UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-QSB
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
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For the period ended June 30, 2002 Commission File Number 0-26056
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IMAGE SENSING SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
Minnesota 41-1519168
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State of other jurisdiction of I.R.S. Employer Identification No.
Incorporation organization
500 SPRUCE TREE CENTRE
1600 UNIVERSITY AVE. W.
ST. PAUL, MN 55104-3825
(Address of principal executive offices)
Registrant's telephone number, including area code: (651) 603-7700
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practical date.
Common Stock, $.01 Par Value --3,152,777 shares as of July 24, 2002.
IMAGE SENSING SYSTEMS, INC.
INDEX
PART I. FINANCIAL INFORMATION Page No.
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Item 1. Condensed Consolidated Financial Statements:
Condensed Consolidated Balance Sheets
June 30, 2002 and December 31, 2001 4
Condensed Consolidated Statements of Operations
Three- and Six-month periods ended June 30, 2002
and 2001 5
Condensed Consolidated Statements of Cash Flows
Six-month periods ended June 30, 2002 and 2001 6
Notes to Condensed Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of
Results of Operations and Financial Condition 9
PART II. OTHER INFORMATION
Item 5. Other Information 12
Item 6. Exhibits and Reports on Form 8-K 12
Signatures 13
2
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION
REFORM ACT OF 1995
This quarterly Report on Form 10-QSB contains forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange of 1934, as amended. Forward-looking
statements represent our expectations or beliefs concerning future events and
can be identified by the use of forward-looking words such as "believes," "may,"
"will," "should," "intends," "plans," "estimates," or "anticipates" or other
comparable terminology. Forward-looking statements are subject to risks and
uncertainties that may cause the Company's actual results to differ materially
from the results discussed in the forward-looking statements. Factors that might
cause such differences include, but are not limited to:
- lack of market acceptance of the Company's products;
- dependence on third parties for manufacturing and marketing
capabilities and continuing ability to pay royalties owed;
- inability of the Company to diversify our product offerings;
- revenue fluctuations caused by the Company's dependence on sales to
governmental entities;
- failure of the Company to secure adequate protection for the
Company's intellectual property rights;
- failure of the Company to respond to evolving industry standards and
technological changes;
- inability of the Company to properly manage a growth in revenue
and/or production requirements;
- inability of the Company to meet our future additional capital
requirements; and
- control of the Company's voting stock by insiders.
We caution that the forward-looking statements made in this report or in other
announcements made by the Company are further qualified by the factors set forth
in the Cautionary Statement included as Exhibit 99.1 to this Quarterly Report.
3
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
IMAGE SENSING SYSTEMS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
June 30 December 31,
2002 2001
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ASSETS (Unaudited) (Note)
Current assets:
Cash and cash equivalents $ 1,140,000 $ 1,200,000
Accounts receivable 1,811,000 1,589,000
Inventories 268,000 341,000
Prepaid expenses 111,000 88,000
Deferred income taxes 92,000 92,000
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Total current assets 3,422,000 3,310,000
Property and equipment, net 197,000 351,000
Other assets:
Capitalized software development costs, net 1,066,000 1,195,000
Goodwill 1,050,000 77,000
Deferred income taxes 34,000 34,000
Other 28,000 37,000
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2,178,000 1,343,000
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Total assets $ 5,797,000 $ 5,004,000
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 470,000 $ 720,000
Accrued compensation 458,000 374,000
Notes payable 700,000 --
Deferred revenue 19,000 40,000
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Total current liabilities 1,647,000 1,134,000
Minority interest - 56,000
Shareholders' equity:
Common stock 32,000 32,000
Additional paid-in capital 4,600,000 4,600,000
Retained earnings (deficit) (482,000) (818,000)
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4,150,000 3,814,000
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Total liabilities and shareholders' equity $ 5,797,000 $ 5,004,000
=========== ===========
Note: The balance sheet at December 31, 2001 has been derived from the audited
financial statements at that date but does not include all of the information
and footnotes required by accounting principles generally accepted in the United
States for complete financial statements.
See accompanying notes
4
IMAGE SENSING SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three-Month Periods Ended Six-Month Periods Ended
June 30 June 30
--------------------------------- --------------------------------
2002 2001 2002 2001
-------------------------------- --------------------------------
REVENUE:
Product sales $ 594,000 $ 499,000 $ 1,232,000 $ 885,000
Royalties 1,588,000 986,000 2,542,000 1,998,000
Consulting services 54,000 59,000 72,000 94,000
--------------------------------- ---------------------------------
2,236,000 1,544,000 3,846,000 2,977,000
COSTS OF REVENUE:
Product sales 287,000 260,000 596,000 461,000
Royalties 90,000 57,000 137,000 157,000
Consulting services 30,000 37,000 41,000 67,000
--------------------------------- ---------------------------------
407,000 354,000 774,000 685,000
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Gross profit 1,829,000 1,190,000 3,072,000 2,292,000
OPERATING EXPENSES:
Selling, marketing and product support 435,000 410,000 937,000 947,000
General and administrative 504,000 670,000 972,000 1,271,000
Research and development 124,000 199,000 358,000 412,000
Restructuring 206,000 - 474,000 -
--------------------------------- ---------------------------------
1,269,000 1,279,000 2,741,000 2,630,000
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Income (loss) from operations 560,000 (89,000) 331,000 (338,000)
Other income, net 8,000 29,000 11,000 56,000
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Income (loss) before income taxes 568,000 (60,000) 342,000 (282,000)
Income taxes 6,000 - 6,000 -
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Net income (loss) before minority interest 562,000 (60,000) 336,000 (282,000)
Minority interest - (10,000) - (12,000)
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Net income (loss) $ 562,000 $ (70,000) $ 336,000 $ (294,000)
================================= =================================
Net income (loss) per common share - basic
and diluted $ 0.18 $ (0.02) $ 0.11 $ (0.09)
================================= =================================
Weighted average number of common shares
outstanding-basic and diluted 3,153,000 3,153,000 3,153,000 3,153,000
================================= =================================
See accompanying notes
5
IMAGE SENSING SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Six-Month Periods Ended
June 30
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2002 2001
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OPERATING ACTIVITIES:
Net income (loss) $ 336,000 $ (294,000)
Adjustments to reconcile net income (loss) to
net cash provided by (used in) operating activities (109,000) (306,000)
Minority interest - (12,000)
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Net cash provided by (used in) operating activities 227,000 (600,000)
INVESTING ACTIVITIES:
Purchase of property and equipment (12,000) (122,000)
Proceeds from sale of equipment 25,000 -
Purchase of minority interest of Flow Traffic (300,000) -
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Net cash used in investing activities (287,000) (122,000)
FINANCING ACTIVITIES:
Proceeds from exercise of stock option - 28,000
Dividends paid by Flow Traffic - (50,000)
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Net cash provided by (used in) financing activities - (22,000)
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Decrease in cash and cash equivalents (60,000) (744,000)
Cash and cash equivalents, beginning of period 1,200,000 1,780,000
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Cash and cash equivalents, end of period $ 1,140,000 $ 1,036,000
==========================================
SUPPLEMENTAL CASH FLOW INFORMATION:
Notes payable and deferred payment portion of
acquisition of minority interest of Flow Traffic $ 750,000 $ -
==========================================
See accompanying notes
6
IMAGE SENSING SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
June 30, 2002
Note A: Basis of Presentation
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States for interim financial information and with the instructions to
Form 10-QSB. Accordingly, they do not include all of the information and
footnotes required by accounting principles generally accepted in the United
States for complete financial statements. In the opinion of management, all
adjustments (consisting of normal recurring accruals) considered necessary for a
fair presentation have been included. Operating results for the three-month
period ended June 30, 2002 are not necessarily indicative of the results that
may be expected for the year ending December 31, 2002. For further information,
refer to the financial statements and footnotes thereto for the year ended
December 31, 2001.
Note B: Acquisition of Remaining Outstanding Shares of Flow Traffic Ltd
On January 7, 2002, the Company acquired the remaining 40% of Flow Traffic Ltd.
for $950,000, plus contingent consideration related to earn-out arrangements
totaling $100,000. The acquisition included a $250,000 cash payment, additional
future cash payments totaling $450,000, secured by letters of credit, and notes
payable totaling $250,000. The additional payments of $450,000 are payable at
any time between April 1, 2003 and April 30, 2003, and the letters of credit
expire on April 30, 2003, The notes payable totaling $250,000 are due on demand
after April 1, 2003, mature on January 7, 2007, are non-interest bearing and are
unsecured.
On April 15, 2002, the acquisition agreement was amended in connection with the
termination of employment of a former shareholder of Flow Traffic Ltd., and the
Company paid $50,000 to accelerate his earn-out arrangement. On June 14, 2002,
the acquisition agreement was further amended and the Company agreed to pay the
second former shareholder of Flow Traffic Ltd. his earn-out of $50,000 on
December 31, 2002.
Note C: Restructuring Expenses
In the first quarter of 2002, the Company accepted the resignation of its chief
executive officer and down-sized its engineering staff by five and its marketing
staff by two. Severance and other costs related to the restructuring totaled
$268,000 in the first quarter, all of which has been paid.
7
In April 2002, the Company terminated a consultancy agreement with a former
shareholder of Flow Traffic Ltd., who had become the Company's interim chief
executive officer, paying him $60,000 in April and agreeing to pay $60,000 by
September 1, 2002 and $58,000 by January 7, 2003. In addition, the Company
terminated an executive agreement with its chief financial officer, and paid
$28,000 in settlement costs. Total restructuring expense in the second quarter
was $206,000, of which $118,000 remains to be paid.
8
Item 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview:
We have developed proprietary machine vision technology that converts real world
information into digital electronic signals for processing by computer, and have
applied it to traffic management problems. Our technology uses standard video
and computer equipment, combined with proprietary technology, including complex
detection algorithms, computer software, special purpose hardware, and a
Microsoft Windows(R)-based graphical user interface that enables standard video
cameras to work with the Autoscope system. The majority of our revenue is
derived from royalties received from Econolite Control Products, Inc., our North
American distribution partner, based on their sales of traffic control products
which use ISS technology. A secondary source of revenue comes from direct sales,
primarily to overseas customers.
Our critical accounting policies, including the assumptions and judgments
underlying them, are disclosed in Note 1 to the Consolidated Financial
Statements included in Form 10-KSB for the fiscal year ended December 31, 2001.
These policies have been consistently applied in all material respects and
address such matters as revenue recognition, depreciation methods, asset
impairment recognition, deferred tax valuation allowance, business combination
and accounting. While the estimates and judgments associated with the
application of these policies may be affected by different assumptions or
conditions, we believe the estimates and judgments associated with the reported
amounts are appropriate in the circumstances
Results of Operations (Comparison of Three-and Six-Month Periods Ended June 30,
2002 and 2001):
Revenues for the second quarter of 2002 were $2,236,000, up 45% from $1,544,000
for the same period a year ago, while revenues for the six-month period ended
June 30, 2002 were $3,846,000, an increase of 29% from $2,977,000 a year ago.
The increase in revenues for the second quarter was due primarily to a 61%
increase in royalty income from Econolite over the comparable period in 2001.
The increase was due to Econolite's continued success in selling the Solo Pro,
which they introduced in January 2001. They sold 1,440 Solo Pro units in the
second quarter of 2002, compared to 515 units in the comparable period in 2001.
While Econolite's sales of Solo Pro have cut into sales of the older Autoscope
2004 product, their total sales revenue from ISS products increased in the
second quarter. Product sales for both the second quarter and first half of 2002
also contributed to increased revenue, increasing by 19% and 39%, respectively,
over the same periods a year ago. The increase in the second quarter was due
primarily to a $66,000 sale to the Slovak Republic and for the first half of
2002 due to a $383,000 sale to the Chinese government.
Gross profits for the second quarter were $1,829,000, or 82% of revenue,
compared to $1,190,000, or 77% of revenue, for the same period a year ago, while
gross profits for the six-month period ended June 30, 2002 were $3,072,000, or
80% of revenue, compared to $2,292,000 or 77% of revenue a year ago. The margin
percentage increase for the second quarter was due primarily to the greater mix
of higher margin royalty income as a
9
percentage of total revenue. The margin increase for the first half of 2002
increased over the comparable period in 2001 due primarily to a decrease in our
royalty costs as a percentage of royalty income. This decrease is a result of
our deriving more royalty revenue from the sale of products for which we do not
pay a royalty. We do not expect that our cost of product sales relative to
product sales or royalty costs relative to royalty income will change
appreciably during the balance of 2002.
Operating expenses were $1,269,000 for the second quarter of 2002 compared to
$1,279,000 for the same period a year ago. The decrease is due to lower
employment costs resulting from the restructuring, offset in part by $206,000 in
severance pay and other restructuring costs incurred in the second quarter of
2002. For the first half of 2002, operating costs were $2,741,000 compared to
$2,630,000 for the first half of 2001. The increase was due primarily to
severance and other restructuring costs totaling $473,000 incurred in the first
and second quarters of 2002, offset in part by subsequent employment cost
savings. With the restructuring behind us, we expect that operating expenses
will decrease in the remaining two quarters of 2002. See Note C of the Notes to
Condensed Consolidated Financial Statements for more information regarding the
restructuring.
Research and development expenses were $124,000 in the second quarter of 2002
compared to $199,000 for the same period a year ago, while R & D expenses were
$358,000 for the six-month period ended June 30, 2002 compared to $412,000 for
the comparable period in 2001. The decrease is due to reduced activity in the R
& D area in the second quarter of 2002 after completion of our latest software
release at the end of the first quarter.
Other income, net was $8,000 in the second quarter of 2002 compared to $29,000
for the same period a year ago, and $11,000 for the first half of 2002 compared
to $56,000 for the comparable period in 2001. The decrease in the second quarter
and first half is due primarily to decreased income from rental of a specialty
equipped product demonstration van that has not been rented since January 2002.
