are subject to certain risks common to technology-based
companies in similar stages of development. See "Risk Factors" above. Principal
risks include risks relating to the uncertainty of growth in market acceptance
for our technology, a history of losses since inception, our ability to remain
competitive in response to new technologies, the costs to defend, as well as
risks of losing, patents and intellectual property rights, a reliance on our
future customers' ability to develop and sell products that incorporate our
technology, the uncertainty of demand for our technology in certain markets, our
ability to manage growth effectively, our dependence on key members of our
management and development team, our limited experience in conducting operations
internationally, and our ability to obtain adequate capital to fund future
operations.
Critical Accounting Policies and Estimates
The preparation of our consolidated financial statements are in conformity with
generally accepted accounting principles in the United States ("GAAP") and
include the accounts of Neonode Inc. and its wholly-owned subsidiary based in
Sweden, Neonode Technologies AB.
All inter-company accounts and transactions have been eliminated in
consolidation. The accounting policies affecting our financial condition and
results of operations are more fully described in Note 2 to our consolidated
financial statements. Certain of our accounting policies require the application
of judgment by management in selecting appropriate assumptions for calculating
financial estimates, which inherently contain some degree of uncertainty.
Management bases its estimates on historical experience and various other
assumptions that are believed to be reasonable under the circumstances. The
historical experience and assumptions form the basis for making judgments about
the reported carrying values of assets and liabilities and the reported amounts
of revenue and expenses that may not be readily apparent from other sources.
Actual results may differ from these estimates under different assumptions or
conditions. We believe the following are some of the more critical accounting
policies and related judgments and estimates used in the preparation of our
consolidated financial statements.
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Estimates
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires making estimates and
assumptions that affect, at the date of the consolidated financial statements,
the reported amounts of assets and liabilities, disclosure of contingent assets
and liabilities and the reported amounts of revenue and expenses. Actual results
could differ from these estimates. Significant estimates include, but are not
limited to, collectibility of accounts receivable, recoverability of long-lived
assets, the valuation allowance related to our deferred tax assets, the fair
value of derivative instruments, and the fair value of securities such as
options and warrants issued for stock-based compensation and in certain
financing transactions.
Concentration of Cash Balance Risks
Cash balances are maintained at various banks in the U.S. and Sweden. At times,
deposits held with financial institutions in the United States of America may
exceed the amount of insurance provided by the Federal Deposit Insurance
Corporation ("FDIC"), which provides basic deposit coverage with limits up to
$250,000 per owner. In addition to the basic insurance deposit coverage, the
FDIC is providing temporary unlimited coverage for non-interest bearing
transaction accounts through December 31, 2012. The Swedish government provides
insurance coverage up to 100,000 euro per customer and covers deposits in all
types of accounts. As of December 31, 2011, the Company has approximately $1.2
million in excess of this limit.
Revenue Recognition
Engineering Services:
We may sell engineering consulting services to our customers on a flat rate or
hourly rate basis. We recognize revenue from these services when all of the
following conditions are met: (1) evidence existed of an arrangement with the
customer, typically consisting of a purchase order or contract; (2) our services
were performed and risk of loss passed to the customer; (3) we completed all of
the necessary terms of the contract; (4) the amount of revenue to which we were
entitled was fixed or determinable; and (5) we believed it was probable that we
would be able to collect the amount due from the customer. To the extent that
one or more of these conditions has not been satisfied, we defer recognition of
revenue. Generally, we recognize revenue as the engineering services stipulated
under the contact are completed and accepted by our customers.
Licensing Revenues:
We also derive revenue from the licensing of internally developed intellectual
property ("IP"). We enter into IP licensing agreements that generally provide
licensees the right to incorporate our IP components in their products with
terms and conditions that vary by licensee. The IP licensing agreements
generally include a nonexclusive license for the underlying IP. Fees under these
agreements may include license fees relating to our IP and royalties payable
following the sale by our licensees of products incorporating the licensed
technology. The license for our IP has standalone value and can be used by the
licensee without maintenance and support. As of December 31, 2011, Neonode meets
all the accounting requirements for revenue recognition as per unit royalty
products are distributed or licensed by the Company's customers. For technology
license arrangements that do not require significant modification or
customization of the underlying technology, we recognize technology license
revenue when: (1) we enter into a legally binding arrangement with a customer
for the license of technology; (2) customer distributes or license the products;
(3) customer payment is deemed fixed or determinable and free of contingencies
or significant uncertainties; and (4) collection is reasonably assured.
