UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C.
FORM 10-QSB/A-2
|X| QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For Quarter Ended September 30, 2003
|_| 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 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 |X| NO |_|
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date:
Common Stock, $.001 par value 24,991432
----------------------------- -------------------
Title of Class Number of Shares
Outstanding as of
September 30, 2003
Class A Warrant to Purchase
One Share of Common Stock 1,000,000
----------------------------- -------------------
Title of Class Number of Warrants
Outstanding as of
September 30, 2003
PARADIGM MEDICAL INDUSTRIES, INC.
FORM 10-QSB/A
FOR THE QUARTER ENDED SEPTEMBER 30, 2003
INDEX
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
-----------------------------
Balance Sheet (unaudited) - September 30, 2003....................... 1
Statements of Operations (unaudited) for the three and nine
months ended September 30, 2003 and September 30, 2002............... 3
Statements of Cash Flows (unaudited) for the nine months
ended September 30, 2003 and September 30, 2002 ..................... 4
Notes to Financial Statements (unaudited)............................. 5
Item 2.
-------
Management's Discussion and Analysis or
Plan of Operation ................................................... 8
Item 3.
-------
Controls and Procedures ........................................... 16
PART II - OTHER INFORMATION
Item 1.
-------
Legal Proceedings................................................... 17
Item 2.
-------
Changes in Securities............................................... 22
Item 3.
-------
Defaults Upon Senior Securities..................................... 22
Item 4.
-------
Submission of Matters to a Vote of Security Holders................. 22
Item 5.
-------
Other Information.................................................... 22
Item 6.
-------
Exhibits and Reports on Form 8-K..................................... 22
Signature Page ..................................................... 25
PARADIGM MEDICAL INDUSTRIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEET
(UNAUDITED)
September 30,
2003
-------------
(Unaudited)
ASSETS
Current Assets
Cash & Cash Equivalents $ 213,000
Receivables, Net 701,000
Inventory 1,865,000
Prepaid Expenses 296,000
---------------
Total Current Assets 3,075,000
Intangibles, Net 684,000
Property and Equipment, Net 245,000
Deposits and Other Assets, Net 57,000
---------------
Total Assets $ 4,061,000
===============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Trade Accounts Payable 596,000
Accrued Expenses 1,759,000
Current Portion of Long-term Debt 118,000
---------------
Total Current Liabilities 2,473,000
Long-term Debt 75,000
---------------
Total Liabilities 2,548,000
See accompanying notes to financial statements
1
Stockholders' Equity:
Preferred Stock, Authorized:
5,000,000 Shares, $.001 par value
Series A
Authorized: 500,000 shares; issued and
outstanding: 5,627 shares at September 30, 2003 -
Series B
Authorized: 500,000 shares; issued and
outstanding: 8,986 shares at September 30, 2003 -
Series C
Authorized: 30,000 shares; issued and
outstanding: zero shares at September 30, 2003 -
Series D
Authorized: 1,140,000 shares; issued and
outstanding: 5,000 shares at September 30, 2003 -
Series E
Authorized: 50,000; issued and
outstanding: 1,500 at September 30, 2003 -
Series F
Authorized: 50,000; issued and
outstanding: 5,623.75 at September 30, 2003 -
Series G
Authorized: 2,000,000; issued and
outstanding: 1,981,560 at September 30, 2003 -
Common Stock, Authorized:
80,000,000 Shares, $.001 par value; issued and
outstanding: 24,991,432 at September 30, 2003 25,000
Common stock warrants 1,046,000
Additional paid-in-capital 56,404,000
Accumulated Deficit (55,962,000)
---------------
Total Stockholders' Equity 1,513,000
---------------
Total Liabilities and Stockholders' Equity $ 4,061,000
===============
See accompanying notes to financial statements
2
PARADIGM MEDICAL INDUSTRIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Ended Nine Months Ended
September 30, September 30,
------------ ------------
2003 2002 2003 2002
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
Sales $ 853,000 $ 1,078,000 $ 2,225,000 $ 3,894,000
Cost of Goods Sold 354,000 1,116,000 1,237,000 2,738,000
------------ ------------ ------------ ------------
Gross Profit 499,000 (38,000) 988,000 1,156,000
------------ ------------ ------------ ------------
Operating Expenses:
Marketing and Selling 171,000 619,000 711,000 2,381,000
General and Administrative 331,000 922,000 1,867,000 2,920,000
Research, Development and Service 203,000 1,085,000 789,000 2,449,000
IMPAIRMENT OF ASSETS - 700,000 159,000 700,000
------------ ------------ ------------ ------------
Total Operating Expenses 705,000 3,326,000 3,526,000 8,450,000
------------ ------------ ------------ ------------
Operating Income (Loss) (206,000) (3,364,000) (2,538,000) (7,294,000)
Other Income and (Expense):
Interest Income - - 3,000 6,000
Interest Expense (4,000) (17,000) (17,000) (37,000)
Other Income (Expense) 247,000 (6,000) 247,000 (6,000)
------------ ------------ ------------ ------------
Total Other Income and
(Expense) 243,000 (23,000) 233,000 (37,000)
------------ ------------ ------------ ------------
Net income (loss) before provision
for income taxes 37,000 (3,387,000) (2,305,000) (7,331,000)
Income taxes - - - -
------------ ------------ ------------ ------------
Net Income (Loss) $ 37,000 $ (3,387,000) $ (2,305,000) $ (7,331,000)
============ ============ ============ ============
Net Income (Loss) Per Share -
-Basic $ - $ (.21) $ (.10) $ (.45)
============ ============ ============ ============
-Diluted $ - $ (.21) $ (.10) $ (.45)
============ ============ ============ ============
Tighted Average Outstanding Shares-
-Basic 23,668,000 16,499,000 22,795,000 16,316,000
============ ============ ============ ============
-Diluted 26,752,000 16,499,000 22,795,000 16,316,000
============ ============ ============ ============
See accompanying notes to financial statements
3
PARADIGM MEDICAL INDUSTRIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Nine Months Ended Nine Months Ended
September 30, 2003 September 30, 2002
(Unaudited) (Unaudited)
Cash Flows from Operating Activities:
Net Loss $ (2,305,000) $ (7,331,000)
Adjustment to Reconcile Net Loss to Net
Cash Used In Operating Activities:
Depreciation and Amortization 268,000 396,000
Issuance of Common Stock and Warrants for
Compensation, Services and Payables 83,000 211,000
Issuance of Common Stock for Settlement
Of Potential Liabilities 190,000 -
Increase in Inventory Reserve 382,000 500,000
Provision for (Recovery Of) Losses
On Receivables 83,000 (136,000)
Impairment of Intangible and Other Assets 159,000 700,000
Gain on settlement of obligations (247,000) -
Issuance of Common Stock for In-process R&D - 630,000
(Increase) Decrease from Changes in:
Trade Accounts Receivable 161,000 1,586,000
Inventories 402,000 871,000
Prepaid Expenses (215,000) 36,000
Increase (Decrease) from Changes in:
Trade Accounts Payable (120,000) (61,000)
Accrued Expenses and Deposits 447,000 101,000
--------------- ---------------
Net Cash Used in Operating Activities (712,000) (2,497,000)
--------------- ---------------
Cash Flow from Investing Activities:
Purchase of Property and Equipment (1,000) (134,000)
Disposal of Property and Equipment 6,000 -
Other Assets - (4,000)
Net Cash Paid in Acquisition - (100,000)
--------------- ---------------
Net Cash (Used) Provided by Investing Activities 5,000 (238,000)
--------------- ---------------
Cash Flows from Financing Activities:
Principal Payments on Indebtedness (63,000) (44,000)
Proceeds from Short-Term Borrowing 90,000 -
Net Proceeds from sale of Common Stock and Warrants 429,000 562,000
Net Proceeds from sale of Series G Preferred
Stock and Warrants 270,000 -
--------------- ---------------
Net Cash Provided by Financing Activities 726,000 518,000
--------------- ---------------
Net Increase (Decrease) in Cash and Cash Equivalents 19,000 (2,217,000)
Cash and Cash Equivalents at Beginning of Period 194,000 2,702,000
--------------- ---------------
Cash and Cash Equivalents at End of Period $ 213,000 $ 485,000
=============== ===============
Supplemental Disclosure of Cash Flow Information:
Cash Paid for Interest $ 17,000 $ 37,000
=============== ===============
Cash Paid for Income Taxes $ - $ -
=============== ===============
See accompanying notes to financial statements
4
PARADIGM MEDICAL INDUSTRIES, INC.
NOTES TO FINANCIAL STATEMENTS
(UNAUDITED)
Significant Accounting Policies
-------------------------------
In the opinion of management, the accompanying financial statements contain all
adjustments (consisting only of normal recurring items) necessary to present
fairly the financial position of Paradigm Medical Industries, Inc. (the Company)
as of September 30, 2003 and the results of its operations for the three months
and nine months ended September 30, 2003 and 2002, and its cash flows for the
nine months ended September 30, 2003 and 2002. The results of operations for the
periods presented are not necessarily indicative of the results to be expected
for the full year period.