The van was sold in June 2002.
We recognized no income tax benefit in 2002 or 2001. We believe it is more
likely than not that the net deferred tax asset will be realized over the next
three years as timing differences related to capitalized software development
costs increase taxable income.
We expect to avail ourselves of net operating loss and research and development
tax credit carryforwards and therefore to incur insignificant income tax expense
in 2002. As of June 30, 2002, we have net operating loss carryforwards for
income tax purposes of $1,882,000 and research and development tax credits of
$290,000 that expire in the years 2007 through 2020.
Liquidity and Capital Resources:
Cash provided by operating activities was $191,000 for the six-month period
ended June 30, 2002, compared to a use of cash of $600,000 for operating
activities for the same period in 2001. In the first half of 2002, significant
non-cash adjustments to net income of $336,000 include positive adjustments for
depreciation and amortization of $243,000 and negative adjustments for increased
receivables of $222,000 and decreased accounts
10
payable of $250,000. In the first half of 2001, significant non-cash adjustments
to a net loss of $294,000 include positive adjustments for depreciation and
amortization of $255,000 and increased accounts payable of $337,000 and negative
adjustments for increased receivables of $746,000 and increased inventories of
$173,000.
Capital expenditures, net of $25,000 proceeds from the sale of a product
demonstration van, were $251,000 for the first quarter of 2002, compared to
$122,000 for the same period in 2001. The primary capital expenditure in the
first half of 2002 was the acquisition of the 40% minority interest in our
subsidiary, Flow Traffic Ltd. In connection with the acquisition, we incurred or
will incur a $250,000 cash payment, additional future cash payments totaling
$450,000, secured by letters of credit, and notes payable totaling $250,000. The
additional payments of $450,000 are payable at any time between April 1, 2003
and April 30, 2003, and the letters of credit expire on April 30, 2003. The
notes payable totaling $250,000 are due on demand after April 1, 2003, mature on
January 7, 2007, are non-interest bearing and are unsecured. The additional
future cash payments and notes payable, totaling $700,000, are included in
current liabilities.
In April 2002, we paid an additional $50,000 in an accelerated earn-out payable
in connection with the acquisition, as part of the settlement agreement with a
former shareholder of Flow Traffic Ltd. We have accrued for and will make
another accelerated earn-out payment of $50,000 in December 2002 to the other
former minority shareholder. We do not expect to make other significant capital
expenditures for the balance of 2002.
At June 30, 2002, we had $1,140,000 in cash and cash equivalents along with an
available revolving line of credit with a bank of $500,000. Current availability
on our line of credit is $50,000 with the balance used to secure the letter of
credit issued to the former minority shareholders of Flow Traffic Ltd.
Management believes that our cash and investment position, anticipated cash
flows from operations, and funds available through our bank line of credit will
be sufficient to meet cash and working capital requirements for current
operations for the remainder of the year.
11
PART II: OTHER INFORMATION
Item 5. Other Information
The Company's subsidiary, Flow Traffic Ltd, retained Mats
Johan Billow as its General Manager pursuant to an employment
agreement dated June 14, 2002, filed as Exhibit 10.1 to this
Quarterly Report.
The Company agreed to pay Mats Johan Billow an additional cash
payment of $50,000 on December 31, 2002 pursuant to Amendment
No. 3 to the Share Sale and Purchase Agreement dated November
28, 2001, filed as Exhibit 10.2 to this Quarterly Report.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
The following exhibits are filed as part of this quarterly
report on Form 10-QSB for the quarterly period ended June 30,
2002.
Exhibit
Number Description
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10.1 Employment Agreement effective June 14, 2002 between
the Company, Flow Traffic Ltd. and Mats Johan Billow
10.2 Amendment No. 3, dated June 14, 2002, to Share Sale
and Purchase Agreement dated November 28, 2001 among
ISS and Berkeley Development Limited, Mats Johan
Billow and Grove Place Limited.
99.1 Cautionary Statement, incorporated herein by
reference to Exhibit 99 to the Company's Form 10-KSB
for the fiscal year ended December 31, 2001.
99.2 Certification of Chief Executive Officer.
99.3 Certification of Chief Financial Officer.
(b) Reports
No reports on Form 8-K were filed during the quarter covered
by this Form 10-QSB.
12
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Image Sensing Systems, Inc.
--------------------------------------------
(Registrant)
Dated: August 14, 2002 /s/ James Murdakes
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James Murdakes
Chairman and Chief Executive Officer
(principal executive officer)
Dated: August 14, 2002 /s/ Arthur J. Bourgeois
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Arthur J. Bourgeois
Chief Financial Officer
(principal financial and accounting officer)
13