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Prior to September 30, 2011, we deferred the technology license fee revenue
until such time as the warranty period stipulated in the applicable license
agreement expired because we did not have sufficient historical experience in
estimating potential warranty costs. From June 2010 to December 31, 2011, we
entered into 12 technology license contracts with customers. During that time
there were no warranty related costs incurred for any customer products after
they have been released to market. During the quarter ended September 30, 2011,
the Company performed an analysis and determined that it had sufficient
historical evidence regarding estimated warranty costs and therefore began
recognizing technology license fee revenues, net of warranty costs, if any, as
the products incorporating the Neonode technology are distributed or licensed by
our customers, assuming all other revenue recognition criteria have been met.
Our customers report to us the quantities of products distributed by them after
the end of the reporting period stipulated in the contract, generally 30 to 45
days after the end of the month or quarter.
Explicit return rights are not offered to customers. There have been no returns
through December 31, 2011.
Hardware Products:
We may from time-to-time develop custom hardware products for our customers that
incorporate our touch technology. Our policy is to recognize revenue from
hardware product sales when title transfers and risk of loss has passed to the
customer, which is generally upon shipment of our hardware products to our
customers. We will estimate expected sales returns and record the amount as a
reduction of revenue and cost of hardware and other revenue at the time of
shipment. To date, we have not sold any hardware products.
Software Products:
We may derive revenues from software licensing sales. We will account for the
licensing of software in accordance with accounting guidance and such guidance
requires judgment, including whether a software arrangement includes multiple
elements, and if so, whether vendor-specific objective evidence ("VSOE") of fair
value exists for those elements.
For software license arrangements that do not require significant modification
or customization of the underlying software, we will recognize new software
license revenue when: (1) we enter into a legally binding arrangement with a
customer for the license of software; (2) we deliver the products; (3) customer
payment is deemed fixed or determinable and free of contingencies or significant
uncertainties; and (4) collection is reasonably assured.
On January 1, 2011, we adopted new authoritative guidance on a prospective basis
for revenue arrangements containing multiple deliverables. This guidance
requires us to allocate revenues to all deliverables based on their relative
selling price using a specific hierarchy. The hierarchy is as follows:
vendor-specific objective evidence ("VSOE"), third-party evidence of selling
price ("TPE") or best estimate of selling price ("BESP").
When a sale involves multiple elements, we will allocate the entire fee from the
arrangement to each respective element based on VSOE of fair value and recognize
revenue when each element's revenue recognition criteria are met. VSOE of fair
value for each element is established based on the price charged when the same
element is sold separately. We have established VSOE for our software licenses
based on historical stand-alone sales to third parties or from the stated
renewal rates contained in the customer contracts. Maintenance service revenue
is recognized on a straight-line basis over the support period.
We have not yet demonstrated VSOE for the professional services that are
rendered in conjunction with our software license sales. In accordance with the
hierarchy we would attempt to establish the selling price of professional
services using TPE. Our product contains significant differentiation such that
the comparable pricing of products with similar functionality cannot be
obtained. We are typically not able to obtain TPE for professional services.
When we are unable to establish selling prices using VSOE or TPE, we use BESP.
The objective of BESP is to determine the price at which we would transact a
sale if professional services were sold on a stand-alone basis. BESP is
generally used for offerings that are not typically sold on a stand-alone basis
or for highly customized offerings.
We will also continue to defer revenues that represent undelivered post-delivery
engineering support until the engineering support has been completed and the
software product is accepted. To date, we have not sold any software products.
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The adoption of this guidance did not have a material effect on our consolidated
financial statements.
Accounts Receivable and Allowance for Doubtful Accounts
Our accounts receivable are stated at net realizable value. Our policy is to
maintain allowances for estimated losses resulting from the inability of our
customers to make required payments. Credit limits are established through a
process of reviewing the financial history and stability of each customer. Where
appropriate, we obtain credit rating reports and financial statements of our
customers when determining or modifying their credit limits. We regularly
evaluate the collectibility of our trade receivable balances based on a
combination of factors. When a customer's account balance becomes past due, we
initiate dialogue with the customer to determine the cause. If it is determined
that the customer will be unable to meet its financial obligation, such as in
the case of a bankruptcy filing, deterioration in the customer's operating
results or financial position, or other material events impacting its business,
we record a specific allowance to reduce the related receivable to the amount we
expect to recover. Should all efforts fail to recover the related receivable, we
will write-off the account. We also record an allowance for all customers based
on certain other factors, including the length of time the receivables are past
due and our historical collection experience with customers.
