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ISC8 INC. /DE - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Edgar Glimpses Via Acquire Media NewsEdge)
In this report, the terms "ISC8 Inc.," "ISC8," "Irvine Sensors," "Irvine Sensors
Corporation," "Company," "we," "us" and "our" refer to ISC8 Inc. ("ISC8") and
its subsidiaries.
Introduction
The following information should be read in conjunction with our unaudited
condensed consolidated financial statements and notes thereto in Part I, Item 1
of this Quarterly Report on Form 10-Q ("Quarterly Report"), and with
Management's Discussion and Analysis of Financial Condition and Results of
Operations contained in our Annual Report on Form 10-K for the year ended
September 30, 2012.
Overview
We are engaged in the design, development, manufacture and sale of a family of
security products, consisting of cyber security solutions for government and
commercial applications, secure memory products, some of which utilize
technologies that we have pioneered for 3-D stacking of semiconductors, Systems
in a Package (or SIP), and anti-tamper systems. In our government systems
portfolio, we utilize technologies such as high-speed processor assemblies and
miniaturized vision systems and sensors. In addition, we offer custom stacked
solutions for other customer specific systems in package applications. We also
perform customer-funded contract research and development related to these
products, mostly for U.S. government customers or other prime contractors. We
generally use contract manufacturers to produce our products or their
subassemblies. Our current operations are located in California, Texas, and
Italy with other employees and consultants in various other locations globally.
Our operation in Italy was acquired in connection with our acquisition of
certain software assets of Bivio in October 2012, described below.
As of December 30, 2012, we had approximately $31.4 million of debt, exclusive
of debt discounts, and approximately $3.6 million of accounts payable and
accrued expenses.
Acquisition of Bivio Software
On October 12, 2012, pursuant to the terms of the Foreclosure Sale Agreement
between the Company and GF Acquisition Co. 2012, LLC ("GFAC") dated October 4,
2012 (the "Foreclosure Sale Agreement"), the Company acquired substantially all
of the assets of the NetFalcon and Network Content Control System Business (the
"Bivio Software") of Bivio Networks, Inc. and certain of its subsidiaries
(collectively, "Bivio"), an international provider of cyber security solutions
and products. The purchase price of those assets (the "Acquisition") was
$600,000 payable in cash to GFAC, and the issuance to GFAC of a warrant to
purchase capital stock of the Company. In addition, the Company assumed certain
liabilities, including accounts payable, contractual obligations, reclamation
obligations and other liabilities related to Bivio Software.
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Critical Accounting Estimates
Our consolidated financial statements have been prepared in conformity with
accounting principles generally accepted in the United States of America
("GAAP"). As such, management is required to make judgments, estimates and
assumptions that affect the reported amounts of assets and liabilities at the
date of the consolidated financial statements and the reported amounts of
revenues and expenses during the reporting period. The significant accounting
policies that are most critical to aid in fully understanding and evaluating
reported financial results are the same as those disclosed in our Form 10-K for
the fiscal year ended September 30, 2012 filed with the SEC on December 28,
2012.
Results of Continuing Operations
The following discussions relate to the Company's results of continuing
operations after reclassifying the operations of our Thermal Imaging Business as
a discontinued operation due to its sale on January 31, 2012.
Total Revenues. Our total revenues are generally derived from sales of
specialized chips, modules, stacked chip products and amounts realized or
realizable from funded research and development contracts, largely from U.S.
government agencies and other government contractors. Our total revenues
decreased in the 13-week period ended December 30, 2012 as compared to the
13-week period ended January 1, 2012 and changed in composition as shown in the
following table and discussed more fully below.