Liquidity and Going Concern
---------------------------
Due to the declining sales, significant recurring losses and cash used to fund
operating activities, the auditors' report for the year ended December 31, 2002
included an explanatory paragraph that expressed substantial doubt about its
ability to continue as a going concern. The Company has taken significant steps
to reduce costs and increase operating efficiencies. Specifically, during the
second quarter of 2002, 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. The Company has
also significantly reduced the use of consultants, which has resulted in a large
decrease in expenses, and reduced the direct sales force to five
representatives, which has resulted in less payroll, travel and other selling
expenses.
Historically, the Company has relied on the sale of equity securities to finance
operations. The Company will continue to seek funding to meet working capital
needs through the sale of equity securities. If the Company is unable to obtain
such financing in the near future, it may be required to reduce or cease its
operations.
As of September 30, 2003, the Company had accounts payable of $596,000, a
significant portion of which is over 90 days past due. 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 us
in a court of law, a group of creditors could force us into bankruptcy due to
our inability to pay the liabilities arising out of such judgments at that time.
In addition to the accounts payable noted above, we also have noncancellable
capital lease obligations and operating lease obligations that require the
payment of approximately $103,000 in 2003, $51,000 in 2004, $38,000 in 2005, and
$14,000 in 2006.
Reclassifications
-----------------
Certain amounts in the financial statements for the three months and nine months
ended September 30, 2002 have been reclassified to conform with the presentation
of the current period financial statements.
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 5,704,000 and 5,051,000 shares of common stock and
preferred stock convertible into 2,384,000 and 437,000 shares of common stock at
September 30, 2003 and 2002, respectively, have not been included in loss
periods because they are anti-dilutive.
The shares used in the computation of the Company's basic and diluted earnings
per share are reconciled as follows:
Three Months Ended Sept. 30 Nine Months Ended Sept. 30
2003 2002 2003 2002
---- ---- ---- ----
Weighted average number of
shares outstanding - basic 23,668,000 16,499,000 22,795,000 16,316,000
Assume conversion of preferred stock 2,384,000 - - -
Dilutive effect of stock options 700,000 - - -
------------------------------------ -----------------------------------
Weighted average number of
shares outstanding - diluted 26,752,000 16,499,000 22,795,000 16,316,000
==================================== ===================================
Equity Line of Credit
---------------------
The Company sold approximately 696,000 shares of common stock for approximately
$84,000 during the nine months ended September 30, 2003 under the $20,000,000
equity line of credit with Triton West Group, Inc.
5
Preferred Stock Conversions
---------------------------
Under the Company's Articles 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 nine months ended September 30, 2003, 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 1 share of common stock for each
share of preferred stock. During the nine months ended September 30, 2003, no
shares of Series D Preferred Stock were converted to the Company's Common stock.
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 nine months ended September 30, 2003,
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 nine months ended September 30, 2003,
650 shares of Series F Preferred Stock were converted to 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 1 share of common stock for each
share of preferred stock. During the nine months ended September 30, 2003, 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. The Company granted
1,005,000 warrants to purchase the Company's common stock during the period
ended September 30, 2003. Of these warrants, 423,000 were issued in connection
with a private placement of the Company's common stock, 382,000 were issued in
connection with a private placement of the Company's Series G preferred stock,
and 200,000 warrants were issued for consulting services. The 200,000 warrants
issued for consulting services were valued at $35,000 using the Black-Scholes
option pricing model. During the period ended September 30, 2002, the purchase
agreement between the Company and Innovative Optics included warrants to
purchase 250,000 shares of the Company's common stock at $5.00 per share,
exercisable over a period of three years from the closing date. The Company
valued the warrants at approximately $295,000, which amount was included in the
purchase price.
Stock - Based Compensation
--------------------------
For stock options and warrants granted to employees, the Company employs the
footnote disclosure provisions of Statement of Financial Accounting Standards
(SFAS) No. 123, Accounting for Stock-Based Compensation. SFAS No. 123 encourages
entities to adopt a fair-value based method of accounting for stock options or
similar equity instruments. However, it also allows an entity to continue
measuring compensation cost for stock-based compensation using the
intrinsic-value method of accounting prescribed by Accounting Principles Board
(APB) Opinion No. 25, Accounting for Stock Issued to Employees (APB 25). The
Company has elected to continue to apply the provisions of APB 25 and provide
pro forma footnote disclosures required by SFAS No. 123. No stock-based employee
compensation cost is reflected in net income, as all options granted under those
plans had an exercise price equal to or greater than the market value of the
underlying common stock on the date of grant.
Stock options and warrants granted to non-employees for services are accounted
for in accordance with SFAS 123 which requires expense recognition based on the
fair value of the options/warrants granted. The Company calculates the fair
value of options and warrants granted by use of the Black-Scholes pricing model.
The following table illustrates the effect on net income and earnings per share
if the Company had applied the fair value recognition provisions of FASB
Statement No. 123, "Accounting for Stock-Based Compensation," to stock-based
employee compensation.
6
Nine Months Ended September 30, Three Months Ended September 30,
2003 2002 2003 2002
----------------------------- -----------------------------
Net income (loss) - as reported $ (2,305,000) $ (7,331,000) $ 37,000 $ (3,387,000)
Deduct: total stock-based employee
compensation determined under fair value
based method for all awards, net of
related tax effects (359,000) - (48,000) -
----------------------------- -----------------------------
Net loss - pro forma $ (2,664,000) $ (7,331,000) $ (11,000) $ (3,387,000)
----------------------------- -----------------------------
Earnings per share:
Basic and diluted - as reported $ (.10) $ (.45) $ - $ (.21)
Basic and diluted - pro forma $ (.12) $ (.45) $ - $ (.21)
The weighted average fair value of stock options and warrants granted to
non-employees for services during the nine months ended September 30, 2003 was
$.16.
Related Party Transactions
--------------------------
Payments for legal services to the firm of which the chairman of the board of
directors is a partner were approximately $23,000 and $65,000 for the three
months ended September 30, 2003 and 2002, respectively. The Company paid $7,500
during the third quarter of 2002 to a former officer and director of the Company
for the rental of a house where employees from out of town stayed instead of
incurring hotel expenses.
Supplemental Cash Flow Information
----------------------------------
During the nine months ended September 30, 2003, the Company granted 200,000
warrants for consulting services, which were recorded as an expense of $35,000,
which is recorded as an increase to general and administrative expense and
additional paid-in capital.
During the nine months ended September 30, 2003, the Company issued 1,262,000
shares of common stock, valued at $190,000 based on the trading price on the
date of issuance, as settlement of potential litigation. This amount is included
in general and administrative expenses. The Company incurred an obligation of
approximately $43,000 for the settlement of accrued liabilities. The Company
incurred a prepaid expense of approximately $60,000 in exchange for a note
payable.
Investment in International Bio-Immune Systems, Inc.
----------------------------------------------------
On September 19, 2002, the Company completed a transaction with International
Bio-Immune Systems, Inc. (IBS), a Delaware corporation, in which it acquired
2,663,254, or 19.9%, of IBS outstanding shares and warrants to purchase
1,200,000 shares of IBS common stock at $2.50 per share for a period of two
years, through the exchange and issuance of 736,945 shares of the Company's
common stock, the lending of 300,000 shares of the Company's common stock to
IBS, and the payment of certain of its expenses through the issuance of an
aggregate of 94,000 shares of the Company's common stock to IBS and its counsel.
The issuance of 736,945 shares was valued based on the market price of the
Company's common stock on the date of the transaction and resulted in an
investment in IBS, when combined with a cash investment of $65,000 made in 2000,
of $879,000. Due to the uncertainty of future cash flows from IBS and the fact
that the products under development by IBS had not been approved by the FDA, the
Company was unable to support the value of the investment in IBS by
substantiated methods and determined that the likelihood of recovery of its
investment was remote. Therefore, in accordance with generally accepted
accounting principles, the investment of $879,000 was charged to impairment
expense in 2002. The 300,000 shares were also valued at the market price on the
date of issuance and were recorded as a stock subscription receivable of
$294,000 because it was anticipated that such shares would either be paid for or
returned in the future. Because of the decline in value of the 300,000 shares
and because of the lack of evidence to support the receipt of payment for such
shares, during the quarter ended September 30, 2003, the Company wrote off the
subscription receivable of $294,000 against additional paid-in capital.
Accrued Expenses
----------------
Accrued expenses consist of the following at September 30, 2003:
Accrued consulting and litigation reserve $ 580,000
Warranty and return allowance 659,000
Accrued royalties 208,000
Deferred revenue 119,000
Customer deposits 107,000
Accrued payroll and employee benefits 86,000
------------
$ 1,759,000
============
7
Item 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
This report contains forward-looking statements and information
relating to us that is based on beliefs of management as well as assumptions
made by, and information currently available to management. These statements
reflect the Company's 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). SAB 101 details four criteria that must exist before revenue is
recognized:
1. Persuasive evidence of an arrangement exits. Prior to shipment of
product, the Company requires a signed purchase order and, with most customers,
a down payment toward the final invoiced price.