Debt Issuance Costs
Debt issuance costs represent costs incurred in connection with the issuance of
the convertible notes payable. Debt issuance costs are amortized over the term
of the financing instrument on a straight-line basis, which approximates the
effective interest method.
Advertising
Advertising costs are expensed as incurred. Advertising costs for the years
ended December 31, 2011 and 2010 were approximately $241,000 and $28,000,
respectively.
Product Research and Development
Research and development ("R&D") costs are expensed as incurred. R&D costs
mainly consist of personnel related costs in addition to some external
consultancy costs such as testing, certifying and measurements.
Property and Equipment
Property and equipment are stated at cost, net of accumulated depreciation and
amortization. Depreciation and amortization are computed using the straight-line
method based upon estimated useful lives of the assets ranging from three to
five years as follows:
Computer equipment 3 years
Furniture and fixtures 5 years
Equipment purchased under capital leases is amortized on a straight-line basis
over the estimated useful life of the asset or term of the lease, whichever is
shorter.
Upon retirement or sale of property and equipment, cost and accumulated
depreciation and amortization are removed from the accounts and any gains or
losses are reflected in the consolidated statement of operations. Maintenance
and repairs are charged to expense as incurred.
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Long-Lived Assets
We assess any impairment by estimating the future cash flow from the associated
asset in accordance with accounting guidance. If the estimated undiscounted cash
flow related to these assets decreases in the future or the useful life is
shorter than originally estimated, we may incur charges for impairment of these
assets. The impairment is based on the estimated discounted cash flow associated
with the asset.
Stock-Based Compensation Expense
We measure the cost of employee services received in exchange for an award of
equity instruments, including share options, based on the fair value of the
award on grant date, and recognize it as compensation expense over the period
the employee is required to provide services in exchange for the award, usually
the vesting period, net of estimated forfeitures. We account for equity
instruments issued to non-employees in accordance with accounting guidance,
which requires that such equity instruments be recorded at their fair value and
the unvested portion be re-measured each reporting period. When determining
stock based compensation expense involving options and warrants, we determine
the estimated fair value of options and warrants using the Black-Scholes option
pricing model.
Foreign Currency Translation and Transaction Gains and Losses
The functional currency of our foreign subsidiary is the applicable local
currency, the Swedish Krona. The translation from Swedish Krona to U.S. Dollars
is performed for balance sheet accounts using current exchange rates in effect
at the balance sheet date and for income statement accounts using a weighted
average exchange rate during the period. Gains or losses resulting from
translation are included as a separate component of accumulated other
comprehensive income (loss). Gains or losses resulting from foreign currency
transactions are included in general and administrative expenses in the
accompanying consolidated statements of operations and were $44,000 and $23,000
during the years ended December 31, 2011 and 2010, respectively. For the years
ended December 31, 2011 and 2010, our foreign currency translation gains totaled
$76,000 and $33,000, respectively.
Liabilities for Warrants and Embedded Derivatives
We do not enter into derivative contracts for purposes of risk management or
speculation. However, from time to time, we enter into contracts that are not
considered derivative financial instruments in their entirety but that include
embedded derivative features, such as conversion features that contain
anti-dilution rights. Such embedded derivatives are assessed at inception of the
contract and every reporting period, depending on their characteristics, and are
accounted for as separate derivative financial instruments pursuant to
accounting guidance, if such embedded conversion features, if freestanding,
would meet the classification of a liability. Accounting guidance requires that
we analyze all material contracts and determine whether or not they contain
embedded derivatives. Any such embedded conversion features that meet the above
criteria are then bifurcated from their host contract and recorded on the
consolidated balance sheet at fair value and the changes in the fair value of
these derivatives are recorded each period in the consolidated statements of
operations as an increase or decrease to non-cash charges.
Similarly, if warrants meet the criteria in accordance with accounting guidance
to be classified as liabilities, then the fair value of the warrants are
recorded on the consolidated balance sheet at their fair values, and any changes
in such fair values are recorded each period in the consolidated statements of
operations as an increase or decrease to non-cash charges.
Accounting for Debt Issued with Detachable Stock Purchase Warrants and
Beneficial Conversion Features
We account for debt issued with stock purchase warrants by allocating the
proceeds of the debt between the debt and the detachable warrants based on the
relative fair values of the debt security without the warrants and the warrants
themselves, if the warrants are equity instruments. The relative fair value of
the warrants is recorded as a debt discount and amortized to expense over the
life of the related debt using the straight line method, which approximates
the effective interest method. At each balance sheet date, we make a
determination if these warrant instruments should be classified as liabilities
or equity, and reclassify them if the circumstances dictate.
