-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, MhzPn/qv+iENEaSk+67nl6uzpGsyp+9jop03OFA/lgS71hROW0/tguJFpnYo0D5B 6Prnw+8vq257auBE332G5Q== 0001116502-05-000776.txt : 20050415 0001116502-05-000776.hdr.sgml : 20050415 20050415162930 ACCESSION NUMBER: 0001116502-05-000776 CONFORMED SUBMISSION TYPE: 10KSB PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 20041231 FILED AS OF DATE: 20050415 DATE AS OF CHANGE: 20050415 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PURADYN FILTER TECHNOLOGIES INC CENTRAL INDEX KEY: 0001019787 STANDARD INDUSTRIAL CLASSIFICATION: MOTOR VEHICLE PARTS & ACCESSORIES [3714] IRS NUMBER: 141708544 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10KSB SEC ACT: 1934 Act SEC FILE NUMBER: 001-11991 FILM NUMBER: 05754020 BUSINESS ADDRESS: STREET 1: 2017 HIGH RIDGE ROAD CITY: BOYTON BEACH STATE: FL ZIP: 33426 BUSINESS PHONE: 5615479499 MAIL ADDRESS: STREET 1: 2017 HIGH RIDGE ROAD CITY: BOYTON BEACH STATE: FL ZIP: 33426 FORMER COMPANY: FORMER CONFORMED NAME: T F PURIFINER INC DATE OF NAME CHANGE: 19960726 10KSB 1 puradyn10ksb.txt ANNUAL REPORT FOR 12-31-2004 U.S. SECURITIES AND EXCHANGE COMMISSION WASHINGTON D.C. 20549 FORM 10-KSB (Mark one) {x} ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended DECEMBER 31, 2004 ------------------------------------------- {} TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (No Fee Required) ---------------------------------- Commission file number 0-29192 ----------------------------------- PURADYN FILTER TECHNOLOGIES INCORPORATED ---------------------------------------- (Name of small business issuer in its charter) DELAWARE 14-1708544 -------- ---------- (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 2017 High Ridge Road Boynton Beach, Florida 33426 (561) 547-9499 ------------------------------------------------- -------------- (Address of principal executive offices including Zip Code) (Telephone Number) SECURITIES REGISTERED UNDER SECTION 12(B) OF THE EXCHANGE ACT: Title of each class Name of each exchange on which registered ------------------- ----------------------------------------- COMMON STOCK, $.001 PAR VALUE AMERICAN STOCK EXCHANGE Securities registered under Section 12(g) of the Exchange Act: NONE Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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 { } Check if there is no disclosure of delinquent filers in response to Item 405 of Regulation S-B contained in this form, and no disclosure will be contained, to the best of the registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-KSB or any amendment to this Form 10-KSB. {X} State issuer's revenues for its most recent fiscal year: $2,472,059 for the 12 months ended December 31, 2004. State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was sold, or the average bid price and asked prices of such common equity, as of a specified date within the past 60 days. The aggregate market value of the voting stock held by non-affiliates computed at the closing price of Puradyn Filter's common stock on March 31, 2005 (0.99)is approximately $6,753,351. State the number of shares outstanding of each of the issuer's class of common equity, as of the last practicable date. As of March 31, 2005, there were 17,455,434 shares of registrant's common stock outstanding, par value $.001. This report contains a total of 54 pages. TABLE OF CONTENTS PART I ITEM 1. DESCRIPTION OF BUSINESS........................................ 3 Forward Looking Statements The Company Products Warranties Marketing Distribution Sales Manufacturing and Production Competition Intellectual Property Governmental Approval Engineering and Development Employees ITEM 2. DESCRIPTION OF PROPERTY........................................ 10 ITEM 3. LEGAL PROCEEDINGS.............................................. 10 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS............ 11 PART II ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS....... 11 ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATIONS..... 12 General Critical Accounting Policies and Estimates Results of Operations Liquidity and Capital Resources Impact of Inflation Quarterly Fluctuations Risk Factors Affecting Future Results of Operations ITEM 7. FINANCIAL STATEMENTS........................................... 18 ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURES........................... 18 ITEM 8A. CONTROLS AND PROCEDURES....................................... 19 ITEM 8B. OTHER INFORMATION............................................. 19 PART III ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT............. 19 ITEM 10. EXECUTIVE COMPENSATION........................................ 23 ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER TRANSACTIONS........... 25 ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS................ 26 ITEM 13. EXHIBITS...................................................... 27 ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES........................ 28 2 PART I The term "the Company", "Puradyn", "we", "us" or "our" refers to Puradyn Filter Technologies Incorporated, unless the context otherwise implies. ITEM 1. DESCRIPTION OF BUSINESS - -------------------------------- FORWARD LOOKING STATEMENTS - -------------------------- This Annual Report on Form 10-KSB contains forward-looking statements that involve substantial risks and uncertainties. Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. They use words such as "may", "will", "expect", "intend", "anticipate", "believe", "estimate", "continue" and other similar words. You should read statements that contain these words carefully because they discuss our future expectations, making projections of our future results of operations or our financial condition or state other "forward-looking" information. Forward-looking statements involve known and unknown risks and uncertainties which may cause the actual results, performance or achievements of our Company to be materially different from those which may be expressed or implied by such statements. The factors listed in the section entitled "Risk Factors Affecting Future Results of Operations " in the section "Management's Discussion and Analysis of Financial Condition and Results of Operations", as well as any other cautionary language in this report, provide examples of risks, uncertainties and events which may cause our actual results to differ materially from the expectations we described in our forward-looking statements. Except as required by law or regulation, we do not undertake any obligation to publicly update forward-looking statements to reflect events or circumstances after the date on which the statement is made or to reflect the occurrence of unanticipated events. You can learn more about the Company by visiting our website at www.puradyn.com. Information on the website is neither incorporated into, nor a part of, this report. We encourage you to read this and other reports filed by the Company with the Securities and Exchange Commission. Puradyn will provide you with a copy of any or all of these reports at no charge. You may also read and copy any materials the Company files with the SEC at the SEC's Public Reference Room at 450 Fifth Street, NW, Washington, D.C. 20549, or call the SEC Public Reference Room to obtain information at 1-800-SEC-0330. THE COMPANY - ----------- Puradyn Filter Technologies Incorporated designs, manufactures, markets and distributes worldwide the puraDYN(R) bypass oil filtration system (the "puraDYN") for use with substantially all internal combustion engines and hydraulic equipment that use lubricating oil. Working in conjunction with an engine's full-flow oil filter, the puraDYN system cleans oil by continually removing solid, liquid and gaseous contaminants from the oil through a sophisticated and unique filtration and evaporation process. For engine lubricating oil, our filters incorporate an additive package. Because lubricating oil is kept in a continually clean state, the puraDYN has been used effectively to extend oil-drain intervals and to extend the time between engine overhauls. We are the exclusive manufacturer of the disposable replacement filter elements ("Element") for the puraDYN. We operate through: o Puradyn Filter Technologies Incorporated - parent company o Puradyn Filter Technologies, Ltd. ("Ltd.", "Puradyn, Ltd") Ltd. is a wholly owned subsidiary established in 2000 which primarily distributes and markets the puraDYN system in countries outside North America, including Europe, the Middle East, the former Soviet Union, Scandinavia and South Africa through a network of independent distributors. The Company was formed in 1987 under the name T/F Systems, Inc. as a distributor for Refineco Manufacturing Company, Inc., the manufacturer of the Purifiner(R) bypass oil filtration system, as the puraDYN was then known. In October 1990, the name of the Company was changed to T/F Purifiner, Inc. In 1995, the Company purchased from Refineco all marketing and manufacturing rights. 3 In 1996, the Company entered into a joint venture agreement with Centrax, Ltd. in the United Kingdom called TF Purifiner, Ltd. In May 2000, the Company and Centrax agreed to dissolve TF Purifiner, Ltd., and the Company is currently conducting operations in the UK under the name Puradyn Filter Technologies, Ltd., a wholly owned subsidiary. At the time of the dissolution, Centrax sold to the Company certain foreign patents, inventory and factory equipment used in manufacturing products for the joint venture. In February 1998, the Company filed a Certificate of Amendment to change its name from T/F Purifiner, Inc. to Puradyn Filter Technologies Incorporated. In December 2001, the Company was accepted and listed on the American Stock Exchange under the symbol PFT. PRODUCTS - -------- The core product, the puraDYN bypass oil filtration system, is offered in two models, TF and PFT, and can be attached to almost any engine and hydraulic systems. The concept of bypass filtration is similar to a dialysis machine that filters blood to rid it of impurities, keeping the oil continually clean. Whenever the engine or machinery is operating, the puraDYN is extracting from the oil solid particles down to less than one micron (1/39 millionth of an inch), as well as gaseous and liquid contaminants, while protecting the engine or hydraulic equipment from harmful wear caused by contaminants in the oil. Additionally, an additive package in which chemicals are added to the filtering media replenish spent additives in the oil, helping to maintain the oil's proper chemical balance and viscosity. The condition of the oil is monitored through use of a simple oil analysis sample taken in lieu of a regularly scheduled maintenance oil change. If the sample results, typically received in 5 to 7 days, show that the condition of the oil is considered good for continued use, only the puraDYN replacement element is to be changed - there is no need to change the oil if it is clean. Consequently, the puraDYN significantly reduces maintenance costs by decreasing oil consumption, engine wear and certain other types of general maintenance as well as reducing environmental concerns and costs associated with the storage and disposal of waste oil. These potential savings are achieved from utilizing the puraDYN, which generally has a relatively short payback period of, on average, nine to fourteen months. The original puraDYN system, the TF model, is currently manufactured in six different sizes suitable for placement on engines or equipment with oil sump capacities ranging from 12 to 240 quarts. A new generation of product, the PFT model, has been engineered to be manufactured in five different sizes with sump oil capacities varying from 8 to 60 quarts. The PFT model offers the same benefits and features of the TF model, with the added enhancements of easier serviceability and the main component of the system being more corrosion-resistant. We also have developed and sell a specialized Hydraulic Batch System ("HBS"), which is mounted on a handcart for mobility. The HBS was developed to clean 55-gallon drums of used hydraulic oils. The HBS consists primarily of two 60-quart puraDYN systems, a preheater, a pump and other miscellaneous parts. All puraDYN systems are compatible with virtually all standard and synthetic oils on the market and they work with engines using gasoline, diesel, propane or natural gas. Except for the HBS, the puraDYN system cannot be used on engines that do not have a pressurized lubricating system, and none of the products can be used on any engines that mix oil with fuel. We also manufacture and distribute replacement filter elements ("Element" or "Elements") for the puraDYN system. Depending upon the application, we generally recommend that the Element be replaced at the engine manufacturer's recommended/approved periodic oil change interval or as oil analysis dictates. The type of Element used also depends upon the specific type of engine or hydraulic application. A customer can change the Element and take the required oil sample in approximately five to fifteen minutes. By continually removing contaminants and replacing vital additives through a patented time-release additive package to keep oil constantly clean, the puraDYN Element substantially extends intervals between oil changes. Elements are interchangeable between (similar-sized) models. The Company has implemented patented technology in the filter Elements that provides several advantages including: o An additive package in which pelletized chemicals are added to the filtering media to replenish additives in the oil. This additive package helps to maintain the oil's chemical balance and viscosity. 4 o CGP(R) Extended Life Filter Element containing a patent-pending process for chemical grafting. This new technology improves the attraction and retention of soot and other solid contaminants to the packed cotton filter material. CGP(R) technology was developed over a three-year period inclusive of laboratory and field-testing. Consolidated results from across the country show that test vehicles averaged more than 160,000 miles without the need for a traditional oil change. o Ease of maintenance: The filter Element can be replaced in a matter of seconds. When the Element is changed, an insignificant amount of make-up oil is added to replace any oil retained in the used Element or consumed during the normal engine combustion process. The Company's performance warranties require the user to change the puraDYN filter element and take a small sample of the oil for submission to an oil-testing laboratory at the same intervals that the OEM recommends for an oil change, or as oil analysis dictates (See "Warranties"). The oil analysis allows end users to monitor oil quality and, to some degree, engine condition and provides a trend and timeline for both the Company and end user should a problem arise. The puraDYN has no moving parts and consequently requires no significant ongoing maintenance. As long as Elements are changed at the recommended intervals and other standard preventive maintenance procedures such as changing factory full flow and air filters and oil analysis are completed, the Company believes the puraDYN will perform as designed. WARRANTIES - ---------- The puraDYN carries a six-month `money-back' performance guarantee, and is currently warranted to the original user to be free of defects in material and workmanship for one year with unlimited miles/hours. End users have the option to purchase a four-year extended warranty, however, sales of these extended warranties have been minimal. For the Company's performance guarantee and warranties to remain in effect, users must, among other things, maintain a record of the laboratory oil analysis results. To date, there have been no material warranty claims, although there can be no assurances that such a trend will continue. The Company has received letters from Deere & Company, Detroit Diesel Corporation, Caterpillar, Inc., Ford Motor Company, Mack Trucks, Inc., Cummins Engine Company, Inc., Daimler Chrysler Corporation, Mercedes Benz of North America, Inc. and other engine manufacturers who have all stated that the installation and use of the puraDYN does not void their manufacturer warranties unless an engine failure is attributed to the puraDYN. Most engine manufacturers will accept oil analyses as alternatives to their recommended oil change intervals. This is standard industry practice endorsed by OEMs and various fleet maintenance organizations. MARKETING - --------- The Company's products are marketed to numerous segments of the transportation industry including trucking, marine, agricultural, bus, recreational vehicle, generator, construction, mining, industrial and hydraulic applications, and other users of engines or equipment that utilize up to 50 weight oil for lubrication. Currently, the Company's primary focus is on the Class 3 - 8 on-highway fleet, industrial/construction, end-user, and OEM segments. The Company determined that an advertising campaign in OEM and truck fleet-related trade magazines, combined with editorials, trade shows and other methods to promote its products, was prudent in order to generate awareness and help stimulate sales primarily with targeted end-users, OEMs, and on-highway fleets. In 2004, the Company was able to streamline costs in the area of advertising by utilizing the strategic alliance with Honeywell Consumer Product Group (HCPG). HCPG is actively pursuing the on-highway truck market by placing ads showing our puraDYN system co-labeled with FRAM. This allowed us to concentrate on our targeted markets including the off-highway and power generation markets. Our products have achieved recognition from well-known sources, including certification (in 1994) and re-certifications (in 1998 and 2003) by the California Environmental Protection Agency's Department of Toxic Substances as a `Pollution Prevention' technology. We believe that such recognition, as well as our presence at national industry trade shows, have and will continue to enable the Company to increase industry recognition of the puraDYN name and products. We rely on management's ability to determine the existence and extent of available markets for our product. Company management and consultants have considerable sales and marketing backgrounds and devote a significant portion of their time to sales-related activities. 5 One of our marketing strategies is based on creating customer `pull-through', a sustained level of request for our product on the OEM level from end-users. To this end we established aftermarket programs in 2001 and 2002 with Mack Trucks, Volvo Trucks North America, Pierce Manufacturing and Paccar (parent company of Kenworth and Peterbilt), all of which are OEMs that sell and service, to offer our product through their dealer network and distribution centers. To date, customer pull-through has resulted in a limited number of our systems being factory-installed at individual Volvo Trucks, N.A., Mack Trucks, Kenworth Truck and Freightliner facilities. Monroe Truck Equipment (a major General Motors Corporation modification center) has installed more than 1,100 puraDYN systems at the request of one of the largest fleets in the US. Work continues to develop this strategic part of our business. In 2002, Honeywell Consumer Products Group ("Honeywell"), manufacturer of FRAM(R) filters, announced a strategic alliance with Puradyn. Honeywell, which also manufactures the Prestone(R), Autolite(R) and Holts(R) brands, began offering our products co-branded as puraDYN and FRAM through its extensive North American distribution network. In early 2003 Honeywell finalized and placed its initial stocking order, and in line with our strategic alliance, we are able to offer the full line of FRAM(R) filters to our distributors. In 2003 we were selected as a Strategic Supplier for one of North America's larger equipment rental companies. Our progress continues to take time to gain momentum in reaching this company's many branches. The Company continues to work with a marketing and public affairs consultant to promote puraDYN to municipalities in Florida and other specified states. Additionally, the Company again received approval in 2003 for Florida's State Negotiated Agreement Price Schedule (SNAPS II) to allow easier marketing of our system to Florida local and state government agencies at discounted prices. The program was successful, however, the SNAPS II program was discontinued in 2004 and replaced with a competitive procurement program, MyFlorida Marketplace, in which we now participate. We have also entered into agreements with three outside consultants to actively pursue federal contracts on three separate levels: legislative, environmental and energy policy, and military procurement. Management believes that this is a market that can be successfully cultivated at this time, based on the following: o Recent test results from the DOE, which show that the puraDYN systems currently in evaluation have produced an estimated savings of 80% during the first two years of its three-year test to evaluate the benefits and potential savings of bypass oil filtration. o New five-year contract awarded in December 2004 from the General Services Administration (GSA) for its Vehicular Multiple Award Schedule, New Technologies, which simplifies the procurement process for governmental agencies. o Successful presentation of the puraDYN at the Military Expedited Modernization Initiative Procedure (EMIP) Program in January 2005. In order to more efficiently carry out the Company's investor relations activities, we discontinued our relationship with an outside investor and public relations firm in December 2002 and established an in-house investor relations department in January 2003. DISTRIBUTION - ------------ We have formal distribution agreements with domestic and international distributors wherein they are required to maintain minimum product inventory levels, maintain a storefront and services bay(s), and retain access to qualified technicians trained by our technical personnel in product installation and service. All distributors must pay in a timely fashion, and with respect to international distributors, the agreements typically establish the minimum dollar amount of inventory to be purchased as well as shipping terms. The Company has warehouse distributors located throughout North America, predominantly in the heavy-duty trucking industry. The remaining distributors are located primarily in South America, England, Europe and Asia. These distributors purchase product directly from the Company and sell to their existing or new customers. The Company will accept returns of products that are defective at the time of sale to the distributor or prove to be defective during the warranty period. Returns are subject to specific conditions. As a significant portion of our products are sold to distributors and end users for use on transportation vehicles, this could unfavorably affect our overall exposure to credit risk as these customers could be affected by potential economic or other conditions. 