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 the
Company's customer upon shipment. This revenue recognition policy does not
differ among the Company's various different product lines. The Company
guarantees the functionality of its product. If the Company's 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
the Company's historical experience and management's current expectations.
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 require 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.
8
Recoverability of Accounts Receivable. Accounts receivable are due from
medical distributors, surgery centers, hospitals, optometrists and
ophthalmologists located throughout the U.S. and a number of foreign countries.
The receivables are generally due within thirty days for domestic customers with
extended terms offered for some international customers. The Company maintains
an allowance for estimated potentially uncollectible amounts.
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 to be obsolete 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. To date the Company has not sold any of the
inventory items that have been determined to be obsolete.
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.
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 Paradigm Medical, 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 nine months ended
September 30, 2003, 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 new management team has reviewed the Company's financial position
including the financial statements. In the course of this review, management
made certain adjustments that are included in the nine months ended September
30, 2003, including an increase in the reserve of obsolete inventory of
$382,000, an increase in the allowance for doubtful accounts receivable of
$160,000, impairment of fixed assets and intangibles of $159,000, and increases
in accruals to settle outstanding disputes in the amount of $443,000. Although
management believes these adjustments are sufficient, it will continue to
monitor and evaluate the Company's financial position and the recoverability of
its assets.
The Company's ultrasound diagnostic products include a pachymeter, an
A/B Scan and a biomicroscope, the technology for which was acquired from
Humphrey Systems in 1998. The Company introduced the P45 in the fall of 2000,
which combines the A/B Scan, and the biomicroscope in one machine. In addition,
the Company markets the Blood Flow Analyzer(TM) acquired in the purchase of
Ocular Blood Flow Ltd. in June 2000. Other diagnostic products are the Dicon(TM)
Perimeter and the Dicon (TM) Corneal Topographer which were acquired in the
acquisition of Vismed d/b/a Dicon in June 2000. The Company purchased the
9
inventory, design and production rights of the SIStem(TM) from Mentor
Corporation in October 1999 which was designed to perform minimally invasive
cataract surgery. In November 1999, the Company entered into a Mutual Release
and Settlement Agreement with the manufacturer of the Precisionist
ThirtyThousand(TM) in which the Company purchased the raw material and finished
goods inventory to bring the manufacturing of this product in-house. Because of
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 to the company. As reflected in the
results for the quarter ended September 30, 2003, diagnostic products are
currently the Company's major focus and the Photon(TM) and other extensive
research and development projects have been put on hold pending future
evaluation when the financial position of the company improves.
Activities for the nine months ended September 30, 2003, included sales
of the Company's products and related accessories and disposable products. In
March 2003, the Company named a new president and chief executive officer, Dr.
Jeffrey F. Poore. The Company named a new vice president of sales and marketing,
Ray Cannefax, during the first quarter of 2003, a new vice president of finance
and chief financial officer, Gregory C. Hill, during the second quarter of 2003,
and a new chief operating officer, David Cullumber, during the fourth quarter of
2003.
The Company believes that the positive net income of $37,000 for the
quarter is a significant event for Paradigm. Although the income was partly due
to a one-time gain resulting from the settlement of outstanding liabilities and
disputes, the Company is encouraged by the overall reduction in expenses and
related losses. The loss from operations decreased from approximately $3.4
million for the quarter ended September 30, 2002, to approximately $206,000 for
the quarter ended September 30, 2003, a reduction of 94%. The Company believes
that it has made the necessary reductions in costs to lead the Company toward
profitability. The Company experienced an increase in revenue of approximately
32% in the third quarter of 2003 compared with the second quarter of 2003. The
Company is focusing its efforts on increasing sales of its more stable higher
margin products such as the Blood Flow Analyzer, the UBM microscope, the
Perimeter, and the Corneal Topographer. The Company will continue to dedicate
its efforts on increasing sales of its products while maintaining or continuing
to reduce its overhead costs.
Results of Operations
Three Months Ended September 30, 2003, Compared to Three Months Ended September
30, 2002
Net sales decreased by $225,000, or 21%, to $853,000 for the three
months ended September 30, 2003, from $1,078,000 for the comparable period in
2002. Sales of the Company's diagnostic products were $665,000, or 78% of total
revenues, during the three months ended September 30, 2003, compared with
$656,000, or 61% of total revenues, for the comparable period of 2002. Sales of
surgical products totaled $46,000, or 5% of total revenues, for the third
quarter of the current year in comparison with $28,000, or 3%, of total revenues
in the comparable period of 2002. In the three months ended September 30, 2003,
sales of the Ultrasonic Biomicroscope were $211,000, or 25% of total revenues,
compared to $37,000, or 3% of total revenues, in the same period of 2002. Sales
from the Blood Flow Analyzer(TM) decreased by $106,000 to $54,000, or 6% of
total revenues, during the third quarter of 2003 compared with $160,000, or 15%
of total revenues, in the same period of last year. During the third quarter of
2003 sales from other ultrasonic products totaled $93,000, or 11% of total
revenues, compared with $106,000, or 10% of total revenues, in the same period
last year. Sales of the perimeter and corneal topographer generated $306,000, or
36% of total revenues, in the three months ended September 30, 2003, compared
with $353,000, or 33% of total revenues, during the same period of 2002.
There were a number of material reasons that contributed to the
decrease in sales during the three months ended September 30, 2003, compared to
the same period of 2002. Along with generally weak economic conditions in the
United States, the Company initiated the restructuring of its sales organization
and the development of new sales channels during the three months ended
September 30, 2003. In addition, there were only three direct sales
representatives during the third quarter 2003 compared to more than twice that
number of direct sales representatives during the comparable period of 2002.
International sales were impacted by weakness in the economies of the large
industrial countries and by the residual impact of the Afghanistan situation,
which had a negative impact on sales to the Middle East, Pakistan, India and
other countries in that region. Other reasons for the decrease in sales were the
10
uncertainties resulting from the Company's efforts to reduce costs and
constraints on availability of funds that reduced its ability to upgrade and
enhance its products and pursue further regulatory approvals for its products.
Additionally, changes in the exchange rate between these periods have generally
made its products more expensive to customers outside of the United States. The
Company's objective is to focus its sales efforts on the products with the
highest potential for sales and strong margins.
Gross profit for the three months ended September 30, 2003 was 58% of
total revenues, compared to (4%) for the same period in 2002. Cost of goods sold
for the three months ended September 30, 2003, did not include significant write
downs of inventory. Cost of goods sold for the three months ended September 30,
2002, included an increase in the reserve for obsolete inventory of $500,000.
Since the Company's inception, it has purchased several complete lines of
inventory. While the Company's initial intention was to utilize the substantial
majority of inventory acquired in the manufacture of its products, in some
circumstances it has been unable to utilize certain items acquired.
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 to be
obsolete 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. Such analysis has
resulted in material increases in the reserve for obsolete inventory in both
2002 and 2003. The Company believes it has now identified all obsolete inventory
and reserved for such inventory and does not expect material increases in the
reserve in future periods, however there can be no assurance that it will not
identify further obsolete inventory due to significant declines in sales of
certain products or technological advances of 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. To date the Company has
not sold any of the inventory items that have been determined to be obsolete.
The Company does not expect the sales of these items, if any, to be significant.
Marketing and selling expenses decreased by $448,000, or 72%, to
$171,000 for the three months ended September 30, 2003, from $619,000 for the
comparable period in 2002 due primarily to the lower headcounts of sales persons
and travel related and associated sales expenses.
General and administrative expenses decreased by $591,000, or 64%, to
$331,000 for the three months ended September 30, 2003, from $922,000 for the
same period in 2002, reflecting the results of the Company's efforts to reduce
costs, specifically costs associated with maintaining two manufacturing
facilities and consulting costs. As noted above, in April 2002, the Company
announced the closure of its San Diego facility in anticipation of the
termination of the lease for that location. All operations associated with the
San Diego facility were transferred to the Salt Lake City facility. The Company
incurred a reduction of force of 28 San Diego personnel. The consolidation was
intended to save costs and to eliminate duplicities in functions and facilities
that occurred with the acquisition of Dicon. The cost of the consolidation was
approximately $80,000. The Company believes that the annual cost savings of the
closure of the San Diego facility are approximately $2 million. Consulting
expenses decreased from approximately $909,000 for the three months ended
September 30, 2002 to approximately $75,000 in the same period in 2003.
Depreciation and amortization expense, which includes amortization of leasehold
improvements, decreased by approximately $50,000, or 46%, to $58,000 during the
third quarter of 2003 compared to the same period of last year.
Research, development and service expenses decreased by $882,000, or
81%, to $203,000 for the three months ended September 30, 2003, from $1,085,000
for the same period in 2002. This decrease was mainly due to the issuance of
common stock to Innovative Optics in the quarter ended September 30, 2002, which
was valued at $630,000 and expensed as in-process research and development
costs. Expenses associated with the development of new products during the third
quarter of 2003 decreased compared to the same period in 2002 due to the
Company's efforts to reduce costs and focus on products that are fully developed
and have the highest potential for sales and strong margins.