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In certain instances, the Company enters into convertible notes that provide for
an effective or actual rate of conversion that is below market value, and the
embedded conversion feature does not qualify for derivative treatment (a
"BCF"). In these instances, we account for the value of the BCF as a debt
discount, which is then amortized to expense over the life of the related debt
using the straight-line method, which approximates the effective interest
method.
Net Loss Per Share
Net loss per share amounts have been computed based on the weighted average
number of shares of common stock outstanding during the period. Net loss per
share, assuming dilution amounts from common stock equivalents, is computed
based on the weighted average number of shares of common stock and potential
common stock equivalents outstanding during the period. The weighted average
number of shares of common stock and potential common stock equivalents used in
computing the net loss per share for the year ended December 31, 2011 and 2010,
respectively, exclude the potential common stock equivalents, as the effect
would be anti-dilutive.
Comprehensive Loss
Our comprehensive loss includes foreign currency translation gains and losses.
The cumulative amount of translation gains and losses are reflected as a
separate component in stockholders' equity (deficit) and comprehensive income
(loss).
Income taxes
We account for income taxes in accordance with accounting guidance. Accounting
guidance requires recognition of deferred tax liabilities and assets for the
expected future tax consequences of items that have been included in the
consolidated financial statements or tax returns. We estimate income taxes based
on rates in effect in each of the jurisdictions in which we operate. Deferred
income tax assets and liabilities are determined based upon differences between
the financial statement and income tax bases of assets and liabilities using
enacted tax rates in effect for the year in which the differences are expected
to reverse. The realization of deferred tax assets is based on historical tax
positions and expectations about future taxable income. Valuation allowances are
recorded against net deferred tax assets when, in our opinion, realization is
uncertain based on the "not more likely than not" criteria of the accounting
guidance.
Based on the uncertainty of future pre-tax income, we fully reserved our net
deferred tax assets as of December 31, 2011 and 2010. In the event we were to
determine that we would be able to realize our deferred tax assets in the
future, an adjustment to the deferred tax asset would increase income in the
period such a determination was made. The provision for income taxes represents
the net change in deferred tax amounts, plus income taxes payable for the
current period.
Effective January 1, 2007, we adopted the provisions of the accounting, which
provisions included a two-step approach to recognizing, de-recognizing and
measuring uncertain tax positions accounted for in accordance with the
accounting guidance.
Cash Flow Information
Cash flows in foreign currencies have been converted to U.S. dollars at an
approximate weighted average exchange rate for the respective reporting periods.
The weighted average exchange rate for the consolidated statements of operations
was 6.50 and 7.21 Swedish Krona to one U.S. Dollar for the years ended December
31, 2011 and 2010, respectively. The exchange rate for the consolidated balance
sheets was 6.92 and 6.78 Swedish Krona to one U.S. Dollar as of December 31,
2011 and 2010, respectively.
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Fair Value of Financial Instruments
We disclose the estimated fair values for all financial instruments for which it
is practicable to estimate fair value. Financial instruments including cash,
accounts receivable, payables and derivatives are deemed to approximate fair
value due to their short maturities. The carrying amounts of convertible debt
cannot be reasonably determined since no quoted market prices exist for these
instruments and quoted prices for similar instruments cannot be located.
Deferred Revenue
Engineering development fees are recorded as deferred revenue until such time as
the engineering services have been provided.
As of December 31, 2011, we have $1.5 million of deferred license fee
revenue related to a prepayment for future license fee from one customer and a
total of $0.4 million of deferred engineering development fees from four
customers. We are deferring the engineering development fee revenue until such
time as the engineering work has been completed. We expect to complete all
services under these contracts by the fourth quarter of 2012.
New Accounting Pronouncements
In September 2009, the Financial Accounting Standards Board ("FASB") issued
Accounting Standards Update ("ASU 2009-13"), Multiple-Deliverable Revenue
Arrangements, which amends the revenue guidance under ASC Topic 605, Revenue
Recognition , which describes the accounting for multiple-element arrangements.
ASU 2009-13 addresses how to determine whether an arrangement involving multiple
deliverables contains more than one unit of accounting and how arrangement
consideration shall be measured and allocated to the separate units of
accounting in the arrangement. ASU 2009-13 is effective on a prospective basis
for the Company's fiscal year 2011, with earlier adoption permitted. The Company
adopted ASU 2009-13 on January 1, 2011 and determined that the adoption of this
guidance did not have a material effect on the consolidated financial
statements.
