NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
Note 1. Basis of
Presentation
The financial statements included herein
have been prepared by PURE Bioscience without audit, in accordance with the instructions
to Securities and Exchange Commission (SEC) Form 10-Q and Article 10 of
Regulation S-X. Certain information and footnote disclosures normally included in the
financial statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted as allowed by such rules and regulations, however we
believe that the accompanying unaudited financial statements contain all adjustments
(including normal recurring adjustments) necessary to present fairly the financial
condition, results of operations and cash flows for the periods presented. These unaudited
consolidated financial statements presented herein should be read in conjunction with our
audited financial statements for the period ended July 31, 2007, and their accompanying
notes, as filed with the Securities and Exchange Commission in our 10-KSB on October 29,
2007.
The preparation of the consolidated
financial statements requires management to make estimates and assumptions that affect the
amounts reported in the statements and accompanying notes, and actual results could differ
materially from those estimates. The results of operations for the three and six months
ended January 31, 2008 are not necessarily indicative of the results of operations for the
full year, or any future periods.
The accompanying unaudited financial
statements include the consolidated accounts of PURE Bioscience and its subsidiaries. All
inter-company balances and transactions have been eliminated.
Note 2. Summary of
Significant Accounting Policies
Certain comparative figures for prior
periods have been reclassified. Specifically, we have reclassified $2,000,000 from cash
and cash equivalents to short-term investments on the consolidated balance sheets at
October 31, 2006. The balance sheets at October 31, 2006 are not presented herein, however
the reclassification resulted in a $2,000,000 increase in short-term investments and a
corresponding decrease in cash and cash equivalents at the end of the period, as reflected
on the consolidated statement of cash flows for the six months ended January 31, 2007.
During the periods presented herein
our revenue was derived from the sale of SDC concentrate and the sale of finished packaged
products containing SDC. We recognize revenue from sales of these products under the
provisions of Staff Accounting Bulletin No. 104, Revenue Recognition, which is generally
when we ship the products free on board from either our facility or from third party
packagers, we have transferred title to the goods, and we have eliminated our risk of
loss.
|
Intangible
Assets / Long-Lived Assets
|
Our intangible assets primarily
consist of the worldwide patent portfolio of our silver ion technologies, and to a lesser
extent our Triglycylboride technology. Outside legal costs and filing fees related to
obtaining patents are capitalized as incurred. The total amounts capitalized for pending
patents was $39,622 and $6,079 in the three month periods ended January 31, 2008 and 2007,
respectively, and $72,495 and $21,945 in the six month periods ended January 31, 2008 and
2007, respectively. Patents are stated net of accumulated amortization of $1,076,187 and
$988,742 at January 31, 2008 and July 31, 2007, respectively.
The cumulative cost of acquiring
patents is amortized on a straight-line basis over the estimated remaining useful lives of
the patents, generally between 17 and 20 years from the date of issuance. At January 31,
2008 the weighted average remaining amortization period for all patents was approximately
12.5 years. Amortization expense for the three month periods ended January 31, 2008 and
2007 was $44,048 and $40,631, respectively, and for the six month periods ended January
31, 2008 and 2007 was $87,445 and $81,263, respectively.
|
Accounting
for Stock-Based Compensation
|
In December 2004, the Financial
Accounting Standards Board (FASB) revised SFAS 123(R),
Share-Based
Payment
, which establishes accounting for share-based awards exchanged for employee
and Director services and requires us to expense the estimated fair value of these awards
over the applicable service period. Under SFAS No. 123(R), share-based compensation cost
is measured at the grant date based on the estimated fair value of the award, and is
recognized as expense over the applicable service period. We do not have, and have not had
during the six month periods ended January 31, 2008 or 2007, any stock option awards with
market or performance conditions.
We
adopted the accounting provisions of SFAS No. I23(R) in the three month period ended
October 31, 2006, using the modified prospective application. Under the modified
prospective application, prior fiscal periods are not revised for comparative purposes.
Prior to August 1, 2006, we followed Accounting Principles Board Opinion No. 25,
Accounting for Stock Issued to Employees, as amended, in our accounting for share-based
compensation. The valuation provisions of SFAS No. I23(R) apply to new awards and to
awards that were outstanding on the adoption date and were or are subsequently modified or
cancelled. As at July 31, 2006, all outstanding share-based awards were fully vested, with
the exception of consultant options recorded in our balance sheets as prepaid
consulting (as further discussed in Note 6).
6
|
Stock
Options to Non-Employees
|
Charges for stock options granted to
non-employees have been determined in accordance with SFAS No. 123(R) and EITF No. 96-18,
Accounting for Equity Instruments that are Issued to Other Than Employees for
Acquiring, or in Conjunction with Selling, Goods or Services
, whereby we use the
estimated fair value of the stock options issued, based on the Black-Scholes Option
Pricing Model. For such stock options, during the three month period ended January 31,
2008 we recorded $75,205 in selling expense, and $3,253 in research and development
expense; and during the three month period ended January 31, 2007 we recorded $65,038 in
selling expense, and $9,758 in research and development expense. During the six month
period ended January 31, 2008 we recorded $75,205 in selling expense, and $13,011 in
research and development expense; and during the six month period ended January 31, 2007
we recorded $130,076 in selling expense, $91,250 in general and administrative expense,
and $19,516 in research and development expense. Included in these amounts is the
amortization of consultant options recorded in our consolidated balance sheets as
prepaid consulting and further discussed in Note 6.
|
Cash,
Cash Equivalents and Short-term Investments
|
We consider all liquid investments
with maturities of ninety days or less when purchased to be cash equivalents. Our
short-term investments have maturities of greater than ninety days from the date of
purchase. We classify securities as available-for-sale in accordance with SFAS
115,
Accounting for Certain Investments in Debt and Equity Securities
, and carry
these investments at fair market value with any unrealized gains and losses reported as a
component of stockholders equity on the consolidated balance sheets and in the
statements of stockholders equity. All of our short-term investments as at July 31,
2007 or January 31, 2008 are carried at fair value, based upon market prices quoted on the
last day of the fiscal period, and are considered available for sale. We use the specific
identification method to determine the cost of debt securities sold, and include gross
realized gains and losses in investment income. Realized gains and losses recorded for the
three month periods ended January 31, 2008 and 2007 were $17,188 and zero, respectively,
and for the six month periods ended January 31, 2008 and 2007 were $23,090 and zero,
respectively. All interest and dividends received from short-term investments are included
in interest income.
As at January 31, 2008 and July 31,
2007 all cash deposits and short-term investments were invested in either U.S. FDIC
insured bank accounts; institutional money market mutual funds investing in A-1 (S&P),
Prime-1 (Moodys) or F1 (Fitch) short-term corporate debt obligations; U.S. Treasury
Securities, or United States Government obligations issued by or backed by a federal
agency of the United States Government.
SFAS 130,
Reporting Comprehensive
Income
, requires us to display comprehensive income or loss and its components as part
of our consolidated financial statements. Our comprehensive loss includes our net loss and
certain changes in equity that are excluded from our net loss, including unrealized
holding gains and losses on available-for-sale securities. SFAS 130 requires such changes
in stockholders equity to be included in accumulated other comprehensive income or
loss. For the three month periods ended January 31, 2008 and 2007, our comprehensive loss
was $1,483,876 and $1,008,112, respectively, and included unrealized holding gains on
available-for-sale securities of $69,831 and zero, respectively. For the six month periods
ended January 31, 2008 and 2007, our comprehensive loss was $2,490,222 and $1,875,402,
respectively, and included unrealized holding gains on available-for-sale securities of
$72,189 and zero, respectively.
|
Net
Loss Per Common Share
|
In accordance with FASB Statement No.
128,
Earnings Per Share
(SFAS 128), we compute basic loss per share by
dividing the applicable net loss by the weighted average number of common shares
outstanding during the respective period. Diluted per share amounts assume the conversion,
exercise or issuance of all potential common stock equivalents, including stock options
and warrants, unless the effect is to reduce a loss or increase the income per common
share from continuing operations. As we incurred losses in three and six month periods
ended January 31 2008 and 2007, we did not include common stock equivalent shares in the
computation of net loss per share as the effect would have been anti-dilutive. Therefore,
both the basic and diluted loss per common share for the three and six month periods ended
January 31, 2008 and 2007 are based on the weighted average number of shares of our common
stock outstanding during the periods.
|
Recent
Accounting Pronouncements
|
In September 2006, the FASB issued
Statement of Financial Accounting Standards (SFAS) No. 157,
Fair Value
Measurements
, which provides a single definition of fair value, a framework for
measuring fair value, and expanded disclosures concerning fair value. Previously,
different definitions of fair value were contained in various accounting pronouncements
creating inconsistencies in measurement and disclosures. SFAS No. 157 applies under those
previously issued pronouncements that prescribe fair value as the relevant measure of
value, except Statement No. 123R and related interpretations and pronouncements that
require or permit measurement similar to fair value but are not intended to measure fair
value. This pronouncement is effective for fiscal years beginning after November 15, 2007
(our fiscal year ending July 31, 2009). We do not expect the adoption of SFAS No. 157 to
have a material impact on our consolidated financial statements or results of operations.
In February 2007, the FASB issued
SFAS No. 159,
The Fair Value Option for Financial Assets and Financial
LiabilitiesIncluding an Amendment of FASB Statement No. 115
. This standard
permits an entity to choose to measure many financial instruments and certain other items
at fair value. Most of the provisions in SFAS No. 159 are elective, however the amendment
to SFAS No. 115,
Accounting for Certain Investments in Debt and Equity Securities
,
applies to all entities with available-for-sale and trading securities. The fair value
option established by SFAS No. 159 permits all entities to choose to measure eligible
items at fair value at specified election dates. Under SFAS No. 159 we would report
unrealized gains and losses on items for which the fair value option has been elected in
earnings at each subsequent reporting date. The fair value option: (a) may be applied
instrument by instrument, with a few exceptions, such as investments otherwise accounted
for by the equity method; (b) is irrevocable (unless a new election date occurs); and (c)
is applied only to entire instruments and not to portions of instruments. SFAS No. 159 is
effective as of the beginning of the first fiscal year that begins after November 15, 2007
(our fiscal year ending July 31, 2009), however we do not currently expect the adoption of
SFAS No. 159 to have a material impact on our consolidated financial statements.