13-Week Comparisons Total Revenues
13 weeks ended January 1, 2012 $ 1,297,000
Dollar decrease in current comparable 13 weeks (422,000 )
13 weeks ended December 30, 2012 $ 875,000
Percentage decrease in current 13 weeks (33%)
The decrease in our total revenues in the 13-week period ended December 30, 2012
as compared to the 13-week period ended January 1, 2012 was primarily the result
of a $676,000 decrease in funded research and development revenue. This decrease
in total revenues was partially offset by a $254,000 increase in product sales
related to our 3-D stacking business as well as our cyber business. We believe
the decrease in revenues derived from funded research and development contracts
in the 13-week period ended December 30, 2012 as compared to the 13-week period
ended January 1, 2012 was substantially related to our current inability to
obtain contracts under the Small Business Innovation Research ("SBIR") program.
Our inability to receive grants under the SBA could materially adversely affect
our business, results of operations and financial condition. We are unable to
ascertain what future effects the U.S. defense budget timing may have on our
total revenues for the balance of the fiscal year ended September 30, 2013
("Fiscal 2013") and beyond. We are promoting sales of our other recently
introduced products, which if achieved we believe could still become a material
contributor to our total revenues in the final reporting period of Fiscal 2013.
However we are not certain that such outcome will materialize during Fiscal 2013
or at all.
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Cost of Revenues. Cost of revenues includes wages and related benefits of our
personnel, as well as subcontractor, independent consultant and vendor expenses
directly incurred in the manufacture of products sold or in the performance of
funded research and development contracts, plus related overhead expenses and,
in the case of funded research and development contracts, such other indirect
expenses as are permitted to be charged pursuant to the relevant contracts. The
comparison of cost of revenues for the 13-week period ended December 30, 2012
and January 1, 2012 is shown in the following table and discussed more fully
below:
Percentage of
13-Week Comparisons Cost of Revenues Total Revenues
13 weeks ended January 1, 2012 $ 961,000 74 %
Dollar decrease in current comparable 13 weeks (332,000)
13 weeks ended December 30, 2012 $ 629,000 72 %
Percentage decrease in current 13 weeks (35%)
The decrease in absolute dollar cost of revenues in the 13-week period ending
December 30, 2012 compared to the 13-week period ended January 1, 2012 is
largely the result of comparatively low contract material costs and other direct
costs relative to funded research and development revenue. Additionally, we
experienced an increase in product sales, which have lower costs of revenue as
compared to our funded research and development revenue.
General and Administrative Expense. General and administrative expense largely
consists of wages and related benefits for our executive, financial,
administrative and marketing staff, as well as professional fees, primarily
legal and accounting fees and costs, plus various fixed costs such as rent,
utilities and telephone. The comparison of general and administrative expense
for the 13-week period ended December 30, 2012 and January 1, 2012 is shown in
the following table and discussed more fully below:
General and
Administrative Percentage of
13-Week Comparisons Expense Total Revenue
13 weeks ended January 1, 2012 $ 2,551,000 197 %
Dollar increase in current comparable 13 weeks 376,000
13 weeks ended December 30, 2012 $ 2,927,000 335 %
Percentage increase in current 13 weeks 15%
The increase in absolute dollars of general and administrative expense in the
13-week period ended December 30, 2012 as compared to the 13-week period ended
January 1, 2012 consisted of a combination of increased stock-based compensation
expense, marketing and legal fees, severance expenses, as well as facilities
expense related to cyber development in Texas. This was partially offset by a
decrease in travel, bid and proposal fees, professional fees, and
stockholder-related expenses.
Research and Development Expense. Research and development expense primarily
consists of wages and related benefits for our research and development staff,
independent contractor consulting fees and subcontractor and vendor expenses
directly incurred in support of internally funded research and development
projects, plus associated overhead expenses. Research and development expense
for the 13-week period ended December 30, 2012 as compared to the 13-week period
ended January 1, 2012 is shown in the following table and discussed more fully
below:
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Research and
Development Percentage of
13-Week Comparisons Expense Total Revenue
13 weeks ended January 1, 2012 $ 1,831,000 141 %
Dollar increase in current comparable 13 weeks 613,000
13 weeks ended December 30, 2012 $ 2,444,000 279 %
Percentage increase in current 13 weeks 33 %
The changes in research and development expense in the 13-week period ended
December 30, 2012 as compared to the 13-week period ended January 1, 2012, are
largely related to the development expenses of our Texas-based cyber security
office, which we opened and commenced staffing in April 2011. Many of those
expenses relate to hiring of highly-skilled development and support staff,
software licensing expenses, consulting fees and various operating leases
of facilities and equipment to support product development. We also signed a
joint development agreement with Cavium, Inc. to provide design and engineering
services. We expect to continue to allocate significant resources to the
development of our cyber security products in future periods, which may result
in further increases in research and development expense as compared to prior
fiscal periods. However, no assurances can be given that we will capitalize on
our research and development initiatives.