In September 2009, the FASB issued ASU 2009-14, Certain Revenue Arrangements
That Include Software Elements ("ASU 2009-14"), which excludes tangible products
containing software components and non-software components that function
together to deliver product's essential functionality from scope of ASC Topic
985, Software, which describes the accounting for software revenue recognition.
ASU 2009-14 is effective on a prospective basis for the Company's fiscal year
2011, with earlier adoption permitted. The Company adopted ASU 2009-14 on
January 1, 2011 and determined that the adoption of this guidance did not have a
material effect on the consolidated financial statements.
In May 2011, the FASB issued ASU No. 2011-4, Fair Value Measurement ("ASU
2011-04"). ASU 2011-04 amends existing guidance to achieve convergence in
measurement and disclosure between U.S. GAAP and International Financial
Reporting Standards ("IFRS"). ASU 2011-04 is effective for fiscal year 2012. The
Company is currently evaluating the impact that ASU 2011-04 will have on its
consolidated financial statements.
In June 2011, the FASB issued ASU No. 2011-05, Presentation of Comprehensive
Income ("ASU 2011-05"). The provisions of ASU 2011-05 allow an entity the
option to present the total of comprehensive income, the components of net
income, and the components of other comprehensive income either in a single
continuous statement of comprehensive income or in two separate but consecutive
statements. In both choices, an entity is required to present each component of
net income along with total net income, each component of other comprehensive
income along with a total for other comprehensive income, and a total amount for
comprehensive income. The statement(s) are required to be presented with equal
prominence as the other primary financial statements. ASU No. 2011-05
eliminates the option to present the components of other comprehensive income as
part of the statement of changes in shareholders' equity but does not change the
items that must be reported in other comprehensive income or when an item of
other comprehensive income must be reclassified to net income. Certain
provisions of ASU No. 2011-05 are effective for the Company's interim reporting
period beginning on or after December 15, 2011, with retrospective application
required. The adoption of ASU No. 2011-05 is expected to result in presentation
changes to the Company's consolidated statements of operations and the addition
of a consolidated statement of comprehensive income (loss). The adoption of ASU
No. 2011-05 will have no impact on the Company's consolidated balance sheet.
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Results of Operations
Net Revenue
Net revenue for the year ended December 31, 2011 was $6.1 million, compared to
$440,000 for the year ended December 31, 2010. Our net revenue for the year
ended December 31, 2011 included $5.8 million from technology license fees and
$287,000 in non-recurring engineering services related to our touchscreen
solution for various customers. Under the terms of one of our contracts entered
into in 2010, the customer prepaid $3.0 million of technology licenses prior to
shipment of its first product. The $3.0 million pre-payment was included in
deferred revenue as of December 31, 2010 and will be amortized to revenue as
units are sold. For the year ended December 31, 2011, $1.5 million in license
fees related to products shipped in 2011 have been recognized as revenue, and as
of December 31, 2011, $1.5 million remains in deferred revenue. Our net revenue
for the year ended December 31, 2010 was $440,000 and includes $387,000 in fees
for engineering design services, $50,000 for the sale of components, and $3,000
from technology license fees related to our touchscreen solution for our
customers.
As of December 31, 2011, we had twelve signed technology license agreements with
global OEMs. Six of our customers are currently shipping products and we
anticipate others will initiate product shipments as they complete their final
product development and manufacturing cycle throughout 2012. Sony Corporation is
currently shipping the "Sony Reader Wi-Fi PRS-T1" model. Koobe Inc. began
shipping the "Jin Yong e-Reader" in limited quantities to the Chinese market in
December 2010 but ceased shipments in the first quarter of 2011. Kobo Inc. is
currently shipping the "Kobo eReader Touch"; Barnes & Noble Inc. is currently
shipping "The Simple Touch Reader" Nook e-Reader; Amazon is currently shipping
the Kindle Touch and Kindle Touch 3G e-Readers; and Onyx began shipping e-Reader
products in December 2011. All of these products incorporate Neonode's
zForce touch technology.
In the first quarter of 2012, we signed technology license agreements with four
new customers in the GPS, Tablet PC, printing and office equipment, and imaging
markets. In addition, we are currently developing prototype products and are
engaged in product engineering design discussions with numerous global OEMs who
are in the process of qualifying our touchscreen technology for incorporation in
various products such as printer products, GPS devices, e-Readers, Tablet PCs,
touch panels for automobiles, household appliances, mobile phones and games and
toys. The development and product release cycle for these products typically
takes six to eighteen months.