7
In December 2007, the FASB issued
SFAS No. 141 (revised 2007),
Business Combinations
(SFAS 141R). This
Statement replaces SFAS No. 141, Business Combinations and requires an acquirer in a
business combination to recognize the assets acquired, the liabilities assumed, including
those arising from contractual contingencies, any contingent consideration, and any
non-controlling interest in the acquiree at the acquisition date, measured at their fair
values as of that date, with limited exceptions specified in the Statement. SFAS 141R also
requires the acquirer in a business combination achieved in stages (sometimes referred to
as a step acquisition) to recognize the identifiable assets and liabilities, as well as
the non-controlling interest in the acquiree, at the full amounts of their fair values (or
other amounts determined in accordance with SFAS 141R). In addition, SFAS 141Rs
requirement to measure the non-controlling interest in the acquiree at fair value will
result in recognizing the goodwill attributable to the non-controlling interest in
addition to that attributable to the acquirer. SFAS 141R amends SFAS No. 109,
Accounting for Income
Taxes, to require the acquirer to recognize changes in the
amount of its deferred tax benefits that are recognizable because of a business
combination either in income from continuing operations in the period of the combination,
or directly in contributed capital, depending on the circumstances. It also amends SFAS
142,
Goodwill and Other Intangible Assets
, to provide guidance on the impairment
testing of acquired research and development intangible assets and assets that the
acquirer intends not to use. SFAS 141R applies prospectively to business combinations for
which the acquisition date is on or after the beginning of the first annual reporting
period beginning on or after December 15, 2008 (our fiscal year ending July 31, 2010). We
do not currently expect the adoption of the provisions of SFAS 141R to have a material
effect on our financial condition, results of operations or cash flows.
In December 2007, the FASB issued
Statement of Financial Accounting Standards No. 160, Non-controlling Interests in
Consolidated Financial Statements (SFAS 160). SFAS 160 amends Accounting
Research Bulletin 51, Consolidated Financial Statements, to establish accounting and
reporting standards for the non-controlling interest in a subsidiary and for the
deconsolidation of a subsidiary. It also clarifies that a non-controlling interest in a
subsidiary is an ownership interest in the consolidated entity that should be reported as
equity in the consolidated financial statements. SFAS 160 also changes the way the
consolidated income statement is presented by requiring consolidated net income to be
reported at amounts that include the amounts attributable to both the parent and the
non-controlling interest. It also requires disclosure, on the face of the consolidated
statement of income, of the amounts of consolidated net income attributable to the parent
and to the non-controlling interest. SFAS 160 requires that a parent recognize a gain or
loss in net income when a subsidiary is deconsolidated and requires expanded disclosures
in the consolidated financial statements that clearly identify and distinguish between the
interests of the parent owners and the interests of the non-controlling owners of a
subsidiary. SFAS 160 is effective for fiscal periods, and interim periods within those
fiscal years, beginning on or after December 15, 2008 (our fiscal year ending July 31,
2010). We do not currently expect the adoption of the provisions of SFAS No. 160 to have a
material effect on our financial condition, results of operations or cash flows.
Note 3. Private Placement
On October 19, 2007 we sold 1,677,596
unregistered securities units to accredited investors, at $5.03 per unit. Each unit
consisted of one share of our common stock and one quarter of a five-year warrant to
purchase our common stock at a price of $7.17 per share. A total of 419,394 such five-year
warrants were issued to the investors and the fair value of the warrants, based on their
fair value relative to the common stock issued, was $1,143,676 (based on the Black-Scholes
Option Pricing Model assuming no dividend yield, volatility of 95.38% and a risk-free
interest rate of 4.75%). Additionally, Taglich Brothers, Inc. acted as placement agent and
in accordance with the placement agent agreement, they received a cash fee of $675,065 and
a five-year warrant to purchase 167,759 shares of our common stock at a price of $8.60 per
share. The fair value of the 167,759 placement agent warrants, based on their fair value
relative to the common stock issued, was $441,970 (based on the Black-Scholes Option
Pricing Model assuming no dividend yield, volatility of 95.38% and a risk-free interest
rate of 4.75%). Other cash fees paid to third parties, for legal and other fees associated
with the private placement, were $22,277. The gross proceeds of the private placement were
$8,438,308 and the net proceeds to us, after fees and expenses, were $7,740,967. Based on
the relative fair value of the common stock and warrants, during the current fiscal year
we booked $6,155,321 to common stock and $1,585,646 to warrants; a total of $7,740,967 of
net proceeds recorded within shareholders equity on the consolidated balance sheets.
Under the terms of the placement
agreement, we were required to file a registration statement with the Securities and
Exchange Commission (SEC) within 90 days of the private placement, for the
resale of the shares issued, and the shares to be issued upon the exercise of the
warrants. If we had not filed the registration statement within the 90-day period, and if
the registration statement were not declared effective within 210 days after the filing
date, we would have been subject to repayment penalties. We filed a Form S-1 with the SEC
on January 17, 2008 for the resale of all shares issued in the October 2007 private
placement and the shares to be issued upon the exercise of the warrants. The S-1
registration statement, as amended, was subsequently declared effective and we filed a
notice of effectiveness with the SEC on January 25, 2008. As a result, we are no longer
subject to any potential repayment penalties associated with the October 2007 private
placement.
Note 4. Other Equity and
Common Stock Transactions
We paid no cash dividends during any
of the periods presented, and have never paid cash dividends.
In August 2007 we issued 12,500
unregistered shares of common stock to a third party as part of a legal settlement, with
an estimated fair value of $43,750 based on a market price of $3.50 per share.
During the three months ended October
31, 2007 we received an aggregate of $318,750 from the exercise of non-employee options on
390,000 shares of common stock at an average exercise price of $0.82, received $45,000
from the exercise of options on 75,000 shares of common stock issued under employee stock
option plans, received $25,560 from the exercise of common stock warrants on 10,000 shares
of common stock at an average exercise price of $2.56, and recorded $24,822 of employee
stock option expense. Additionally during the three months ended October 31, 2007 there
were net exercises of 88,500 warrants that resulted in the issuance of 60,982 shares of
common stock based on the exercise price of the warrants and the market price of our
common stock on the date of exercise.
8
In November 2007, we issued options
on 25,000 shares of common stock in exchange for business development services, at an
exercise price of $7.50, valued at $51,736 (based on the Black-Scholes Option Pricing
Model assuming no dividend yield, volatility of 66.12% and a risk-free interest rate of
4.50%).
In December 2007, we issued options
on 50,000 shares of common stock in exchange for business development services, at an
exercise price of $5.29, valued at $140,814 (based on the Black-Scholes Option Pricing
Model assuming no dividend yield, volatility of 102.22% and a risk-free interest rate of
4.25%). See Note 6 for further information regarding this option.
In January 2008, we appointed Paul V. Maier to our Board of Directors and on
appointment to the Board Mr. Maier was granted an option to purchase 100,000
shares of common stock, at an exercise price of $5.73, valued at $350,997 (based
on the Black-Scholes Option Pricing Model assuming no dividend yield, volatility
of 107.34% and a risk-free interest rate of 3.50%). The full fair value of the
award was recorded as an expense on the consolidated statement of operations for
the three months ended January 31, 2008 as the award vested immediately and was
made as compensation for Mr. Maier joining the Board. The stock options granted
to Mr. Maier were issued under the 2007 Equity Incentive Plan.
In January 2008, there were net
exercises of options which were due to expire and which were issued under the 2002
Non-Qualified Stock Option Plan. Options on 250,000 shares were exercised, resulting in
the issuance of 228,950 shares of common stock. As these shares were net exercised as
permitted under the respective option agreements, the Company did not receive any cash.
Additionally during the three months ended January 31, 2008, we received $111,500 from the
exercise of options on 150,000 shares of common stock by two of our Directors, at an
average exercise price of $0.74, and received an aggregate of $279,250 from the exercise
of non-employee options on 295,000 shares of common stock at an average exercise price of
$0.95. We also received $12,000 from the exercise of options on 6,250 shares of common
stock issued under employee stock purchase plans, and recorded $24,836 of employee stock
option expense.
Note 5. Stock-Based
Compensation
We have, or have had during the
fiscal years presented herein, the following equity incentive plans (the
Plans) pursuant to which we have granted options to acquire common stock: the
1998 Directors And Officers Stock Option Plan; the 2001 Directors And Officers Stock
Option Plan: the 2001 ETIH2O Stock Option Plan; the 2001 Consultants and Advisors Stock
Option Plan; the 2002 Non-Qualified Stock Option Plan; the 2002 Employee Incentive Stock
Option Plan; the 2004 Consultants and Advisors Stock Option Plan; and the 2007 Equity
Incentive Plan. The Plans are administered by an Administrative Committee. The exercise
price for stock options, or the value of other incentive grants granted under the Plans,
are set by the Administrative Committee but may not be for less than the fair market value
of the shares on the date the award is granted. The period in which options can be
exercised is set by the Administrative Committee but is not to exceed five years from the
date of grant.
On August 1, 2006, we adopted the
provisions of Statement of Financial Accounting Standards (SFAS) No. 123
(revised 2004), Share-Based Payment (SFAS123(R)), requiring us to recognize
expense related to the fair value of share-based compensation awards to employees and
Directors. We elected to use the modified-prospective-transition method as permitted by
SFAS 123R and therefore have not restated our financial results for prior fiscal years. As
at July 31, 2006, all outstanding share-based awards were fully vested, with the exception
of the consultant options recorded in our balance sheets as prepaid consulting
(as further discussed in Note 6). We recognize compensation expense for stock option
awards on a straight-line basis over the applicable service period of the award, which is
the vesting period. Share-based compensation expense for awards granted subsequent to July
31, 2006 is based on the grant date fair value estimated in accordance with the provisions
of SFAS 123R, using the Black-Scholes Option Pricing Model. The following methodology and
assumptions were used to calculate share based compensation for the six month periods
ended January 31, 2008 and 2007:
|
For the six month periods ended January 31
|
|
|
2008
|
|
2007
|
|
Expected price volatility
|
|
|
66.1% - 107.3%
|
|
|
|
70.9% - 71.2%
|
|
Risk-free interest rate
|
|
|
3.50% - 5.25%
|
|
|
|
5.25%
|
|
Expected Rate of Forfeiture
|
|
|
0.0
|
|
|
|
0.0%
|
|
Expected Dividend yield
|
|
|
0.0
|
|
|
|
0.0%
|
|
Weighted Average Expected Term
|
|
|
2.0 years
|
|
|
|
2.7 years
|
|
Expected price volatility is the
measure by which our stock price is expected to fluctuate during the expected term of an
option. Expected volatility is derived from the historical daily change in the market
price of our common stock, as we believe that historical volatility is the best indicator
of future volatility. For stock options granted subsequent to July 31, 2006 we have
excluded the period prior to November 1, 2005 from our historical price volatility, as
during this period our market price reflected significant uncertainty associated with both
our arbitration proceedings against Falken Industries and our ability to close the sale of
the assets of the Water Treatment Division. We believe that the volatility of the market
price of our common stock during periods prior to November 1, 2005 is not reflective of
future expected volatility.