Impairment of assets was $0 for the three months ended September 30,
2003, compared to $700,000 recorded in the same period of 2002. The impairment
expense in the third quarter of 2002 was due to an evaluation by the Company of
its intangible assets, namely goodwill, resulting in a charge of $700,000 as a
write down of the goodwill.
11
Other income and (expense) increased by $266,000 to income of $243,000
for the three months ended September 30, 2003 from expense of $(23,000) for the
same period in 2002. During the third quarter of 2003 other income of $247,000
compared with expense of $(6,000) during the comparable period in 2002. During
the third quarter of 2003 other income was due to a gain of $188,000 on
discounted settlements of accounts payable and obligations, a gain of $22,000
from reversing an over-accrual of fees related to prior years, and a gain of
$37,000 associated with the settlement of litigation. The Company had a $13,000
reduction in interest expense to $(4,000) in the three months ended September
30, 2003, from $(17,000) in the same period of 2002 due to a decrease in
interest expense related to capital leases.
Nine Months Ended September 30, 2003, Compared to Nine Months Ended September
30, 2002
Net sales decreased by $1,669,000, or 43%, to $2,225,000 for the nine
months ended September 30, 2003, from $3,894,000 for the comparable period in
2002. Sales of the Company's diagnostic products were $1,750,000, or 79% of
total revenues, during the first nine months of 2003 compared with $2,563,000,
or 66% of total revenues, for the comparable period of 2002. Sales of surgical
products totaled $94,000, or 4% of total revenues, for the first nine months of
the current year in comparison with $238,000, or 6%, of total revenues in the
comparable period of 2002. In the first nine months of 2003, sales of the P40
UBM Ultrasound Biomicroscope were $421,000, or 19% of total revenues, compared
to $868,000, or 22% of total revenues, in the same period of 2002. Sales from
the Blood Flow Analyzer(TM) increased by $2,000 to $297,000, or 13% of total
revenues, during the first three quarters of 2003 compared with $295,000, or 8%
of total revenues, in the same period of last year. During the first nine months
of 2003, sales from other ultrasonic products totaled $222,000, or 10% of total
revenues, compared with $452,000, or 12% of total revenues, in the same period
last year. Sales of the perimeter and corneal topographer generated $808,000, or
36% of total revenues, in the first three quarters of 2003 compared with
$948,000, or 24% of total revenues, during the same period of 2002.
There were a number of material reasons that contributed to the
decrease in sales during the nine months ended September 30, 2003, compared to
the same period of 2002. Along with generally weak economic conditions in the
United States, the Company initiated the restructuring of its sales organization
and the development of new sales channels during the nine months ended September
30, 2003. During the first three months of 2003, the Company reduced its direct
sales force from ten representatives to three representatives, and during the
remainder of the first nine months of 2003 there were only three direct sales
representatives compared to ten direct sales representatives during the
comparable period of 2002. International sales were impacted by weakness in the
economies of the large industrial countries and by the residual impact of the
Afghanistan situation, which had a negative impact on sales to the Middle East,
Pakistan, India and other countries in that region. The decrease in sales of the
P40 Ultrasound Biomicroscope as well as other products were the direct result of
the restructuring of the sales and marketing organization. With respect to the
decrease in sales of the Biomicroscope, there has not been an increase in price,
competition remains similar to what it has been previously, and there are no
other particular factors of which the Company is aware. This restructuring has
significantly reduced the Company's sales expenses and funds dedicated to
marketing. In addition, the sales channels have been altered to include
distributor and independent sale representatives instead of relying more on a
direct sales force. Domestic and international sales have also decreased as a
result of the global financial markets declines beginning in 2000 and the
adverse impact of the events of September 11, 2001.
The decrease in sales of the P40 Ultrasound Biomicroscope as well as
other products were the direct result of the restructuring of the sales and
marketing organization. As to the decrease in sales of the Ultrasonic
Biomicroscope, there has not been an increase in price, competition remains
similar to what it has been previously, and there are no other particular
factors of which the Company is aware. This restructuring has significantly
reduced the Company's sales expenses and funds dedicated to marketing. In
addition, the sales channels have been altered to include distributor and
independent sale representatives instead of relying exclusively on a direct
sales force. Domestic and international sales have also decreased as a result of
the global financial markets declines beginning in 2000 and the adverse impact
of the events of September 11, 2001.
Other reasons for the decrease in sales were the uncertainties
resulting from the Company's efforts to reduce costs and constraints on
availability of funds that reduced its ability to upgrade and enhance its
products and pursue further regulatory approvals for its products. Additionally,
changes in the exchange rate between these periods have generally made the
Company's products more expensive to customers outside of the United States. The
Company's objective is to focus its sales efforts on the products with the
highest potential for sales and strong margins.
11
Gross profit for the nine months ended September 30, 2003 was 44% of
total revenues, compared to 43% for the same period in 2002. Cost of goods sold
for the nine months ended September 30, 2003 was $1,237,000 as compared to
$2,738,000 for the same period in 2002, a reduction of $1,501,000. Cost of goods
sold for the nine months ended September 30, 2003 included an increase in the
reserve for obsolete or estimated non-recoverable inventory of $382,000. Cost of
goods sold for the nine months ended September 30, 2002, included an increase in
the reserve for obsolete or estimated non-recoverable inventory of $500,000.
Since its inception, the Company has purchased several complete lines of
inventory. While the Company's initial intention was to utilize the substantial
majority of inventory acquired in the manufacture of its products, in some
circumstances the Company has been unable to utilize certain items acquired.
Marketing and selling expenses decreased by $1,670,000, or 70%, to
$711,000 for the nine months ended September 30, 2003, from $2,381,000 for the
comparable period in 2002 due primarily to the lower headcounts of sales persons
and travel related and associated sales expenses.
General and administrative expenses decreased by $1,053,000, or 36%, to
$1,867,000 for the nine months ended September 30, 2003, from $2,920,000 for the
same period in 2002, reflecting the results of the Company's efforts to reduce
costs, specifically costs associated with maintaining two manufacturing
facilities and consulting costs. As noted above, in April 2002, the Company
announced the closure of its San Diego facility in anticipation of the
termination of the lease for that location. All operations associated with the
San Diego facility were transferred to the Salt Lake City facility. The Company
incurred a reduction of force of 28 San Diego personnel. The consolidation was
intended to save costs and to eliminate duplicities in functions and facilities
that occurred with the acquisition of Dicon. The cost of the consolidation was
approximately $80,000. The Company believes that the annual cost savings of the
closure of the San Diego facility are approximately $2 million. Consulting
expenses decreased from approximately $1,280,000 for the nine months ended
September 30, 2002 to approximately $232,000 in the same period in 2003.
Depreciation and amortization expense, which includes amortization of leasehold
improvements, decreased by approximately $128,000, or 32%, to $268,000 during
the first nine months of 2003 compared to the same period of last year. General
and administrative expenses for the nine months ended September 30, 2003,
included $83,000 for additions to the allowance for doubtful accounts and
increases in accruals of $443,000 to settle outstanding disputes.
In addition, general and administrative expense for the nine months
ended September 30, 2003, included $190,000 for 1,262,000 shares of common stock
issued to settle potential litigation. The 1,262,000 common shares were issued
to six investors due to a dispute arising from a private offering that was
completed on January 22, 2003. The Company agreed to issue the shares to the
investors in the offering at $.25 per share rather than $.50 per share, the
original offering price (or an additional 1,262,000 shares) to resolve a dispute
with the investors concerning certain statements made by a former officer in
connection with the sale of said shares.
Research, development and service expenses decreased by $1,660,000, or
68%, to $789,000 for the nine months ended September 30, 2003, from $2,449,000
for the same period in 2002. This decrease was mainly due to the issuance of
common stock to Innovative Optics in the quarter ended September 30, 2002, which
was valued at $630,000 and expensed as in-process research and development
costs. Expenses associated with the development of new products during the first
nine months of 2003 decreased compared to the same period in 2002 as a
consequence of the Company's efforts to reduce costs and focus on products that
are fully developed and have the highest potential for sales and strong margins.
Impairment of assets was $159,000 for the nine months ended September
30, 2003, compared to $700,000 recorded in the same period of 2002. The
impairment expense for the first nine months of 2003 was due to a reserve
established for anticipated asset disposals and a reduction in the value of
certain intangible assets based on their currently estimated fair value. The
impairment expense for the nine months ended September 30, 2002, was due to an
evaluation by the Company of its intangible assets, namely goodwill, resulting
in a charge of $700,000 as a write down of the goodwill.
12
Other income and (expense) increased by $270,000 to income of $233,000
for the nine months ended September 30, 2003, from expense of $(37,000) for the
same period in 2002. During the first nine months of 2003 interest income was
$3,000 compared with $6,000 during the same period of 2002, and other income was
$247,000 compared with expense of $(6,000) during the comparable period in 2002.
During the nine months ended September 30, 2003, other income included a gain of
$188,000 on discounted settlements of accounts payable and obligations, a gain
of $22,000 from reversing an overaccrual of fees related to prior years, and a
gain of $37,000 associated with the settlement of litigation. The Company had a
$20,000 reduction in interest expense to $(17,000) in the nine months ended
September 30, 2003, from $(37,000) in the same period of 2002 due to a decrease
in interest expense related to capital leases.
Liquidity and Capital Resources
The Company used $712,000 cash in operating activities for the nine
months ended September 30, 2003, compared to $2,497,000 for the nine months
ended September 30, 2002. The reduction in cash used by operating activities for
the first nine months of 2003 was primarily attributable to reduced operating
costs, including the closure of the San Diego facility, as well as other savings
resulting from its ongoing efforts to substantially reduce costs and management
of its current assets and current liabilities. The Company generated $5,000 from
investing activities for the nine months ended September 30, 2003, compared to
cash used of $238,000 in the same period in 2002. Cash used in investing
activities in the first nine months of 2002 was primarily due to the cash paid
in the acquisition of certain assets of Innovative Optics and capital equipment.
Net cash provided by financing activities was $726,000 for the nine months ended
September 30, 2003 versus $518,000 in the same period in 2002. During the nine
months ended September 30, 2003, the Company raised approximately $84,000
through a $20,000,000 equity line of credit under an investment banking
arrangement and $699,000 through private placements from the sale of the
Company's common stock and Series G preferred stock and warrants. However, the
equity line of credit is not currently available as a source of equity because a
registration statement is not currently effective registering the shares
issuable under the equity line of credit. In the past, the Company has relied
heavily upon sales of its 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.
The Company will continue to seek funding to meet its working capital
requirements through collaborative arrangements and strategic alliances,
additional public offerings and private placements of its securities, and bank
borrowings. The Company is uncertain whether or not the combination of existing
working capital, benefits from sales of its products and the private equity line
of credit will be sufficient to assure continued operations through December 31,
2003. As of September 30, 2003, the Company had accounts payable of $596,000, a
significant portion of which is over 90 days past due. 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 has noncancellable capital lease obligations and operating lease
obligations that require the payment of approximately $103,000 in 2003, $51,000
in 2004, $38,000 in 2005, and $14,000 in 2006.
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 has significantly reduced the use of consultants, which
has resulted in a large decrease to these expenses.
3. The Company has reduced its direct sales force to five
representatives, which has resulted in less payroll, travel and other selling
expenses.
13
Because the Company has significantly fewer sales representatives, its
ability to generate sales has been reduced.
At September 30, 2003, the Company had net operating loss carryforwards
of approximately $40,000,000 and research and development tax credit
carry-forwards of approximately $78,000. These loss carryforwards 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 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 loss carryforwards can be utilized. The Tax Reform Act of 1986
significantly limits the annual amount that can be utilized for certain of these
loss carryforwards as a result of change of ownership.
As of September 30, 2003, the Company had raised approximately
$1,584,000 through a $20,000,000 equity line of credit under an investment
banking arrangement. As of September 30, 2003, approximately $18,416,000 was
available under the equity line of credit. However, the equity line of credit
expired by its terms on December 8, 2003, but the Company is currently in the
process of renewing the agreement. Moreover, the equity line of credit is
currently unavailable as a source of equity because there is currently no
registration statement that is effective registering the shares of its common
stock that may be sold under the equity line of credit. In the past, the Company
has relied heavily upon sales of its 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. The Company will continue to
seek funding to meet its working capital requirements through collaborative
arrangements and strategic alliances, additional public offerings and/or private
placements of its securities or bank borrowings. The Company is uncertain
whether or not the combination of existing working capital, benefits from sales
of its products and the private equity line of credit will be sufficient to
assure its operations through December 31, 2003.
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 27% of total outstanding receivables as of
December 31, 2002 and 38% as of September 30, 2003. Much of the increase in the
allowance relates to the Company's outstanding receivable balance pertaining to
its international dealers. The downturn in the economy worldwide has resulted in
increased difficulty in collecting certain accounts. Certain international
dealers have some aged unpaid invoices that have not been resolved. The Company
has addressed its credit procedures and collection efforts and have instituted
changes that require more payments at the time of sale via letters of credit and
not on a credit term basis. The Company intends to continue its efforts to
reduce the allowance as a percentage of accounts receivable. While the allowance
as a percentage of accounts receivable has grown, it is mainly a result of the
significant decline in sales. The total amount of the allowance has increased
from $347,000 at December 31, 2002, to $429,000 at September 30, 2003. The
majority of the receivables included in the allowance for doubtful accounts are
a result of sales before the Company implemented the various changes to improve
the collectibility of its receivables. During 2002, the Company had a net
recovery of receivables previously allowed for of $23,000 and during the nine
months ended September 30, 2003, the Company added a net of $83,000 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 $2,508,000 at September 30, 2003, and $2,126,000 as
of December 31, 2002, or approximately 57% and 45% of total inventory,
respectively. This inventory reserve was increased by $382,000 in the first nine
months of 2003 and $1,755,000 during 2002 mainly due to sales declines and the
discontinuance of the microkeratome purchased from Innovative Optics in 2002.
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
14
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. During the fourth quarter
of 2003, the Company sold all inventory and rights associated with the Phaco
SIStem(TM) and Odyssey(TM) for $125,000. Because the full amount of inventory
related to the SIStem(TM) and Odyssey(TM) had been fully reserved, no cost of
sales were recorded in connection with this sale, thus resulting in gross profit
equal to the sales price of $125,000. The Company does not expect the sales of
these items, if any, to be significant in the future.
At this time, the Company's Photon(TM) Laser Ocular Surgery Workstation
requires additional development and regulatory approvals. Any possible future
efforts to complete development of the Photon(TM) and obtain the necessary
regulatory approvals would depend on its economic evaluations and adequate
funding. If these efforts were undertaken but proved to be unsuccessful, the
impact would include the costs associated with these efforts and the anticipated
future revenues that the Company would not receive as expected. The Company is
unable to provide a detailed estimate of possible liquidity needs and expected
sources of funds for possible future efforts to complete development of the
Photon(TM) and obtain the necessary regulatory approvals since this estimate
would depend on a comprehensive economic evaluation.
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 the Company 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.
Impact of New Accounting Pronouncements
In April 2003, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 149, "Amendment of Statement 133
on Derivative Instruments and Hedging Activities." Statement of Financial
Accounting Standards 149 provides for certain changes in the accounting
treatment of derivative contracts. Statement of Financial Accounting Standards
No. 149 is effective for contracts entered into or modified after June 30, 2003,
except for certain provisions that relate to SFAS No. 133 Implementation Issues
that have been effective for fiscal quarters that began prior to June 15, 2003,
which should continue to be applied in accordance with their respective
effective dates. The guidance should be applied prospectively. The Company
anticipates that the adoption of Statement of Financial Accounting Standards No.
149 will not have a material impact on its consolidated financial statements.
In May 2003, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 150, "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity." This new
statement changes the accounting for certain financial instruments that, under
previous guidance, issuers could account for as equity. It requires that those
instruments be classified as liabilities in balance sheets. Most of the guidance
in Statement of Financial Accounting Standards 150 is effective for all
financial instruments entered into or modified after May 31, 2003. The Company
anticipates that the adoption of Statement of Financial Accounting Standards 150
will not have a material impact on its consolidated financial statements.
The Emerging Issues Task Force issued EITF No. 00-21, "Revenue
Arrangements with Multiple Deliverables" addressing the allocation of revenue
among products and services in bundled sales arrangements. EITF 00-21 is
effective for arrangements entered into in fiscal periods after June 15, 2003.
The Company does not expect the adoption of EITF 00-21 to have a material impact
on its financial position or future operations.
In April 2002, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 145, "Rescission of FASB
Statements Nos. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." This statement requires the classification of gains or losses from
the extinguishments of debt to meet the criteria of Accounting Principles Board
Opinion No. 30 before they can be classified as extraordinary in the income
statement. As a result, companies that use debt extinguishment as part of their
risk management cannot classify the gain or loss from that extinguishment as
15
extraordinary. The statement also requires sale-leaseback accounting for certain
lease modifications that have economic effects similar to sale-leaseback
transactions. The Company does not expect the adoption of Statement No. 145 to
have a material impact on its financial position or future operations.
In June 2002, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 146, "Accounting for Costs Associated with
Exit or Disposal Activities." This standard, which is effective for exit or
disposal activities initiated after December 31, 2002, provides new guidance on
the recognition, measurement and reporting of costs associated with these
activities. The standard requires companies to recognize costs associated with
exit or disposal activities when they are incurred rather than at the date the
company commits to an exit or disposal plan. The Company does not expect the
adoption of Statement of Financial Accounting Standards No. 146 to have a
material impact on its financial position or future operations.
In December 2002, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 148 "Accounting for Stock-Based
Compensation--Transition and Disclosure--an amendment of Financial Accounting
Standards Board Statement No. 123," which is effective for all fiscal years
ending after December 15, 2002. Statement No. 148 provides alternative methods
of transition for a voluntary change to the fair value based method of
accounting for stock- based employee compensation under Statement No. 123 from
the intrinsic value based method of accounting prescribed by Accounting
Principles Board Opinion No. 25. Statement 148 also changes the disclosure
requirements of Statement No 123, requiring a more prominent disclosure of the
pro-forma effect of the fair value based method of accounting for stock- based
compensation. The Company does not expect the adoption of Statement No. 148 to
have a material impact on its financial position or future operations.
In January 2003, the Financial Accounting Standards Board issued
Interpretation No. 46, Consolidation of Variable Interest Ethics, which
addresses consolidation by business enterprises of variable interest entities.
Interpretation No. 46 clarifies the application of Accounting Research Bulletin
No. 51, Consolidated Financial Statements, to certain entities in which equity
investors do not have the characteristics of a controlling financial interest or
do not have sufficient equity at risk for the entity to finance its activities
without additional subordinated financial support from other parties.
Interpretation No. 46 applies immediately to variable interest entities created
after January 31, 2003, and to variable interest entities in which an enterprise
obtains an interest after that date. It applies in the first fiscal year or
interim period beginning after June 15, 2003, to variable interest entities in
which an enterprise holds a variable interest that it acquired before February
1, 2003. The Company does not expect to identify any variable interest entities
that must be consolidated. In the event a variable interest entity is
identified, the Company does not expect the requirements of Interpretation No.
46 to have a material impact on its financial condition or future operations.
In November 2002, the Financial Accounting Standards Board issued
Interpretation No. 45, Guarantor's Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness of Others.
Interpretation No. 45 requires certain guarantees to be recorded at fair value,
which is different from current practice to record a liability only when a loss
is probable and reasonably estimable, as those terms are defined in Financial
Accounting Standard Board Statement No. 5, Accounting for Contingencies.
Interpretation No. 45 also requires the Company to make significant new
disclosures about guarantees. The disclosure requirements of Interpretation No.
45 are effective for the Company in the first quarter of fiscal year 2003.
Interpretation No. 45's initial recognition and initial measurement provisions
are applicable on a prospective basis to guarantees issued or modified after
December 31, 2002. The Company's previous accounting for guarantees issued prior
to the date of the initial application of Interpretation No. 45 will not be
revised or restated to reflect the provisions of Interpretation No. 45. The
Company do not expect the adoption of Interpretation No. 45 to have a material
impact on the Company's consolidated financial position, results of operations
or cash flows.
Item 3 Controls and Procedures
(a) Evaluation of disclosure controls and procedures
16
Based on their evaluations as of September 30, 2003, the principal
executive officer and principal financial officer of the Company have concluded
that the Company's disclosure controls and procedures (as defined in Rules
13a-15(e) and 15d-15(e) under the Securities Exchange Act) are effective to
ensure that information required to be disclosed by the Company in reports that
the Company files or submits under the Securities Exchange Act is recorded,
processed, summarized and reported within the time periods specified in the
rules and forms of the SEC.
(b) Changes in internal controls
There were no significant changes in the Company's internal controls
over financial reporting or in other factors that occurred during the quarter
ended September 30, 2003 that materially affected or is reasonably likely to
affect its internal controls 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
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
disputes the amount allegedly owed and intends to vigorously defend against the
action.
An action was brought against the Company on March 7, 2000 in the Third
District Court of Salt Lake County, State of Utah, by the Merrill Corporation
that alleges that the Company owes the Merrill Corporation approximately $20,000
together with interest thereon at the rate of 10% per annum from August 30,
1999, plus costs and attorney's fees. The complaint alleges a breach of contract
relative to printing services. The Company filed an answer to the complaint. On
August 12, 2003, the court dismissed the action without prejudice.
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. Discovery has
taken place and the Company has paid royalties of $14,736 to bring all payments
up to date through June 30, 2001. 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. The 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 $600. The Company
intends to make payment of this amount to PhotoMed and Dr. Eichenbaum and, as a
result, 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.
The Company received a demand letter dated December 9, 2002 from
counsel for Dan Blacklock, dba Danlin Corp. The letter demands payment in the
amount of $65,160 for manufacturing and supplying parts for microkeratome
blades. The Company records show that it received approximately $34,824 in parts
from the Danlin Corp., but that the additional amounts that the Danlin Corp
contends are owed were from parts that were received but rejected by the Company
because they had never been ordered. On August 14, 2003, the Company agreed to
make a $13,650 payment to Danlin Corp. in settlement of the dispute. The Company
has since made the $13,650 payment to Danlin Corp.
17
The Company received a demand letter dated December 30, 2002 from
counsel for Thomas F. Motter, its former Chairman and Chief Executive Officer.
Mr. Motter claims in the letter that he was entitled to certain stock options
that had not been issued to him in a timely manner. By the time the options were
actually issued to him, however, they had expired. Mr. Motter contends that if
the options had been issued in a timely manner, he would have exercised them in
a manner that would have given him a substantial benefit. Mr. Motter requests
restitution for the loss of the financial opportunity. Mr. Motter also claims
that he was defrauded by the Company by not being given an extended employment
agreement when he terminated the change of control agreement that he had entered
into with the Company.
Mr. Motter is further claiming payment for accrued vacation time during
the 13 years he had been employed by the Company, asserting that he only had a
total of four weeks of vacation during that period. Finally, Mr. Motter is
threatening a shareholder derivative action against the Company because of the
board of directors' alleged failure to conduct an investigation into
conversations that took place in a chat room on Yahoo. Mr. Motter asserts that
certain individuals participating in the conversations were the Company's
officers or directors whose interests were in conflict with the interest of the
shareholders. The Company believes that Mr. Motter's claims and assertions are
without merit and intend to vigorously defend against any legal action that Mr.
Motter may bring.
On January 24, 2003, an action was brought by Dr. John Charles Casebeer
against the Company in the Montana Second Judicial District Court, Silver Bow
County, State of Montana (Civil No. DU-0326). The complaint alleges that Dr.
Casebeer entered into a personal services contract with the Company memorialized
by a letter dated April 20, 2002, with it being alleged that Dr. Casebeer fully
performed his obligations. Dr. Casebeer asserts that he is entitled to $43,750
per quarter for consultant time and as an incentive to be granted each quarter
$5,000 in options issued at the fair market value. An additional purported
incentive was $50,000 in shares of stock being issued at the time a formalized
contract was to be signed by the parties. In the letter it is provided that at
its election, the Company may pay the consideration in the form of stock or cash
and that stock would be issued within 30 days of the close of the quarter. Prior
to the litigation, the Company issued 43,684 shares to Dr. Casebeer. The
referenced letter provides that termination may be made by either party upon
giving 90 days written notice. Notice was given by us in early November 2002.
The Company recently filed its answer in defense of the action. Issues include
whether or not Dr. Casebeer fully performed as asserted. The case has been
settled through the issuance of 300,000 additional shares of the Company's
common stock to Dr. Casebeer.
On May 14, 2003, a complaint was filed in the United States District
Court, District of Utah, captioned Richard Meyer, individually and on behalf of
all others similarly suited v. Paradigm Medical Industries, Inc., Thomas Motter,
Mark Miehle and John Hemmer, Case No. 2:03 CV00448TC. The complaint also
indicates that it is a "Class Action Complaint for Violations of Federal
Securities Law and Plaintiffs Demand a Trial by Jury." The Company has retained
legal counsel to review the complaint, which appears to be focused on alleged
false and misleading statements pertaining to the Blood Flow Analyzer(TM) and
concerning a purchase order from Valdespino Associates Enterprises and Westland
Financial Corporation.
More specifically, the complaint alleges that the Company falsely
stated in its Securities and Exchange Commission filings and press releases that
the Company had received authorization to use an insurance reimbursement CPT
code from the CPT Code Research and Development Division of the American Medical
Association in connection with the Blood Flow Analyzer(TM), adding that the CPT
code provides for a reimbursement to doctors of $57.00 per patient for use of
the Blood Flow Analyzer(TM). The complaint also alleges that on July 11, 2002,
the Company issued a press release falsely announcing that the Company had
received a purchase order from Valdespino Associates Enterprises and Westland
Financial Corporation for 200 sets of the Company's entire portfolio of
products, with $70 million in systems to be delivered over a two-year period,
then another $35 million of orders to be completed in the third year. As a
result of these statements, the complaint contends that the price of the
Company's shares of common stock was artificially inflated during the period
from April 25, 2001 through May 14, 2003, and the persons who purchased the
Company's common shares during that period suffered substantial damages. The
complaint requests judgment for unspecified damages, together with interest and
attorney's fees.
The Company disputes having issued false and misleading statements
concerning the Blood Flow Analyzer(TM) and a purchase order from Valdespino
Associates Enterprises and Westland Financial Corporation. On April 25, 2001,
the Company issued a press release that stated the Company had received
18
authorization to use common procedure terminology or CPT code number 92120 for
its Blood Flow Analyzer(TM). This press release was based on a letter the
Company received from the CPT Editorial Research and Development Department of
the American Medical Association authorizing use of common procedure terminology
or CPT code number 92120 for its Blood Flow Analyzer(TM), for reimbursement
purposes for doctors using the device.