Interest Expense. Our interest expense for the 13-week period ended December 30,
2012, compared to the 13-week period ended January 1, 2012, increased as shown
in the following table and discussed more fully below:
13-Week Comparisons Interest Expense
13 weeks ended January 1, 2012 $ 1,669,000
Dollar increase in current comparable 13 weeks 318,000
13 weeks ended December 30, 2012 $ 1,987,000
Percentage increase in current 13 weeks 19 %
The increase in interest expense in the 13 weeks ended December 30, 2012 as
compared to January 1, 2012 was attributable primarily to interest and
amortization of debt discounts and financing related costs as a result of our
capital structure and continued fund raising efforts.
Change in Fair Value of Derivative Liability. We recorded a substantial decrease
in the change in fair value of derivative liability for the 13 week period ended
December 30, 2012, as compared to the 13-week period ended January 1, 2012. This
is shown in the following table and discussed more fully below:
Change in Fair Value of
13-Week Comparisons Derivative Liability
13 weeks ended January 1, 2012 $ (2,310,000 )
Dollar decrease in current comparable 13 weeks (7,257,000)
13 weeks ended December 30, 2012 $ 4,947,000
Percentage decrease in current 13 weeks (314 %)
The Company revalued its derivatives as of December 30, 2012 and recorded a
decrease in their fair value of approximately $4.9 million for the 13-week
period, mainly as a result of quarterly valuations based on a decrease of our
stock price from last quarter. Given the price volatility of our common stock,
we anticipate that there could be additional substantial change in fair value of
derivative liability expense that we will be required to record in future
reporting periods, unless and until the Subordinated Notes are converted into,
and/or the warrants are exercised for the purchase of common stock pursuant to
their respective terms. Although no assurances can be given, in the event of
such conversion or exercise, the derivative liability associated with these
instruments would be eliminated.
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Net Loss from Continuing Operations. Our net loss from continuing operations
decreased in the 13-week period ended December 30, 2012, compared to the 13-week
period ended January 1, 2012, as shown in the following table and discussed more
fully below:
Net Loss
from Continuing
13-Week Comparisons Operations
13 weeks ended January 1, 2012 $ (8,027,000)
Dollar decrease in current comparable 13 weeks (5,863,000)
13 weeks ended December 30, 2012 $ (2,164,000)
Percentage decrease for current 13 weeks (73% )
The decrease in net loss from continuing operations in the 13-week period ended
December 30, 2012 compared to the 13-week period ended January 1, 2012 was
largely due to a change in fair value of derivative instruments, a non cash
item, discussed above which mainly related to lower stock prices during the
current period, offset in part by an increase total cost and expenses and
interest expenses in the comparable periods.