9
Following the guidance of Staff
Accounting Bulletin No. 107 (SAB 107), we have been following the
Simplified Method to determine the expected term of Plain Vanilla
options issued to employees and Directors. All of our outstanding options granted to
employees and Directors are Plain Vanilla options. Under the Simplified Method, the
expected term is presumed to be the mid-point between the vesting date and the end of the
contractual term. In SAB 107, the Staff stated that it would not expect a company to use
the Simplified Method for share option grants after December 31, 2007, however on December
21, 2007 the SEC published Staff Accounting Bulletin No. 110 (SAB 110), which
expressed the views of the Staff regarding the continued use of a Simplified Method in
certain circumstances where a company is unable to rely on historical data. We are unable
to rely on our historical exercise data as there have been only a limited number of option
exercises in recent periods; there have been a limited number of plan participants which
is expected to grow; our common stock has been traded on the illiquid Bulletin Board but
we are seeking a listing on a National Exchange; we have had over recent years significant
trading blackout periods for employees and Directors; there has been minimal employee and
Director turnover; we have recently changed the terms of employee stock option grants to
reduce the term of such grants; there are no comparable companies in terms of size,
location and industry (particularly as we are developing a platform technology and operate
in multiple industries); and we have had significant structural changes in our business
including the sale of the Water Treatment Division, and expect to continue to change in
the foreseeable future. We are therefore, under the guidance of SAB 110, continuing to use
the Simplified Method to determine the expected term of options issued to employees and
Directors, but will continually evaluate our historical data as a basis for determining
the expected terms of such options.
Our estimation of the expected term
for stock options granted to parties other than employees or Directors is the contractual
term of the option award.
For the purposes of estimating the
fair value of stock option awards, the risk-free interest rate used in the Black-Scholes
calculation is based on the prevailing U.S Treasury yield as determined by the U.S.
Federal Reserve. We have never paid any cash dividends on our common stock and do not
anticipate paying cash dividends on our common stock in the foreseeable future.
Stock-based compensation expense
recognized in the consolidated statements of operations is based on awards ultimately
expected to vest, reduced for estimated forfeitures. SFAS 123R requires forfeitures to be
estimated at the time of grant, and revised, if necessary, in subsequent periods if actual
forfeitures differ from those estimates. Historically, we have not had significant
forfeitures of unvested stock options granted to employees and Directors. A significant
number of our stock option grants are fully vested at issuance or have short vesting
provisions. Therefore, we have estimated the forfeiture rate of our outstanding stock
options as zero.
The following table sets forth the
share-based compensation expense recorded in our consolidated statements of operations for
the three and six month period ended January 31, 2008 and 2007 resulting from share-based
compensation awarded to our employees, Directors and third party service providers,
excluding the amortization of prepaid consulting as detailed in Note 6:
|
Three Months Ended
January 31, 2008
|
|
Three Months Ended
January 31, 2007
|
|
Share-based compensation for employees and directors:
|
|
|
|
|
|
|
|
|
Selling expense
|
|
|
$
|
|
|
$
|
|
|
General and administrative expenses
|
|
|
|
375,833
|
|
|
2,465
|
|
Research and development
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total share-based compensation for employees and directors
|
|
|
|
375,833
|
|
|
2,465
|
|
|
|
|
Share-based compensation for third party service providers:
|
|
|
Selling expense
|
|
|
$
|
51,736
|
|
$
|
|
|
General and administrative expenses
|
|
|
|
|
|
|
|
|
Research and development
|
|
|
|
|
|
|
65,100
|
|
|
|
|
|
|
Total share-based compensation for third party service providers
|
|
|
|
51,736
|
|
|
65,100
|
|
|
|
|
|
|
Total share-based compensation expense
|
|
|
$
|
427,569
|
|
$
|
67,565
|
|
|
|
|
|
|
|
Six Months Ended
January 31, 2008
|
|
Six Months Ended
January 31, 2007
|
|
Share-based compensation for employees and directors:
|
|
|
|
|
|
|
|
|
Selling expense
|
|
|
$
|
|
|
$
|
|
|
General and administrative expenses
|
|
|
|
400,655
|
|
|
2,465
|
|
Research and development
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total share-based compensation for employees and directors
|
|
|
|
400,655
|
|
|
2,465
|
|
|
|
|
Share-based compensation for third party service providers:
|
|
|
Selling expense
|
|
|
$
|
51,736
|
|
$
|
|
|
General and administrative expenses
|
|
|
|
43,750
|
|
|
91,250
|
|
Research and development
|
|
|
|
|
|
|
65,100
|
|
|
|
|
|
|
Total share-based compensation for third party service providers
|
|
|
|
95,486
|
|
|
156,350
|
|
|
|
|
|
|
Total share-based compensation expense
|
|
|
$
|
496,141
|
|
$
|
158,815
|
|
|
|
|
|
|
10
A summary of stock option activity is
as follows:
|
Number of
Shares
|
|
Weighted-Average
Exercise Price ($)
|
|
Aggregate Intrinsic
Value ($000's)
|
Balance at July 31, 2007
|
|
|
|
10,293,750
|
|
|
$1
|
.18
|
|
|
|
|
|
|
|
|
Granted
|
|
|
|
38,300
|
|
|
$3
|
.69
|
|
|
|
Exercised
|
|
|
|
(465,000
|
)
|
|
$0
|
.78
|
|
|
|
Forfeited / Cancelled
|
|
|
|
(650,000
|
)
|
|
$1
|
.42
|
|
|
|
|
|
|
|
|
Balance at October 31, 2007
|
|
|
|
9,217,050
|
|
|
$1
|
.19
|
|
$
|
62,400
|
|
|
|
|
|
Granted
|
|
|
|
200,000
|
|
|
$5
|
.89
|
|
|
|
Exercised
|
|
|
|
(680,200
|
)
|
|
$0
|
.77
|
|
|
|
Forfeited / Cancelled
|
|
|
|
(33,550
|
)
|
|
$1
|
.05
|
|
|
|
|
|
|
|
|
Balance at January 31, 2008
|
|
|
|
8,703,300
|
|
|
$1
|
.33
|
|
$
|
37,223
|
|
|
|
|
|
|
|
Outstanding
|
Exercisable
|
Range of Exercise Prices
|
Number
Shares
Outstanding
|
Weighted Average
Remaining
Contractual Life
(in years)
|
Weighted
Average
Exercise
Price
|
Number
Exercisable
|
Weighted
Average
Exercise
Price ($)
|
$0.50 to $0.75
|
|
|
|
3,425,000
|
|
|
1
|
.88
|
$
|
0
|
.53
|
|
3,425,000
|
|
$
|
0
|
.53
|
$0.80 to $1.20
|
|
|
|
1,151,100
|
|
|
2
|
.32
|
$
|
0
|
.86
|
|
1,151,100
|
|
$
|
0
|
.86
|
$1.50 to $7.50
|
|
|
|
4,127,200
|
|
|
2
|
.67
|
$
|
2
|
.13
|
|
3,685,450
|
|
$
|
2
|
.03
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
8,703,300
|
|
|
2
|
.31
|
$
|
1
|
.33
|
|
8,261,550
|
|
$
|
1
|
.24
|
|
|
|
|
|
|
|
|
|
|
|
Cash received from options exercised
for the three month periods ended January 31, 2008 and 2007, was $402,750 and $127,000,
respectively. The intrinsic value of all options exercised during the three month periods
ended January 31, 2008 and 2007, was $3,285,027 and $901,189, respectively, and the
weighted-average grant date fair value of equity options granted during the three month
periods ended January 31, 2008 and 2007, was $3.05 and $0.80, respectively.
Cash received from options exercised
for the six month periods ended January 31, 2008 and 2007, was $766,500 and $178,500,
respectively. The intrinsic value of all options exercised during the six month periods
ended January 31, 2008 and 2007, was $6,622,677 and $953,719, respectively, and the
weighted-average grant date fair value of equity options granted during the six month
periods ended January 31, 2008 and 2007, was $2.85 and $0.89, respectively.
As of January 31, 2008, there was
$189,738 of unrecognized non-cash compensation cost related to unvested options to be
recognized over a weighted average period of 1.5 years.
Note 6. Prepaid
Consulting
In January 2006, we entered into a
two-year consulting agreement with Mr. Michael Sitton for domestic and international
business development, the compensation being a fee of $12,500 per month and an option to
purchase 2,000,000 shares of unregistered common stock, vesting over three years. We also
entered into a two-year consulting agreement with Secretary Tommy Thompson, for domestic
and international business development, the compensation being a fee of $12,500 per month
and an option to purchase 300,000 shares of unregistered common stock, vesting over three
years. Mr. Sitton subsequently transferred the rights to 700,000 options to Secretary
Thompson. Mr. Sitton was therefore the beneficial owner of 1,300,000 and Secretary
Thompson the beneficial owner of 1,000,000 of these options.
At the time of the grant in January
2006, we recorded the value of the aggregate of 2,300,000 unvested options as a prepaid
asset to be amortized over the life of the consulting agreements. The options were valued
at an aggregate of $598,372 based on their weighted average exercise prices of between
$1.00 to $2.75, and the Black-Scholes Option Pricing Model assuming no dividend yield,
volatility of 82.23% and a risk-free interest rate of 4.25%, to be amortized over the two
year life of the consulting agreements at $24,932 per month.
During the three months ended January
31, 2008 we amortized $3,253 of the prepaid asset, and during the six months ended January
31, 2008 we amortized $13,011 of the prepaid asset, to selling expense. The prepaid asset
is now fully amortized.
In August 2007, Mr. Sittons
consulting agreement was terminated, and Mr. Sittons 1,300,000 options are no longer
exercisable.
In December, 2007 we entered into a
separate six month consulting agreement with an independent third party for domestic
business development, the compensation being a fee of $13,683 per month and a two-year
option to purchase 50,000 shares of common stock granted under the PURE Bioscience
Consultant and Advisors Stock Option Plan. At the time of the grant in December 2007, we
recorded the fair value of the 50,000 stock options as a prepaid asset to be amortized
over the six month term of the consulting agreement. The options, which have an exercise
price of $5.29, were valued at $140,814 using the Black-Scholes Option Pricing Model and
assuming no dividend yield, volatility of 102.22% and a risk-free interest rate of 4.25%.
The fair value of the grant is being amortized at $23,469 per month for the six month term
of the associated consulting agreement. During the three month period ended January 31,
2008, we amortized $23,469 of the fair value of the stock option grant to selling expense,
and recorded $117,345 as prepaid consulting on the balance sheet at January
31, 2008.