Current and future drivers of the touchscreen market include mobile phones,
printers, automotive, household appliances, tablet PCs, e-Readers, navigation
screens, etc. The proliferation and mass market acceptance of touchscreens have
prompted new applications and uses for existing and new offerings, thus making
the production and utilization of these modules one of the fastest growing tech
segments. The typical sales cycle is nine to eighteen months with new customers
while existing customer lead times are typically six to nine months. During the
initial cycle, there are three phases: evaluation, design, and
commercialization. In the evaluation phase, prospects validate the Neonode
technology using a Neonode evaluation kit and may produce short runs of
prototype products. During the design phase, true product development and
solution definition begins. This phase tends to be the longest and delays
typically occur which may extend the term of the overall cycle. In the final
phase, commercialization, the customer enters into full production mode, ships
products to the market and Neonode earns its license revenue.
Gross Margin
Gross margin was $5.2 million and $172,000 for the years ended December 31, 2011
and 2010, respectively. Our cost of revenues includes the direct cost of
production of the components plus the costs of Company employed engineering
personnel plus engineering consultants to complete the engineering design
contract.
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Product Research and Development
Product research and development (R&D) expenses for each of the years ended
December 31, 2011 and 2010 were $1.9 million. R&D costs mainly consist of
personnel related costs in addition to some external consultancy costs such as
testing, certifying and measurements.
We continue to pursue and expand R&D expenditures on the development of our
touchscreen and other technologies. We have a development roadmap based on our
touchscreen and other technologies. As of December 31, 2011, our R&D department
had eighteen full-time employees compared to eight full-time employees and one
part-time consultant at December 31, 2010.
Sales and Marketing
Sales and marketing expenses for the year ended December 31, 2011 were $1.8
million, compared to $566,000 for the year ended December 31, 2010. This
increase in 2011 as compared to 2010 is primarily related to an increase in
sales personnel, marketing, trade shows and travel expenses. As of December 31,
2011, our sales and marketing department has nine full-time employees, compared
to three employees at December 31, 2010.
Our sales activities focus primarily on OEM customers who will integrate our
touchscreen technology into their products. Our OEM customers will then sell and
market their products incorporating our technology to their customers.
General and Administrative
General and administrative (G&A) expenses for the year ended December 31, 2011
were $3.5 million, compared to $3.6 million for the year ended December 31,
2010. This slight decrease in 2011 as compared to 2010 is primarily related to a
decrease in non-cash fair value of warrants issued to employees that was
partially offset by an increase in patent related legal fees and financial
consultant costs.
As of December 31, 2011 and 2010, we had three employees and one part-time
consultant in our G&A department fulfilling management and accounting
responsibilities.
Amortization of Fair Value of Stock Issued to Related Parties for Purchase of
Neonode Technologies AB
On December 29, 2008, we entered into a Share Exchange Agreement with Neonode
Technologies AB and the stockholders of Neonode Technologies AB: Iwo Jima SARL,
Wirelesstoys AB, and Athemis Ltd (the "Neonode Technologies AB Stockholders"),
pursuant to which we agreed to acquire all of the issued and outstanding shares
of Neonode Technologies AB in exchange for the issuance of 19,800 shares of the
Company's Series A Preferred stock. Pursuant to the terms of the Share Exchange
Agreement, upon the closing of the transaction, Neonode Technologies AB became a
wholly owned subsidiary of the Company. The Neonode Technologies AB
Stockholders are or were employees of us and/or Neonode AB, and as such were
related parties.
The fair value of the conversion feature of the 19,800 shares of Series A
Preferred shares issued to the related parties to acquire Neonode Technologies
AB that were converted into a total of 9,516,447 shares of our common stock was
$9.5 million based on our stock price on March 31, 2009, the date our
shareholders approved the increased conversion ratio. Because this transaction
was essentially the issuance of shares to key employees for their continued
service to enhance the Company, the $9.5 million revised fair value of the
common stock has been amortized to compensation expense at the rate of $1.6
million per quarter for six quarters beginning January 1, 2009. The amortization
of the $9.5 million in compensation expense related the value of the stock
issued to the related parties to acquire Neonode Technologies AB was completed
on June 30, 2010. For the year ended December 31, 2010, $3.2 million has been
recorded as compensation expense in our consolidated statement of operations.
29
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Interest and Other Expense
Interest expense for the year ended December 31, 2011 was $288,000, compared to
$179,000 for the year ended December 31, 2010. The increase is primarily due to
an increase in the debt outstanding from $2.8 million at December 31, 2010 to
$4.2 million for the majority of the year ended December 31, 2011.