6 Puradyn, Ltd. operates from the U.K. to generate distribution and sales in Europe, the Middle East, the former Soviet Union, South Africa and Scandinavia. There can be no assurance that such distributors will be successful in introducing the puraDYN in their territories as they will face obstacles similar to those the Company and its other distributors have encountered in introducing an innovative technology in their territories. Ltd. has successfully commenced or completed various evaluation programs, including those of two large international generator manufacturers, four truck OEMs, one construction equipment OEM and one diesel engine OEM. One of the world's largest OEMs of medium-size power generators approved and began purchasing the puraDYN from Ltd. in 2002. SALES - ----- DIRECT SALES The Company directly and/or with the assistance of its manufacturer's representatives, distributors or other agents, markets its products directly to OEMs, other distributors and national accounts. Typically these larger customers, and some smaller customers, require an evaluation period to operate the system on their equipment. While set for a specific period of time, usually ranging from three to twelve months, evaluations are often influenced by a number of variables including equipment downtime or servicing which may extend the evaluation period. Consequently, the sales period can be relatively long. We believe this evaluation period will continue to be shortened as the Company's products gain wider acceptance and support from well-known end users and OEMs. In 2003, we conducted a record number of 80 evaluations, of which approximately 65 continued through 2004 and are still ongoing. Currently, our products are being evaluated (in various stages of progress) by numerous potential end users and existing customers including, among others: o A leading major generator set OEM o A major construction equipment OEM o A major engine OEM o A leading soft drink Company o A road materials handling Company o A leading food company o A leading truck leasing Company o An important OEM forklift company o The U.S. Department of Energy o The U.S. Military In December 2004 we were awarded a new five-year contract on the Vehicular Multiple Award Schedule, New Technologies, which replaced the schedule on which we had currently been, which will enable us to offer our puraDYN system to all federal government agencies. The new schedule allows easy access to our products, without the usual lengthy bid process, to all federal agencies that purchase vehicles, including construction equipment, medium and heavy trucks, waste disposal vehicles, aerial lift vehicles and fire trucks. This new contract period is for five years from the date of the award (December 2009) with three five-year options. During 2004 and 2003, two and three customers together accounted for approximately 37% and 45%, respectively, of the Company's consolidated net sales. In 2004, there were two customers that individually accounted for greater than 10% each of net sales, or approximately $523,000 and $397,000, while in 2003 three customers individually accounted for greater than 10% each of net sales, or approximately $334,000, 300,000 and $221,000. In 2004 there were three customers whose trade receivable balances equaled or exceeded 5% of total receivables, representing approximately 29%, 21%, 12% respectively, for a total of 62% of total accounts receivable. The loss of business from one or a combination of the Company's significant customers could adversely affect its operations. The Company's sales are made on credit terms, which vary depending on the nature of the sale. The Company believes it has established sufficient reserves to accurately reflect the amount or likelihood of product returns or credits and uncollectible receivables. However, there can be no assurance that actual returns and uncollectible receivables will not exceed the Company's recorded reserves. 7 In 2004, sales to a customer with one of the nation's largest privately held fleet of trucks and equipment, represented 21% of our consolidated net sales. This represents a 9% increase from its percentage of consolidated net sales in 2003. Sales in 2004 to this company had increased due to its integration of newly acquired equipment and increased demand for new fleet equipment purchases, and in turn, increased demand for our bypass filtration systems. In 2002, after extensive testing, one of the world's largest manufacturers of medium-size power generators purchased over $350,000 of product. This customer accounted for 15% of our 2003 consolidated net sales and 16% of our 2004 consolidated net sales. In February 2003, Honeywell finalized and placed its initial stocking order for the FRAM/puraDYN co-labeled product. In addition, we are now able to offer the full line of FRAM(R) filters to our distributors. INTERNATIONAL SALES The Company, directly and/or with the assistance of commission-based manufacturer's representatives, has established primarily non-exclusive distributors in various countries, including Denmark, South Africa, Nigeria, United Kingdom, Kuwait, United Arab Emirates, Thailand, Colombia, and others. The ultimate success of these and other distributors depends upon, among other things, their abilities to successfully introduce and sell the product in their territories including obtaining local evaluations, establishing distribution and other factors similar to those faced by the Company in the United States. Total international sales amounted to approximately 42% and 41% of consolidated net sales in 2004 and 2003, respectively. Sales have been adversely affected by the weakened local economies of some of these nations and future sales to their distributors may be adversely affected due to these continuing economic and/or political problems, such as the war in Iraq and subsequent restoration, which negatively affected sales in the Middle East. MANUFACTURING AND PRODUCTION - ---------------------------- The Company purchases component parts for its puraDYN systems and manufactures its entire line of filter Elements. The component parts are assembled, packed and shipped from our facility in Boynton Beach, Florida. We currently source (i.e., purchase each raw material and component part from a specific vendor) substantially all of our raw materials and component parts from various vendors in the United States. Substantially all the tools and dies used by certain of our vendors are owned by the Company. We have researched alternative sources of supply and do not anticipate that the loss of any single supplier would have a material long-term adverse effect on our business, operations or financial condition. In January 2004, we received ISO 9001:2000 certification from the International Organization for Standardization. ISO 9001:2000 is a series of internationally accepted, multi-part quality management systems for industry-wide standardization applied to manufacturing and service organizations. Management believes this certification will reinforce recognition of its tangible commitment to quality control from OEMs and other potential large customers. In January 2005, we successfully completed a surveillance audit to maintain our certification. COMPETITION - ----------- Competitive bypass oil filters produced by other companies in varying degrees address the issues of solid or liquid contaminant filtration through centrifugal design, media filtration or evaporation. However, puraDYN believes that it designs and manufactures the only bypass oil filtration system that incorporates all of the following features: o Filtering solid contaminants to below one micron, including enhanced soot retention through the use of a patent-pending process for chemical grafting; o Effectively removing gaseous and liquid contaminants through a heated evaporation chamber; o Replenishing the base additives; o Maintaining oil viscosity and, o Specific to the TF model, confirming oil flow. In addition, the puraDYN system is the only bypass oil filtration system designated by the California EPA as a `Pollution Prevention' technology. The certificate states in part, "The puraDYN(R) system has been shown to be an effective means of extending engine oil change intervals without adversely affecting engine wear or performance." 8 Recent tests performed by a leading independent testing facility demonstrated that the puraDYN system surpassed the capacity, efficiency and overall performance of its leading competitors. Using our standard filter with additives, the puraDYN system tested 92.05% efficient under the SAE HS806-95 (modified) standards for filter capacity and contaminant removal. Efficiency reflects the ability to remove particles and other chemicals from the oil. While efficiency is not necessarily a standard of comparison to other products, it does demonstrate the filtering capability of the puraDYN unit. These tests, performed at the request of one of North America's largest engine manufacturers, compare favorably with similar tests run by Puradyn in 2001 using our CGP filter, which showed a filter efficiency of 99.75%. The use of our products reduces the need for maintenance services, replacement parts, original oil sales and waste oil disposal. INTELLECTUAL PROPERTY - --------------------- The Company owns patents for the puraDYN system, filter Elements, oil flow meter, and two patents for technology which include a manifold type full-flow filter/bypass filtration unit (side-by-side) in the U.S. and certain other countries. The expiration dates of these patents range from May 2014 to October 2016. In addition, we received patents from the United States Patent Office and certain other countries for a filter Element containing an additive package in which pelletized chemicals are added to the filtering media to replenish additives in used oil. This is especially important on new engines built since the enactment of the Clean Air Act of 1992, which requires tighter specifications for diesel engines. We also recently applied for a provisional patent application for improved filtration efficiency using CGP(R), a process for chemical grafting that can significantly increase the life of the filter Element and further safely extend oil drain intervals. There can be no assurance that such patents will withstand competitive threats to their patentability or, in the case of the redesigned puraDYN, be developed into commercially viable products. We have registered the product trademark "Puradyn" in the United States and other countries where the "Purifiner" trademark was registered, and have registered the product trademarks "CGP" and "Keep It Clean!" in the United States. GOVERNMENTAL INFLUENCE - ---------------------- Our products typically do not require any governmental approvals. As part of the certification process under the California Environmental Protection Agency's Department of Toxic Substances in July 1994 and subsequent re-certifications in July 1998 and August 2003, the Company obtained an Executive Order issued by the State of California Air Resources Board stating that the puraDYN does not reduce the effectiveness of applicable vehicle pollution control systems, and may be installed on all 2002 and older model vehicles with pressure oil systems. In October 2002, new federal environmental regulations requiring higher standards for diesel truck emissions took effect with more stringent conformances expected in 2007. We believe that engine and truck manufacturers can capitalize on our enhanced technology to remove soot from their oil to maintain their extended drain intervals by operating on constantly clean oil. ENGINEERING AND DEVELOPMENT - --------------------------- Currently, we have three individuals directly involved in product engineering and development: a Product Engineer Manager, an Applications Engineer and an Engineering Technician. . In addition, we employ the services of two outside petrochemical consultants. Until August 2003, a Technical Consultant (one of the original inventors of the product) was also available to us. The engineering department is also testing additional design improvements that may be candidates for patents for the Company. During the past two years our engineering department has devoted resources to improve the product's filtration efficiency and abilities to meet the customers extended drain interval requirements with the next generation of diesel engines. This required a complete redesign of the existing product to make it easier to use by our customers. In 2004 and 2003, we spent approximately $65,000 and $50,000, respectively, on engineering research, the cost of which was not passed on to our customers. 9 EMPLOYEES - --------- At December 31, 2004, the Company had 34 employees, including 3 from Puradyn Ltd., in the following areas: o 12 in manufacturing, assembly, quality control, warehousing and shipping o 1 in purchasing o 2 in customer service o 5 in marketing and sales o 1 in technical support and installation assistance o 2 in engineering and development o 3 in finance o 5 in administrative positions o 3 in administration and sales None of the employees are represented by a labor union. The Company believes its employee relations are good. ITEM 2. DESCRIPTION OF PROPERTY - -------------------------------- In December 2002, the Company moved into new leased corporate facilities within two miles of its former location, where substantially all of the Company's operations are conducted, expanding from approximately 14,000 sq. ft. to approximately 25,500 sq. ft. (5,000 sq. ft. for administration, 20,500 sq. ft. (versus former 10,000 sq. ft.) for manufacturing. The lease term at the new facility is for 68 months with a total lease obligation of approximately $774,000. In order to support its operations in Europe, Ltd. had a lease for 3,150 square feet in Devon, England, which extended through March 31, 2002, whereupon it converted to a month-to-month basis for approximately $2,000 per month. Due to anticipated increased sales activity, Ltd. moved to a 4,260 square foot facility in Devon in September 2003. They assumed the existing lease, which expired in August 2004 and are currently in the process of negotiating a new lease and expect the lease terms to remain similar. ITEM 3. LEGAL PROCEEDINGS - -------------------------- MALT LITIGATION In connection with the Company being granted worldwide manufacturing and marketing rights for certain of the Purifiner products, a royalty agreement was entered into with a term equal to the life of the related patents or any improvements thereto. Pursuant to this royalty agreement, the owner of the patents was to receive 5% of the net unit sale price of all covered Purifiner products, as defined. Additionally, 1% of the net sales price of replacement oil filter elements was to be paid as a royalty on certain puraDYN filters for the use of the U.S. Purifiner trademark. The Company is no longer retaining the Purifiner patents or trademarks and accordingly is not renewing them upon expiration. In May 1994, the Company and the patent owner entered into a settlement agreement relating to royalties under which the patent owner was entitled to a minimum annual royalty of $24,000, payable in monthly installments of $2,000. In February 1997, the patent owner filed an action against the Company for nonpayment of approximately $20,000 of royalties claimed by him, seeking a permanent injunction against the Company's manufacturing and selling of the covered Purifiner products. On March 2, 1999, the trial court ruled that the patent owner was not entitled to any injunctive relief but was entitled to $20,169 in past royalties, which the Company paid. The patent owner filed a motion for additional damages and attorney fees and on December 13, 2000, the Court found the patent owner was entitled to an additional $15,505. The Company appealed that judgment but paid the additional judgment. Thereafter, on February 22, 2002, the trial court ordered the Company to pay the sum of $18,049 for the patent owner's attorney's fees and court costs, for which the Company posted a bond in the amount of $22,238 to secure payment. That order was appealed and combined with the first appeal. On April 24th, 2002, the judgment for attorney's fees and court costs was reversed. In May 2002, the bond was discharged and in June 2002, the funds were released to the Company. In April 2003, the patent owner posed two discovery requests, in order to extend the time remaining before the automatic dismissal of his claim. 10 On May 27, 2004, the Company filed responses to the interrogatories. The Court sent notices to certain current and one former employee of the Company to take depositions in August 2004, which are now pending a rescheduling date. The Company does not believe the likelihood of an unfavorable outcome is probable. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS - ----------------------------------------------------------- On December 16, 2004, the Company held its Annual Meeting of Stockholders. At the meeting, each director received over 85% of the Common Share votes. Stockholders voted in person or by proxy for the following purposes: (a) Stockholders voted to elect six directors, each to service for a term of one year, as follows: DIRECTOR FOR WITHHELD AUTHORITY -------- --- ------------------ Joseph V. Vittoria 15,193,234 120,590 Richard C. Ford 15,189,124 124,700 Kevin G. Kroger 15,193,234 124,590 Peter H. Stephaich 15,201,534 112,290 Ottavio Serena 15,202,734 111,090 Michael Castellano 15,160,621 153,203 (b) Stockholders voted to approve and ratify the appointment of Ernst & Young, LLP, independent registered public accounting firms, as the Company independent auditors for the year ending December 31, 2004. 15,304,324 shares were voted in favor of this proposal, 8,800 shares were voted against and there were 700 abstentions. As announced at the meeting, the Company made a change in independent auditors on November 15, 2004 at the discretion of the Board, dissolving its relationship with Ernst & Young, LLP and hiring DaszkalBolton LLP to act as the Company's new independent registered public accounting firm for the year ending December 31, 2004. The change was made in regard to cost savings. PART II ------- ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS - ----------------------------------------------------------------- As of December 14, 2004, there were approximately 287 stockholders of record of the Company's stock. The closing bid price quoted on the American Stock Exchange for the Company's Common Stock at March 31, 2005 was $0.99. The Company currently trades under the symbol "PFT". The transfer agent for the Company's common stock is Florida Atlantic Stock Transfer, Inc., 7130 Nob Hill Road, Tamarac, Florida 33321. The Company has never declared or paid cash dividends on its common stock. The Company presently intends to retain future earnings, if any, to finance the expansion of its business and does not anticipate any cash dividends will be paid in the foreseeable future. The future dividend policy will depend on our earnings, capital requirements, expansion plans, financial condition and other relevant factors. The following table sets forth for the period indicated, the high and low sales prices for the quarterly periods in 2004 and 2003. QUARTER ENDED 2004 SALES PRICE 2003 SALES PRICE ------------------- ------------------ HIGH LOW HIGH LOW ------------------- ------------------ March 31 $3.00 $1.91 $2.70 $1.40 June 30 $2.22 $1.70 $2.70 $2.10 September 30 $1.98 $1.10 $2.80 $1.80 December 31 $1.39 $0.86 $2.35 $1.40 As of March 31, 2005, the high sales price for the first quarter of 2005 was $1.24, while the low for the quarter was $0.86. 11 ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATIONS - ------------------------------------------------------------------- General - ------- Sales of the Company's products will depend principally upon end user demand for such products and acceptance of the Company's products by OEMs. The oil filtration industry has historically been competitive and, as is typically the case with innovative products, the ultimate level of demand for the Company's products is subject to a high degree of uncertainty. Developing market acceptance for the Company's existing and proposed products will require substantial marketing and sales efforts and the expenditure of a significant amount of funds to inform customers of the perceived benefits and cost advantages of its products. Through industry data research, we have been able to identify the potential applications where management believes market penetration is most accessible. Currently no bypass oil filtration system has captured a substantial share of the estimated recurring $13 billion potential market. We believe we are in a unique position to capitalize on the growing acceptance of bypass oil filtration given that our product and our Company are positioned as, including, but not limited to: o A competitively priced, value-added unique product based on an advanced, patented technology o An alternative solution to the rising costs and increasing dependence on foreign oil o Providing an operational maintenance solution to end users in conjunction with existing and reasonably foreseeable federal environmental applications Since 2001, the Company has redirected the focus of its sales strategy from individual sales and distribution efforts to include the development of a strong nationwide distribution network that will not only sell but also install and service our product. Additionally, we began to focus our sales and marketing efforts to target areas and issues specific to the bypass oil filtration industry, including educating the customer on the benefits of our system and cultivating an innovative outlook on oil maintenance, specifically, that oil does not need to be changed on a regular basis if kept in a clean state This strategy includes focus on: o The expansion of existing strategic relationships o Development and expansion of our distribution network with qualified distributors in order to establish a sales- and service-oriented nationwide infrastructure o Continuing to target existing and new medium-to-large sized fleets, industrial/construction business and major diesel engine and generator set OEMs o Creating customer 'pull-through', a sustained level of request for our product on the OEM level o Closely monitoring evaluations to ensure customer issues are addressed on a timely basis o Converting customer evaluations into sales, both immediate and long term While this is a long-term and ongoing commitment, we believe we have achieved a limited amount of industry acceptance based on recent accomplishments: o 2001 approved by one of the largest private fleets in the U.S. to install puraDYN on their new equipment, a program still currently ongoing. o 2002 strategic alliance with Honeywell's Consumer Products Group (Honeywell), the manufacturer of FRAM(R) oil filters, under which the puraDYN system will be sold and co-branded with the FRAM trademark name. The co-branded product will be distributed through Honeywell's national distribution network to offer a complete filtration system. o 2002 approval and purchase of the puraDYN system by a major international OEM of medium-sized power generators. o 2003 selection as a Strategic Supplier for one of the larger equipment rental companies in North America, which plans to fully utilize the puraDYN system throughout its organization. Although the system is fully supported at the customer's corporate level and has been included in the 2004 budget, the program is expected to take some time to gain momentum as all branches become familiar enough with the benefits of the puraDYN system to begin purchasing. 12 o 2003 announcement by an OEM of custom-crafted emergency fire and rescue response vehicles that they would be installing the puraDYN system as standard equipment on its line of premium chassis. o 2004 ongoing test results released by the US Department of Energy (DOE) estimating an 80% savings in oil using bypass oil filtration. Our system was used in this ongoing test evaluating the benefits and cost savings of the technology. o 2004 announcement that Miami-Dade County, Florida has again specified the puraDYN system on new equipment purchases. o 2004 announcement that a Puradyn distributor in Miami-Dade County was awarded a blanket open purchase order up to $650,000, which would allow them to offer our puraDYN system on various county equipment. o 2004 announcement of combined international expansion with the introduction of two potential distributors in the bus and construction markets in China and continued progress with our distributor in Egypt, which included working with United States Agency for International Development (US AID). We believe that industry acceptance resulting in sales will continue to grow in 2005; however, there can be no assurance that any of our sales efforts or strategic relationships will meet management's expectations or result in actual revenues. The Company's sales effort not only involves educating the potential customer on the benefits of our product, but also allowing the customer to test and evaluate the puraDYN system on its fleet vehicles. While set for a specific period of time, typically ranging from three to twelve months, evaluations are often influenced by a number of variables including equipment downtime or servicing, which may extend the evaluation period. Consequently, the sales cycle can be relatively long. Management believes that this evaluation period will continue to be shortened as our products gain wider acceptance, support and usage from well-known customers and OEMs. In 2003, the Company conducted a record number of 80 evaluations, of which approximately 65 continued through 2004 and are still ongoing. Effective June 1, 2000, the Company formed a wholly owned subsidiary, Puradyn Filter Technologies, Ltd. ("Ltd."), in the United Kingdom to sell the Company's products in Europe, the Middle East and Africa. The subsidiary was the result of the dissolution of a joint venture (TF Purifiner, Ltd.) the Company had with Centrax, Ltd. The results of Ltd. have been consolidated with the Company since June 1, 2000. International sales are especially well suited to our product given that environmental controls are not as regulated in countries outside North America. Certain applications representing a higher return on investment are more prevalent in use outside of North America and end-users consequently are more receptive to the total maintenance package, including the use of oil analysis, which the puraDYN system represents. In 2004, total international sales accounted for 42% of the Company's consolidated net sales. The Company recognizes revenue from product sales to customers, distributors and resellers when products that do not require further services or installation by the Company are shipped, when there are no uncertainties surrounding customer acceptance and for which collectibility is reasonably assured in accordance with Staff Accounting Bulletin (SAB) No. 104, Revenue Recognition in Financial Statements. Cash received by the Company prior to shipment is recorded as deferred revenue. Sales are made to certain customers under terms allowing certain limited rights of return and other limited product and performance warranties for which provision has been made in the accompanying financial statements. Management believes, based on past experience and future expectations, that such limited return rights and warranties will not have a material adverse effect on the Company's financial statements. Critical Accounting Policies and Estimates - ------------------------------------------ The Company's discussion and analysis of its financial condition and results of operations are based upon the Company's consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, the Company evaluates its estimates, including those related to product returns, bad debts, inventories, financing operations, warranty obligations and contingencies and litigation. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. 13 The Company believes the following critical accounting policies affect its more significant judgments and estimates used in the preparation of its consolidated financial statements. Allowance for Doubtful Accounts The Company maintains allowances for doubtful accounts for estimated losses resulting from the inability of its customers to make required payments. If the financial conditions of the Company's customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required. The Company provides for potential uncollectible accounts receivable based on customer specific identification and historical collection experience. If market conditions decline, actual collection experience may not meet expectations and may result in decreased cash flows and increased bad debt expense. The policy for determining past due status is based on the contractual payment terms of each customer, which is generally net 30 or net 60 days. Once collection efforts by the Company and its collection agency are exhausted, the determination for charging off uncollectible receivables is made. Estimation of Product Warranty Cost The Company provides for the estimated cost of product warranties at the time revenue is recognized. While the Company engages in product quality programs and processes, including actively monitoring and evaluating the quality of its component suppliers, the Company's warranty obligation is affected by product failure rates, material usage and service delivery costs incurred in correcting a product failure. Should actual product failure rates, material usage or service delivery costs differ from the Company's estimates, revisions to the estimated warranty liability would be required. Estimation of Inventory Obsolescence The Company provides for estimated inventory obsolescence or unmarketable inventory in amounts equal to the difference between the cost of inventory and the estimated market value based upon assumptions about future demand and market conditions. If actual market conditions are less favorable than those projected by management, additional inventory write-downs may be required. Impairment of Long-Lived Assets The Company periodically evaluates the recoverability of the carrying amount of its long-lived assets under the guidelines of SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. Factors that the Company considers in making this evaluation include estimating the undiscounted net cash flows estimated to result from the assets over their remaining useful life. Should the Company's estimates of these factors change, the Company's results of operations and financial condition could be adversely impacted. Revenue Recognition Revenue is recognized when earned. The Company's revenue recognition policies are in compliance with the provisions issued in SAB No. 104, Revenue Recognition in Financial Statements. Revenue from product sales to customers, distributors and resellers is recorded when products that do not require further services or installation by the Company are shipped, when there are no uncertainties surrounding customer acceptance and for which collectibility is reasonably assured. The Company provides for sales returns based on an historical analysis of returns. The estimate is updated for current return activity and the provision is adjusted accordingly. Should actual returns exceed management's estimates, the provision may require further adjustment and accordingly, net sales may decrease. 14 Results of Operations - --------------------- The following table sets forth (amounts in thousands) the Company's operating information for the years ended December 31, 2004 and 2003: (IN THOUSANDS) INCREASE 2004 2003 (DECREASE) Net sales $ 2,472 $ 1,907 $565 Operating costs and expenses: Cost of products sold 2,526 2,283 243 Salaries and wages 1,662 1,728 (66) Selling and administrative 1,591 1,667 (76) ----------------------------- 5,779 5,678 101 Loss from operations (3,307) (3,771) (464) Other income (expense): Interest income 53 51 2 Interest expense (334) (331) (3) ----------------------------- Total other expense (281) (280) (1) Net loss $(3,588) $(4,051) $(463) ============================= Year Ended December 31, 2004 Compared to Year Ended December 31, 2003 - --------------------------------------------------------------------- Net Sales Net sales increased by approximately $565,000 from approximately $1,907,000 in 2003 to approximately $2,472,000 in 2004. This increase is attributable to the addition of several new domestic and international distributors, as well as an increase in sales to one of the Company's largest customers, whose sales in 2004 increased approximately 132% over 2003. Significant customers in 2004 included one of the largest privately owned fleets in the US and one of the top three worldwide OEMs of mid-range generators for industrial use. These two customers purchased approximately $523,000 and $397,000 respectively, of products from the Company and accounted for approximately 21% and 16% (for a total of 37%) of the Company's 2004 consolidated net sales. Although the Company anticipates increased sales to these customers as well as other new and existing customers in 2005, there can be no assurance that the sales volume generated by these customers will increase or remain at the same level in 2005. Cost of Sales Cost of sales increased by approximately $243,000 from approximately $2,283,000 in 2003 to approximately $2,526,000 in 2004. Cost of sales increased 10% primarily due to the 30% increase in net sales. Cost of sales did not increase proportionately to net sales due to the increased utilization of overhead and improvements in raw material sourcing. Salaries and Wages Salaries and wages decreased approximately $66,000 due to personnel changes in the sales and administrative staff, which resulted in a reduction of the sales force for a portion of 2004, as well as a reduction in over-time costs associated with the manufacturing department. Selling and Administrative Expenses Selling and administrative expenses decreased by approximately $76,000 from approximately $1,667,000 in 2003 to approximately $1,591,000 in 2004. Interest Expense Interest expense increased by approximately $3,000 from $331,000 in 2003 to $334,000 in 2004. The Company pays interest monthly on the note payable to stockholder at the prime rate, which was 5.25% as of December 31, 2004. Liquidity and Capital Resources - ------------------------------- The Company's financial statements have been prepared on the basis that it will operate as a going concern, which comtemplates the realization of assets and satisfaction of liabilities in the normal course of business. As such, the consolidated financial statements do not include any adjustments that might be necessary if the Company is unable to continue as a going concern. The Company has incurred net losses each year since inception and has relied on the sale of its stock from time to time and loans from third parties and from related parties to fund its operations. These recurring operating losses, liabilities exceeding assets and the reliance on cash inflows from an institutional investor and current stockholder have led the Company's independent auditor DaszkalBolton to include a statement in its audit report relating to the Company's audited consolidated financial statements for the year ended December 31, 2004 expressing substantial doubt about the Company's ability to continue as a going concern. 15 The Company is currently addressing the liquidity and working capital issues and is in the process of attempting to raise additional capital with institutional and private investors and current shareholders. As of December 31, 2004, the Company had cash and cash equivalents of approximately $257,000. For the year ended December 31, 2004, net cash used in operating activities was approximately $3,453,000, which primarily resulted from the net loss of approximately $3,588,000, combined with changes in working capital amounts. Net cash used in investing activities was approximately $133,000 for purchases of property and equipment. Net cash provided by financing activities was approximately $2,485,000 for the year, primarily due to proceeds from shareholder notes of approximately $500,000 and $1,979,000 of funds from the sale of common stock to a private placement investor. On March 28, 2002, the Company executed a binding agreement with one of its stockholders, who is also a Board Member, to fund up to $2.5 million through March 31, 2003. Under the terms of the agreement, the Company could draw amounts as needed in multiples of $500,000 to fund operations subject to Board of Director approval. Amounts drawn bear interest at the prime rate per annum (5.25% at December 31, 2004) payable monthly and were to become due and payable on December 31, 2003, or upon a change in control of the Company or consummation of any other financing over $3 million. In March 2003, the payback date was extended to December 31, 2004. In consideration for the stockholder entering into this agreement, the Company granted the stockholder 100,000 common stock purchase warrants at an exercise price equal to the closing market price of the Company's stock on the date of grant. As of December 31, 2004, the Company had drawn the entire $2.5 million of the available funds. On March 14, 2003, the Company executed a second binding agreement with the same stockholder to fund up to an additional $3.5 million through December 31, 2003. Under the terms of the second agreement, the Company can draw amounts as needed in multiples of $500,000 to fund operations subject to Board of Director approval. Amounts drawn bear interest at the prime rate per annum (5.25% at December 31, 2004) payable monthly and became due and payable on December 31, 2004, or upon a change in control of the Company or consummation of any other financing over $7 million. In consideration, the Company granted the stockholder 125,000 common stock purchase warrants at an exercise price equal to the closing market price of the Company's stock on the date of grant. As of December 31, 2004, the Company had drawn $2.5 million of the available funds. Both of the lines allow for discretionary principal payments, which add to the availability of additional funds that the Company may draw. On February 2, 2004, the Company granted this same stockholder an additional 150,000 common stock purchase warrants at an exercise price equal to the closing market price of the Company's stock on the date of grant in consideration for extending the payback dates of the March 28, 2002 and March 14, 2003 agreements from December 31, 2004 to December 31, 2005; for waiving the funding requirement mandating payback terms until such time as the Company has raised an additional $7,000,000 over the amount raised during the Company's 2004 private placement offering, the Company is operating within sufficient cash flow parameters, as defined, or until the Company is sold; and for his involvement in equity financing in 2003 and 2004, to date. On December 10, 2003, the Company completed the sale of 750,000 shares of its common stock through its private placement to a third party investor, initiated in November 2003, with gross proceeds of approximately $1,500,000, all of which will be used for capital equipment purchases, marketing, working capital and general corporate purposes. In March 2004, the same investor purchased an additional 1,000,000 shares of common stock for $2,000,000. The funds were used to reduce the outstanding balance of the notes payable to stockholder. The Company then drew amounts, per the terms of the stockholder commitment letters dated March 28, 2002 and March 14, 2003, and amendments thereto, as needed, for operating and capital expenditures. In April 2005, the payback dates of the March 28, 2002 and March 14, 2003 agreements were extended from December 31, 2005 to December 31, 2006. As consideration of this extension, this shareholder was granted an additional 100,000 common stock purchase warrants at an exercise price equal to the closing market price of the Company's stock on the date of grant, for a period of five years. Furthermore, on December 18, 2003, the Company entered into an agreement with an investment-banking firm in Boca Raton, Florida to assist in raising approximately $3.0 million to $5.0 million in equity capital. The Company agreed to pay a fee of 7% of any gross proceeds received by the Company as a result of this firm's services, as well as all reasonable out-of-pocket fees, expenses and costs in connection with the performance of its services under the agreement. The agreement excluded the above capital raised in December 2003 and March 2004. On October 22, 2004, the agreement was mutually terminated. No equity capital was raised pursuant to this agreement. On October 26, 2004, the Company engaged Imperial Capital, LLC ("IC") as an exclusive financial advisor to the Company. IC will assist the Company in raising additional capital, as well as possibly pursuing a strategic partner from a mutually related field to enhance the Company's ability to develop business. 16 In consideration for IC's services, the Company agreed to pay a $100,000 non-refundable retainer, as well as an advance for future out-of-pocket expenses incurred by IC. Upon the consummation of a transaction, as defined by the agreement, the Company will pay a success fee of 2.5% of the principal amount of any debt or equity securities sold or the consideration received from a strategic relationship. The agreement may be terminated by either party upon 30-day written notice. At December 31, 2004, the Company had working capital of approximately $1,743,000 and its current ratio (current assets to current liabilities) was 3.33 to 1, as compared with working capital of approximately $2,406,000 and a current ratio of 4.73 to 1 at December 31, 2003. The Company anticipates increased cash flows from 2005 sales activity; however, additional cash will still be needed to support operations and meet working capital needs. If additional capital is not raised, budgeted sales levels are not achieved or significant unanticipated expenditures occur, the Company will have to modify its business plan, reduce or discontinue some of its operations or seek a buyer for part of its assets to continue as a going concern through 2005. There can be no assurance that the Company will be able to raise the additional capital or that it will continue to operate as a going concern. While the Company believes it can attain profitable operations in the future, there is no assurance that sales will increase to the level required to generate profitable operations to provide positive cash flow from operations. Impact of Inflation - ------------------- Inflation has not had a significant impact on the Company's operations. However, any significant decrease in the price for oil or labor, environmental compliance costs, and engine replacement costs could adversely impact the Company's end users cost/benefit analysis as to the use of the Company's products. Quarterly Fluctuations - ---------------------- The Company's operating results may fluctuate significantly from period to period as a result of a variety of factors, including product returns, purchasing patterns of consumers, the length of the Company's sales cycle to key customers and distributors, the timing of the introduction of new products and product enhancements by the Company and its competitors, technological factors, variations in sales by product and distribution channel, and competitive pricing and general economic conditions throughout the industrialized world. Consequently, the Company's product revenues may vary significantly by quarter and the Company's operating results may experience significant fluctuations. Risk Factors Affecting Future Results of Operations - --------------------------------------------------- The Company's future results of operations involve a number of risks and uncertainties - many beyond our control - that could cause actual events or results to be significantly different from those described in this document. The following outlines a number of risks that could impact the Company's financial condition and results of operations. o Our ability to operate as a going concern. o Our ability to raise capital to fund operations is limited. o Potential for continuing losses and accumulated deficit affects our outlook. o Our products may not satisfy our customers' needs. o Our product may not obtain market acceptance. o We are dependent on distributors and a few significant customers and their loss could have a significant adverse impact on us. 17 o Competition may adversely affect our operations, specifically alternative products designed by OEMs or in conjunction with a third party. o We are dependent on key personnel and their loss would adversely affect our operations. o We market a limited number of related products, which makes us vulnerable if our products do not gain market acceptance. o There are risks associated with our international operations and international distribution. Our foreign operations are subject to a number of risks, including longer payment cycles, unexpected changes in regulatory requirements, import and export restrictions and tariffs, difficulties in staffing and managing foreign operations, the burden of complying with a variety of foreign laws, greater difficulty in accounts receivable collection, potentially adverse tax consequences, currency fluctuations, enforcing patent protection and political and economic instability. o Our intellectual property rights may not provide meaningful protection for us. o We will likely experience possible fluctuations in operating results, which will expose us to greater uncertainties. o Our product acceptance represents an educational and behavioral change resulting in a relatively long sales cycle. ITEM 7. FINANCIAL STATEMENTS - ----------------------------- INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Page ---- Reports of Independent Registered Public Accounting Firms..................31-32 Consolidated Financial Statements: Consolidated Balance Sheet - December 31, 2004......................... 33 Consolidated Statements of Operations - Years ended December 31, 2004 and 2003............................. 34 Consolidated Statements of Changes in Stockholders' Equity (Deficit) - Years ended December 31, 2004 and 2003............................. 35 Consolidated Statements of Cash Flows - Years ended December 31, 2004 and 2003............................. 36 Notes to Consolidated Financial Statements............................. 37 ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON - --------------------------------------------------------- ACCOUNTING AND FINANCIAL DISCLOSURE ----------------------------------- (a) On November 15, 2004, Ernst & Young LLP was dismissed as the independent registered public accounting firm for the Company. Ernst & Young had been the independent registered public accounting firm for, and audited the financial statements of, the Company. The reports of Ernst & Young on the financial statements of the Company for the past two fiscal years contained no adverse opinion or disclaimer of opinion, and were not qualified or modified as to uncertainty, audit scope or accounting principles. The decision to change accountants was approved by the Audit Committee of the Board of Directors. In connection with the audits for the two most recent fiscal years and in connection with Ernst & Young's review of the subsequent interim period preceding dismissal on November 15, 2004, there have been no disagreements between the Company and Ernst & Young on any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedure, which, if not resolved to the satisfaction of Ernst & Young, would have caused Ernst & Young, to make reference thereto in their report on the Company's financial statements for these fiscal years. During the two most recent fiscal years and prior to the date of November 15, 2004, the Company had no reportable events (as defined in Item 304(a) (1) of Regulation S-B). 