11
Note 7. Inventory
Inventories are stated at the lower
of cost or net realizable value using the average cost method. Inventories at January 31,
2008 and July 31, 2007 consisted of:
|
January 31, 2008
|
|
July 31, 2007
|
|
Raw Materials
|
|
|
$
|
220,741
|
|
$
|
78,816
|
|
Work in Progress
|
|
|
|
|
|
|
|
|
Finished Goods
|
|
|
|
160,504
|
|
|
164,083
|
|
|
|
|
|
|
|
|
|
$
|
381,245
|
|
$
|
242,899
|
|
|
|
|
|
|
Note 8. Commitments and
Contingencies
During the three months ended October
31, 2007 we issued 12,500 shares of common stock with a fair value of $43,750 and paid an
additional $30,000, for a legal settlement.
Note 9. Taxes
In June 2006, the Financial
Accounting Standards Board, or FASB, issued FASB Interpretation No. 48 (FIN
48), Accounting for Uncertainty in Income Taxesan interpretation of FASB
Statement No. 109, which prescribes a recognition threshold and measurement attribute for
the financial statement recognition and measurement of a tax position taken or expected to
be taken in a tax return. FIN 48 also provides guidance on de-recognition, classification,
interest and penalties, accounting in interim periods, disclosure and transition. Under
FIN 48, we must recognize the tax benefit from an uncertain tax position if it is more
likely than not that the tax position will be sustained on examination by the taxing
authorities, based on the technical merits of the position.
FIN 48 became effective for us on
August 1, 2007, however the adoption of FIN 48 did not have a material impact on our
consolidated results of operations and financial position as we had no unrecognized tax
benefits that, if recognized, would affect our effective income tax rate in future
periods. Our practice is to recognize interest and/or penalties related to income tax
matters in income tax expense, however we had no accrued interest or penalties at either
August 1, 2007 or January 31, 2008. We are subject to taxation in the United States and in
California, and our historical tax years remain subject to future examination by the U.S.
and California tax authorities.
At January 31, 2008 we had federal
and California tax net operating loss carry-forwards of approximately $30,359,551 and
$20,258,174, respectively. The difference between federal and California tax loss
carry-forwards is primarily due to limitations on California loss carry-forwards. The
federal tax loss carry-forwards will begin expiring in the year ending July 31, 2017
unless previously utilized, and will completely expire in the year ending July 31, 2027.
The California tax loss carry-forwards will begin to expire in the year ended July 31,
2013 and will completely expire in the year ending July 31, 2017.
Realization of our deferred tax
assets, which relate to operating loss carry-forwards and timing differences, is dependant
on future earnings. The timing and amount of future earnings are uncertain and therefore
we have established a 100% valuation allowance.
Note 10. Business
Segment and Sales Concentrations
In accordance with the provisions of
SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information, certain
information may be disclosed based on the way we organize financial information for making
operating decisions and assessing performance. SFAS 131 requires that we apply standards
based on a management approach, and requires segmentation based upon our internal
organization and disclosure of revenue and operating income based upon internal accounting
methods. In determining operating segments, we have reviewed the current management
structure reporting to the chief operating decision-maker (CODM) and analyzed
the reporting the CODM receives to allocate resources and measure performance.
We have determined that based upon
the end use of our products, the value added contributions made by us, the regulatory
requirements, the customers and partners, and the strategy required to successfully market
finished products, we are operating in a single segment.
During the three month period ended
January 31, 2008, 90% of sales were made to four strategic partners that are also
developing markets for our products. 100% of sales for the period were made to U.S.
domestic customers. During the six month period ended January 31, 2008, 90% of sales were
made to four strategic partners, and 100% of sales for the period were made to U.S.
domestic customers.
All of our tangible assets are
located in the United States.
Note 11. Subsequent
Events
Subsequent to January 31, 2008, we
received an aggregate of $193,960 from the exercise of stock options on 218,070 shares of
common stock.
On March 10, 2008, Gary Brownell
resigned as a director of Pure Bioscience in order to allow us to meet corporate
governance standards which require that we have a majority of independent directors. On
that date, our Board of Directors extended the early termination of 837,500 vested and
outstanding stock options held by Mr. Brownell from three days following resignation until
September 10, 2008.
12
ITEM 2. MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read the following
discussion and analysis by our management of our financial condition and results of
operations in conjunction with our audited consolidated financial statements and related
notes thereto included as part of our Annual Report on Form 10-KSB for the year ended July
31, 2007 and our unaudited consolidated financial statements for the three and six months
ended January 31, 2008 included in this Quarterly Report on Form 10-Q. Our consolidated
financial statements have been prepared in accordance with U.S. generally accepted
accounting principles and are presented in U.S. dollars.
The information in this discussion
contains forward-looking statements and information within the meaning of Section 27A of
the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 which
are subject to the safe harbor created by those sections. These
forward-looking statements may include, but are not limited to, statements concerning our
strategy, future operations, future financial position, future revenues, projected costs,
prospects and plans and objectives of management. The words anticipate,
believe, estimate, expect, intend,
may, plans, projects, will,
would and similar expressions are intended to identify forward-looking
statements, although not all forward-looking statements contain these identifying words.
We may not actually achieve the plans, intentions or expectations disclosed in our
forward-looking statements and you should not place undue reliance on our forward-looking
statements. Actual results or events could differ materially from the plans, intentions
and expectations disclosed in the forward-looking statements that we make. These
forward-looking statements involve risks and uncertainties that could cause our actual
results to differ materially from those in the forward-looking statements, including,
without limitation, the risks set forth in Item 1A, Risk Factors in this
Quarterly Report on Form 10-Q and in our other filings with the Securities and Exchange
Commission, including our Annual Report on Form 10-KSB for the year ended July 31, 2007.
We do not assume any obligation to update any forward-looking statements.
OVERVIEW
PURE Bioscience began as a provider
of pharmaceutical water purification products, however we are now expanding into markets
with broader potential by developing new, proprietary bioscience products based upon our
patented silver ion antimicrobial technologies and patent-pending boric acid based
pesticide technologies. In May 2005, we sold the assets of our Water Treatment Division
and are now focused exclusively on the development and commercialization of our current
and future bioscience products.
We are expanding into markets with
broad potential by developing new, proprietary bioscience products based upon our patented
silver ion antimicrobial technologies. We are developing technology-based bioscience
products, including our silver dihydrogen citrate-based antimicrobials, which we believe
will provide best in class, non-toxic solutions to numerous global health challenges and
represent innovative advances in diverse markets. We believe that our technologies are in
a position to contribute significantly to todays global trend toward industrial and
consumer use of green products, while providing competitive advantages in
efficacy and safety.
Our flagship technology is a
patented, aqueous antimicrobial called silver dihydrogen citrate (SDC). SDC is an
electrolytically generated source of stabilized ionic silver that can serve as the basis
for a broad range of products in diverse markets. Colorless, odorless, tasteless and
non-caustic, the aqueous SDC formulates well with other compounds. We produce and have
begun to market, through our distributors, pre-formulated, ready-to-use product for
private label distribution, as well as varying strengths of SDC concentrate as an additive
or raw material for inclusion in other companies products.
We currently have Environmental
Protection Agency (EPA) registration for our 2400-parts per million (ppm) technical grade
SDC concentrate (trade name Axenohl) as well as for our Axen and Axen30 hard surface
disinfectant products for commercial, industrial and consumer applications including
restaurants, homes and medical facilities. The Axen30 EPA registration includes claims
such as a 30-second kill time on standard indicator bacteria, a 24 hour residual kill on
standard indicator bacteria, a 2-minute kill time on some resistant strains of bacteria,
10-minute kill time on fungi, 30-second kill time on HIV Type I, and 3 to10-minute kill
time on other viruses. These claims distinguish the efficacy of Axen30 from many of the
leading commercial and consumer products currently on the market, while maintaining lower
toxicity ratings. Based on the EPA toxicity categorization of antimicrobial products that
ranges from Category I (high toxicity) down to Category IV, Axen30, with its combination
of the biocidal properties of ionic silver and citric acid, is an EPA Category IV
antimicrobial for which precautionary labeling statements are normally not required. This
compares with Category II warning statements for most leading brands of antimicrobial
products.
The tests conducted to obtain the EPA
registration were performed by nationally recognized independent laboratories Nelson
Laboratories of Salt Lake City, Utah and AppTec ATS of St. Paul, Minnesota, under AOAC
protocol and GLP regulations in accordance with EPA regulations.
In June 2004, we received EPA
registration to expand claims made for our Axen30 hard surface disinfectant to include use
on hard surfaces in childcare facilities. The EPA previously approved Axen30 for
disinfection of hard surfaces including those in restaurants, homes and medical
facilities. Expanded use claims for our Axen30 disinfectant feature childrens toys,
toy boxes, play tables and activity centers, jungle gyms, playpens, child car seats,
strollers and diaper changing tables. The EPAs registration of such sensitive use
sites emphasizes the least-toxic characteristics of Axen30 while expanding its
versatility in the professional and consumer disinfection markets. We are currently
investigating market opportunities for products in the childcare segment which includes
daycare centers, preschools, schools, gymnasiums and childrens activity centers.
During the year ended July 31, 2007
we began a program whereby we utilize our expertise to source, assemble and build SDC
blending systems for sale to our distributors. These systems allow our distributors to
blend our SDC concentrate into lower concentrations, thereby significantly reducing the
cost of shipping products from our El Cajon facility, particularly for overseas markets.
No information regarding the method of making SDC is passed to our distributors as in all
of our third party agreements we are, and intend to continue to be, the sole manufacturer
and sole source of SDC concentrate.
13
We plan to pursue additional EPA and
FDA regulatory approvals for other applications. For example, in September 2003, we
announced an agreement with Therapeutics, Inc. (Therapeutics), a drug
development company based in La Jolla, California, for the development and
commercialization of certain Food and Drug Administration (FDA) regulated silver
dihydrogen citrate-based products. Therapeutics funds and directs all development
activities and FDA regulatory filings under the agreement, initially focusing on
development of silver dihydrogen citrate-based products for the treatment of bacterial,
viral and fungal mediated diseases and conditions. In May 2004, Therapeutics began
development of SDC within the first two groups of products subject to FDA regulation;
womens health products and acne products. In May 2006 we announced that we had
expanded our joint development initiative with Therapeutics to include development of SDC
as an active pharmaceutical ingredient in products for treatment of dermatophytoses such
as Tinea pedis (athletes foot), onychomycosis (nail fungus), among others, as well
as development of antimicrobial skin wash products, beginning with a hand sanitizer. In
December 2006 Therapeutics submitted an Investigational New Drug (IND) application with
the FDA for an SDC-based hand sanitizer, to enable initiation of the first clinical trial
of a product containing SDC as an active pharmaceutical ingredient. After reviewing the
submission the FDA determined that the product testing in man may begin as proposed.