Foreign Currency Translation and Transaction Gains and Losses
The functional currency of our foreign subsidiary is the applicable local
currency, the Swedish Krona. The translation from Swedish Krona to U.S. Dollars
is performed for balance sheet accounts using current exchange rates in effect
at the balance sheet date and for income statement accounts using a weighted
average exchange rate during the period. Gains or losses resulting from
translation are included as a separate component of accumulated other
comprehensive loss. Gains or losses resulting from foreign currency transactions
are included in general and administrative expenses in the accompanying
consolidated statements of operations and were $44,000 and $23,000 during the
years ended December 31, 2011 and 2010, respectively. Foreign currency
translation gains were $76,000 and $33,000 during the years ended December 31,
2011 and 2010, respectively.
Non-Cash Items Related to Debt Discounts and Deferred Financing Fees and the
Valuation of Conversion Features and Warrants
Non-cash items related to debt discounts and deferred financing fees and the
valuation of conversion features and warrants for the year ended December 31,
2011 was $14.7 million, compared to $20.0 million for the year ended December
31, 2010. The amount in the current year includes $8.6 million in net change in
derivative liabilities, $4.3 million of debt discount and debt issuance cost
amortization, $1.5 million in excess amount of debt discount recognized as
interest expense associated with derivatives, and $0.4 million associated with
the fair value of shares issued for bonus interest related to the automatic
conversion of the Senior Convertible Secured Notes - 2011. The amount in the
prior year includes $16.3 million in net change in derivative liabilities, $2.7
million of debt discount and debt issuance cost amortization, and $1.0 million
in excess amount of debt discount recognized as interest expense associated with
derivatives.
Loss on extinguishment of debt
Loss on extinguishment of debt for the year ended December 31, 2010 of $2.4
million was primarily the result of the warrant repricing and debt extension
financing transaction that was consummated in the prior year. During September
and October 2010, all of the holders of the convertible notes and the holders of
the stock purchase warrants issued in the 2009 and 2010 Senior Secured
Convertible Debt Financing Transactions agreed to extend the maturity date of
their convertible debt from December 31, 2010 to June 30, 2011. In addition,
holders of 2,766,857 stock purchase warrants also agreed to exercise their
previously granted three-year warrants for a discounted exercise price. In
accordance with relevant accounting guidance, the transaction qualified for debt
extinguishment accounting.
Income Taxes
Our effective tax rate was 0% in the year ended December 31, 2011 and 2010,
respectively. We recorded valuation allowances in 2011 and 2010 for deferred tax
assets related to net operating losses due to the uncertainty of realization.
Net Loss
As a result of the factors discussed above, we recorded a net loss of $17.1
million for the year ended December 31, 2011, compared to a net loss of $31.6
million in the comparable period in 2010.
Off-Balance Sheet Arrangements
We do not have any transactions, arrangements, or other relationships with
unconsolidated entities that are reasonably likely to affect our liquidity or
capital resources other than the operating leases noted above. We have no
special purpose or limited purpose entities that provide off-balance sheet
financing, liquidity, or market or credit risk support; or engage in leasing,
hedging, research and development services, or other relationships that expose
us to liability that is not reflected on the face of the financial statements.
30
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Liquidity and Capital Resources
Our liquidity is dependent on many factors, including sales volume, operating
profit and the efficiency of asset use and turnover. Our future liquidity will
be affected by, among other things:
· actual versus anticipated licensing of our technology;
· our actual versus anticipated operating expenses;
· the timing of our OEM customer product shipments;
· the timing of payment for our technology licensing agreements;
· our actual versus anticipated gross profit margin;
· our ability to raise additional capital, if necessary; and
· our ability to secure credit facilities, if necessary.
We have six current active customers for our touchscreen technology and an
additional nine customers with signed license agreements currently in the
product development stage. In most circumstances, our target customers will have
to successfully integrate our technology into their products and then sell those
products to their customers before we will receive any cash from our technology
license agreements.
Our cash is subject to interest rate risk. We invest primarily on a short-term
basis. Our financial instrument holdings at December 31, 2011 were analyzed to
determine their sensitivity to interest rate changes. The fair values of these
instruments were determined by net present values. In our sensitivity analysis,
the same change in interest rate was used for all maturities and all other
factors were held constant. If interest rates increased by 10%, the expected
effect on net loss related to our financial instruments would be immaterial. The
functional currency of our foreign subsidiary is the applicable local currency,
the Swedish Krona, and is subject to foreign currency exchange rate risk. Any
increase or decrease in the exchange rate of the U.S. Dollar compared to the
Swedish Krona will impact Neonode's future operating results.