Liquidity and Capital Resources
Our liquidity in terms of both cash and cash equivalents decreased in the first
13 weeks of Fiscal 2012, largely as a result of losses generated from continuing
operations, partially offset by an increase in product sales. As a result, we
continued to have a working capital deficit for the current period as shown in
the following table and discussed more fully below:
Cash and Working Capital
Cash Equivalents (Deficit)
September 30, 2012 $ 1,738,000 $ (10,091,000 )
Dollar decrease as of December 30, 2012 (1,311,000) (5,906,000)
December 30, 2012 $ 427,000 $ (15,997,000 )
Percentage decrease as of December 30, 2012 (75% ) (59%)
The $1.3 million use of cash during the 13-week period ended December 30, 2012
is a result of the following components: cash used in operating activities of
$4.9 million, cash used in investing activities of $0.6 million, and cash
provided by financing activities of $4.2 million. Cash used in operating
activities was a result of the $2.2 million net loss from continuing operations
and $4.9 million change in fair value of derivative liability, partially offset
by $1.7 million in non-cash interest expense, and other less significant factors
related to various timing and cash deployment effects. Cash used in investing
activities was a result of $0.6 million related to acquisition related costs,
and property and equipment expenditures. Cash provided by financing activities
was a result of $4.2 million in proceeds from the issuance of the 2012
Notes. The proceeds from financing were the primary source of improvement in our
working capital for the current period.
As of December 30, 2012 we have used a significant portion of the cash obtained
from both from the Thermal Imaging Sale, the Revolving Credit Facility and 2012
Notes to fund our operations, and have been unable to maintain positive cash
flow during the 13-week period due to insufficient revenues. To continue to fund
anticipated operating expenses and satisfy indebtedness, we will have to seek
additional financing, and no assurances can be given that such financing would
be available on a timely basis, on terms that are acceptable, or at all. Failure
to do so and meet the repayment or other obligations of our existing debt could
result in default and acceleration of debt maturity, which could materially
adversely affect our business, and financial condition, and threaten our
viability as a going concern.
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At December 30, 2012, our funded backlog was approximately $1.3 million.
Although no assurances can be given, we anticipate that a substantial portion of
our funded backlog at December 30, 2012 will result in revenue recognized in the
next twelve months. In addition, our government research and development
contracts and product purchase orders typically include unfunded backlog, which
is funded when the previously funded amounts have been expended or product
delivery schedules are released. As of December 30, 2012, our total backlog,
including unfunded portions, was approximately $1.4 million.
Contracts with government agencies may be suspended or terminated by the
government at any time, subject to certain conditions. Similar termination
provisions are typically included in agreements with prime contractors. While we
have only experienced a small number of contract terminations, none of which
were recent, we cannot assure you that we will not experience suspensions or
terminations in the future. Any such termination, if material, could cause a
disruption of our revenue stream, materially adversely affect our liquidity and
results of operations and result in employee layoffs.
Off-Balance Sheet Arrangements
Our conventional operating leases are either immaterial to our financial
statements or do not contain the types of guarantees, retained interests or
contingent obligations that would require their disclosures as an "off-balance
sheet arrangement" pursuant to Regulation S-K Item 303(a)(4). As of December 30,
2012 and September 30, 2012, we did not have any other relationships with
unconsolidated entities or financial partners, such as entities often referred
to as structured finance or special purpose entities, which would have been
established for the purpose of facilitating off-balance sheet arrangements or
other contractually narrow or limited purposes.
Contractual Obligations and Commitments
Debt. At December 30, 2012, we had approximately $31.4 million of debt,
exclusive of discounts, which consisted of (i) a Senior Secured Revolving Credit
Facility, in the original principal amount of $5.0 million; (ii) Senior
Subordinated Convertible Notes with an aggregate principal balance of
approximately $5.4 million.; (iii) Senior Subordinated Notes with an aggregate
principal balance of approximately $4.9 million, and (iv) Subordinated Secured
Convertible Notes with an aggregate principal balance of approximately $16.1
million. Each of these instruments are described more fully below.
Senior Secured Revolving Credit Facility
In December 2011, we entered into a Loan and Security Agreement (the "Loan
Agreement") with Partners for Growth, L.P. ("PFG") pursuant to which we obtained
the two-year, $5.0 million line of credit (the "Revolving Credit Facility").
Upon execution of the Loan Agreement, we borrowed the entire $5.0 million
available thereunder and used approximately $1.9 million of that Revolving
Credit Facility to repay the Secured Promissory Note. We used the remaining
proceeds of the Revolving Credit Facility, less expenses thereof, for general
working capital purposes.
The maturity date for the Revolving Credit Facility is December 14, 2013 (the
"Maturity Date"). Interest on the Revolving Credit Facility accrues at the rate
of 12% per annum. Interest on the Revolving Credit Facility is payable monthly
on the third business day of each month for interest accrued during the prior
month, and the remaining balance is payable on the Maturity Date. Each of Costa
Brava and Griffin, individually and collectively, jointly and severally, have
unconditionally guaranteed repayment to PFG of $2.0 million of our monetary
obligations under the Loan Agreement.
To secure the payment of all of our obligations under the Revolving Credit
Facility when due, we granted to PFG a first position, continuing security
interest in substantially all of our assets, including substantially all of our
intellectual property, subject to the commitment by PFG to release any security
interests in the assets of the Thermal Imaging Business that we sold. That sale
was consummated on January 31, 2012, and PFG subsequently released the related
security interests. In addition, Costa Brava, Griffin and certain other of our
existing creditors have agreed that, while any obligations remain outstanding by
us to PFG, their respective security interests in and liens on our assets shall
be subordinated and junior to those of PFG.
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Senior Subordinated Convertible Notes
Effective as of September 28, 2012, the Company issued and sold to The Griffin
Fund LP Senior Subordinated Secured Convertible Promissory Notes due November
30, 2012 in the aggregate principal amount of $1.2 million (the "2012 Notes").
The 2012 Notes are convertible at $0.12 per share, or the price of shares sold
by the Company to one or more investors and raising gross proceeds to the
Company of at least $1.0 million. During the 13 week period ended December 30,
2012 the Company issued $4,210,000 of 2012 Notes.
Payment in cash of an amount equal to all outstanding principal and accrued, but
unpaid interest on the 2012 Notes was initially due November 30, 2012. The 2012
Notes were amended effective November 30, 2012 to change the maturity date of
the 2012 Notes to March 31, 2013 (the "Maturity Date").
Subsequent to December 30, 2012, the Company authorized the issuance of
Senior Subordinated Convertible Promissory Notes (the "2013 Notes") that are a
part of a series of notes, along with the 2012 Notes, in the aggregate amount of
$10 million. As additional consideration for the purchase of the 2013 Notes,
the Company shall issue shares of its common stock to each investor with a value
equal to 25% of the principal amount of the 2013 Notes purchased by such
investor. The 2012 Notes previously issued were cancelled and exchanged by each
investor for 2013 Notes. The maturity date of the 2013 Notes is the earlier of
6 months after issuance, or the closing of a debt or equity financing resulting
in gross proceeds to the Company in excess of $5 million (a "Qualified
Financing"). Further, within fifteen (15) business days after the closing of a
Qualified Financing, each investor may convert the outstanding principal and
interest under their 2013 Note into the securities issued in the Qualified
Financing, on the same terms and conditions as the other investors in the
Qualified Financing. As of February 6, 2013 the Company has issued $7.4 million
of the $10 million aggregate amount of these series of Notes.
Senior Subordinated Notes
In March 2011, the Company issued and sold to two accredited investors, Costa
Brava Partnership III L.P. ("Costa Brava") and The Griffin Fund LP ("Griffin")
12% Senior Subordinated Secured Promissory Notes due March 2013 (the "Senior
Subordinated Notes") in the aggregate principal amount of $4.0 million. In July
2011, the Senior Subordinated Notes were amended to permit the holders to demand
repayment any time on or after July 16, 2012, in partial consideration for
permitting the issuance of additional Subordinated Secured Convertible
Promissory Notes as discussed below. Because of this demand, the Senior
Subordinated Notes have been classified as current obligations in the Company's
Consolidated Balance Sheet as of December 30, 2012.
The Senior Subordinated Notes bear interest at a rate of 12% per annum paid by
adding the amount of such interest to the outstanding principal amount of the
Senior Subordinated Notes as "paid-in-kind" ("PIK") interest. As a result of the
addition of such interest, the outstanding principal amount of the Senior
Subordinated Notes at December 30, 2012 was $4.9 million.
The Senior Subordinated Notes are secured by substantially all of the assets of
the Company pursuant to Security Agreements dated March 16, 2011 and March 31,
2011 between the Company and Costa Brava as representative of the Senior
Subordinated Note holders, but the liens securing the Senior Subordinated Notes
are subordinate to the liens securing the indebtedness of the Company to PFG
under the Revolving Credit Facility.
Subordinated Secured Convertible Notes
In December 2010, the Company entered into a Securities Purchase Agreement with
Costa Brava and Griffin, pursuant to which the Company issued and sold to Costa
Brava and Griffin 12% Subordinated Secured Convertible Notes due December 23,
2015 (the "Subordinated Notes") in the aggregate principal amount of $7.8
million and sold in a subsequent closing in March 2011 additional Subordinated
Notes to Costa Brava and Griffin for an aggregate purchase price of $1.2
million. In July 2011, the Company sold additional Subordinated Notes to five
accredited investors, including Costa Brava and Griffin, in the aggregate
principal amount of $5,000,000. In addition, holders of existing notes with a
principal balance of $1.1 million converted their Bridge Notes into Subordinated
Notes during Fiscal 2011.
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The Subordinated Notes bear interest at a rate of 12% per annum, due and payable
quarterly. For the first two years of the term of the Subordinated Notes, the
Company has the option to pay all or a portion of the interest due on each
interest payment date in shares of common stock, with the price per share
calculated based on the weighted average price of the Common Stock over the last
20 trading days ending on the second trading day prior to the interest payment
date. While the Revolving Credit Facility is outstanding, interest on the
Subordinated Notes that is not paid in shares of Common Stock must be paid by
adding the amount of such interest to the outstanding principal amount of the
Subordinated Notes as PIK interest. The principal and accrued but unpaid
interest under the Subordinated Notes is convertible at the option of the holder
into shares of the Common Stock at an initial conversion price of $0.07 per
share. The conversion price is subject to a full price adjustment feature for
certain price dilutive issuances of securities by the Company and proportional
adjustment for events such as stock splits, dividends, combinations and the
like. Beginning after the first two years of the term of the Subordinated Notes,
the Company may force the Subordinated Notes to be converted to Common Stock if
certain customary equity conditions have been satisfied and the volume weighted
average price of the common stock is $0.25 or greater for 30 consecutive trading
days. During the 13 week period ended December 30, 2012, the Company paid
approximately $483,000 of interest costs in the form of 4,357,000 shares of
common stock.
As a result of the issuances of Subordinated Notes discussed above, the
conversion of existing notes to Subordinated Notes, the conversion of
Subordinated Notes to common stock, and the application of PIK interest, the
aggregate principal balance of the Subordinated Notes at December 30, 2012,
exclusive of the effect of debt discounts, was $16.1 million. The balance of the
Subordinated Notes, net of unamortized discounts comprised of derivative
liability, at December 30, 2012 was $6.8 million. The debt discounts will be
amortized over the term of the Subordinated Notes, unless such amortization is
accelerated due to earlier conversion of the Subordinated Notes pursuant to
their terms. The Company paid a total of $1,000,000 in cash commissions to an
investment banker for services related to issuance of the Subordinated Notes,
$682,000 of which was recorded as a deferred financing cost and the balance
recorded as an offset to equity.
The Subordinated Notes are secured by substantially all of the assets of the
Company pursuant to a Security Agreement dated December 23, 2010 and July 1,
2011, as applicable, between the Company and Costa Brava as representative of
the holders of Subordinated Note, but the liens securing the Subordinated Notes
are subordinate in right of payment to Loans issued pursuant to the Revolving
Credit Facility.
Capital Lease Obligations. The outstanding principal balance on our capital
lease obligations of $76,000 at December 30, 2012 relates primarily to computer
equipment and software and is included as part of current and non-current
liabilities within our consolidated balance sheet.
Operating Lease Obligations. We have various operating leases covering equipment
and facilities located at our offices in California, Texas, Italy, and Dubai.
Deferred Compensation. We have a deferred compensation plan, the Executive
Salary Continuation Plan (the "ESCP"), for select key employees. Benefits
payable under the ESCP are established on the basis of years of service with the
Company, age at retirement and base salary, subject to a maximum benefits
limitation of $137,000 per year for any individual. The ESCP is an unfunded
plan. The recorded liability for future expense under the ESCP is determined
based on expected lifetimes of participants using Social Security mortality
tables and discount rates comparable to those of rates of return on high quality
investments providing yields in amount and timing equivalent to expected benefit
payments. At the end of each fiscal year, we determine the assumed discount rate
to be used to discount the ESCP liability. We considered various sources in
making this determination for Fiscal 2012, including the Citigroup Pension
Liability Index, which at September 30, 2012 was 3.94%. Based on this review, we
used a 3.94% discount rate for determining the ESCP liability at September 30,
2012. Presently, two of our retired executives are receiving benefits
aggregating $184,700 per annum under the ESCP. As of December 30, 2012,
$1,159,000 has been accrued in the accompanying consolidated balance sheet for
the ESCP, of which amount $185,000 is a current liability we expect to pay
during Fiscal 2013.
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Stock-Based Compensation
Aggregate stock-based compensation attributable to continuing operations for the
13-week periods ended December 30, 2012 and January 1, 2012 was $204,000 and
$836,000, respectively, and was attributable to the following:
13 Weeks Ended 13 Weeks Ended
December 30, 2012 January 1, 2012
Cost of revenues $ 38,000 $ 63,000
General and administrative expense 166,000 773,000
$ 204,000 $ 836,000
All transactions in which goods or services are the consideration received for
equity instruments issued to non-employees are accounted for based on the fair
value of the consideration received or the fair value of the equity instrument
issued, whichever is more reliably measurable. The measurement date used to
determine the fair value of any such equity instrument is the earliest to occur
of (i) the date on which the third-party performance is complete, (ii) the date
on which it is probable that performance will occur, or (iii) if different, the
date on which the compensation has been earned by the non-employee. In the year
ended September 30, 2012, we issued to PFG warrants to purchase 15,000,000
shares of our common stock, valued at $250,000 pursuant to which the Company
obtained the Revolving Credit Facility. We have recorded this expense as a debt
discount, which is being amortized over the two-year term of the Revolving
Credit Facility.
We calculate stock option-based compensation by estimating the fair value of
each option granted using the Black-Scholes option valuation model and various
assumptions that are described in Note 1 of the Accompanying Notes to Condensed
Consolidated Financial Statements included in this Quarterly Report. Once the
compensation cost of an option is determined, we recognize that cost on a
straight-line basis over the requisite service period of the option, which is
typically the vesting period for options granted by us. We calculate
compensation expense of both vested and non-vested stock grants by determining
the fair value of each such grant as of their respective dates of grant using
our stock price at such dates with no discount. We recognize compensation
expense on a straight-line basis over the requisite service period of a
non-vested stock award.
For the 13-week period ended December 30, 2012, stock-based compensation
included compensation costs attributable to such periods for those options that
were not fully vested upon adoption of ASC 718, Compensation - Stock
Compensation, adjusted for estimated forfeitures. We have estimated forfeitures
to be 7%, which reduced stock-based compensation cost by $15,000 in the 13-week
period ended December 30, 2012. The Company did not grant options to purchase
shares of common stock in the 13-week period ended December 30, 2012. The
Company granted of options to purchase 1,187,500 shares of common stock in the
13-week period ended January 1, 2012.
At December 30, 2012, the total compensation costs related to non-vested option
awards not yet recognized was $997,000. The weighted-average remaining vesting
period of non-vested options at December 30, 2012 was 0.8 years.
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