18 (b) DaszkalBolton LLP ("DaszkalBolton") by letter dated November 16, 2004, was engaged as the independent registered public accounting firm for the Company. The Company has not consulted with DaszkalBolton regarding the application of accounting principles to any contemplated or completed transactions nor the type of audit opinion that might be rendered on the Company's financial statements, and neither written nor oral advice was provided that would be an important factor considered by the Company in reaching a decision as to an accounting, auditing or financial reporting issue. There have been no disagreements between the Company and the former certifying accountant, Ernst & Young, for which DaszkalBolton was consulted upon. ITEM 8A. CONTROLS AND PROCEDURES - --------------------------------- (a) Evaluation of disclosure controls and procedures. In accordance with Rule 13a-15(b) of the Securities Exchange Act of 1934 (the "Exchange Act"), within 90 days prior to the filing date of the annual report on Form 10-KSB, an evaluation was carried out under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer and Chief Financial Officer, on the effectiveness of the design and operation of the Company's disclosure controls and procedures (as defined in Rule 13a-14(c) under the Exchange Act). Based upon their evaluation of these disclosure controls and procedures, the Chief Executive Officer and the Chief Financial Officer concluded that the disclosure controls and procedures were effective as of the date of such evaluation to ensure that material information relating to the Company, including its consolidated subsidiary, was made known to them by others within those entities, particularly during the period in which this Annual Report on Form 10-KSB was prepared. (b) Changes in internal controls. There were not any significant changes in the Company's internal controls or other factors that could significantly affect these controls subsequent to the date of their evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. ITEM 8B. OTHER INFORMATION - --------------------------- None PART III ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; - ---------------------------------------------------------------------- COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT ------------------------------------------------- The following table sets forth the names, positions with the Company and ages of the executive officers, significant employees and directors of the Company. Directors will be elected at the Company's Annual Meeting of Stockholders and serve for one year or until their successors are elected and duly qualified. The Board elects officers and their terms of office are, except to the extent governed by employment contract, at the discretion of the Board. Board of Directors and Executive Management Name Age Position - ------------------ --- -------------------------------------- Joseph V. Vittoria 69 Chairman of the Board of Directors Richard C. Ford 61 Chief Executive Officer and Director Kevin G. Kroger 53 President, Chief Operating Officer and Director Peter H. Stephaich 49 Director Ottavio Serena 52 Director Michael Castellano 64 Director Alan J. Sandler 66 Vice President, Chief Administrative Officer and Secretary Cindy Lea Gimler 38 Chief Financial Officer 19 JOSEPH V. VITTORIA was appointed to the Board of Directors and appointed as Chairman on February 8, 2000. Mr. Vittoria was Chairman and Chief Executive Officer of Travel Services International, Inc. where he served from 1998 to 2000. From 1987 to 1997, Mr. Vittoria served as Chairman and Chief Executive Officer of Avis, Inc. and was President and Chief Operating Officer of Avis, Inc. from 1982 to 1987. Mr. Vittoria also serves on the boards of several companies, including Autoeurope, Inc. RICHARD C. FORD has been a Director of the Company since its inception in 1988. He served as President of the Company from its inception in 1988 until April 1997 and as Chief Executive Officer and Treasurer until June 1997. He also served as Secretary of the Company from its inception until August 1996. Mr. Ford resigned from the Company in 1997 but returned to the Company as President in April 1998 and in January 1999, was elected Chairman of the Board of Directors and appointed Chief Executive Officer. Mr. Ford was also a Director of TF Purifiner Ltd. through July 17, 1997 at which time he resigned, and was re-appointed in 1999, currently serving as a Director on the Board of Puradyn, Ltd. KEVIN G. KROGER joined the Company July 3, 2000 as President and Chief Operating Officer, and was appointed to the Board of Directors in November 2000, and was also appointed to the Board of Puradyn, Ltd. in December 2000. Mr. Kroger was with Detroit Diesel Corporation from 1989 to the time he joined the Company, serving in various executive positions prior to his appointment in 1998 to the position of Vice President and General Manager of Series 30/40 Product. From 1987 to 1989 he was Vice President of R.E.S. Leasing and of VE Corporation. Prior to this, from 1971 to 1987, he held several management positions with Caterpillar Corporation. PETER H. STEPHAICH was appointed to the Board of Directors at its meeting June 12, 2000, and serves as Chairman of our Compensation Committee and is a member of our Audit Committee. Mr. Stephaich is currently Chairman, Chief Executive Officer and President of Blue Danube Incorporated, a private holding Company engaged in the river transportation industry on the Upper Ohio River. Mr. Stephaich has been on its Board of Directors since 1982 and has held the titles of Chief Executive Officer and President since 1995. Prior to 1995, Mr. Stephaich worked for various financial institutions, including four years at Banker Trust Company where he provided international financial advisory services to the transportation and aerospace industries. OTTAVIO SERENA was appointed to the Board of Directors at its meeting on June 12, 2000 and is a member of our Compensation Committee. Mr. Serena is a principal of The Lynx Partners, a private equity consulting firm. He is also President of The Explorer and Fiber Group, and is Managing Director of Lincolnshire Management, Inc., a publicly traded financial Company. From 1993 to 1999, Mr. Serena was with Citicorp Venture Capital, a leveraged buyout company. Mr. Serena co-founded and was managing director of The Lynx Partners from 1987 to 1993. MICHAEL CASTELLANO was appointed to the Board of Directors at the Company's January 24, 2001 meeting and serves as Chairman of our Audit Committee and is a member of our Compensation Committee. Mr. Castellano retired in 1997 from Kobren Insight Group, a financial services company, where he served as Chief Administrative Officer from 1995 to 1997, and in 1994, he was Executive Vice President of Wall Street Access, a discount brokerage firm. Prior to that, from 1988 to 1993, Mr. Castellano was Senior Vice President and Corporate Controller for Fidelity Investments. Mr. Castellano also serves on the Board of Kobren Insight Funds and Sun Capital Advisers Trust. ALAN J. SANDLER joined the Company in June 1998 as President, Chief Operating Officer, Secretary, Chief Financial Officer, and Director. In January 2000, he became Vice President and resigned from the positions of President and Chief Operating Officer. In March 2001, he resigned as Chief Financial Officer. In August 2001, Mr. Sandler resumed the position of Chief Financial Officer and then resigned from the position in March 2002. From 1995 until 1997 Mr. Sandler served as President and Chief Executive Officer to Hood Depot, Inc., a national restaurant supply manufacturer/distributor. From 1979 to 1995 he was President and Chief Executive Officer of Sandler & Sons Dental Supply Company, a regional dental supply and equipment distributor. Previous to this position he was a Vice President of Gardner Advertising Company, a national advertising agency. Mr. Sandler was appointed as a Director of TF Purifiner Ltd. in 1999 through 2000. Effective December 16, 2004 Mr. Sandler did not seek reelection to the Board of Directors at the 2004 Annual Meeting of Stockholders. He resigned from the Director position to maintain a balanced Board with regard to independence as defined in Section 121B(2)(c), of the AMEX listing standards and currently holds the positions of Vice President, Chief Administrative Officer and Secretary to the Board. CINDY LEA GIMLER previously held the position of Accounting Manager with the Company from October 2003 through October 2004. In February, 2005 she was appointed as Chief Financial Officer. Prior to her employment with the Company, she served as Controller of Bio-Engineered Supplements & Nutrition, Inc., a nutrition products company, from October 2004 through February 2005. Ms Gimler also served as CFO of Universal Jet Aviation, a private jet charter company, from August 2000 through July 2003 and as Accounting Manager for Singer Asset Finance Co., LLC from July 1999 through August 2000. From November 1989 through August 2000 she was employed as an Accountant and Financial Analyst for Oxbow Corporation, an energy finance company. Ms. Gimler received a Masters of Business Administration and a Bachelor of Business Administration from Florida Atlantic University and is a CPA in the state of Florida. 20 Senior Management - ----------------- D. Wayne Clifton 66 Director of Sales and Marketing Joseph J. Gaynor, Jr. 54 Director of Manufacturing and Operations Kevin Davies 46 Managing Director, Puradyn Filter Technologies, Ltd. D. WAYNE CLIFTON joined the Company in 1994 as Southwest Regional Manager. With over 40 years in sales and management, Mr. Clifton became Sales & Marketing Director for the Company in July 2003. Prior to joining Puradyn, Mr. Clifton was President/CEO of Wayne Clifton & Associates, a buying and management services company within the apparel industry for 30 years. Mr. Clifton also served as Western District Sales Manager of the West Coast and then National Accounts Manager for the Philip Morris Company. JOSEPH J. GAYNOR, JR. joined the Company in 2002. From 2000-2002, Mr. Gaynor served as VP, Operations/General Manager at JDS Uniphase Corporation. With over 25 years of management, manufacturing and engineering experience, Mr. Gaynor has also held executive positions with Spectrum Control, Rockwell International and Corning Glass Works. KEVIN DAVIES serves as Managing Director of Puradyn, Ltd, located in the UK. Mr. Davies has been with the Company since 1995 and at different times has served in the positions of Technical Sales Manager, Marketing Director, Acting Managing Director, and, as of March 2004, Managing Director. Prior to joining Puradyn, Mr. Davies worked for Recruitment and Management Consultancy in London, and from 1985-1990, for a diesel engine and spare parts company (part of the Lancaster Group) in the positions of National Sales Manager, USA, as well as Export Sales Manager for North America, Europe and the Middle East. During 2004, Puradyn's board of directors met on ten occasions. Puradyn has an audit committee and a compensation committee. Audit Committee - --------------- During 2004, the audit committee of the board of directors was composed of two independent directors. It operates under a written charter adopted by the board of directors. The committee members are Michael Castellano (Chairperson) and Peter H. Stephaich. On December 13, 2002, Joseph V. Vittoria, then a member of the audit committee, resigned so that the audit committee is comprised of only independent directors. The Board has determined that Mr. Castellano satisfies the criteria as an audit committee financial expert as established by the SEC under Item 401(e) of Regulation S-B and the American Stock Exchange, and that both members of the committee are independent as that term is defined in applicable SEC Rules and American Stock Exchange listing standards. The audit committee met four times in 2004. The audit committee reviews our financial reporting process on behalf of the board of directors. Management has the primary responsibility for the financial statements and the reporting process including the system of internal controls. In this context, the chairperson has met and held discussions with management and the independent auditors. Management represented to the committee that Puradyn's consolidated financial statements were prepared in accordance with accounting principles generally accepted in the United States, and the committee has reviewed and discussed the consolidated financial statements with management and the independent auditors. The committee discussed with the independent auditors matters required to be discussed by Statement on Auditing Standards No. 61, Communication with Audit Committees, as amended. In addition, the committee has discussed with the independent auditors the auditor's independence from the Company and its management, including the matters in the written disclosures required by the Independence Standards Board Standard No. 1, Independence Discussions with Audit Committees. 21 The committee discussed with our independent auditors the overall scope and plans for their respective audit. The committee meets with the independent auditors with and without management present, to discuss the results of their examinations, the evaluations of Puradyn's internal controls, and the overall quality of our financial reporting. In reliance on the reviews and discussions referred to above, the committee recommended to the board of directors, and the board has approved, that the audited consolidated financial statements be included in Puradyn's Form 10-KSB for the year ended December 31, 2004, for filing with the Securities and Exchange Commission. Submitted by the audit committee of the Board of Directors: Michael Castellano Peter H. Stephaich Compensation Committee - ---------------------- The compensation committee provides overall guidance for officer compensation programs, including salaries and other forms of compensation including all employee stock option grants and warrant grants to non-employees. The compensation committee consists of three independent directors, Peter Stephaich (Chairperson), Ottavio Serena and Michael Castellano. The compensation committee meets on an as needed basis and reports to the Board of Directors. Beneficial Ownership Reporting Compliance - ----------------------------------------- Section 16 (a) of the Exchange Act requires the Company's directors and executive officers, and persons who own more than ten percent (10%) of a registered class of the Company's equity securities, to file with the Commission initial reports of ownership and reports of changes in ownership of common stock and other equity securities of the Company. Officers, directors and greater than ten percent (10%) stockholders are required by Commission regulation to furnish the Company with copies of all Section 16 (a) forms they file. To the Company's knowledge, based solely on a review of the copies of such reports furnished to the Company and written representations that no other reports were required, during the year ended December 31, 2004. Code of Ethics - -------------- We have adopted a code of ethics outlining business ethics and conflicts of interest for all officers, directors and employees of the Company, including procedures for prompt internal reporting of violations of the code to the appropriate persons. You will find a copy of our code of ethics posted on our website at http://www.puradyn.com/ under Investor Relations, or you may write to us at Puradyn Investor Relations, 2017 High Ridge Road, Boynton Beach, FL 33426. Our Code of Ethics applies to all directors, officers and employees. We will provide a copy to you upon request at no charge. 22 ITEM 10. EXECUTIVE COMPENSATION - --------------------------------- Compensation - ------------ The following table shows, for the three year period ended December 31, 2004, the cash and other compensation paid by the Company to its Chief Executive Officer and to each of the executive officers of the Company who had annual compensation in excess of $100,000.
- --------------------------------------------------------------------------------------------------------------- Summary Compensation Table - --------------------------------------------------------------------------------------------------------------- Annual Compensation Long Term Compensation Awards - --------------------------------------------------------------------------------------------------------------- Name and Other Annual Securities All Other Compensation Underlying Compensation Principal Position Year Salary($) Bonus($) ($)(1) Options (#) ($)(3) - --------------------------------------------------------------------------------------------------------------- Richard C. Ford 2004 $ 208,000 $ - $ 11,000 - $ - CEO and Director 2003 208,000 - 13,000 - - 2002 208,000 - 12,000 - - Kevin G. Kroger 2004 166,000 - 17,880 - - President, COO and 2003 166,000 - 21,833 - 2,372 Director 2002 166,000 80,000 (2) 18,482 100,000(2) 2,144 Alan Sandler 2004 100,000 - - - - Vice President, 2003 100,000 - - - - Secretary and CAO 2002 100,000 - - - - - ---------------------------------------------------------------------------------------------------------------
(1) This amount represents payments made by the Company for car allowances and, in the case of Mr. Kroger, also for disability insurance premiums. (2) In January 2003, in lieu of the contractual cash bonus amount of $80,000, 100,000 ISO stock options were granted to Mr. Kroger. (3) Other compensation represents insurance premiums paid by the Company on behalf of Mr. Kroger for term life insurance for the benefit of Mr. Kroger's family. There are no dividends or cash surrender value payable on this policy, which is renewable annually. Incentive and Non-qualified Stock Option Plans - ---------------------------------------------- The Board of Directors adopted the 2000 Non-Employee Directors' Plan (the "Directors' Plan") on November 8, 2000 under which options to purchase 400,000 shares have been authorized for issuance. The Directors' Plan will provide a means to attract and retain highly qualified persons to serve as non-employee directors and advisory directors of the Company. Each member of the Board of Directors was automatically granted 5,000 options at the date of commencement of the Directors' Plan and on their initial election as new members to the Board of Directors. Each director receives an additional 5,000 options at the close of each annual meeting of stockholders. Additionally, each director automatically receives 2,500 options for each committee of the Board on which the director serves. Options are granted at a price equal to the fair market value of the stock on the date of grant, are exercisable commencing two years following grant, and will expire five years from the date of grant. In the event a person ceases to serve on the Board of Directors, the outstanding options expire one year from the date of cessation of service. The Board of Directors will administer the Directors' Plan. The Company's 1999 Stock Option Plan (the "1999 Plan") and the 1996 Stock Option Plan (the "1996 Plan"), adopted on September 15, 1999 and amended in June 2000, and July 31, 1996, respectively, will work to increase proprietary interest in the Company of the employees, Board of Advisors, consultants, and non-employee Directors and to align more closely their interests with the interests of the Company's stockholders. The Plans will also maintain the Company's ability to attract and retain the services of experienced and highly qualified employees and non-employee directors. Under the 1999 Plan and 1996 Plan, the Company had reserved an aggregate of 3,000,000 and 2,200,000 shares, respectively, of common stock for issuance pursuant to options granted under the Plans ("Plan Options"). The Board of Directors or a Committee of the Board of Directors (the "Committee") of the Company will administer the Plans including, without limitation, the selection of the persons who will be granted Plan Options under the Plans, the type of Plan Options to be granted, the number of shares subject to each Plan Option and the Plan Option price. Options granted under the 1996 and 1999 Plans may either be options qualifying as incentive stock options ("Incentive options") under Section 422 of the Internal Revenue Code of 1986, as amended, or options that do not so qualify ("Non-Qualified Options"). In addition, the Plans also allow for the inclusion of a reload option provision ("Reload Option"), which permits an eligible person to pay the exercise price of the Plan Option with shares of Common Stock owned by the eligible person and receive a new Plan Option to purchase shares of Common Stock equal in number to the tendered shares. Any Incentive Option granted under the Plans must provide for an exercise price of not less than 100% of the fair market value of the underlying shares on the date of such grant, but the exercise price of any Incentive Option granted to an eligible employee owning more than 10% of the Company's Common Stock must be at least 110% of such fair market value as determined on the date of the grant. The term of each Plan Option and the manner in which it may be exercised is determined by the Board of the Directors or the Committee, provided that no Plan Option may be exercisable more than 10 years after the date of its grant and, in the case of an Incentive Option granted to an eligible employee owning more than 10% of the Company's common stock, no more than five years after the date of the grant. 23 The exercise price of Non-Qualified Options shall be determined by the Board of Directors or the Committee and cannot be less than the par value of the Company's Common Stock. The per share purchase price of shares subject to Plan Options granted under the Plans may be adjusted in the event of certain changes in the Company's capitalization, but any such adjustment shall not change the total purchase price payable upon the exercise in full of Plan Options granted under the Plan. Officers, directors, key employees and consultants of the Company and its subsidiaries (if applicable in the future) will be eligible to receive Non-Qualified Options under the Plans. Only officers, directors and employees of the Company who are employed by the Company or by any subsidiary thereof are eligible to receive Incentive Options. All Plan Options are generally nonassignable and nontransferable, except by will or by the laws of descent and distribution, and during the lifetime of the optionee, may be exercised only by such optionee. If an optionee's employment is terminated for any reason, other than his death or disability or termination for cause, or if an optionee is not an employee of the Company but is a member of the Company's Board of Directors and his service as a Director is terminated for any reason, other than death or disability, the Plan Option granted to him generally shall lapse to the extent unexercised on the earlier of the expiration date or one year following the date of termination. If the optionee dies during the term of his employment, the Plan Option granted to him generally shall lapse to the extent unexercised on the earlier of the expiration date of the Plan Option or the date one year following the date of the optionee's death. If the optionee is permanently and totally disabled within the meaning of Section 22 (c) (3) of the Internal Revenue Code of 1986, the Plan Option granted to him generally lapses to the extent unexercised on the earlier of the expiration date of the option or one year following the date of such disability. The Board of Directors or the Committee may amend, suspend or terminate the Plans at any time, except that no amendment shall be made which (i) increases the total number of shares subject to the Plans or changes the minimum purchase price therefore (except in either case in the event of adjustments due to changes in the Company's capitalization), (ii) extends the term of any Plan Option beyond ten years, or (iii) extends the termination date of the Plan. Unless the Plans shall theretofore have been suspended or terminated by the Board of Directors, the 1996 Plan shall terminate on July 31, 2006 and the 1999 Plan shall terminate on September 15, 2009. Any such termination of the Plans shall not affect the validity of any Plan Options previously granted thereunder. As of December 31, 2004, under the Directors' Plan, options to purchase 342,500 shares of common stock were outstanding. As of December 31, 2004, under the 1996 Plan, incentive stock options to purchase 157,357 shares of common stock were outstanding and non-qualified options to purchase 585,463 shares of common stock were outstanding and, under the 1999 Plan, incentive stock options to purchase 1,218,750 shares of common stock were outstanding and non-qualified options to purchase 22,000 shares of common stock were outstanding. 24 Option Exercises and Holdings The following table sets forth information with respect to the exercise of options to purchase shares of common stock during the fiscal year ended December 31, 2004 to each person named in the Summary Compensation Table and the unexercised options held as of the end of the 2004 fiscal year. Aggregate Option/SAR Exercises in Last Fiscal Year and FY-End Option/SAR Values
- ----------------------------------------------------------------------------------------------------------------------------- Number of Number of Securities Value of Unexercised Shares Underlying Unexercised In-the-Money Options/SARs Acquired On Value Options/SARs at FY-End(#) at FY-End($)(1) Exercise (#) Realized ($) Exercisable/ Unexercisable Exercisable/ Unexercisable - ----------------------------------------------------------------------------------------------------------------------------- Richard C. Ford - - 375,000 - $ 208,500 - Chief Executive Officer and Director Kevin Kroger - - 400,000 - - - President, COO and Director Alan Sandler - - - - - - Vice President, CAO and Secretary - -----------------------------------------------------------------------------------------------------------------------------
(1) In accordance with the Securities and Exchange Commission's rules, values are calculated by subtracting the exercise price from the fair market value of the underlying common stock. For purposes of this table, fair market value is deemed to be $1.20, the closing price reported on December 31, 2004. ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND - ------------------------------------------------------------- MANAGEMENT AND RELATED STOCKHOLDER MATTERS ------------------------------------------ The following table sets forth certain information regarding the Company's common stock beneficially owned on March 31, 2005 for (i) each stockholder known by the Company to be the beneficial owner of five (5%) percent or more of the Company's outstanding Common Stock, (ii) each of the Company's executive officers as reported under Item 10.Executive Compensation, and directors, and (iii) all officers and directors as a group. In general, a person is deemed to be a "beneficial owner" of a security if that person has or shares the power to vote or direct the voting of such security, or the power to dispose or to direct the disposition of such security. A person is also deemed to be a beneficial owner of any securities of which the person has the right to acquire ownership within sixty (60) days. At March 31, 2005, there were 17,455,434 shares of Common Stock outstanding. The address of each of the persons set forth below is 2017 High Ridge Road, Boynton Beach, Florida 33426, except as otherwise noted.
PERCENT OF COMMON STOCK BENEFICIALLY BENEFICIALLY NAME AND ADDRESS OR IDENTITY OF GROUP OWNERSHIP OWNED ---------------------------------------------------------------------------------------- Quantum Industrial Partners LDC ("QIP") (1) 4,570,000 22.5% Glenhill Capital Management, LP (8) 2,251,567 11.1% Richard C. Ford (2) 1,933,985 9.5% Joseph V. Vittoria (5) 1,791,870 8.8% Kevin G. Kroger (3) 420,000 2.1% Alan J. Sandler (4) 315,992 1.6% Ottavio Serena (6) 132,500 -* Peter Stephaich (6) 130,000 -* Michael Castellano (7) 39,000 -* ----------------------------- All Officers and Directors as a group (7 persons) 4,763,347 23.5%
* Less than 1% (1) Address is c/o Curacao Corporation Company, N.V., Kaya Flamboyan, Willenstad Curacao, Netherlands, Antilles. 25 (2) Mr. Ford serves as Chief Executive Officer and as a Director. Includes options to purchase 100,000 shares of common stock at $.56 per share through April 14, 2009, options to purchase 100,000 shares at $.21 per share through January 7, 2009, and options to purchase 175,000 shares at $.94 per share through April 1, 2009. (3) Mr. Kroger is President, Chief Operating Officer, and a Director. Includes options to purchase 300,000 shares of common stock at $9.25 through July 3, 2010 and options to purchase 100,000 shares at $1.70 through January 10, 2013. (4) Mr. Sandler serves as Vice President, Secretary and Director. (5) Mr. Vittoria serves as Chairman of the Board of Directors. Includes options to purchase 205,000 shares of common stock at $5.88 through October 23, 2005 and three warrants to purchase 100,000 shares of common stock at $4.05 through March 28, 2007, 125,000 shares of common stock at $2.25 through March 14, 2008, and 150,000 shares of common stock at $2.00 through February 2, 2009, respectively. (6) Mr. Stephaich and Mr. Serena serve as Directors. Includes options to purchase 10,000 and 7,500, shares of common stock, respectively, at $5.88 through October 23, 2005, 10,000 and 7,500 shares of common stock, respectively, at $2.60 through October 23, 2006, and 10,000 and 7,500 shares of common stock, respectively, at $1.06 through December 16, 2009. For Mr. Serena, also includes a warrant to purchase 100,000 shares of common stock at $1.00 through December 20, 2005. (7) Mr. Castellano serves as a Director. Includes options to purchase 7,500 shares of common stock at $6.50 through January 24, 2006, 10,000 shares of common stock at $2.60 through October 23, 2006, 2,500 shares of common stock at $4.81 through May 16, 2006, 10,000 shares of common stock at $2.46 through October 9, 2007, and 10,000 shares of common stock at $1.06 through December 16, 2009. (8) Address is 598 Madison Avenue, 12th Floor, New York, NY 10022. ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS - -------------------------------------------------------- In July 2001, the Company received promissory notes from two of its officers for the exercise of their vested stock options in the amount of $875,256 and bearing interest of 5.63%. The principal and accrued interest are due upon the earlier of the expiration of the original option periods, which range from July 2008 to December 2009, or upon the sale of the common stock acquired by the execution of the options. On April 1, 2002, the Company executed an agreement with a third party and a related party who is affiliated with an executive officer, to receive web site and advertising consulting services. The agreement was for a term of 15 weeks and the two consultants received 20,000 stock options having a fair value of approximately $61,000, as well as cash of approximately $30,000 for services rendered. The fair value of the options was estimated at the date of grant using a Black-Scholes option pricing model with the following assumptions: risk free interest rates of 4.65%, volatility factors of the expected market price of the Company's common stock of 1.298, a dividend yield of zero, and a weighted average expected life of 3 years. On March 28, 2002, the Company executed a binding agreement with one of its stockholders, who is also a Board Member, to fund up to $2.5 million through March 31, 2003. Under the terms of the agreement, the Company could draw amounts as needed in multiples of $500,000 to fund operations subject to Board of Director approval. Amounts drawn bear interest at the prime rate per annum (5.25% at December 31, 2004) payable monthly and were to become due and payable on December 31, 2004, or upon a change in control of the Company or consummation of any other financing over $3 million. In March 2003, the payback date was extended to December 31, 2004. In consideration for the stockholder entering into this agreement, the Company granted the stockholder 100,000 common stock purchase warrants at an exercise price equal to the closing market price of the Company's stock on the date of grant. As of December 31, 2004, the Company had drawn the entire $2.5 million of the available funds. On March 14, 2003, the Company executed a second binding agreement with the same stockholder to fund up to an additional $3.5 million through December 31, 2004. Under the terms of the second agreement, the Company can draw amounts as needed in multiples of $500,000 to fund operations subject to Board of Director approval. Amounts drawn bear interest at the prime rate per annum (5.25% at December 31, 2004) payable monthly and become due and payable on December 31, 2005 or upon a change in control of the Company or consummation of any other financing over $7 million. In consideration, the Company granted the stockholder 125,000 common stock purchase warrants at an exercise price equal to the closing market price of the Company's stock on the date of grant. As of December 31, 2004, the Company had drawn $3.0 million of the available funds. 26 On February 2, 2004, the Company granted this same stockholder an additional 150,000 common stock purchase warrants at an exercise price equal to the closing market price of the Company's stock on the date of grant in consideration for extending the expiration dates of the March 28, 2002 and March 14, 2003 agreements and amendments thereto, from December 31, 2004 to December 31, 2005; for waiving the funding requirement mandating payback terms until such time as the Company has raised an additional $7,000,000 over the amount raised during the Company's current 2004 private placement offering, the Company is operating within sufficient cash flow parameters, as defined, or until the Company is sold; and for his involvement in equity financing in 2003 and 2004. In April 2005, the payback dates of the March 28, 2002 and March 14, 2003 agreements were extended from December 31, 2005 to December 31, 2006. As consideration of this extension, this shareholder was granted an additional 100,000 common stock purchase warrants at an exercise price equal to the closing market price of the Company's stock on the date of grant. ITEM 13. EXHIBITS - ----------------- A) INDEX TO EXHIBITS Exhibits Description of Documents - -------- ------------------------ 3.1 Amended and Restated Certificate of Incorporation of T/F Purifiner, Inc. dated December 30, 1996(2) 3.1(a) Certificate of Amendment to Certificate of Incorporation dated February 3, 1998(3) 3.2 Bylaws of T/F Purifiner, Inc.(1) 3.3 Memorandum and Articles of Association of TF Purifiner Ltd.(1) 4.1 Amendment No. 1 to Registration Rights Agreement(3) 10.1 1996 Stock Option Plan(1) 10.2 1999 Stock Option Plan(4) 10.3 2000 Non-Employee Directors' Plan(5) 10.4 2002 Audit Committee Charter(8) 10.5 2002 Supply Agreement between Puradyn Filter Technologies, Inc. and Honeywell Consumer Products Group(8) 10.6 2004 Agreement between Puradyn Filter Technologies, Inc. and Imperial Capital LLP(7) 14.1 Code of Ethics(8) 16 Letter on change in Certifying Accountant(9) 23.1 Consent of Independent Registered Public Accounting Firm(6) 31.1 Sarbanes-Oxley Act Section 302 Certification 31.2 Sarbanes-Oxley Act Section 302 Certification 32.1 Sarbanes-Oxley Act Section 906 Certification 32.2 Sarbanes-Oxley Act Section 906 Certification - ------------------ (1) Incorporated by reference from the Exhibits to the company's Form 10-SB 12B Registration Statement, as amended, as filed with the Securities and Exchange Commission. (2) Incorporated by reference from the Exhibit to the company's Form 8-K, January 9, 1997, as filed with the Securities and Exchange Commission. 27 (3) Incorporated by reference from the Exhibit to the company's Form 8-KA, February 11, 1998, as filed with the Securities and Exchange Commission. (4) Incorporated by reference from Form S-8, September 15, 1999, as filed with the Securities and Exchange Commission (5) Incorporated by reference from Form 10-KSB, August 9, 2001, as filed with the Securities and Exchange Commission. (6) Filed herewith. (7) Incorporated by reference from the Exhibit to the company's Form 8-K, October 29, 2004, as filed with the Securities and Exchange Commission. (8) Incorporated by reference from Form 10-KSB, March 30, 2004, as filed with the Securities and Exchange Commission. (9) Incorporated by reference from the Exhibit to the company's Form 8-K, November 18, 2004, as filed with the Securities and Exchange Commission. ITEM 14. PRINCIPAL ACCOUNTANTS FEES AND SERVICES The following table sets forth the aggregate fees billed to the Company for the years ended December 31, 2004 and December 31, 2003 by DaszkalBolton and Ernst & Young respectively, the Company's principal accountants: 2004 2003 --------- ---------- Audit Fees $ 89,368 $ 111,221 Audit-Related Fees 58,962 39,384 Tax Fees -- -- All Other Fees 1,500 -- Audit and audit-related fees represent amounts billed for professional services rendered for the audit of the Company's annual financial statements and the reviews of the financials statements included in the Company's Forms 10-QSB for the fiscal years ended December 31, 2004 and 2003. Before Ernst & Young LLP was engaged by the Company to render audit or non-audit services, the engagement was approved by the Company's audit committee. On November 15, Ernst & Young LLP was dismissed as the independent registered public accounting firm for, and audited the financial statements of, the Company. DaszkalBolton LLP, by letter dated November 16, 2004, was engaged as the independent registered public accounting firm for Puradyn. Both decisions, to dismiss Ernst & Young LLP and retain the services of DaszkalBolton LLP, were approved by the Company's audit committee. 28 SIGNATURES In accordance with Section 13 or 15(d) of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Puradyn Filter Technologies Incorporated (Registrant) Date: April 15, 2005 By: /s/ Richard C. Ford Richard C. Ford Chief Executive Officer In accordance with the Exchange Act, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the date indicated. Date: April 15, 2005 By: /s/ Richard C. Ford Richard C. Ford Principal Executive Officer and Director By: /s/ Alan J. Sandler Alan J. Sandler Vice President, Chief Administrative Officer and Secretary By: /s/ Cindy Lea Gimler Cindy Lea Gimler Principal Financial and Accounting Officer By: /s/ Joseph V. Vittoria Joseph V. Vittoria Chairman of the Board of Directors By: /s/ Kevin G. Kroger Kevin G. Kroger, President and Chief Operating Officer and Director By: /s/ Michael Castellano Michael Castellano, Director By: /s/ Peter Stephaich Peter Stephaich, Director By: /s/ Ottavio Serena Ottavio Serena, Director 29 PAGE> PURADYN FILTER TECHNOLOGIES INCORPORATED INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Page ----- Reports of Independent Registered Public Accounting Firms............ 31-32 Consolidated Financial Statements: Consolidated Balance Sheet - December 31, 2004.................. 33 Consolidated Statements of Operations - Years ended December 31, 2004 and 2003...................... 34 Consolidated Statements of Changes in Stockholders' Deficit - Years ended December 31, 2004 and 2003...................... 35 Consolidated Statements of Cash Flows - Years ended December 31, 2004 and 2003...................... 36 Notes to Consolidated Financial Statements...................... 37 30 Report of Independent Registered Public Accounting Firm Board of Directors and Stockholders Puradyn Filter Technologies Incorporated We have audited the accompanying consolidated balance sheet of Puradyn Filter Technologies Incorporated (the Company) as of December 31, 2004, and the related consolidated statements of operations, changes in stockholders' equity (deficit) and cash flows for the year then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company has determined that it is not required to have, nor were we enganged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Puradyn Filter Technologies Incorporated at December 31, 2004, and the results of their operations and their cash flows for the year then ended in conformity with accounting principles generally accepted in the United States of America. The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 2, the Company has suffered recurring losses from operations, its total liabilities exceed its total assets, and it has relied on cash inflows from an institutional investor and current shareholder. These conditions raise substantial doubt about the Company's ability to continue as a going concern. Management's plans in regards to these matters are also described in Note 2. The financial statements do not include any adjustments that might result from the outcome of this uncertainty. /s/ DaszkalBolton LLP Boca Raton, Florida March 16, 2005 except for Note 16, as to which the date is April 15, 2005 31 Report of Independent Registered Public Accounting Firm Board of Directors and Stockholders Puradyn Filter Technologies Incorporated We have audited the accompanying consolidated statements of operations, changes in stockholders' equity (deficit) and cash flows of Puradyn Filter Technologies Incorporated (the Company) for the year ended December 31, 2003. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated results of operations and cash flows of Puradyn Filter Technologies Incorporated for the year ended December 31, 2003, in conformity with accounting principles generally accepted in the United States. /s/ Ernst & Young LLP Certified Public Accountants West Palm Beach, Florida February 24, 2004, except for the matters discussed in the last paragraph of Note 11 and the third paragraph of Note 12, as to which the date is March 12, 2004. 32 Puradyn Filter Technologies Incorporated Consolidated Balance Sheet December 31, 2004 Assets Current assets: Cash and cash equivalents $ 257,210 Accounts receivable, net of allowance for uncollectible accounts of $35,376 490,650 Inventories 1,270,641 Prepaid expenses and other current assets 411,624 Deferred financing costs 135,845 ------------ Total current assets 2,565,970 Property and equipment, net 547,819 Other noncurrent assets 40,930 ------------ Total assets $ 3,154,719 ============ Liabilities and stockholders' deficit Current liabilities: Accounts payable $ 220,235 Accrued liabilities 502,411 Current portion of capital lease obligation 4,520 Deferred revenues 42,391 ------------ Total current liabilities 769,557 Capital lease obligation, less current portion 10,620 Notes Payable - stockholder 5,501,900 Commitments and contingencies -- Stockholders' deficit: Preferred stock, $.001 par value: Authorized shares - 500,000; none issued and outstanding -- Common stock, $.001 par value, Authorized shares - 30,000,000; issued and outstanding - 17,452,164 17,452 Additional paid-in capital 35,516,248 Notes receivable from stockholders (1,040,524) Accumulated deficit (37,539,854) Accumulated other comprehensive loss (80,680) ------------ Total stockholders' deficit (3,127,358) ------------ Total liabilities and stockholders' deficit $ 3,154,719 ============ See accompanying notes to consolidated financial statements. 33 Puradyn Filter Technologies Incorporated Consolidated Statements of Operations Year Ended December 31 2004 2003 ---------------------------- Net sales $ 2,472,059 $ 1,906,517 Costs and expenses: Cost of products sold 2,525,981 2,282,450 Salaries and wages 1,661,923 1,728,358 Selling and administrative 1,591,100 1,667,291 ------------ ------------ 5,779,004 5,678,099 ------------ ------------ Loss from operations (3,306,945) (3,771,582) Other (expense) income: Interest income 53,560 51,344 Interest expense (334,383) (330,521) ------------ ------------ Total other expense (280,823) (279,177) ------------ ------------ Net loss $ (3,587,768) $ (4,050,759) ============ ============ Basic and diluted loss per common share $ (0.21) $ (0.26) ============ ============ Basic and diluted weighted average common shares Outstanding 17,278,448 15,726,140 ============ ============ See accompanying notes to consolidated financial statements. 34 Puradyn Filter Technologies Incorporated Consolidated Statements of Changes in Stockholders' Equity (Deficit)
Additional Notes Common Stock Paid-in Receivable Shares Amount Capital From Stockholders Balance at December 31, 2002 15,648,389 $15,648 $ 31,488,028 $ (875,256) Foreign currency translation adjustment -- -- -- -- Net loss -- -- -- -- Total comprehensive loss -- -- -- -- Exercise of stock options 43,775 44 42,622 -- Issuance of common stock in private placement, net 750,000 750 1,465,500 -- Issuance of warrants to stockholder -- -- 212,500 -- Issuance of stock options in lieu of Bonus -- -- 80,000 -- Reclassification of interest receivable related to notes receivable from stockholders -- -- -- (117,070) Compensation expense associated with warrant modification -- -- 2,000 -- Compensation expense associated with outstanding variable option awards -- -- 19,057 -- --------------------------------------------------------------- Balance at December 31, 2003 16,442,164 16,442 $ 33,309,707 $ (992,326) Foreign currency translation adjustment -- -- -- -- Net loss -- -- -- -- Total comprehensive loss -- -- -- -- Exercise of stock options 10,000 10 9,990 -- Issuance of common stock in private placement, net of issuance costs 1,000,000 1,000 1,978,359 -- Issuance of warrants to stockholder -- -- 112,500 -- Interest receivable related to notes receivable from stockholders -- -- -- (48,198) Compensation expense associated with warrant modification -- -- 282,750 -- Compensation expense associated with outstanding variable option awards -- -- (177,058) -- --------------------------------------------------------------- Balance at December 31, 2004 17,452,164 $17,452 $ 35,516,248 $ (1,040,524) =============================================================== [RESTUB] Accumulated Other Total Accumulated Comprehensive Stockholders' Deficit Income (Loss) Equity (Deficit) Balance at December 31, 2002 $(29,901,327) 7,969 $ 735,062 Foreign currency translation adjustment -- (51,791) (51,791) Net loss (4,050,759) -- (4,050,759) -------------------- Total comprehensive loss -- -- (4,102,550) Exercise of stock options -- -- 42,666 Issuance of common stock in private placement, net -- -- 1,466,250 Issuance of warrants to stockholder -- -- 212,500 Issuance of stock options in lieu of Bonus -- -- 80,000 Reclassification of interest receivable related to notes receivable from stockholders -- -- (117,070) Compensation expense associated with warrant modification -- -- 2,000 Compensation expense associated with outstanding variable option awards -- -- 19,057 ------------------------------------------------------ Balance at December 31, 2003 $(33,952,086) $(43,822) $(1,662,085) Foreign currency translation adjustment -- (36,858) (36,858) Net loss (3,587,768) -- (3,587,768) ------------------- Total comprehensive loss -- -- (3,624,626) Exercise of stock options -- -- 10,000 Issuance of common stock in private placement, net of issuance costs -- -- 1,979,359 Issuance of warrants to stockholder -- -- 112,500 Interest receivable related to notes receivable from stockholders -- -- (48,198) Compensation expense associated with warrant modification -- -- 282,750 Compensation expense associated with outstanding variable option awards -- -- (177,058) ------------------------------------------------------ Balance at December 31, 2004 $ (37,539,854) $(80,680) $(3,127,358) ======================================================
35 Puradyn Filter Technologies Incorporated Consolidated Statements of Cash Flows
YEAR ENDED DECEMBER 31 2004 2003 --------------------------- OPERATING ACTIVITIES Net loss $(3,587,768) $(4,050,759) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 244,248 237,491 Provision for bad debts 3,884 18,184 Amortization of deferred financing costs included in interest expense 158,422 173,967 Interest receivable from shareholders' notes (48,198) (48,067) Loss on disposal of property and equipment -- 2,280 Compensation expense on stock-based arrangements with employees and vendors 105,692 21,057 Changes in operating assets and liabilities: Accounts receivable (269,979) 151,880 Inventories (68,141) (39,851) Prepaid expenses and other current assets (182,718) 1,444 Other noncurrent assets 66,667 95,675 Accounts payable 125,095 (168,324) Accrued liabilities (6,410) 88,176 Deferred revenues 5,930 (69,535) Other noncurrent liabilities -- (263) ----------- ----------- Net cash used in operating activities (3,453,276) (3,586,645) INVESTING ACTIVITIES Purchases of property and equipment (132,782) (138,355) ----------- ----------- Net cash used in investing activities (132,782) (138,355) FINANCING ACTIVITIES Proceeds from sale of common stock, net of issuance costs 1,979,359 1,500,000 Proceeds from exercise of stock options 10,000 42,666 Proceeds from notes payable to stockholder 2,500,000 3,000,000 Payment of notes payable to stockholder (2,000,000) -- Proceeds from short term loan payable to officer -- 100,000 Payment of short term loan payable to officer -- (100,000) Payment of capital lease obligations (4,063) (4,069) ----------- ----------- Net cash provided by financing activities 2,485,296 4,538,597 Effect of exchange rate changes on cash and cash equivalents (36,858) (51,791) ----------- ----------- Net (decrease) increase in cash and cash equivalents (1,137,620) 761,806 Cash and cash equivalents at beginning of period 1,394,830 633,024 ----------- ----------- Cash and cash equivalents at end of period $ 257,210 $ 1,394,830 =========== =========== SUPPLEMENTAL CASH FLOW INFORMATION: Cash paid for interest $ 195,129 $ 147,721 =========== =========== NONCASH INVESTING AND FINANCING ACTIVITIES: Office equipment acquired under capital lease obligation $ -- $ 19,203 =========== =========== Common stock options issued in lieu of officer cash bonus $ -- $ 80,000 =========== =========== Warrants issued for deferred financing costs $ 112,500 $ 212,500 =========== ===========
See accompanying notes to consolidated financial statements. 36 Puradyn Filter Technologies Incorporated Notes to Consolidated Financial Statements December 31, 2004 1. SIGNIFICANT ACCOUNTING POLICIES Organization Puradyn Filter Technologies Incorporated (the "Company"), a Delaware corporation, is engaged in the manufacturing, distribution and sale of bypass oil filtration systems under the trademark Puradyn(R) primarily to companies with large fleets of vehicles and secondarily to original vehicle equipment manufacturer aftermarket programs. The Company holds the exclusive worldwide manufacturing and marketing rights for the Puradyn products pursuant to licenses for two patents and through direct ownership of various other patents. Puradyn Filter Technologies, Ltd. (Ltd.), a wholly owned subsidiary in the United Kingdom, sells and distributes the Company's products in Europe, the Middle East and certain African countries. The results of the operations of Ltd. have been included in the Company's statements of operations since Ltd.'s formation on June 1, 2000. New Accounting Pronouncements In December 2004, the Financial Accounting Standards Board (FASB), issued SFAS No. 123 (revised 2004), "Share-Based Payment" (SFAS 123R), which replaces SFAS No. 123, "Accounting for Stock-Based Compensation" (SFAS 123) and supercedes APB Opinion No. 25, "Accounting for Stock Issued to Employees." SFAS No. 123R requires all share-based payments to employees, including grants of employee stock options, to be recognized in the financial statements based on their fair values, beginning with the first interim or annual period after June 15, 2005. Small business filers will be required to adopt the provisions of SFAS No. 123R in the first interim or annual reporting period beginning after December 15, 2005. The grant-date fair value of employee share options and similar instruments will be estimated using an option-pricing model adjusted for any unique characteristics of a particular instrument. If an equity award is modified after the grant date, incremental compensation cost will be recognized in an amount equal to the excess of the fair value of the modified award over the fair value of the original award immediately before the modification. The Company has not yet determined the method of adoption or the effect of adopting SFAS No. 123R. In November 2004, the FASB issued Statement of Financial Accounting Standards No. 151, "Inventory Costs: an Amendment to ARB No. 43" (SFAS 151). This statement clarifies the types of costs that should be expensed rather than capitalized as inventory. This statement also clarifies the circumstances under which fixed overhead costs, such as abnormal amounts of idle facility expense, freight, handling costs and wasted material, associated with operating facilities involved in inventory processing should be expensed or capitalized. The provisions of this statement are effective for fiscal years beginning after June 15, 2005. Consequently, the Company adopted the standard in 2005. The adoption of the new interpretation did not have an effect on the Company's financial position or the results of its operations. In January 2003, the FASB issued Interpretation No. 46, Consolidation of Variable Interest Entities - an Interpretation of ARB No. 51 (FIN 46), which addresses consolidation of variable interest entities. FIN 46 expands the criteria for consideration in determining whether a variable interest entity should be consolidated by a business entity, and requires existing unconsolidated variable interest entities (which include, but are not limited to, Special Purpose Entities, or SPEs) to be consolidated by their primary beneficiaries if the entities do not effectively disperse risks among parties involved. This interpretation applies immediately to variable interest entities created after January 31, 2003, and to variable interest entities in which an enterprise obtains an interest after that date. Originally, FIN 46 applied to the first interim period beginning after June 15, 2003, to variable interest entities in which an enterprise holds a variable interest that it acquired before February 1, 2003. However, in December 2003, the FASB issued FASB Staff Position No. FIN 46-e, Effective Date of FASB Interpretation No. 46, Consolidation of Variable Interest Held by a Public Entity (FSP 46-e) that delayed the implementation date for the Company to the first interim or annual period ending after December 15, 2004. The Company does not anticipate that the adoption of the new interpretation will have an effect on the Company's financial position or the results of its operations. 37 In November 2002, the Emerging Issues Task Force (EITF) reached a consensus on EITF Issue No. 00-21, Revenue Arrangements with Multiple Deliverables (EITF 00-21). EITF 00-21 addresses certain aspects of the accounting by a company for arrangements under which it will perform multiple revenue-generating activities. In applying EITF 00-21, generally, separate contracts with the same customer that are entered into at or near the same time are presumed to have been negotiated as a package and should, therefore, be evaluated as a single contractual arrangement. It also addresses how contract consideration should be measured and allocated to the separate deliverables in the arrangement. This pronouncement is applicable to revenue arrangements entered into beginning in 2004. The adoption of the new pronouncement did not have an effect on the Company's financial position or the results of its operations. Principles of Consolidation The consolidated financial statements include the accounts of the Company and its wholly owned subsidiary, Puradyn Filter Technologies, Ltd. All significant intercompany transactions and balances have been eliminated. Revenue Recognition The Company recognizes revenue from product sales to customers, distributors and resellers when products that do not require further services or installation at the customer's site are shipped, there are no uncertainties surrounding customer acceptance and for which collectibility is reasonably assured in accordance with Staff Accounting Bulletin (SAB) No. 104, Revenue Recognition in Financial Statements as amended and interpreted. Cash received by the Company prior to revenue recognition is recorded as deferred revenues. Sales are made to customers under terms allowing certain limited rights of return and other limited product and performance warranties for which provision has been made in the accompanying consolidated financial statements. Amounts billed to customers in sales transactions related to shipping and handling, represent revenues earned for the goods provided and are included in net sales. Costs of shipping and handling are included in cost of products sold. Use of Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements. Actual results could differ from those estimates. Cash and Cash Equivalents Cash and cash equivalents include all highly liquid investments with original maturities of three months or less at the time of purchase. At December 31, 2004 and December 31, 2003, the Company did not have any cash equivalents. Fair Value of Financial Instruments The carrying amounts of cash and cash equivalents, accounts receivable, prepaid expenses and other assets, accounts payable, accrued liabilities and notes payable to stockholder approximate their fair values as of December 31, 2004 because of their short-term natures. Accounts Receivable Accounts receivable are recorded at fair value on the date revenue is recognized. The Company provides allowances for doubtful accounts for estimated losses resulting from the inability of its customers to repay their obligation. If the financial condition of the Company's customers were to deteriorate, resulting in an impairment of their ability to repay, additional allowances may be required. The Company provides for potential uncollectible accounts receivable based on specific customer identification and historical collection experience adjusted for existing market conditions. If market conditions decline, actual collection experience may not meet expectations and may result in decreased cash flows and increased bad debt expense. The policy for determining past due status is based on the contractual payment terms of each customer, which are generally net 30 or net 60 days. Once collection efforts by the Company and its collection agency are exhausted, the determination for charging off uncollectible receivables is made. Inventories Inventories are stated at the lower of cost or market using the first in, first out (FIFO) method. Production costs, consisting of labor and overhead, are applied to ending finished goods inventories at a rate based on estimated production capacity. Excess production costs are charged to cost of products sold. Provisions have been made to reduce excess or obsolete inventories to their net realizable value. 38 Deferred Financing Costs The Company capitalizes financing costs and amortizes them using the straight-line method, which approximates the effective interest method over the term of the related debt. Amortization of deferred financing costs is included in interest expense and totaled $139,672 and $173,697 for the years ended December 31, 2004 and 2003, respectively. The deferred financing costs related to the $2.5 million commitment provided by the Company's stockholder, who is also a Board Member, totaled $318,000 and were initially amortized over the nine-month draw down period ending December 31, 2002. Upon the first draw in August 2002, the amortization period was extended to 18 months or through December 31, 2003. On March 14, 2003, the Company recorded additional deferred financing costs of $214,400 related to an additional $3.5 million commitment provided by the same stockholder, with a payback date of December 31, 2004. The $214,400 of deferred financing costs is being amortized over the payback period. In addition, the repayment period for the $2.5 million commitment was extended to December 31, 2004. Effective March 14, 2003, the Company began amortizing the then remaining deferred financing costs for the $2.5 million commitment prospectively over the extended payback period. On February 2, 2004 the payback period for both commitments were extended to December 31, 2005 (see Note 2). On April 13, 2005 the pay back period for both commitments were further extended to December 31, 2006. Accumulated amortization of deferred financing costs as of December 31, 2004 and 2003 was $490,305 and $350,633, respectively. Property and Equipment Property and equipment are stated at cost. Depreciation and amortization are provided using the straight-line method over the estimated useful lives of the related assets, except for assets held under capital leases, for which the Company records depreciation and amortization based on the shorter of the asset's useful life or the term of the lease. The estimated useful lives of property and equipment range from 3 to 5 years. Upon sale or retirement, the cost and related accumulated depreciation and amortization are eliminated from their respective accounts, and the resulting gain or loss is included in results of operations. Repairs and maintenance charges, which do not increase the useful lives of the assets, are charged to operations as incurred. Impairment of Long-Lived Assets Management assesses the recoverability of its long-lived assets when indicators of impairment are present. If such indicators are present, recoverability of these assets is determined by comparing the undiscounted net cash flows estimated to result from those assets over the remaining life to the assets' net carrying amounts. If the estimated undiscounted net cash flows are less than the net carrying amount, the assets would be adjusted to their fair value, based on appraisal or the present value of the undiscounted net cash flows Product Warranty Costs In connection with the adoption of FIN 45, the Company is including the following disclosure applicable to its product warranties. The Company accrues for warranty costs based on the expected material and labor costs to provide warranty replacement products. The methodology used in determining the liability for warranty cost is based upon historical information and experience. The Company's warranty reserve is calculated as the gross sales multiplied by the historical warranty expense return rate. The following table shows the changes in the aggregate product warranty liability for the year ended December 31, 2004: Balance as of December 31, 2003 $ 42,573 Less: Payments made (38,109) Change in prior period estimate (4,273) Add: Provision for current period warranties 44,012 --------- Balance as of December 31, 2004 $ 44,203 ========= Guarantees In August 2003 the Company made a guarantee to its wholly owned subsidiary, Puradyn Filter Technologies, Ltd., that it would provide cash for working capital on an as needed basis for a minimum period of twelve months. The guarantee was provided as assurance that they will continue as a going concern for 2003. This guarantee is excluded from the recognition and measurement provisions of FIN 45, as it relates to a wholly owned consolidated subsidiary. 39 Comprehensive Income SFAS No. 130, Reporting Comprehensive Income (SFAS 130) establishes rules for reporting and displaying of comprehensive income and its components. Comprehensive income is the sum of net loss as reported in the consolidated statements of operations and other comprehensive income transactions as reported in the consolidated statement of changes in stockholders' equity (deficit). Other comprehensive income transactions that currently apply to the Company result from changes in exchange rates used in translating the financial statements of its wholly owned subsidiary, Ltd. Comprehensive income as of December 31, 2004 and 2003 is not shown net of taxes because the Company's deferred tax asset has been fully offset by a valuation allowance. Advertising Costs Advertising costs are expensed as incurred. During the years ended December 31, 2004 and 2003, advertising costs incurred by the Company totaled approximately $44,000 and $106,000, respectively, and are included in selling and administrative expenses in the accompanying consolidated statements of operations. Engineering and Development Engineering and development costs are expensed as incurred. During the years ended December 31, 2004 and 2003, engineering and development costs incurred by the Company totaled approximately $65,000 and $50,000, respectively, and are included in selling and administrative expenses in the accompanying consolidated statements of operations. Foreign Currency Translation The financial statements of the Company's foreign subsidiary have been translated into U.S. dollars in accordance with SFAS No. 52, Foreign Currency Translation (SFAS 52). All balance sheet accounts have been translated using the exchange rate in effect at the balance sheet date. Income statement amounts have been translated using an appropriately weighted average exchange rate for the year. The translation gains and losses resulting from the changes in exchange rates during 2004 and 2003 have been reported in accumulated other comprehensive income, except for gains and losses resulting from the translation of intercompany receivables and payables, which are included in earnings for the period. During the years ended December 31, 2004 and 2003, the Company recorded a foreign currency exchange rate gain of approximately $43,000 and $52,000, respectively, which is included in selling and administrative expenses in the accompanying consolidated statements of operations. Income Taxes The Company accounts for income taxes under SFAS No. 109, Accounting for Income Taxes (SFAS 109). Deferred income tax assets and liabilities are determined based upon differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. Stock Option Plans The Company accounts for its stock-based compensation plans under Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (APB 25) and FASB Interpretation No. 44, Accounting for Certain Transactions involving Stock Compensation (FIN 44), including related amendments and interpretations, and provides pro forma disclosures of the compensation expense determined under the fair value provisions of SFAS 123. The Company does not record compensation expense using the fair value provisions, because the alternative fair value accounting provided for under SFAS 123 requires the use of option valuation models that were not developed for use in valuing employee stock options. Under APB 25, since the exercise price of the Company's employee stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized. The Company leases its employees from a payroll leasing company. The Company's leased employees meet the definition of employees as specified by FIN 44 for purposes of applying APB 25. 40 Stock options and warrants issued to consultants and other non-employees as compensation for services provided to the Company are accounted for based on the fair value of the services provided or the estimated fair market value of the option or warrant, whichever is more reliably measurable in accordance with SFAS 123 and EITF 96-18, Accounting for Equity Investments That are Issued to Other Than Employees for Acquiring or in Conjunction with Selling Goods or Services, including related amendments and interpretations. The related expense is recognized over the period the services are provided. Pro forma information regarding net loss and loss per common share as if the Company had accounted for its employee stock options under the fair value method of SFAS 123 is presented below. For purposes of pro forma disclosure, the estimated fair value of the options is amortized to expense over the options' vesting period. The Company's pro forma information is as follows: Year Ended December 31 2004 2003 ----------------------------------- Net loss as reported $ (3,587,768) $ (4,050,759) Stock-based employee compensation cost (intrinsic value method) -- -- Fair value method stock option expense (602,182) (1,156,992) ------------- -------------- Pro forma net loss $ $ (4,189,950) (5,207,751) ============= ============== Loss per common share: Basic and diluted loss as reported (0.21) (0.26) Basic and diluted loss pro forma (0.24) (0.33) Weighted average fair value per option granted during the period(1) $ 1.13 $ 1.63 Assumptions: Average risk free interest rate 3.10% 2.19% Average volatility factor 1.014 1.210 Expected dividend yield 0% 0% Expected life (in years) 5.00 4.64 (1) A Black-Scholes option-pricing model was used to develop the fair values of the options granted. Credit Risk The Company minimizes the concentration of credit risk associated with its cash and cash equivalents by maintaining its cash and cash equivalents with high quality federally insured financial institutions. However, cash balances in excess of the FDIC insured limit of $100,000 are at risk. At December 31, 2004, the Company had a cash balance of $45,560 above the FDIC insured limit. The Company performs ongoing evaluations of its significant trade accounts receivable customers and generally does not require collateral. An allowance for doubtful accounts is maintained against trade accounts receivable at levels which management believes is sufficient to cover probable credit losses. There are concentrations of credit risk with respect to trade receivables due to the amounts owed by three customers at December 31, 2004 whose trade receivable balances each represented approximately 29%, 21%, and 12% for a total of 62% of total accounts receivable. The loss of business from one or a combination of the Company's significant customers, or an unexpected deterioration in their financial condition, could adversely affect the Company's operations. Basic and Diluted Loss Per Share The Company follows SFAS No. 128, Earnings Per Share (SFAS 128), which requires a dual presentation of basic and diluted earnings per share. However, because of the Company's net losses, the effects of stock options and warrants would be anti-dilutive and, accordingly, are excluded from the computation of earnings per share. The number of such shares excluded from the computations of diluted loss per share totaled 2,901,070 in 2004 and 2,763,570 in 2003. In March 2004, the Company issued 1,000,000 shares of common stock to a private placement investor (see Note 12). Reclassifications Certain prior year amounts have been reclassified to conform to the current year presentation. 41 2. ISSUES AFFECTING LIQUIDITY AND MANAGEMENT'S PLANS The Company's financial statements have been prepared on the basis that it will operate as a going concern, which comtemplates the realization of assets and satisfaction of liabilities in the normal course of business. The Company has incurred net losses each year since inception and has relied on the sale of its stock from time to time and loans from third parties and from related parties to fund its operations. These recurring operating losses, liabilities exceeding assets and the reliance on cash inflows from an institutional investor and current stockholder have led the Company's independent auditor DaszkalBolton to include a statement in its audit report relating to the Company's audited consolidated financial statements for the year ended December 31, 2004 expressing substantial doubt about the Company's ability to continue as a going concern. The Company is currently addressing the liquidity and working capital issues and is in the process of attempting to raise additional capital with institutional and private investors and current shareholders. Cost reductions have already been implemented by the Company, including acquiring alternative suppliers for raw materials, and it expects to see results from these reductions, as well as other cost reduction plans through 2005. Additionally, the Company is reviewing cost of material increases, which are expected to be passed through to its customers as price increases. The Company has sustained losses since inception in 1987 and used net cash in operations of approximately $3,453,000 and $3,587,000 during the years ended December 31, 2004 and 2003, respectively. As a result, the Company has had to rely principally on private equity funding, including the conversion of debt into stock, as well as stockholder loans to fund its activities to date. On March 28, 2002 and March 14, 2003, respectively, the Company executed a binding agreement with one of its stockholders, who is also a Board Member, to fund up to $2.5 million through March 31, 2003 and an additional $3.5 million through December 31, 2003. Under the terms of the agreements, the Company can draw amounts as needed in multiples of $500,000 to fund operations subject to Board of Director approval. Amounts drawn bear interest at the prime rate per annum (5.25% at December 31, 2004), payable monthly and were to become due and payable on December 31, 2003 and December 31, 2004, respectively, or upon a change in control of the Company or consummation of any other financing over $3.0 million or over $7.0 million in the aggregate. In March 2003, the payback date for the first agreement was extended to December 31, 2004. On February 2, 2004, the stockholder amended both agreements to extend the payback dates to December 31, 2005 and to waive the funding requirement mandating payback terms until such time as the Company has raised an additional $7.0 million over the $3.5 million raised in the Company's recent private placement offering; or until such time as the Company is operating within sufficient cash flow parameters, as defined, to sustain its operations; or until a disposition of the Company occurs. In March 2004, the Company had repaid $2.0 million of the $5.0 million it had drawn from the available funds. Both of the lines allow for discretionary principal payments, which add to the availability of additional funds that the Company may draw. During the twelve months ended December 31, 2004, the Company had drawn an additional $2,000,000 of the available balance. On March 22, 2005, the original $2.5 million funding agreement was increased to $2.65 million extending draw dates through March 31, 2005. In addition, as part of the February 2, 2004 amendment described above, the second agreement was amended to allow the Company to draw the remaining available balance through December 31, 2004. In consideration for the amendments, as well as for efforts in obtaining private placement funding, the Company granted the stockholder 150,000 common stock purchase warrants at an exercise price equal to the closing market price of the Company's stock on the date of grant (see Note12). In December 2003, the Company issued 750,000 shares of common stock for gross proceeds of $1.5 million from its recent private placement offering (approximately $1.47 million net of related expenses) to a third party investor. In March 2004, an additional 1.0 million shares of common stock were issued to the same investor for gross proceeds of $2.0 million (approximately $1.98 million net of related expenses.) The $2.0 million of gross proceeds was used to reduce the outstanding principal balance of the notes payable to stockholder. There is no assurance that the Company will raise any additional proceeds from future private placements. Subscriptions for the recent private placement expired on April 30, 2004. In April 2005, the payback dates of the March 28, 2002 and March 14, 2003 agreements were extended from December 31, 2005 to December 31, 2006. As consideration of this extension, this shareholder was granted an additional 100,000 common stock purchase warrants at an exercise price equal to the closing market price of the Company's stock on the date of grant. 42 The Company experienced a modest increase in cash flows from 2004 sales activity and anticipates additional increases in cash flows from 2005 sales activity; however, additional cash will still be needed to support operations. If additional capital is not raised, budgeted sales levels are not achieved and/or significant unanticipated expenditures occur, the Company will have to modify its business plan, reduce or discontinue some of its operations or seek a buyer for all or part of its assets to continue as a going concern through 2005. There can be no assurance that the Company will be able to raise the additional capital needed to continue as a going concern. 3. INVENTORIES At December 31, 2004, inventories consisted of the following: Raw materials $ 801,306 Finished goods 469,335 ------------- $ 1,270,641 ============= 4. PREPAID EXPENSES AND OTHER CURRENT ASSETS At December 31, 2004, prepaid expenses and other current assets consisted of the following: Prepaid expenses $ 135,407 Current portion of refundable security deposit 133,333 Retainer for investment banker 115,000 Deferred costs related to deferred revenue 27,884 ---------- $ 411,624 ========== 5. PROPERTY AND EQUIPMENT At December 31, 2004, property and equipment consisted of the following: Machinery and equipment $ 1,171,665 Furniture and fixtures 99,327 Leasehold improvements 122,622 Website development 72,960 Computer hardware and software 232,341 ------------ 1,698,915 Less accumulated depreciation and amortization (1,151,096) ------------ $ 547,819 ============ Depreciation and amortization expense of property and equipment for the years ended December 31, 2004 and 2003 is $244,248 and $237,491, respectively, of which approximately $156,000 and $136,000 is included in cost of products sold and approximately $88,000 and $101,000 is included in selling and administrative costs, respectively, in the accompanying consolidated statements of operations. 6. LEASES The Company leases its office and warehouse facilities in Boynton Beach, Florida under a long-term noncancellable lease agreement, which contains renewal options and rent escalation clauses. A $235,000 security deposit was paid in 2002, which will be refunded ratably on an annual basis over the first three years of the lease term beginning on the last day of the first lease year, provided there has been no Event of Default, as defined, by the Company. Of this amount, $66,667 was paid to the Company in November 2003 and January 2005, respectively. As of December 31, 2004, $133,333 is included in prepaid expenses and other current assets and the remainder is included in other noncurrent assets in the accompanying consolidated balance sheet. The total minimum lease payments over the term of the lease aggregate approximately $774,000. The terms of the lease include a period of free rent and scheduled annual rate increases. As such, rent expense is recognized on a straight-line basis over the 68-month term of the lease. The Company leases a condominium in Ocean Ridge, Florida to provide accommodations for Company use. The lease is renewable annually and is paid in two six-month installments. 43 The Company's wholly owned subsidiary, Ltd., rented office space in Devon, England under a lease that extended through March 31, 2002 and was subsequently extended on a month-to-month basis. In September 2003, Ltd. moved to new office space by assuming the existing lease, which expired in August 2004 and are currently in the process of negotiating a new lease and expect the lease terms to remain similar to the current agreement. Rent expense under all operating leases for the years ended December 31, 2004 and 2003 totaled approximately $274,000 and $257,000, respectively, of which approximately $210,000 and $199,000 is included in cost of products sold and approximately $64,000 and $58,000 is included in selling and administrative costs, respectively, in the accompanying consolidated statements of operations. In December 2003, the Company entered into a capital lease obligation for the purchase of approximately $19,000 of office equipment, which is included in property and equipment, net of approximately $5,000 of accumulated amortization, in the accompanying consolidated balance sheet. Future minimum lease commitments due for facilities and equipment leases under noncancellable capital and operating leases at December 31, 2004 are as follows: CAPITAL OPERATING LEASES LEASES ------------------------ 2005 $ 5,922 $ 151,645 2006 5,922 156,194 2007 5,922 160,880 2008 -- 96,421 2009 and thereafter -- ------------------------ Total minimum lease payments 17,766 $ 565,140 ========== Less amount representing interest (2,626) -------- Present value of minimum lease payments including current portion of $4,520 $ 15,140 ======== 7. ACCRUED LIABILITIES At December 31, 2004, accrued liabilities consisted of the following: Accrued wages and benefits $ 175,043 Accrued expenses relating to vendors and others 111,275 Deferral of straight-line rent expense 75,977 Reclassified accounts receivable credit balances 86,238 Accrued warranty costs 44,203 Accrued interest payable relating to shareholder notes 9,675 ---------- $ 502,411 ========== 8. LONG-TERM DEBT Notes Payable to Stockholder On March 28, 2002 and March 14, 2003, respectively, the Company executed a binding agreement with one of its stockholders, who is also a Board Member, to fund up to $2.5 million through March 31, 2003 and an additional $3.5 million through December 31, 2003. Under the terms of the agreements, the Company can draw amounts as needed in multiples of $500,000 to fund operations subject to Board of Director approval. Amounts drawn bear interest at the prime rate per annum (5.25% at December 31, 2004), payable monthly and were to become due and payable on December 31, 2003 and December 31, 2004, respectively, or upon a change in control of the Company or consummation of any other financing over $3.0 million or over $7.0 million in the aggregate. In March 2003, the payback date for the first agreement was extended to December 31, 2004. 44 On February 2, 2004, the stockholder amended both agreements to extend the payback dates to December 31, 2005 and to waive the funding requirement mandating payback terms until such time as the Company has raised an additional $7.0 million over the $3.5 million raised in the Company's recent private placement offering; or until such time as the Company is operating within sufficient cash flow parameters, as defined, to sustain its operations; or until a disposition of the Company occurs. In March 2004, the Company had repaid $2.0 million of the $5.0 million it had drawn from the available funds. Both of the lines allow for discretionary principal payments, which add to the availability of additional funds that the Company may draw. During the year ended December 31, 2004, the Company had drawn an additional $2,000,000 of the available balance. In March 2005, an additional $500,000 draw was made, leaving no available balance. On March 22, 2005 the original $2.5 million funding agreement was amended to increase the funds available to $2.65 million and in March, 2005, that draw was made, leaving no available balance. In addition, as part of the February 2, 2004 amendment described above, the second agreement was amended to allow the Company to draw the remaining available balance through December 31, 2004. In consideration for the amendments, as well as for efforts in obtaining private placement funding, the Company granted the stockholder 150,000 common stock purchase warrants at an exercise price equal to the closing market price of the Company's stock on the date of grant (see Note 12). On February 4, 2005, the second agreement was amended again to allow the Company to draw the remaining available balance ($500,000 as of December 31, 2004) through March 31, 2005. In April 2005, the payback dates of the March 28, 2002 and March 14, 2003 agreements were extended from December 31, 2005 to December 31, 2006. As consideration of this extension, this shareholder was granted an additional 100,000 comon stock purchase warrants at an exercise price equal to the closing market price of the Company's stock on the date of grant, for a period of five years. During the years ended December 31, 2004 and 2003, the Company incurred interest expense of approximately $191,000 and $152,000, respectively, on its draws, which is included in interest expense in the accompanying consolidated statements of operations. Maturities of Long-Term Obligations for Five Years and Beyond Long-term obligations consisted of the following at December 31, 2004: Notes payable to shareholder - LOC #1 $ 2,501,900 Notes payable to shareholder - LOC #2 3,000,000 Capital lease obligation 15,140 ----------- 5,517,040 Less: current maturities (4,520) ----------- $ 5,512,520 =========== The minimum annual principal payments of notes payable and capital lease obligations at December 31, 2004 were: 2005 $ 4,520 2006 5,506,928 2007 5,592 ----------- $ 5,517,040 =========== 9. INCOME TAXES The United States and foreign components of loss from continuing operations before income taxes are as follows for the years ended December 31: 2004 2003 ---- ---- United States $(3,365,969) $(3,901,744) Foreign (221,799) (200,900) Intercompany elimination 50,032 51,885 ----------------------------- $(3,587,768) $(4,050,759) The significant components of the Company's net deferred tax assets are as follows for the years ended December 31: Deferred tax assets: 2004 2003 Net operating loss carryforwards $ 11,155,010 $ 9,900,413 Depreciation and amortization 90,904 82,118 Accrued expenses and reserves 70,099 74,245 Impairment loss 78,304 78,304 Compensatory stock options and warrants 57,354 57,354 Capital Loss Carryover 40,632 40,632 Other 16,421 16,251 ----------------------------- Total deferred tax assets 11,508,724 10,249,317 Valuation allowance (11,508,724) (10,249,317) ----------------------------- Net deferred tax assets $ -- $ -- ============================= 45 SFAS 109 requires a valuation allowance to reduce the deferred tax assets reported if, based on the weight of the evidence, it is more likely than not that some portion or all of the deferred tax assets will not be realized. After consideration of all the evidence, both positive and negative, management has determined that a full valuation allowance of $11,508,724 against its net deferred taxes is necessary as of December 31, 2004. The change in valuation allowance for the years ended December 31, 2004 and 2003 is $1,259,407 and $1,495,133 respectively. At December 31, 2004, the Company had approximately $31,012,000 of U.S. net operating loss carryforwards remaining, which expire beginning in 2019. The Company will record the benefit of approximately $1,368,000 of the net operating loss carryforwards through additional paid-in capital if and when the net operating loss carryforwards are utilized, as such amounts relate to the unrecognized tax benefit from stock option exercises. As a result of certain ownership changes, the Company may be subject to an annual limitation on the utilization of its U.S. net operating loss carryforwards pursuant to Section 382 of the Internal Revenue Code. A study to determine the effect, if any, of this change has not been undertaken. A reconciliation of the Company's income taxes to amounts calculated at the federal statutory rate is as follows for the years ended December 31: 2004 2003 ------------------------ Federal statutory taxes (34.00)% (34.00)% State income taxes, net of federal tax benefit (3.63) (3.63) Nondeductible items 0.23 0.19 Change in valuation allowance 37.42 38.32 Other (.02) (.88) ------------------------ --% --% ======================== 10. CONTINGENCIES MALT LITIGATION In connection with the Company being granted worldwide manufacturing and marketing rights for certain of the Purifiner products, a royalty agreement was entered into with a term equal to the life of the related patents or any improvements thereto. Pursuant to this royalty agreement, the owner of the patents was to receive 5% of the net unit sale price of all covered Purifiner products, as defined. Additionally, 1% of the net sales price of replacement oil filter elements was to be paid as a royalty on certain Puradyn filters for the use of the U.S. Purifiner trademark. The Company is no longer retaining the Purifiner patents or trademarks and accordingly is not renewing them upon expiration. In May 1994, the Company and the patent owner entered into a settlement agreement relating to royalties under which the patent owner was entitled to a minimum annual royalty of $24,000, payable in monthly installments of $2,000. In February 1997, the patent owner filed an action against the Company for nonpayment of approximately $20,000 of royalties claimed by him, seeking a permanent injunction against the Company's manufacturing and selling of the covered Purifiner products. On March 2, 1999, the trial court ruled that the patent owner was not entitled to any injunctive relief but was entitled to $20,169 in past royalties, which the Company paid. The patent owner filed a motion for additional damages and attorney fees and on December 13, 2000, the Court found the patent owner was entitled to an additional $15,505. The Company appealed that judgment but paid the additional judgment. Thereafter, on February 22, 2002, the trial court ordered the Company to pay the sum of $18,049 for the patent owner's attorney's fees and court costs, for which the Company posted a bond in the amount of $22,238 to secure payment. That order was appealed and combined with the first appeal. On April 24th, 2002, the judgment for attorney's fees and court costs was reversed. In May 2002, the bond was discharged and in June 2002, the funds were released to the Company. In April 2003, the patent owner posed two discovery requests, in order to extend the time remaining before automatic dismissal of his claim. On May 27, 2004, the Company filed responses to the interrogatories. The Court sent notices to certain current and one former employee of the Company to take depositions in August 2004, which are now pending a rescheduling date. The Company does not believe the likelihood of an unfavorable outcome is probable. 46 INVESTMENT BANKING AGREEMENT On December 18, 2003, the Company entered into a one-year agreement with an investment-banking firm in Boca Raton, Florida, to assist in raising approximately $3.0 to $5.0 million in equity capital. The Company agreed to pay a fee of 7% of any gross proceeds received by the Company as a result of this firm's services, as well as all reasonable out-of-pocket fees, expenses and costs in connection with the performance of its services under the agreement. The agreement excluded the capital raised in December 2003 and March 2004. On October 22, 2004, the agreement was mutually terminated. No equity capital was raised pursuant to this agreement. On October 26, 2004, the Company engaged Imperial Capital, LLC ("IC") as an exclusive financial advisor to the Company. IC will assist the Company in raising additional capital, as well as possibly pursuing a strategic partner from a mutually related field to enhance the Company's ability to develop business. In consideration for IC's services, the Company agreed to pay a $100,000 non-refundable retainer, as well as an advance for future out-of-pocket expenses incurred by IC. Upon the consummation of a transaction, as defined by the agreement, the Company will pay a success fee of 2.5% of the principal amount of any debt or equity securities sold or the consideration received from a strategic relationship. The agreement may be terminated by either party upon 30-day written notice. 11. STOCK OPTIONS The Company has three stock option plans, one adopted in 1996 and amended in July 1997 (the "1996 Option Plan"), one adopted in September 1999 and amended in June 2000 (the "1999 Option Plan"), and one adopted on November 8, 2000 (the "Directors' Plan"). The 1996 Option Plan provides for the granting of up to 2,200,000 options, the 1999 Option Plan provides for the granting of up to 3,000,000 options and the Directors' Plan provides for the granting of up to 400,000 options. Both the 1996 and 1999 Plan provide for the granting of both incentive and non-qualified stock options to key personnel, including officers, directors, consultants and advisors to the Company, at the discretion of the Board of Directors. Each plan limits the exercise price of the options at no less than the quoted market price of the common stock on the date of grant. The option term is determined by the Board of the Directors or the Compensation Committee, provided that no option may be exercisable more than 10 years after the date of its grant and, in the case of an Incentive Option granted to an eligible employee owning more than 10% of the Company's common stock, no more than five years after the date of the grant. Generally, under the 1996 and 1999 plans, options to employees vest over four years at 25% per annum, except for certain grants to employees that vest 50% upon grant with remaining amounts over two years at 25% per annum. The Directors' Plan provides for the granting of non-qualified options to members of the Board of Directors at exercise prices not less than the quoted market price of the common stock on the date of grant and options expire five years from the date of grant. In the event a person ceases to serve on the Board of Directors, the outstanding options expire one year from the date of cessation of service. Such options may be exercised commencing two years from the date of grant. During each of 2004 and 2003, 27,500 of options were issued to non-employee Directors. Additional information concerning the activity in the three option plans is as follows:
2004 2003 ----------------------------- --------------------------- Weighted Weighted Average Average Exercise Exercise Options Price Options Price ----------------------------- --------------------------- Outstanding, beginning of year 2,338,570 $ 3.75 2,285,845 $ 3.87 Granted 107,500 1.76 290,500 1.99 Exercised (10,000) 1.00 (43,775) .97 Expired (110,000) 3.75 (194,000) 3.07 ----------------------------- --------------------------- Outstanding, end of year 2,326,070 3.68 2,338,570 3.75 ============== ============== Exercisable, end of year 2,041,320 $ 3.88 1,808,070 $ 3.78 ============== ============== Options available for future grant, end of year 958,755 956,255 ============== ==============
47 Summarized information with respect to options outstanding under the three option plans at December 31, 2004 is as follows:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ------------------------------------------------ ------------------------------- REMAINING AVERAGE WEIGHTED WEIGHTED RANGE OF NUMBER CONTRACTUAL AVERAGE NUMBER AVERAGE EXERCISE PRICE OUTSTANDING LIFE (IN YEARS) EXERCISE PRICE EXERCISABLE EXERCISE PRICE - ------------------------------------------------------------------------------------------------------ $ .21 - $ 1.70 876,900 5.2 $ .89 819,400 $ .86 1.86 - 4.50 703,795 5.4 2.60 476,545 2.66 4.81 - 6.81 257,875 1.4 5.96 257,875 5.96 8.50 - 9.25 487,500 3.8 9.07 487,500 9.07 ----------------------------------------------------------------------------------- Totals 2,326,070 4.8 $ 3.68 ,041,320 $ 3.88 ===================================================================================
On March 9, 2004, the Company extended the expiration date of the exercise period of 270,000 fully vested stock options for a terminated employee who left the Company in August 2003. The Company's Stock Option Plan permits an employee to exercise their stock options for up to one month after their termination date, at which time they expire. The exercise price of the options ranges from $1.00 to $8.50. In accordance with FIN 44, the Company compared the options' intrinsic value on the modification date to the original intrinsic value on the date of grant. The Company recorded approximately $263,000 of compensation expense related to this modification, which was included in the consolidated statement of operations for the year ending December 31, 2004. 12. COMMON STOCK On December 10, 2003, the Company received $1,500,000 for the issuance of 750,000 shares of common stock from a third party private placement investor. Issuance costs of $33,750 were related to this issuance. Included in this amount is $18,750 for services rendered to raise private placement funding by the individual who is both a stockholder and a Board Member, and who has provided funding to the Company since 2002. In February 2004, this same stockholder was granted 150,000 warrants to purchase common stock, in consideration for the amendments to extend the payback periods of the notes payable to stockholder to December 31, 2005, the extension of the remaining available draws on the second commitment letter through December 31, 2004, as well as for services related to raising private placement funding. The fair value of the warrants was estimated at $112,500 on the date of grant using a Black-Scholes option-pricing model, and was allocated between costs of the private placement investment and deferred financing costs. The Company accrued $18,750 of the fair value related to the services rendered by the stockholder in association with the private placement funds raised in December 2003 and recorded a deferred charge of $93,750 in 2004 for the amendments to the commitment agreements. (see Note 2). On March 12, 2004, the Company received gross cash proceeds of $2,000,000 from the sale of 1,000,000 shares of common stock from its private placement offering. The funds were used to reduce the outstanding principal balance of the notes payable to stockholder. The Company then drew amounts, per the terms of the stockholder commitment letters dated March 28, 2002 and March 14, 2003, and amendments thereto, as needed, for operating and capital expenditures. The related offering costs were $35,520. 13. WARRANTS At December 31, 2004 and 2003, 575,000 and 440,000 shares, respectively, of common stock have been reserved for issuance under outstanding warrants. All of the warrants are fully vested and have expiration dates ranging from January 15, 2004 to March 14, 2008. Information concerning the Company's warrant activity is as follows:
2004 2003 ------------------------- -------------------------- WEIGHTED AVERAGE WEIGHTED AVERAGE EXERCISE EXERCISE ------------------------- -------------------------- OPTIONS PRICE OPTIONS PRICE -------------- ---------- ------------- ------------ Outstanding, at the beginning of year 440,000 $ 2.79 369,067 $ 3.16 Granted 150,000 2.00 125,000 2.25 Exercised -- -- -- -- Expired (15,000) 3.50 (54,067) 4.11 ------------------------- ------------ -------------- Outstanding, at the end of year 575,000 $ 2.56 440,000 $ 2.79 ========================= ===========================
48 On March 28, 2002, the Company recorded a deferred charge of $318,000 for the issuance of 100,000 fully vested warrants to purchase common stock relating to a financing agreement with one of its stockholders to fund up to $2.5 million through March 31, 2003 (see Note 2). The fair value of the deferred charge was estimated at the date of grant using a Black-Scholes option pricing model with the following assumptions: risk free interest rate of 4.65%, volatility factor of the expected market price of the Company's common stock of 1.385, a dividend yield of zero, and a weighted average expected life of 3 years. The warrants have an exercise price of $4.05, which was equal to quoted market value on the date of grant. The deferred charge was initially amortized over the commitment period and subsequently revised to include the repayment period, as amended. During the years ended December 31, 2004 and 2003, the Company had amortized approximately $45,000 and $80,000 of such costs, respectively, which are included in interest expense in the accompanying consolidated statements of operations. On March 14, 2003, the Company recorded a deferred charge of $212,500 for the issuance of 125,000 fully vested warrants to purchase common stock relating to a second financing agreement with the same stockholder to fund up to $3.5 million through December 31, 2004 (see Note 2). The fair value of the deferred charge was estimated at the date of grant using a Black-Scholes option pricing model with the following assumptions: risk free interest rate of 2.24%, volatility factor of the expected market price of the Company's common stock of 1.142, a dividend yield of zero, and a weighted average expected life of 4 years. The warrants have an exercise price of $2.25, which was equal to quoted market value on the date of grant. The deferred charge is being amortized over the repayment period of 21.5 months. During the year ended December 31, 2004, the Company had amortized approximately $94,000 of such costs, which is included in interest expense in the accompanying 2004 consolidated statement of operations. On November 21, 2003, the Company extended the life of a director's warrant to purchase 100,000 shares of common stock that was issued in December 1999 and was fully vested. The expiration date of the warrant was extended from December 2003 to December 2004. The fair value of the modified warrant was estimated at the date of grant using a Black-Scholes option pricing model with the following assumptions: risk free interest rate of 1.33%, volatility factor of the expected market price of the Company's common stock of .367, a dividend yield of zero, and a weighted average expected life of 1 year. The warrants have an exercise price of $1.00. The difference in the fair value of the old award and the new award was estimated to be $2,000, and is included in selling and administrative expenses in the accompanying 2003 consolidated statement of operations. On December 15, 2004, the Company extended the life of this same director's warrants by one year. The expiration date of the warrant was extended from December 2004 to December 2005. The fair value of the modified warrant was estimated at the date of grant using a Black-Scholes option pricing model and the difference in the fair value of the old award and the new award was estimated to be $20,000. 14. MAJOR CUSTOMERS During 2004 and 2003, two and three customers together accounted for approximately 37% and 45%, respectively, of the Company's net sales. In 2004 there were two customers that individually accounted for greater than 10% of net sales, or approximately $523,000 and $397,000, while in 2003 there were three customers that individually accounted for greater than 10% of net sales, or approximately $334,000, $300,000 and $221,000. There were three customers in 2004 whose trade receivable balances equaled or exceeded 5% of total receivables, representing approximately 29%, 21%, and 12% respectively, of total accounts receivable. The loss of business from one or a combination of the Company's significant customers could adversely affect its operations. 49 15. GEOGRAPHIC INFORMATION The Company has two lines of product, which it manufactures and distributes from its locations in the United States and the United Kingdom. Information with respect to sales activity and long-lived assets (consisting entirely of property and equipment) in the United States and United Kingdom is as follows: YEAR ENDED DECEMBER 31 2004 2003 --------------------------- Net sales: United States $1,686,775 $1,318,180 United Kingdom 785,284 588,337 --------------------------- $2,472,059 $1,906,517 =========================== Long-lived assets by area: United States $ 495,386 United Kingdom 52,433 ----------- $ 547,819 =========== 16. SUBSEQUENT EVENTS On April 14, 2005, the repayment dates of the notes payables to stockholder, dated March 28, 2002 and March 14, 2003, were extended from December 31, 2005 to December 31, 2006. As consideration of this extension, this shareholder was granted an additional 100,000 common stock purchase warrants at an exercise price equal to the closing market price of the Company's stock on the date of grant, for a period of five years. The fair value of the warrants was estimated at $74,000. 50 EX-23.1 2 exh231.txt CONSENT EXHIBIT 23.1 Consent of Independent Registered Public Accounting Firm We consent to the incorporation by reference in the Registration Statement (Form S-8 No. 333-69340) pertaining to the 2000 Non-Employee Directors' Stock Plan and Compensatory Plan with Oscar Otero of Puradyn Filter Technologies Incorporated and the Registration Statement (Form S-8 No. 333-47312) pertaining to the 1999 Stock Option Plan of Puradyn Filter Technologies Incorporated, as amended, of our report dated February 24, 2004, except for the matters discussed in the last paragraph of Note 11 and the third paragraph of Note 12, as to which the date is March 12, 2004, with respect to the consolidated financial statements for the year ended December 31, 2003 of Puradyn Filter Technologies Incorporated included in the Annual Report (Form 10-KSB) for the year ended December 31, 2004. /s/Ernst & Young LLP Certified Public Accountants West Palm Beach, Florida April 13, 2005 CONSENT OF DASZKAL BOLTON LLP CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS We consent to the reference to our firm under the caption "Experts" in the Registration Statement (Form S-8) pertaining to the 2000 Non-Employee Directors' Stock Plan and Compensatory Plan with Oscar Otero of Puradyn Filter Technologies Incorporated and to the incorporation by reference therein of our report dated March 16, 2005, with respect to the consolidated financial statements of Puradyn Filter Technologies Incorporated included in its Annual Report (Form 10-KSB), for the year ended December 31, 2004, filed with the Securities and Exchange Commission. Daszkal Bolton LLP Certified Public Accountants Boca Raton, Florida April 15, 2005 EX-31.1 3 exh311.txt FORD CERTIFICATION EXHIBIT 31.1 PURADYN FILTER TECHNOLOGIES INCORPORATED CERTIFICATION PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, Richard C. Ford, Chief Executive Officer, certify that: 1. I have reviewed this annual report on Form 10-KSB of Puradyn Filter Technologies Incorporated (the "Company"); 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the small business issuer as of, and for, the periods presented in this annual report; 4. The small business issuer's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the small business issuer and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the small business issuer, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; and b) Evaluated the effectiveness of the small business issuer's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the year covered by this report based on such evaluation; and c) Disclosed in this report any change in the small business issuer's internal control over financial reporting that occurred during the small business issuer's annual report that has materially affected, or is reasonably likely to materially affect, the small business issuer's internal control over financial reporting; and 5. The small business issuer's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the small business issuer's auditors and the audit committee of small business issuer's board of directors (or persons performing the equivalent function): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the small business issuer's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the small business issuer's internal control over financial reporting. Date: April 15, 2005 /s/ Richard C. Ford ------------------- Richard C. Ford Chief Executive Officer EX-31.2 4 exh312.txt GIMLER CERTIFICATION EXHIBIT 31.2 PURADYN FILTER TECHNOLOGIES INCORPORATED CERTIFICATION PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, Cindy Lea Gimler, Chief Financial Officer, certify that: 1. I have reviewed this annual report on Form 10-KSB of Puradyn Filter Technologies Incorporated (the "Company"); 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the small business issuer as of, and for, the periods presented in this annual report; 4. The small business issuer's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the small business issuer and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the small business issuer, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b) Evaluated the effectiveness of the small business issuer's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the year covered by this report based on such evaluation; and c) Disclosed in this report any change in the small business issuer's internal control over financial reporting that occurred during the small business issuer's most recent annual report that has materially affected, or is reasonably likely to materially affect, the small business issuer's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the small business issuer's board of directors (or persons performing the equivalent function): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the small business issuer's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: April 15, 2005 /s/ Cindy Lea Gimler ----------------------- Cindy Lea Gimler Chief Financial Officer EX-32.1 5 exh321.txt FORD CERT CEO EXHIBIT 32.1 CERTIFICATION OF CHIEF EXECUTIVE OFFICER Pursuant to Section 906 of the Sarbanes-Oxley Act 2002 (18 U.S.C. 1350), the undersigned, Richard C. Ford, Chief Executive Officer of Puradyn Filter Technologies Incorporated ("the Company") has executed this certification in connection with the filing with the Securities and Exchange Commission of the Company's Annual Report on Form 10-KSB for the year ended December 31, 2004 (the "Report"). The undersigned certifies that: (1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operation of the Company. IN WITNESS WHEREOF, the undersigned has executed this certification as of the 15th day of April 2005. /s/ Richard C. ------------------------ Name: Richard C. Ford Title: Chief Executive Officer EX-32.2 6 exh322.txt GIMLER CERT CFO EXHIBIT 32.2 CERTIFICATION OF CHIEF FINANCIAL OFFICER Pursuant to Section 906 of the Sarbanes-Oxley Act 2002 (18 U.S.C. 1350), the undersigned, Cindy Lea Gimler, Chief Financial Officer of Puradyn Filter Technologies Incorporated ("the Company") has executed this certification in connection with the filing with the Securities and Exchange Commission of the Company's Annual Report on Form 10-KSB for the year ended December 31, 2004 (the "Report"). The undersigned certifies that: (1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operation of the Company. IN WITNESS WHEREOF, the undersigned has executed this certification as of the 15th day of April 2005. /s Cindy Lea Gimler ------------------------------ Name: Cindy Lea Gimler Title: Chief Financial Officer -----END PRIVACY-ENHANCED MESSAGE-----