At December 31, 2011, we had cash of $12.9 million, as compared to $911,000 at
December 31, 2010. In the year ended December 31, 2011, $3.5 million of cash was
used in operating activities, primarily as a result of our net loss increased by
the following non-cash items (in thousands):
Depreciation and amortization $ 26
Stock-based compensation expense 550
Debt discounts and deferred financing fees and the valuation of
conversion features and warrants
14,735
Total adjustments to reconcile net loss to net cash used in
operating activities
$ 15,311
Working capital (current assets less current liabilities) was $13.6 million at
December 31, 2011, compared to an adjusted working capital (current assets less
current liabilities not including non-cash liabilities related to warrants and
embedded derivatives) deficit of $3.2 million at December 31, 2010.
In the years ended December 31, 2011 and 2010, we purchased $114,000 and
$14,000, respectively of fixed assets, consisting primarily of computers and
engineering equipment.
During the year ended December 31, 2010, we received proceeds from a private
placement of convertible notes totaling $1.6 million and converted $163,000 of
accounts payable to convertible debt that were converted, at the holder's
option, into 3,521,423 shares of our common stock at a conversion price of $0.50
per share. The convertible note holders had the right to have the conversion
price adjusted to equal the lower stock price if we issued common stock or
convertible notes at a lower conversion price than $0.50 during the period that
the notes were outstanding. These convertible notes that were due on December
31, 2010 were extended until June 30, 2011and bore an annual interest rate of
7%, payable on June 30 and December 31 of each year that the convertible notes
were outstanding. In addition, we issued 1,760,711 three year warrants to the
convertible note holders with an exercise price of $1.00 per share (see below).
31
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During March and April 2011, we received an aggregate of $4.2 million in cash
proceeds related to a private placement of convertible notes, bearing interest
at a rate of seven percent (7%) per annum, that was scheduled to mature on March
1, 2014, and that was convertible at the holder's option into 1,691,320 shares
of our common stock at a conversion price of $2.50 per share. The loan would
automatically convert into shares of our common stock in the event that on or
before the loan due date either (a) the Company's common stock traded at a price
per share of $6.25 or higher for five (5) consecutive trading days, or (b) the
Company consummated a financing in the amount of at least $5 million. In the
event that the loan principal and accrued interest was not repaid by the Company
by the due date, and the Investor had not previously converted the loan, the
investor's sole remedy for such non-payment was the payment of additional annual
interest at a rate of 10% per year. The accrued interest was payable in stock,
using the $2.50 conversion price, or cash, at the holder's option, on September
30 and December 31 of each year.
In March 2011, the Company entered into a warrant agreement with investors who
participated in the Company's 2009 and 2010 financing transactions and who had
been issued common stock purchase warrants with exercise prices of $0.50 per
share, $1.00 per share, and $1.38 per share (the "2009 and 2010 Warrants").
Pursuant to the warrant agreement, each warrant holder who exercised some or all
of its outstanding 2009 and 2010 Warrants at the applicable exercise price
($0.50 per share, $1.00 per share, and/or $1.38 per share), received a number of
March 2011 Warrants equal to fifty percent (50%) of the number of 2009 and 2010
Warrants exercised by such warrant holder. The warrant holders exercised an
aggregate of 493,426 outstanding 2009 and 2010 Warrants, for an aggregate
investment of $515,000 and received 493,426 shares of common stock and 246,713
new five-year common stock purchase warrants, with an exercise price of $3.13
per share. The March 2011 Warrants may be exercised by cash payment or through
cashless exercise by the surrender of warrant shares having a value equal to the
exercise price of the portion of the warrants being exercised.
On December 13, 2011, the Company sold 3,000,000 shares of common stock of the
Company, par value $0.001 per share, in a public offering pursuant to a
Registration Statement on Form S-3. The net proceeds to the Company from this
offering was $11.2 million, after deducting the underwriting discount but before
deducting other estimated offering expenses of approximately $0.4 million
payable by the Company.
In the future, we may require sources of capital in addition to cash on hand to
continue operations and to implement our strategy. If our operations do not
become cash flow positive, we may be forced to seek credit line facilities from
financial institutions, additional private equity investment or debt
arrangements. No assurances can be given that we will be successful in obtaining
such additional financing on reasonable terms, or at all. If adequate funds are
not available on acceptable terms, or at all, we may be unable to adequately
fund our business plans and it could have a negative effect on our business,
results of operations and financial condition. In addition, if funds are
available, the issuance of equity securities or securities convertible into
equity could dilute the value of shares of our common stock and cause the market
price to fall, and the issuance of debt securities could impose restrictive
covenants that could impair our ability to engage in certain business
transactions.
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