Multiple hand sanitizer formulations containing SDC have been tested for safety and
efficacy in proof of concept studies. We do not currently anticipate any additional IND
applications to the FDA under our agreement with Therapeutics, or under any agreement with
another potential partner for products containing SDC, in the current year.
Our SDC technology also shows promise
as a broad-spectrum antimicrobial for multiple other medical indications, including wound
and burn care, as well as for dental and veterinary indications, though these
opportunities are not currently under active development.
In September 2007, we announced that
we had developed a new SDC-based antimicrobial product that provides what we believe to be
the first 24-hour residual protection against norovirus. The highly concentrated product
is designed to be mixed with water at the point of use to create a low toxicity hard
surface antimicrobial. We intend to initially market, through a distributor relationship,
the product, under the name Cruise Control, to the cruise ship industry, which in
recent years has suffered significant economic and reputation damage as a result of common
and well-publicized outbreaks of norovirus. We commissioned an independent, third-party
study entitled Residual Virucidal Efficacy of a Disinfectant for Use on Inanimate
Environmental Surfaces Utilizing Feline Calicivirus as a Surrogate Virus for
Norovirus. The study was conducted by a third party microbiology and virology
testing laboratory in accordance with U.S. Environmental Protection Agency Good Laboratory
Practice regulations. The testing laboratory modified an existing EPA protocol for testing
bacterial residual efficacy to a protocol that appropriately evaluated the residual
efficacy of our new formulation against the Feline Calicivirus. Our new disinfectant
demonstrated greater than 99.9999% reduction in viral titer of Feline Calicivirus after 12
hours and at least a 99.98% reduction after 24 hours.
In addition to our antimicrobial
technology, we own the marketing rights to a line of pesticide technologies. Like the
silver dihydrogen citrate antimicrobial technology, we believe the boric acid based
pesticides may offer competitive advantages in the market place with regard to efficacy
when compared to leading brands, while maintaining lower toxicity ratings. Branded as
Innovex, the product line launched in October 2001 with our EPA-approved,
patent-pending RoachX®, and we subsequently developed additional products in the
product line, including the EPA-approved AntX75®, EPA-exempt non-toxic TrapX rodent
lure and EPA approved CleanKill, the SDC-based hard surface disinfectant for the
pest control industry.
Marketing efforts behind these
products to date, and resulting sales, have been very limited. We believe that investment
in additional formulations, greater marketing efforts and wider distribution could result
in significantly greater sales and profits than we have historically achieved with the
technology. We continue to evaluate such investments, however in recent years and months
we have entirely focused our resources on the development of SDC, which we believe has
greater market potential than the Triglycylboride technology. If we decide not to make
additional investments ourselves, we may pursue alternatives for our Triglycylboride
technology that could include discontinuing to actively market the Innovex line of
products and selling or licensing our rights to the technology.
CRITICAL ACCOUNTING
POLICIES
|
Accounting
for Long-Lived Assets / Intangible Assets
|
We assess the impairment of
long-lived assets, consisting of property, plant, equipment and finite-lived intangible
assets, whenever events or circumstances indicate that the carrying value may not be
recoverable. Examples of such events or circumstances include:
An
assets ability to continue to generate income from operations and positive cash flow
in future periods
Loss
of legal ownership or title to an asset
Significant
changes in our strategic business objectives and utilization of the asset(s)
The
impact of significant negative industry or economic trends
Recoverability of assets to be held
and used in operations is measured by a comparison of the carrying amount of an asset to
the future net cash flows expected to be generated by the assets. The factors used to
evaluate the future net cash flows, while reasonable, requires a high degree of judgment
and the results could vary if the actual results are materially different than the
forecasts. In addition, we base useful lives and amortization or depreciation expense on
our subjective estimate of the period that the assets will generate revenue or otherwise
be used by us. If such assets are considered to be impaired, the impairment to be
recognized is measured by the amount by which the carrying amount of the assets exceeds
the fair value of the assets. Assets to be disposed of are reported at the lower of the
carrying amount or fair value less selling costs.
We also periodically review the lives
assigned to our intangible assets to ensure that our initial estimates do not exceed any
revised estimated periods from which we expect to realize cash flows from the
technologies. If a change were to occur in any of the above-mentioned factors or
estimates, the likelihood of a material change in our reported results would increase.
14
|
Accounting
for Stock-Based Compensation
|
We adopted the fair value provisions
of SFAS 123(R) on August 1, 2006. Stock-based compensation expense for all stock-based
compensation awards granted after August 1, 2006 is based on the grant date fair value
estimated in accordance with the provisions of SFAS 1(R). Specifically, we estimate the
weighted-average fair value of options granted using the Black-Scholes Option Pricing
Model based on evaluation assumptions regarding expected volatility, dividend yield,
risk-free interest rates, the expected term of the option and the expected forfeiture
rate. Each of these assumptions, while reasonable, requires a certain degree of judgment
and the fair value estimates could vary if the actual results are materially different
than those initially applied. Prior to the adoption of SFAS 123(R), we did not record
compensation cost in the consolidated financial statements for stock options issued to
employees or Directors.
RESULTS OF OPERATIONS
FOR THE THREE MONTHS ENDED JANUARY 31, 2008 VS. THREE MONTHS ENDED JANUARY 31, 2007
Revenue and Gross Margin
For the three months ended January
31, 2008, revenues of $152,400 decreased by $16,300, or 9.7%, compared with the three
months ended January 31, 2007. 85% of sales for the three month period ended January 31,
2008 were made to three strategic partners that are pursuing regulatory approvals and
developing markets for our products. Gross profit for the three months ended January 31,
2008 was $101,900, compared with $54,000 in the same period of the prior fiscal year. The
gross margin percentage improved from 32% in the prior year to 67% in the current period,
due primarily to product and customer mix. During the three months ended January 31, 2007,
sales were primarily from finished packaged products, while in the three months ended
January 31, 2008 a higher proportion of sales were from bulk SDC concentrate at higher
margins.
Operating Costs
Operating costs increased by 50%,
from $1,117,100 in the three months ended January 31, 2007, to $1,680,000 in the three
months ended January 31, 2008. Within these aggregate operating costs, selling expenses
declined by $10,000, to $206,600 in the current period compared with the same period in
the prior fiscal year. The decrease in selling expenses is primarily due to consulting
fees and prepaid stock option amortization expense of $102,500 in the three month period
ended January 31, 2007 (for a further discussion of this expense, see Note 6 to the
consolidated financial statements), partially offset by $75,200 of consultant stock option
expense in the three month period ended January 31, 2008.
General and administrative expenses
increased by $616,500 or 111%, to $1,170,100 in the three months ended January 31, 2008,
compared with the three months ended January 31, 2007. During the three months ended
January 31, 2008 we issued 100,000 common stock options to our new Director, for which
$350,997 of expense was recorded in the period. General and administrative payroll expense
increased by $83,200 in the three months ended January 31, 2008, compared with the same
period in the prior year, and accounting and legal fees increased by $104,100.
Additionally, recruiting fees, depreciation, consulting fees, and health insurance costs
accounted for $84,200 of the increase in general and administrative expense for the three
months ended January 31, 2008 compared with the three months ended January 31, 2007. We
recognized employee stock option non-cash expense in general and administrative expenses
for the three months ended January 31, 2008 of $375,900, and for the three months ended
January 31, 2007 of $2,500.
Research and development costs,
including in-house costs, patent amortization, outside legal costs for maintaining
approved patents, and product registration expenditures, declined for the three month
period ended January 31, 2008 by 12.6% to $303,300, compared with the same period in the
prior fiscal year. During the three month period ended January 31, 2008, $60,800 of the
costs charged to R&D related to manufacturing and R&D facility overheads incurred
during periods in which we were designing and implementing new manufacturing and bottling
processes. Additionally, during the period ended January 31, 2007 we incurred consulting
fees paid to outside advisors, including $65,100 of non-cash expense for the issuance of
30,000 shares of common stock at a market price of $2.17, and additional testing expenses
to support regulatory filings. We do not currently expect our research and development
expense to grow significantly in future periods, however if opportunities arise,
particularly in the development and testing of new formulations, we will evaluate the need
for additional research expenditures based on potential market sizes and our estimation of
the likelihood of our technology achieving successful results.
Our loss from operations before taxes
increased by $514,900, from a loss of $1,063,100 for the three months ended January 31,
2007 to a loss of $1,578,000 for the three months ended January 31, 2008.
Other Income
Other income declined by $30,700 in
the current period compared to the same period of the prior fiscal year, primarily due to
decreased interest income from lower average cash balances and lower interest rates.
Income Taxes
Income tax expense for each of the
periods presented was zero as our tax liabilities were offset by current period losses or
available federal and California net operating loss carry-forwards. In June 2006, the
Financial Accounting Standards Board, or FASB, issued FASB Interpretation No. 48
(FIN 48), Accounting for Uncertainty in Income Taxesan interpretation of
FASB Statement No. 109, which prescribes a recognition threshold and measurement attribute
for the financial statement recognition and measurement of a tax position taken or
expected to be taken in a tax return. FIN 48 also provides guidance on de-recognition,
classification, interest and penalties, accounting in interim periods, disclosure and
transition. Under FIN 48, we must recognize the tax benefit from an uncertain tax position
if it is more likely than not that the tax position will be sustained on examination by
the taxing authorities, based on the technical merits of the position.
FIN 48 became effective for us on
August 1, 2007. The adoption of FIN 48 did not have a material impact on our consolidated
results of operations and financial position as we had no unrecognized tax benefits that,
if recognized, would affect our effective income tax rate in future periods. Our practice
is to recognize interest and/or penalties related to income tax matters in income tax
expense, however we had no accrued interest or penalties at either August 1, 2007 or
January 31, 2008.
15
At January 31, 2008 we had federal
and California tax net operating loss carry-forwards of approximately $30,359,551 and
$20,258,174, respectively. The difference between federal and California tax loss
carry-forwards is primarily due to limitations on California loss carry-forwards.
Realization of our deferred tax assets, which relate to operating loss carry-forwards and
timing differences, is dependant on future earnings. The timing and amount of future
earnings are uncertain and therefore we establish a 100% valuation allowance.
Net Income (Loss)
Our net loss after taxes increased by
$545,600, from a net loss of $1,008,100 for the three months ended January 31, 2007 to a
net loss of $1,553,700 for the three months ended January 31, 2008.