Currently, there is reimbursement by insurance payors to doctors using
the Blood Flow Analyzer(TM) in 22 states and partial reimbursement in four other
states. The amount of reimbursement to doctors using the Blood Flow Analyzer(TM)
generally ranges from $56.00 to $76.00 per patient, depending upon the insurance
payor. Insurance payors providing reimbursement for the Blood Flow Analyzer(TM)
have the discretion to increase or reduce the amount of reimbursement. The
Company is endeavoring to obtain reimbursement by insurance payors in other
states where there is currently no reimbursement being made. The Company
believes it has continued to correctly represent in its Securities and Exchange
Commission filings that the Company has received authorization from the CPT
Editorial Research and Development Department of the American Medical
Association to use CPT code number 92120 for its Blood Flow Analyzer(TM), for
reimbursement purposes for doctors using the device.
On July 11, 2002, the Company issued a press release that stated it
received a purchase order from Valdespino Associates Enterprises and Westland
Financial Corporation for 200 complete sets of the Company's entire product
portfolio of diagnostic and surgical equipment for Mexican ophthalmic
practitioners, to be followed by a second order of 100 sets of equipment. The
press release was based on a purchase order dated July 10, 2002 that the Company
entered into with Westland Financial Corporation for the sale of 200 complete
sets of the Company's surgical and diagnostic equipment to Mexican ophthalmic
practitioners. The press release also stated that the initial order was for $70
million of the Company's equipment to be filled over a two-year period followed
by the second order of $35 million in equipment to be completed in the third
year. The press release further stated that delivery would be made in traunches
of 25 complete sets of the Company's equipment, beginning in 30 days from the
date of the purchase order.
On September 13, 2002, the board of directors issued a press release
updating the status of its product sales to the Mexican ophthalmic
practitioners. In that press release the board stated that the Company had been
in discussions for the prior nine months with Westland Financial Corporation,
aimed at supplying the Company's medical device products to the Mexican market.
In the past, the Company has had a business relationship with Westland
Financial. Upon investigation, the board of directors determined that the
purchase order referenced in the July 11, 2002 press release was not of such a
nature as to be enforceable for the purpose of sales or revenue recognition. In
addition, the Company had not sent any shipment of medical products to Mexican
ophthalmic practitioners nor received payment for those products pursuant to
those discussions. The September 13, 2002 press release also stated that
discussions were continuing with Westland Financial Corporation regarding sales
and marketing activities for the Company's medical device products in Mexico,
but the Company could not, at the time, predict or provide any assurance that
any transactions would result.
On June 2, 2003, a complaint was filed in the United States District
Court captioned Michael Marrone v. Paradigm Medical Industries, Inc., Thomas
Motter, Mark Miehle and John Hemmer, Case No. 2:03 CV00513 PGC. On or about June
11, 2003, a complaint was filed in the same United States District Court
captioned Milian v. Paradigm Medical Industries, Inc., Thomas Motter, Mark
Miehle and John Hemmer, Case No. 2:03 CV00617PGC. Both complaints seek class
action status. These cases are substantially similar in nature to the Meyer
case, including the contention that as a result of allegedly false statements
regarding the Blood Flow Analyzer(TM) and the purchase order from Valdespino
Associates Enterprises and Westland Financial Corporation, the price of the
Company's common stock was artificially inflated and the persons who purchased
its common shares during the class period suffered substantial damages. The
cases request judgment for unspecified damages, together with interest and
attorney's fees. These cases have now been consolidated with the Meyer case into
a single action. The Company believes the consolidated cases are without merit
and intend to vigorously defend and protect its interests in the said cases.
The Company was issued a Directors and Officers Liability and Company
Reimbursement Policy by United States Fire Insurance Company for the period from
July 10, 2002 to July 10, 2003 that contains a $5,000,000 limit of liability,
which is excess of a $250,000 retention. The officers and directors named in the
19
consolidated cases have requested coverage under the policy. U.S. Fire is
currently investigating whether it may have a right to deny coverage for the
consolidated cases based upon policy terms, conditions and exclusions or to
rescind the policy based upon misrepresentations contained in the Company's
application for insurance.
The Company has not paid any amounts toward satisfaction of any part of
the $250,000 retention that is applicable to the consolidated cases. The Company
has advised U.S. Fire that it cannot pay the $250,000 retention due to its
current financial circumstances. As a consequence, on January 8, 2004, the
Company entered into a non-waiver agreement with U.S. Fire in which U.S. Fire
agreed to fund and advance its retention obligation in consideration for which
the Company has agreed to reimburse U.S. Fire the sum of $5,000 a month, for a
period of six months, with the first of such payments due on February 15, 2004.
Thereafter, commencing on August 15, 2004, the Company is currently required to
reimburse U.S. Fire the sum of $10,000 per month until the entire amount of
$250,000 has been reimbursed to U.S. Fire.
In the event U.S. Fire determines that the Company or the former
officers and directors named in the consolidated cases are not entitled to
coverage under the policy, or that it is entitled to rescind the policy, or
should the Company be declared in default under the non-waiver agreement, then
the Company agree to pay U.S. Fire, on demand, the full amount of all costs
advanced by U.S. Fire, except for those amounts that it may have reimbursed to
U.S. Fire pursuant to the monthly payments due under the non-waiver agreement.
The Company will be in default under the non-waiver agreement if it
fails to make any payment due to U.S. Fire thereunder when such payment is due,
or institute proceedings to be adjudicated as bankrupt or insolvent. U.S. Fire's
obligation to advance defense costs under the agreement will terminate in the
event that the $5,000,000 policy limit of liability is exhausted. If U.S. Fire
denies coverage for the consolidated cases under the policy and the Company is
not successful in defending and protecting its interests in the cases, resulting
in a judgment against the Company for substantial damages, the Company would not
be able to pay such liability and, as a result, would be forced to seek
bankruptcy protection.
On July 10, 2003, an action was filed in the United States District
Court, District of Utah, by Innovative Optics, Inc. and Barton Dietrich
Investments, L.P. Defendants include the Company, Thomas Motter, Mark Miehle and
John Hemmer, former officers of the company. The complaint claims that
Innovative and Barton entered into an asset purchase agreement with the Company
on January 31, 2002, in which the Company agreed to purchase all the assets of
Innovative in consideration for the issuance of 1,310,000 shares of the
Company's common stock to Innovative. The complaint claims the Company breached
the asset purchase agreement. The complaint also claims that the Company
allegedly made false and misleading statements pertaining to the Blood Flow
Analyzer(TM) and concerning a purchase order from Valdespino Associates
Enterprises and Westland Financial Corporation. The purpose of these statements,
according to the complaint, was to induce Innovative to sell its assets and
purchase the shares of the Company's common stock at artificially inflated
prices while simultaneously deceiving Innovative and Barton into believing that
the Company's shares were worth more than they actually were. The complaint
contends that had Innovative and Barton known the truth they would not have sold
Innovative to the Company, would not have purchased the Company's stock for the
assets of Innovative, or would not have purchased the stock at the inflated
prices that were paid. The complaint further contends that as a result of the
allegedly false statements, Innovative and Barton suffered substantial damages
in an amount to be proven at trial.
The complaint also claims that 491,250 of the shares to be issued to
Innovative in the asset purchase transaction were not issued on a timely basis
and the Company also did not file a registration statement with the Securities
and Exchange Commission within five months of the closing date of the asset
purchase transaction. As a result, the complaint alleges that the value of the
shares of the Company's common stock issued to Innovative in the transaction
declined, and Innovative and Barton suffered damages in an amount to be proven
at trial. The Company filed an answer to the complaint and also filed
counterclaims against Innovative and Barton for breach of contract. The Company
believes the complaint is without merit and intend to vigorously defend and
protect its interests in the action. If the Company is not successful in
defending and protecting its interests in this action, resulting in a judgment
against the Company for substantial damages, and U.S. Fire denies coverage in
the litigation under the Directors and Officers Liability and Company
Reimbursement Policy, the Company would not be able to pay such liability and,
as a result, would be forced to seek bankruptcy protection.
On October 14, 2003, an action was filed in the Third Judicial District
Court, Salt Lake County, State of Utah, captioned Albert Kinzinger, Jr.,
individually and on behalf of all others similarly situated vs. Paradigm Medical
Industries, Inc., Thomas Motter, Mark Miehle, Randall A. Mackey, and John
20
Hemmer, Case No. 030922608. The complaint also indicates that it is a "Class
Action Complaint for Violations of Utah Securities Laws and Plaintiffs Demand a
Trial by Jury." The Company has retained legal counsel to review the complaint,
which appears to be focused on alleged false or misleading statements pertaining
to the Blood Flow Analyzer(TM). More specifically, the complaint alleges that
the Company falsely stated in Securities and Exchange Commission filings and
press releases that the Company had received authorization to use an insurance
reimbursement CPT code from the CPT Code Research and Development Division of
the American Medical Association in connection with the Blood Flow Analyzer(TM),
adding that the CPT code provides for a reimbursement to doctors of $57.00 per
patient for the Blood Flow Analyzer(TM).
The purpose of these statements, according to the complaint, was to
induce investors to purchase shares of the Company's Series E preferred stock in
a private placement transaction at artificially inflated prices. The complaint
contends that as a result of these statements, the investors that purchased
shares of the Company's Series E preferred stock in the private offering
suffered substantial damages to be proven at trial. The complaint also alleges
that the Company sold Series E preferred shares without registering the sale of
such shares or obtaining an exemption from registration. The complaint requests
rescission, compensatory damages and treble damages, including interest and
attorneys' fees. The Company filed an answer to the complaint. The Company
believes the complaint is without merit and intends to vigorously defend its
interests in the action. If the Company is not successful in defending and
protecting its interests in the action, resulting in a judgment against the
Company for substantial damages, and U.S. Fire denies coverage in the litigation
under the Directors and Officers Liability and Company Reimbursement Policy, the
Company would not be able to pay such liability and, as a result, would be
forced to seek bankruptcy protection.
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 two 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 disputes the amounts allegedly owed, asserting that the
equipment it returned to the leasing company did not work properly. A responsive
pleading has not yet been filed. The Company is currently engaged in settlement
discussions with CitiCorp.
An action was filed in June, 2003 in the Third Judicial District Court,
Salt Lake County, State of Utah (Civil No. 030914719) by Franklin Funding, Inc.
in which it alleges that the Company had entered into a lease agreement for the
lease of certain equipment for which payment is due. It is claimed that there is
due and owing approximately $89,988 after accruing late fees, interest,
repossession costs, collection costs and attorneys' fees. On August 28, 2003,
the Company agreed to a settlement of the case with Franklin Funding by agreeing
to make 24 monthly payments of $2,300 to Franklin Funding, with the first
monthly payment due on August 29, 2003.
The Company received demand letters dated July 18, 2003, September 26,
2003 and November 10, 2003 from counsel for Douglas A. MacLeod, M.D., a
shareholder of the company. In the July 18, 2003 letter, Dr. MacLeod demands
that he and certain entities with which he is involved or controls, namely the
Douglas A. MacLeod, M.D. Profit Sharing Trust, St. Marks' Eye Institute and
Milan Holdings, Ltd., be issued a total of 2,296,667 shares of the Company's
common stock and warrants to purchase 1,192,500 shares of its common stock at an
exercise price of $.25 per share. Dr. MacLeod claims that these common shares
and warrants are owing to him and the related entities under the terms of a
mutual release dated January 16, 2003, which he and the related entities entered
into with the Company. Dr. MacLeod renewed his request for these additional
common shares and warrants in the September 26, 2003 and November 10, 2003
demand letters. The Company believes that Dr. MacLeod's claims and assertions
are without merit and that neither he nor the related entities are entitled to
any additional shares of its common stock or any additional warrants under the
terms of the mutual release. The Company intends to vigorously defend against
any legal action that Dr. MacLeod may bring.
On August 3, 2003, a complaint was filed against the Company by Corinne
Powell, a former employee, in the Third Judicial District Court, Salt Lake
County, State of Utah (Civil No. 030918364). Defendants consist of the Company
and Randall A. Mackey, Dr. David M. Silver and Keith D. Ignotz, directors of the
company. The complaint alleges that at the time the Company laid off Ms. Powell
on March 25, 2003, she was owed $2,030 for business expenses, $11,063 for
accrued vacation days, $12,818 for unpaid commissions, the fair market value of
50,000 stock options exercisable at $5.00 per share that she claims she was
prevented from exercising, attorney's fees and a continuing wage penalty under
Utah law. The Company disputes the amounts allegedly owed and intends to
vigorously defend and protect its interests in the action.
21
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 a 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 disputes the amount allegedly owed and
intends to vigorously defend against such action.
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 the
Company's financial condition or results of operations.
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. Changes in Securities
During the period from August 24, 2003 to September 15, 2003, the
Company sold a total of 1,981,560 shares of Series G convertible preferred stock
to two accredited investors, as defined in Section 2(15) of the Securities Act
of 1933 and Rule 501 of Regulation D thereunder, through a private placement
under Regulation D promulgated under the Securities Act of 1933 at a price of
$.17 per share. The Company received $300,000 in cash as a result of the private
placement transaction and paid $30,000 in commissions and expenses. In addition,
the Company issued warrants to purchase 88,236 shares of common stock at an
exercise price of $.50 per share for commissions and expenses. The Series G
convertible preferred stock is convertible into shares of common stock at a
conversion price equal to $.17 per share of common stock. The accredited
investors also received warrants to purchase a total of 382,353 shares of common
stock at an exercise price of $.50 per share. These shares were issued without
registration in reliance upon Section 4(2) of the Securities Act of 1933 and
Rule 506 of Regulation D promulgated thereunder.
Item 3. Defaults Upon Senior Securities
None
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.
22
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(10)
3.3 Bylaws(1)
4.1 Warrant Agency Agreement with Continental Stock Transfer & Trust
Company(3)
4.2 Specimen Common Stock Certificate (2)
4.3 Specimen Class A Warrant Certificate(2)
4.4 Form of Class A Warrant Agreement(2)
4.5 Underwriter's Warrant with Kenneth Jerome & Co., Inc.(3)
4.6 Warrant to Purchase Common Stock with Note Holders re bridge
financing (1)
4.7 Specimen Series C Convertible Preferred Stock Certificate(4)
4.8 Certificate of the Designations, Powers, Preferences and Rights
of the Series C Convertible Preferred Stock(4)
4.9 Specimen Series D Convertible Preferred Stock Certificate (5)
4.10 Certificate of the Designations, Powers, Preferences and Rights
of the Series D Convertible Preferred Stock (6)
4.11 Warrant to Purchase Common Stock with Cyndel & Co. (5)
4.12 Warrant Agreement with KSH Investment Group, Inc. (5)
4.13 Warrant to Purchase Common Stock with R.F. Lafferty & Co., Inc.
(5)
4.14 Warrant to Purchase Common Stock with Dr. Michael B. Limberg (6)
4.15 Warrant to Purchase Common Stock with John W. Hemmer (6)
4.16 Stock Purchase Warrant with Triton West Group, Inc.(8)
4.17 Warrant to Purchase Common Stock with KSH Investment Group,
Inc.(8)
4.18 Warrant to Purchase Common Stock with Consulting for Strategic
Growth, Ltd.(8)
4.19 Certificate of Designations, Powers, Preferences and Rights of
the Series G Convertible Preferred Stock
5.1 Opinion of Mackey Price & Thompson
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 Stock Purchase Agreement with Ocular Blood Flow, Ltd. and Malcolm
Redman (6)
10.5 Consulting Agreement with Malcolm Redman (6)
10.6 Royalty Agreement with Malcolm Redman (6)
10.7 Registration Rights with Malcolm Redman (6)
10.8 Agreements with Steven J. Bayern and Patrick M. Kolenik (7)
10.9 Private Equity Line of Credit Agreement with Triton West Group,
Inc. (8)
10.10 Asset Purchase Agreement with Innovative Optics, Inc. and Barton
Dietrich Investments, L.P.(9)
10.11 Escrow Agreement with Innovative Optics, Inc., Barton Dietrich
Investments, L.P. (9)
10.12 Assignment and Assumption Agreement with Innovative Optics,
Inc.(9)
10.13 General Assignment and Bill of Sale with Innovative Optics,
Inc.(9)
10.14 Non-Competition and Confidentiality Agreement with Mario F.
Barton(9)
10.15 Termination of Employment Agreement with Mark R. Miehle(11)
10.16 Consulting Agreement with Mark R. Miehle(11)
10.17 Employment Agreement with Jeffrey F. Poore (12)
31.1 Certification pursuant to18 U.S.C. Section 1350 as enacted by
Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification pursuant to18 U.S.C. Section 1350 as enacted by
Section 302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification pursuant to18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of Sarbanes-Oxley Act of 2002.
32.2 Certification pursuant to18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of Sarbanes-Oxley Act of 2002.
-----------------
23
(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 Amendment No. 2 to Registration
Statement on Form SB-2, as filed on June 13, 1996.
(4) Incorporated by reference from Annual Report on Form 10-KSB, as
filed on April 16, 1998.
(5) Incorporated by reference from Registration Statement on Form
SB-2, as filed on April 29, 1999.
(6) Incorporated by reference from Report on Form 10-QSB, as filed on
August 16, 2000.
(7) Incorporated by reference from Report on Form 10-QSB, as filed on
November 1, 2000.
(8) Incorporated by reference from Report on Form 10-QSB, as filed on
March 15, 2001.
(9) Incorporated by reference from Current Report on Form 8-K, as
filed on March 5, 2002.
(10) Incorporated by reference from Amendment No. 1 to Registration
Statement on Form S-3, as filed on March 20, 2002.
(11) Incorporated by reference from Report on Form 10-QSB, as filed on
November 18, 2002.
(12) Incorporated by reference from Registration Statement on Form
SB-2, as filed on July 7, 2003.
(b) Reports on Form 8-K
-------------------
No reports were filed by the Company during the quarter ended September
30, 2003.
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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.
March 11, 2004 /s/ Jeffrey F. Poore
-------------------------------------
Jeffrey F. Poore
President and Chief Executive Officer
March 11, 2004 /s/ Luis A. Mostacero
-------------------------------------
Luis A. Mostacero, Controller
25