RESULTS OF OPERATIONS
FOR THE SIX MONTHS ENDED JANUARY 31, 2008 VS. SIX MONTHS ENDED JANUARY 31, 2007
Revenue and Gross Margin
For the six months ended January 31,
2008, revenues of $247,700 increased by $51,300, or 26%, compared with the three months
ended January 31, 2007. 84% of sales for the six month period ended January 31, 2008 were
made to three strategic partners that are pursuing regulatory approvals and developing
markets for our products. Gross profit for the six months ended January 31, 2008 was
$165,500, compared with $69,500 in the same period of the prior fiscal year. The gross
margin percentage improved from 35% in the prior year to 67% in the current period, due
primarily to product and customer mix. During the six month period ended January 31, 2008,
a higher proportion of revenues were from bulk SDC concentrate and bulk Axen30 than in the
same period of the prior fiscal year when finished packaged products contributed a higher
proportion of sales.
Operating Costs
Operating costs increased by 35.3%,
from $2,042,300 in the six months ended January 31, 2007, to $2,764,000 in the six months
ended January 31, 2008. Within these aggregate operating costs, selling expenses decreased
by $103,900, to $294,800 in the current period compared with the same period in the prior
fiscal year. The decline in selling expenses is primarily due to consulting fees and
prepaid stock option amortization expense of $205,100 in the three month period ended
January 31, 2007 (for a further discussion of this expense, see Note 6 to the consolidated
financial statements), partially offset by $75,200 of consultant stock option expense in
the six month period ended January 31, 2008.
General and administrative expenses
increased by $855,500 or 84%, to $1,877,700 in the six months ended January 31, 2008,
compared with the six months ended January 31, 2007. During the six months ended January
31, 2008 we issued 100,000 common stock options to our new Director, for which $350,997 of
expense was recorded in the period, and we issued 12,500 shares of common stock with a
fair value of $43,750 and paid an additional $30,000, for a legal settlement. General and
administrative payroll expense increased by $158,300 year over year due to new hires and
salary increases, and accounting and legal fees increased by $157,500. Additionally,
depreciation, travel costs, recruiting fees, health insurance, and rent accounted for
$145,600 of the increase in general and administrative expense for the six months ended
January 31, 2008 compared with the six months ended January 31, 2007. These increases were
partially offset by a decline of $89,300 in consulting costs, including $95,300 of stock
option expense in the six month period ended January 31, 2007 for options issued under a
consulting contract. We recognized employee stock option non-cash expense in general and
administrative expenses for the six months ended January 31, 2008 of $400,700, and for the
three months ended January 31, 2007 of $2,500.
Research and development costs,
including in-house costs, patent amortization, outside legal costs for maintaining
approved patents, and product registration expenditures, decreased in the six month period
ended January 31, 2008 by 4.8% to $591,500, compared with the same period in the prior
fiscal year. During the six month period ended January 31, 2008, $129,700 of the costs
charged to R&D related to manufacturing and R&D facility overheads incurred during
periods in which we were designing and implementing new manufacturing and bottling
processes. This increase was partially offset by consulting fees paid to outside advisors
during the six month period ended January 31, 2007, including $65,100 of non-cash expense
for the issuance of 30,000 shares of common stock at a market price of $2.17, and
additional testing expenses to support regulatory filings. We do not currently expect our
research and development expense to grow significantly in future periods, however if
opportunities arise, particularly in the development and testing of new formulations, we
will evaluate the need for additional research expenditures based on potential market
sizes and our estimation of the likelihood of our technology achieving successful results.
Our loss from operations before taxes
increased by $625,700, from a loss of $1,972,800 for the six months ended January 31, 2007
to a loss of $2,598,500 for the six months ended January 31, 2008.
Other Income
Other income declined by $61,300 in
the current six month period compared to the same period of the prior fiscal year,
primarily due to decreased interest income from lower average cash balances and lower
interest rates.
Income Taxes
Income tax expense for each of the
periods presented was zero as our tax liabilities were offset by current period losses or
available federal and California net operating loss carry-forwards. See Income
Taxes under Results of Operations for the Three Months ended January 31, 2008
vs. Three Months Ended January 31, 2007 above, for a further discussion of our tax
position and our net operating loss carry-forwards.
16
Net Income (Loss)
Our net loss after taxes increased by
$687,000, from a net loss of $1,875,400 for the six months ended January 31, 2007 to a net
loss of $2,562,400 for the six months ended January 31, 2008.
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LIQUIDITY
AND CAPITAL RESOURCES
|
From inception through the present,
we have financed our operations primarily through our initial public offering in August of
1996, by subsequent private placement stock sales, through lines of credit and the
issuance of debentures, and in May 2005 by the sale of our Water Treatment Division. At
January 31, 2008 we had net working capital (current assets less current liabilities) of
$7.9 million and no long-term debt.
As of January 31, 2008, we had
current assets of $8,346,800, an increase of $6,652,600 from July 31, 2007. The increase
primarily relates to a private placement completed in October 2007 in which we sold
1,677,596 unregistered securities units to accredited investors, at $5.03 per unit. Each
unit consisted of one share of our common stock and one quarter of a five-year warrant to
purchase our common stock at a price of $7.17 per share. A total of 419,394 such five-year
warrants were issued to the investors and the fair value of the warrants, based on their
fair value relative to the common stock issued, was $1,143,676. Additionally, Taglich
Brothers, Inc. acted as placement agent and in accordance with the placement agent
agreement, they received a cash fee of $675,065 and a five-year warrant to purchase
167,759 shares of common stock at $8.60 per share. The fair value of the 167,759 placement
agent warrants, based on their fair value relative to the common stock issued, was
$441,970. Other cash fees paid to third parties, for legal and other fees associated with
the private placement, were $22,277. The gross proceeds of the private placement were
$8,438,308 and the net proceeds to us, after fees and expenses, were $7,740,967. Under the
terms of the placement agreement, we were required to file a registration statement with
the Securities and Exchange Commission within 90 days of the private placement, or by
January 17, 2008, for the resale of shares issued in the private placement and the shares
to be issued upon the exercise of the warrants. We filed the required registration
statement on Form S-1 on January 17, 2008. Additionally, we were required under the terms
of the private placement agreement to cause the registration statement to be declared
effective within 210 days after the filing date. Failure to achieve either of the
registration statement dates under the private placement agreement would have resulted in
potential cash penalties being payable to the investors. Our Form S-1 registration
statement, as amended, was subsequently declared effective and we filed a notice of
effectiveness with the SEC on January 25, 2008. As a result, we are no longer subject to
any potential repayment penalties associated with the October 2007 private placement.
Total cash inflows from financing
activities for the six months ended January 31, 2008 were $8,533,000, which included
proceeds of $792,100 from the exercise of options and warrants, in addition to the
$7,741,000 of net proceeds from the October 2007 private placement as discussed above.
During the six months ended January 31, 2008 we received an aggregate of $598,000 from the
exercise of non-employee options on 685,000 shares of common stock at an average exercise
price of $0.87 per share, received $168,500 from the exercise of options on 231,250 shares
of common stock issued under employee stock option plans, and received $25,560 from the
exercise of common stock warrants on 10,000 shares of common stock at an average exercise
price of $2.56. Cash and cash equivalents at January 31, 2008 were $2,739,100, an increase
for the six month period from July 31, 2007 of $2,003,458, while short-term investments
increased over the same period by $4,114,100, to $ 4,822,200. During the six months ended
January 31, 2008 cash used in investing activities was $4,208,200. Of this amount, a net
amount (cash purchases less cash sales) of $4,041,900 was invested in short-term
investments, and $166,300 was invested in patents and in property, plant and equipment.
Cash used in operating activities for
the six months ended January 31, 2008 was $2,321,300, compared with $1,286,700 for the six
month period of the prior fiscal year. The increase in operating cash expenditures is
primarily as a result of increased general and administrative expenses including payroll,
patent related research and development expenditures, and investments in new manufacturing
staff and inventory to support new partners and anticipated product needs. The value of
our raw material and finished goods inventory grew by $138,300 from July 31, 2007 to
January 31, 2008, primarily due to the purchase of raw materials for our bottling process
and for anticipated needs. Prepaid expenses grew by $169,600 from July 31, 2007 to January
31, 2008, primarily due to the payment in December 2007 of our insurance policies for the
succeeding year. In the prior year we financed the insurance policies and paid the
premiums, and interest, each month. Additionally, in the three month period ended January
31, 2008, we prepaid $31,500 for independent third party laboratory testing.
Prepaid consulting, which reflects
the unamortized fair value of stock options granted for services under consulting
agreements, increased by $104,335 from July 31, 2007 to January 31, 2008. We capitalize
the fair value of such stock options when they are granted, and amortize the fair value
over the term of the associated consulting agreements. In December, 2007 we entered into a
six month consulting agreement with an independent third party for domestic business
development, the compensation being a fee of $13,683 per month and a two-year option on
50,000 shares of common stock granted under the PURE Bioscience Consultant and Advisors
Stock Option Plan. On their granting in December 2007, we recorded the fair value of the
50,000 stock options, $140,814, as a prepaid asset to be amortized over the six month term
of the consulting agreement at $23,469 per month. During the three month period ended
January 31, 2008, we amortized $23,469 of the stock option grant to selling expense and
recorded $117,345 as prepaid consulting on the consolidated balance sheets at
January 31, 2008.
During the six months ended January
31, 2008 we invested $72,500 of cash in patents, however the capitalized value of our
patents at January 31, 2008, primarily related to our silver ion technology, declined by
$15,000 from July 31, 2007, to $2,161,400 due to an excess of patent amortization over
capitalization. Total property, plant and equipment at January 31, 2008 of $954,400
declined by $14,300 from July 31, 2007, due to an excess of depreciation over new asset
acquisitions.
17
At January 31, 2008 we had current
liabilities of $415,800, a decrease of $86,600 from July 31, 2007, primarily due to a
decline in accounts payable.
During the fiscal year ended July 31,
2007 we redeveloped the manufacturing and office areas of our facility in El Cajon,
California and invested in new manufacturing equipment. While this redevelopment is
complete, we expect to continue to invest in our manufacturing processes, to improve
efficiency and to ensure that we are able to meet anticipated demand. Additionally, during
the next twelve months we anticipate making significant investments in information
technology, in regulatory applications for new products or additional claims, in our
corporate and business development infrastructure, and in programs required for us to
maintain our compliance with the Securities Acts and/or the listing standards of any
exchange on which we may list our securities. In particular, based on the market
capitalization of our common stock at January, 31 2008 we have met the defined
requirements for becoming an accelerated filer, which will require us to attest to, and
have our Independent Registered Public Accounting Firm attest to, our internal controls
under Section 404 of the Sarbanes-Oxley Act for the year ending July 31, 2008. This will
add to the cost of us remaining compliant with our obligations as a publicly traded
company. However, we believe that our existing cash resources are sufficient to meet our
anticipated needs during the next twelve months.
|
OFF
BALANCE SHEET ARRANGEMENTS
|
We do not have any off balance sheet
arrangements.
18
ITEM 3. QUANTITATIVE AND
QUALITATIVE DISCLOSURES ABOUT MARKET RISK
From time to time our investments may
be exposed to market risk related to changes in interest rates. Our current investment
policy is to maintain an investment portfolio consisting only of diversified institutional
money market mutual funds investing in A-1 (S&P), Prime-1 (Moodys) or F1 (Fitch)
short-term corporate debt obligations; U.S. Treasury Securities, or United States
Government obligations issued by or backed by a federal agency of the United States
Government. We do not enter into investments for trading or speculative purposes, and our
cash is deposited in and invested through highly rated financial institutions in the
United States. While our available for sale securities are subject to interest rate risk
and would fall in value if market interest rates increased, we estimate that the fair
value of our investment portfolio would not decline by a material amount in the event of
an increase in market interest rates. We therefore would not expect our operating results
or cash flows to be affected to any significant degree by the effect of a change in market
interest rates on our investments.
ITEM 4. CONTROLS AND
PROCEDURES
We maintain disclosure controls and
procedures that are designed to ensure that information required to be disclosed in our
Exchange Act reports is recorded, processed, summarized and reported within the time
periods specified in the SECs rules and forms, and that such information is
accumulated and communicated to our management, including our Chief Executive Officer and
Chief Financial Officer, who also acts as our Principal Accounting Officer, as
appropriate, to allow timely decisions regarding required disclosure based closely on the
definition of disclosure controls and procedures in Rule 13a-14(c). In
designing and evaluating the disclosure controls and procedures, management recognized
that any controls and procedures, no matter how well designed and operated, can provide
only reasonable assurance of achieving the desired control objectives, and management
necessarily was required to apply its judgment in evaluating the cost-benefit relationship
of possible controls and procedures.
We have carried out an evaluation
under the supervision and with the participation of our management, including our Chief
Executive Officer and our Chief Financial Officer/Principal Accounting Officer, of the
effectiveness of the design and operation of our disclosure controls and procedures. Based
on the foregoing, our Chief Executive Officer and Chief Financial Officer/Principal
Accounting Officer concluded that our disclosure controls and procedures were effective as
of January 31, 2008. There have been no changes in our internal controls, or in other
factors that could materially affect the internal controls, subsequent to the date we
completed our evaluation.
Subsequent to January 31, 2008, our
Board of Directors approved the formation of an audit committee of the Board of Directors,
consisting of three independent Directors within the meaning of definitions
established by the Securities and Exchange Commission. At least one of the members of the
audit committee is an audit committee financial expert, who understands
Generally Accepted Accounting Principles and financial statements; is able to assess the
general application of such principles in connection with accounting for estimates,
accruals and reserves; has experience preparing, auditing, analyzing or evaluating
financial statements comparable to the breadth and complexity of our financial statements;
understands internal controls over financial reporting, and understands audit committee
functions. All members of our audit committee are able to read and understand financial
statements, including our balance sheets, income statements, cash flows statements, and
statements of shareholders equity.
In addition to approving the
formation of the audit committee, our Board of Directors, subsequent to January 31, 2008,
adopted a charter for the audit committee which defines the committees role in
overseeing the Companys accounting and financial reporting processes, and the audits
of the Companys financial statements. Prior to establishing the audit committee, the
functions of the audit committee were performed by the entire Board of Directors.
19
PART II OTHER
INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We are not currently involved in any
material legal proceedings that could result in claims against us. However, we may be
subject to various legal actions and claims arising in the ordinary course of business.
ITEM 1A. RISK FACTORS
You should consider carefully the
following information regarding the risks of investing in our common stock, together with
the other information contained in this quarterly report on Form 10-Q, in our annual
report on form 10-KSB for the year ended July 31, 2007, and in our other filings with the
Securities and Exchange Commission, before you decide to buy or maintain an investment in
our common stock. We believe that the risks described below fairly describe the risks that
are material to us as of the date of this annual report. If any of the events described
below were to occur, our financial condition, results of operations and future growth
prospects would likely be materially and adversely affected and the market price of our
common stock could decline. As a result you could lose some or all of any investment you
may have made or may make in our common stock.
We may not generate positive cash
flows from our operations to meet our anticipated capital needs
We do not yet have significant cash
inflows from product sales to offset our ongoing planned investments in corporate
infrastructure, research and development projects, regulatory submissions, business
development activities, and sales and marketing, among other investments. Some of these
investments cannot be postponed and we may be contractually or legally obligated to make
them. In future periods we may need to seek additional capital through the issuance of
debt, equity, convertible securities or through other means, any one of which could reduce
the value to us, perhaps substantially, of our technology and its commercial potential.
The issuance of debt, equity or convertible securities, or the conversion of existing
convertible securities, could lead to the dilution of our existing shareholders. There is
no guarantee that we would be able to obtain capital on terms acceptable to us, or at all.
Insufficient funds could require us to delay, scale back or eliminate some or all of our
research and product development programs, license to third parties the right to
commercialize products or technologies that we would otherwise commercialize ourselves, or
to reduce or cease operations.
We have a history of
losses, and we may not achieve or maintain profitability
We had a loss of $2,562,400 after
taxes for the six month period ended January 31, 2008, a loss of $4,654,900 after taxes
for the fiscal year ended July 31, 2007, and a loss of $3,682,900 after taxes for the
fiscal year ended July 31, 2006. We may continue to have losses in the future. If the
penetration into the marketplace of SDC is later than anticipated, revenue growth is
slower than anticipated or operating expenses exceed expectations, it may take an
unforeseen period of time to achieve or sustain profitability and we may never achieve or
sustain profitability. We continue to use our capital resources to invest in the
development of our technology, in our manufacturing operations and in our corporate
infrastructure, among other investments, however our future revenues may not provide an
adequate return, if any, on such investments. We may never achieve or sustain cash inflows
that exceed our cash outflows. Slower than anticipated revenue growth would or could force
us to scale back research, testing, development and marketing of our technology and/or
force us to reduce the size and scope of our operations, or cease operations altogether.
If we do become profitable in future periods, we have an employment contract with our
Chief Executive Officer/President which includes a provision for him to be paid an amount
equal to 3% of our net income before taxes, if any.
If our efforts to increase
awareness and expand sales of our technology are not successful, or we fail to obtain
necessary governmental approval, we may not be able to generate sufficient revenue to
attain profitability
We are marketing our new
antimicrobial silver ion technology, and to a lesser extent market our environmentally
safe pesticides, to industrial and consumer markets. These products have not yet been
accepted into the marketplace, and may never be accepted. Other risks involved in
introducing these new products include liability for product effectiveness and safety, and
competition from existing or emerging sources. Additionally, government regulation in the
United States and in other countries is a significant factor in the development,
manufacturing and marketing of many of our products and in our ongoing research and
development activities. Complying with applicable government regulations and obtaining
necessary clearances or approvals can be time consuming and expensive, and there can be no
assurance that regulatory review will not involve delays or other actions adversely
affecting the marketing and sale of our products. We also cannot predict the extent or
impact of future legislation or regulation. Some of our new bioscience applications for
the healthcare markets and food preparation markets will require approval by government
agencies prior to marketing or sale in the United States. We have not yet applied for Food
and Drug Administration or Department of Agriculture approval to market any such products.
If any future product applications are not approved by the appropriate regulatory
authority, we will not be able to market or sell such products, which would limit the
revenues which may be realized. Even after approval, if any, we will remain subject to
changing governmental policies regulating antimicrobial products.
We, or our partners, have also begun
to take our technologies to the international marketplace, and we intend to expand the
international presence of our technology. However, doing business internationally carries
a great deal of risk with regard to foreign government regulation, banking and other
factors.
Our silver ion, pesticide and other
products will be competing in markets dominated by extremely large, well financed
domestically and internationally recognized chemical and pharmaceutical companies. Our
ability to compete will depend upon our ability, and the ability of our distributors and
other partners, to develop brand recognition and novel distribution methods. We or our
partners or distributors may never be successful in doing so. Many of our competitors
already have well established brands and distribution, as well as many times our financial
resources or those of our distributors or partners. Focused competition by chemical and
pharmaceutical giants could substantially limit our potential market share and ability to
profit from our products and technologies.
20
The industries in which we operate
are heavily regulated and we may be unable to compete effectively
We are a bioscience company focused
on the marketing and continued development of our electrolytically generated stabilized
ionic silver technology, including our flagship silver dihydrogen citrate antimicrobial,
and to a much lesser extent our Triglycylboride pesticide technology. While the rewards in
these fields are potentially great, the risks, the regulatory hurdles and the costs of
doing business are also high. Our silver dihydrogen citrate is a platform technology
rather than a single use applied technology. As such, products developed from the platform
fall under the jurisdiction of multiple U.S. and international regulatory agencies. We
currently have U.S. Environmental Protection Agency (EPA) registration for our
2400-parts per million (ppm) technical grade SDC concentrate (trade name Axenohl), as well
as for our Axen and Axen30 hard surface disinfectant products for commercial, industrial
and consumer applications including restaurants, homes and medical facilities. We intend
to fund and manage additional U.S. EPA-regulated product development internally, in
conjunction with our regulatory consultants and potentially by partnering with other third
parties. We are also partnering, or intend to partner, with third parties who are seeking,
or intend to seek, approvals to market SDC-based products in markets outside the United
States. However, the introduction of additional regulated antimicrobial products in the
U.S. or in markets outside the U.S. could take several months or years, or may never be
achieved.
Our future sales are heavily
dependent on a single core technology, and a decrease in sales or anticipated sales of
products based on this core technology could seriously harm our business
Although we believe SDC has
applications in multiple industries, we expect that sales of SDC will constitute a
substantial portion, or all, of our revenues in future periods. Any material decrease in
the overall level of sales or expected sales of, or the prices for SDC, whether as a
result of competition, change in consumer demand, or any other factor, would have a
materially adverse effect on our business, financial condition and results of operations.
If we are unable to successfully
develop or commercialize new products, our operating results will suffer
In addition to its use on inanimate surfaces,
we believe that our technology also shows promise as a broad-spectrum antimicrobial for
use in human and veterinary healthcare products. We are pursuing certain approvals through
the U.S. Food and Drug Administration (FDA) by partnering with Therapeutics, Inc.
(Therapeutics) which has assumed responsibility for the testing and regulatory
process for selected potential FDA regulated silver dihydrogen citrate-based products. The
development of SDC-based products could lead to multiple IND, NDA and/or 510-K filings for
silver dihydrogen citrated-based healthcare products with the FDA. In December 2006
Therapeutics submitted an Investigational New Drug (IND) application with the FDA for an
SDC-based hand sanitizer, to enable initiation of the first clinical trial of a product
containing SDC as an active pharmaceutical ingredient. After reviewing the submission the
FDA determined that the product testing in man may begin as proposed. However,
Therapeutics resources are very limited and progress to date on all indications has
been slow. Additionally, the FDA and comparable agencies in many foreign countries impose
substantial limitations on the introduction of new products through costly and
time-consuming laboratory and clinical testing and other procedures. The process of
obtaining FDA and other required regulatory approvals is lengthy, expensive and uncertain.
There is no guarantee that either Therapeutics, any other potential partner, or we will be
able to obtain the resources necessary to further develop our technology or obtain
regulatory approvals, or that the products will be successful in meeting the strict
criteria imposed by the FDA. It may be several years before we, or a third party to whom
we grant rights to use our silver ion technologies, are able to introduce any FDA
regulated antimicrobial pharmaceutical products containing our technology. Such products
may never achieve regulatory approval and may never be commercialized. If they are
commercialized, we may not receive a share of future revenues that provides an adequate
return on our historical or future investment.
If we are unable to obtain,
maintain or defend patent and other intellectual property ownership rights relating to our
technology, we may not be able to develop and market products based on our technology,
which would have a material adverse impact on our results of operations and the price of
our common stock
We rely and may in the future rely on
a combination of patent, trademark, trade secret and copyright law and contractual
restrictions to protect the proprietary aspects of our technology and business. These
legal protections afford only limited protection for our intellectual property and trade
secrets. Despite efforts to protect our proprietary rights, unauthorized parties may
attempt to copy aspects of our proprietary technology or otherwise obtain and use
information that we regard as proprietary.
We have filed for U.S. and foreign
patent applications and trademark registrations for our patents and trademarks. It is
possible that competitors or others will create and use products in violation of our
patents and/or adopt service names similar to our service names. Such patent infringement
could have a material, adverse effect on our business. Adopting similar names and
trademarks by competitors could lead to customer confusion. Any claims or customer
confusion related to our trademarks could negatively affect our business.
Litigation may be necessary to
enforce our intellectual property rights and protect our trade secrets. If third parties
prepare and file applications in the United States or other countries that claim
trademarks used or registered by us, we may oppose those applications and may be required
to participate in proceedings before the regulatory agencies who determine priority of
rights to such trademarks. Any litigation or adverse priority proceeding could result in
substantial costs and diversion of resources, and could seriously harm our business and
operating results.
To the extent that we operate
internationally, the laws of many countries may not protect our proprietary rights to as
great an extent as do the laws of the United States. Many countries have a
first-to-file trademark registration system. As a result, we may be prevented
from registering or using our trademarks in certain countries if third parties have
previously filed applications to register or have registered the same or similar
trademarks. Our means of protecting our proprietary rights may not be adequate, and our
competitors could independently develop similar technology.
21
We may become subject to
product liability claims
As a business which manufactures and
markets products for use by consumers, we may become liable for any damage caused by our
products when used in the manner intended. Any such claim of liability, whether
meritorious or not, could be time-consuming and/or result in costly litigation. Although
we maintain general liability insurance, our insurance may not cover potential claims of
the types described above and may not be adequate to indemnify for all liabilities that
may be imposed. Any imposition of liability that is not covered by insurance or is in
excess of insurance coverage could harm our business and operating results, and you may
lose some or all of any investment you have made, or may make, in our common stock.
Maintaining compliance with our
obligations as a public company may strain our resources and distract management, and if
we do not remain compliant our stock price may be adversely affected
Our common stock is registered under
the Securities Exchange Act of 1934, as amended (the Exchange Act). It is
therefore subject to the information, proxy solicitation, insider trading and other
restrictions and requirements of the SEC under the Exchange Act. On July 30, 2002, the
Sarbanes-Oxley Act of 2002 was signed into law. The Sarbanes-Oxley Act relates to us and
adds to our obligations for regulatory reporting, accounting, corporate governance,
internal controls and business practices. The SEC continues to issue new and proposed
rules implementing various provisions of the Sarbanes-Oxley Act, and meeting these rules
will substantially increase the cost to us of being a public company, including
substantial costs during the year ending July 31, 2008. This additional cost will reduce
our future profits or increase our future losses, and a greater proportion of management
time and effort will be needed to meet our regulatory obligations than before.
During the year ending July 31, 2008
we will be required to evaluate our internal controls systems in order to allow management
to report on our internal controls as required by Section 404 of the Sarbanes-Oxley Act.
Based on the market capitalization of our common stock at January, 31 2008 we have met the
defined requirements for becoming an accelerated filer, which will require us to attest
to, and have our Independent Registered Public Accounting Firm attest to, our internal
controls under Section 404 of the Sarbanes-Oxley Act for the year ending July 31, 2008.
Commencing with our 10-K for the year
ending July 31, 2008, we will be required to file our annual and quarterly reports with
the SEC on an accelerated basis. In addition, from the time we became a public company in
August 1996 and until we filed our 10-Q for the three months ended October 31, 2007, we
filed our annual and periodic reports as a small business issuer using forms 10-KSB and
10-QSB, however we no longer meet the requirements for filing within the small business
reporting category under the Exchange Act. The increased reporting requirements and
heightened corporate governance obligations that we will face or are already facing will
further increase the cost to us, perhaps substantially, of remaining compliant with our
obligations under the Exchange Act or Sarbanes-Oxley Act. In order to meet these
incremental compliance obligations, we will need to invest in our corporate and accounting
infrastructure and acquire additional services from third party advisors. As a result of
these requirements and investments, we will incur significant additional expenses and will
suffer a significant diversion of managements time. There is no guarantee that we
will be able to meet the requirements of Section 404 or our other compliance obligations
in a timely manner, and we could therefore be subject to sanctions or investigation by
regulatory authorities such as the Securities and Exchange Commission, the Public Company
Accounting Oversight Board (PCAOB) or any stock market on which we may list our securities
subsequent to the date of this report on Form 10Q. Any such actions could adversely affect
our financial results and the market price of our common stock, perhaps significantly.
Our Board of Directors has
significant powers, which may delay or prevent a change of control of the company or
adversely affect our stock price
Certain provisions of our charter and
by-laws may delay or frustrate the removal of incumbent Directors and may prevent or delay
a merger, tender offer or proxy contest involving us that is not approved by our Board of
Directors, even if such events may be beneficial to the interests of stockholders. For
example, our Board of Directors, without stockholder approval, has the authority and power
to issue all authorized and unissued shares of common stock and preferred stock which have
not otherwise been reserved for issuance on such terms as the Board of Directors
determines. The Board of Directors could also issue 5,000,000 shares of preferred stock
and such preferred stock could have voting or conversion rights which could adversely
affect the voting power of the holders of common stock. In addition, California law may
contain provisions that have the effect of making it more difficult for others to gain
control of us.
Our management and our Board of
Directors has significant influence over our direction and policies, and may be able to
delay or prevent a change of control of our company, which could adversely affect our
stock price
As of March 11, 2008, Michael L.
Krall, our President and Chief Executive Officer, beneficially owned, including
exercisable options, approximately 7.5% of our common stock. As of the same date, our
Directors and Officers as a group beneficially owned, including exercisable options and
warrants, approximately 24% of our common stock. As a result, our management, and Mr.
Krall in particular, are in a position to significantly influence our direction and
policies, the election of our Board of Directors and the outcome of any other matters
requiring stockholder approval.
The price of our common stock may
be volatile, which may limit our ability to raise capital in the future or cause
investment losses for our stockholders
Since our initial public offering in
August 1996, the price and trading volume of our common stock have been highly volatile.
The price has ranged from below $1 per share to over $8 per share, and the monthly trading
volume has varied from under 200,000 shares to over 7.8 million shares. During the twelve
months prior to March 2008, the closing price of our common stock on any given day has
ranged from $1.75 to $8.50 per share, and the monthly trading volume has varied from
approximately 1.3 million shares to approximately 7.9 million shares. This volatility
could adversely affect an investors ability to sell shares of our common stock
and/or the available price for such shares, and could result in lower prices being
available to an investor if the investor wishes to sell their shares at any given time.
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Our common stock has previously
been and may again be considered in the future to be penny stock, which may
make it more difficult for investors to resell their shares to third parties
Although our common stock is not
currently characterized as a penny stock under SEC regulations, it has been so
characterized in the past and may be so characterized in the future. Were our common stock
to be characterized as penny stock, broker-dealers dealing in our common stock
would be subject to the disclosure rules for transactions involving penny stocks, which
generally require that, prior to a purchase, the broker-dealer determine if purchasing the
common stock is suitable for the applicable purchaser. The broker-dealer would also have
to obtain the written consent of the applicable purchasers to purchase the common stock
and disclose the best bid and offer prices available for the common stock and the price at
which the broker-dealer last purchased or sold the common stock. These additional burdens
imposed upon broker-dealers could discourage them from effecting transactions in our
common stock, which could make it difficult for an investor to sell their shares at any
given time.
If outstanding options and
warrants to purchase shares of our common stock are exercised, or if other remaining
authorized shares of common stock are issued, the interests of our stockholders could be
diluted
We have approximately 9,526,681
shares of common stock reserved for issuance, which includes shares under equity
compensation plans, vested and unvested options, and warrants. These shares have a
weighted-average exercise price of approximately $1.73. In addition, approximately
12,548,266 authorized shares of common stock remain available for future issuance under
equity compensation plans or otherwise. The exercise of options and warrants, and the sale
of shares underlying such options or warrants, could have an adverse effect on the market
for our common stock, including the price that an investor could obtain for their shares.
Investors may experience dilution in the net tangible book value of their investment upon
the exercise of outstanding options and warrants granted under our stock option plans, and
options and warrants yet to be granted or issued.
It is uncertain whether
we will ever pay dividends
We have never paid any cash dividends
on our common stock and do not anticipate paying cash dividends on our common stock in the
foreseeable future. The future payment of dividends on our common stock will depend on our
earnings, financial condition and other business and economic factors, which our Board of
Directors may consider relevant.
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ITEM 2. UNREGISTERED
SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Not Applicable.
ITEM 3. DEFAULTS UPON
SENIOR SECURITIES
Not Applicable.
ITEM 4. SUBMISSION OF
MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable.
ITEM 5. OTHER INFORMATION
Not Applicable.
ITEM 6. EXHIBITS
A. Exhibits
The
following Exhibits are filed as part of this report pursuant to Item 601 of Regulation
S-K:
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31.1
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Certification
by Chief Executive Officer Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
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31.2
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Certification
by Chief Financial Officer Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
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32.1
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Certification
Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
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B. Reports on Form 8-K: