-----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, NNkc8FT4i6dS6RQrepR32HGrgIWMmiU+G6RcJcJ4RbS9UgtKfm04oJeCOA1ufFtN v1kzKlNP4iY6/fmuM+oGKw== 0001279715-06-000014.txt : 20060519 0001279715-06-000014.hdr.sgml : 20060519 20060519154629 ACCESSION NUMBER: 0001279715-06-000014 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 20060331 FILED AS OF DATE: 20060519 DATE AS OF CHANGE: 20060519 FILER: COMPANY DATA: COMPANY CONFORMED NAME: NATIONAL PATENT DEVELOPMENT CORP CENTRAL INDEX KEY: 0001279715 STANDARD INDUSTRIAL CLASSIFICATION: MISCELLANEOUS MANUFACTURING INDUSTRIES [3990] IRS NUMBER: 134005439 STATE OF INCORPORATION: DE FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-50587 FILM NUMBER: 06855325 BUSINESS ADDRESS: STREET 1: 777 WESTCHESTER AVE. STREET 2: FOURTH FLOOR CITY: WHITE PLAINS STATE: NY ZIP: 10640 10-Q 1 np10q306.txt NATIONAL PATENT DEVELOPMENT CORPORATION FORM 10-Q FOR THE FIRST QUARTER ENDED MARCH 31, 2006 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 2006 OR [ ] TRANSITION REPORT PURSAUNT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to -------------------------------------------------- Commission File Number: 333-118568 --------------------------------------------------------- NATIONAL PATENT DEVELOPMENT CORPORATION (Exact Name of Registrant as Specified in its Charter) Delaware 13-4005439 - ------------------------------------ ---------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization Identification No.) 777 Westchester Avenue, White Plains, NY 10604 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip code) (914) 249-9700 - -------------------------------------------------------------------------------- (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange act of 1934 during the preceding 12 months (or for such shorter period) that the registrant was required to file such reports and (2) has been subject to such filing requirements for the past 90 days. Yes X No Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12(b)-2 of the Exchange Act). Yes No X Indicate the number of shares outstanding of each of issuer's classes of common stock as of May 15, 2006: Common Stock 17,836,815 shares NATIONAL PATENT DEVELOPMENT CORPORATION AND SUBSIDIARIES TABLE OF CONTENTS Page No. Part I. Financial Information Item 1. Financial Statements Condensed Consolidated Statements of Operations- Three Months Ended March 31, 2006 and 2005 (Unaudited) 1 Condensed Consolidated Statements of Comprehensive Loss- Three Months Ended March 31, 2006 and 2005 (Unaudited) 2 Condensed Consolidated Balance Sheets - March 31, 2006 (Unaudited) and December 31, 2005 3 Condensed Consolidated Statements of Cash Flows - Three Months Ended March 31, 2006 and 2005 (Unaudited) 4 Notes to Condensed Consolidated Financial Statements 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 15 Item 3. Quantitative and Qualitative Disclosure about Market Risk 25 Item 4. Controls and Procedures 25 Part II. Other Information Item 1. Legal Proceedings 26 Item 1A. Risk Factors 26 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 27 Item 3. Defaults Upon Senior Securities 27 Item 4. Submission of Matters to a Vote of Security Holders 27 Item 5. Other Information 27 Item 6. Exhibits 27 Signatures 28 PART I. FINANCIAL INFORMATION NATIONAL PATENT DEVELOPMENT CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited) (in thousands, except per share data) Three Months Ended March 31, 2006 2005 ---- ---- Sales $31,205 $30,077 Cost of sales 25,829 25,528 ------- ------- Gross margin 5,376 4,549 Selling, general and administrative expenses (4,842) (5,110) --------- --------- Operating profit (loss) 534 (561) Interest expense (379) (372) Investment and other income 34 163 ------- -------- Income (loss) before income taxes and minority interest 189 (770) Income tax expense (238) (43) ---------- --------- Loss before minority interest (49) (813) Minority interest (100) (7) ----------- --------- Net loss $ (149) $ (820) ========= ========= Net loss per share Basic and diluted $ (0.01) $ (0.05) ========= =========
See accompanying notes to consolidated financial statements. NATIONAL PATENT DEVELOPMENT CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (Unaudited) (in thousands)
Three Months Ended March 31, 2006 2005 ----- ---- Net loss $ (149) $ (820) Other comprehensive income (loss), before tax: Net unrealized gain on available-for-sale-securities 4,025 769 Reclassification adjustment for gain on securities sold included in net loss (152) Net unrealized gain on interest rate swap, net of minority interest 45 151 ------- -------- Comprehensive income (loss) before tax 3,921 (52) Income tax expense related to items of other comprehensive loss (18) (63) ------- ------- Comprehensive income (loss) $ 3,903 $ (115) ======= =======
See accompanying notes to consolidated financial statements. 2 NATIONAL PATENT DEVELOPMENT CORPORATION CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands)
March 31, December 31, 2006 2005 ---- ---- (unaudited) Assets Current assets Cash and cash equivalents $ 5,072 $ 5,115 Accounts receivable, less allowance for doubtful accounts of $401 and $480 19,621 12,083 Receivable from GP Strategies Corporation 946 1,142 Inventories 26,904 24,021 Prepaid expenses and other current assets 852 997 Deferred tax asset 308 352 ------ ------ Total current assets 53,703 43,710 Marketable securities available for sale 584 477 Property, plant and equipment, net 3,030 3,085 Investment in Valera, including available for sale securities of $4,533 in 2006 5,779 1,590 Other assets 3,434 3,360 --------- --------- Total assets $66,530 $52,222 ======= ======= Liabilities and stockholder's equity Current liabilities Current maturities of long-term debt $ 226 $ 291 Short term borrowings 22,095 20,764 Accounts payable and accrued expenses 18,586 9,566 -------- ------ Total current liabilities 40,907 30,621 Long-term debt less current maturities 1,079 1,106 Deferred tax liability 279 279 Interest rate collar, at market 25 20 Minority interest 1,842 1,727 Stockholder's equity Common Stock 178 178 Additional paid-in capital 25,947 25,921 Accumulated deficit (7,911) (7,762) Accumulated other comprehensive income 4,184 132 ------------- --------- Total stockholder's equity 22,398 18,469 ---------- -------- Total liabilities and stockholder's equity $66,530 $52,222 ======= =======
See accompanying notes to consolidated financial statements. 3 NATIONAL PATENT DEVELOPMENT CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (in thousands)
Three Months Ended March 31, 2006 2005 ---- ---- Cash flows from operations: Net loss $ (149) $ (820) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 186 177 Minority interest 100 7 Expenses paid in common stock 26 Deferred income taxes 44 Net gain on marketable securities (152) Loss on sale of fixed assets 79 Changes in other operating items (1,554) (9,116) -------- -------- Net cash used in operations (1,347) (9,825) Cash flows from investing activities: Additions to property, plant and equipment, net (131) (550) Proceeds from sale of investments 1,002 Proceeds from sale of fixed assets - 33 Repayment of receivable from GP Strategies 196 - --- ----- Net cash provided by investing activities 65 485 Cash flows from financing activities: Contribution from GP Strategies 5,000 Proceeds from short-term borrowings 1,331 10,221 Repayment of long-term debt (92) (1,690) -------- ----------- Net cash provided by financing activities 1,239 13,531 ------- -------- Net increase (decrease) in cash and cash equivalents (43) 4,191 Cash and cash equivalents at beginning of period 5,115 2,087 ---------- ---------- Cash and cash equivalents at end of period $5,072 $6,278 ======== ========
See accompanying notes to the condensed consolidated financial statements. 4 NATIONAL PATENT DEVELOPMENT CORPORATION AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements (Unaudited) 1. Basis of presentation and summary of significant accounting policies Basis of presentation The accompanying Condensed Consolidated Balance Sheet as of March 31, 2006 and the Condensed Consolidated Statements of Operations and Cash Flows for the three months ended March 31, 2006 and 2005 have not been audited, but have been prepared in conformity with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. These financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto for the year ended December 31, 2005 as presented in our Annual Report on Form 10-K. In the opinion of management, this interim information includes all material adjustments, which are of a normal and recurring nature, necessary for a fair presentation. The results for the 2006 interim periods are not necessarily indicative of results to be expected for the entire year. Description of business. National Patent Development Corporation (the "Company" or "National Patent Development "), through its wholly owned subsidiary, MXL Industries, Inc. ("MXL"), manufactures polycarbonate parts requiring strict adherence to optical quality specifications, and in the application of abrasion and fog resistant coating to these parts. Products include shields and face masks and non-optical plastic products. The Company's 64% owned subsidiary, Five Star Products, Inc. ("Five Star"), is engaged in the wholesale distribution of home decorating, hardware and finishing products. It serves over 3,500 independent retail dealers in twelve states in the Northeast. Products distributed include paint sundry items, interior and exterior stains, brushes, rollers, caulking compounds and hardware products Revenue recognition. Revenue on product sales is recognized at the point in time when the product has been shipped, title and risk of loss has been transferred to the customer, and the following conditions are met: persuasive evidence of an arrangement exists, the price is fixed and determinable, and collectibility of the resulting receivable is reasonably assured. Allowances for estimated returns and allowances are recognized when sales are recorded. Shipping and handling costs. Shipping and handling costs are included as a part of selling, general and administrative expense. These cost amounted to $1,244,000 and $1,228,000, for the three months ended March 31, 2006 and 2005, respectively. Inventories. Inventories are valued at the lower of cost or market, using the first-in, first-out method. Derivatives and hedging activities. The interest rate swap and interest rate collar entered into by Five Star in connection with its Loan and Security Agreement (see Note 5) is being accounted for under SFAS No. 133, as amended, "Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133 requires all derivatives to be recognized in the balance sheet at fair value. Derivatives that are not hedges must be adjusted to fair value through earnings. 5 If the derivative is a cash flow hedge, changes in the fair value of the derivative are recognized in other comprehensive income until the hedged item is recognized in earnings. The ineffective portion of a derivative's change in fair value is immediately recognized in earnings. Changes in the fair value of the interest rate swap, which has been designated as a cash flow hedge, are recognized in other comprehensive income. Changes in the fair value of the interest rate collar are recognized in earnings. For the three months ended March 31, 2006 and 2005 the Company recognized losses of $5,000 and $25,000, respectively, as part of other income for the changes in the fair value of the interest rate collar. 2. Stock based compensation. The Company and Five Star have stock-based compensation plans for employees and non-employee members of the Board of Directors. The plans provide for discretionary grants of stock options, restricted stock shares, and other stock-based awards. The plans are administered by the Compensation Committee of the Board of Directors, consisting of non-employee directors. Effective January 1, 2006, the Company and Five Star adopted Statement of Financial Accounting Standards No. 123 (revised 2004), "Share-Based Payment", ("SFAS 123R"), utilizing the modified prospective method whereby prior periods will not be restated for comparability. SFAS 123R requires recognition of stock-based compensation expense in the statement of operations over the vesting period based on the fair value of the award at the grant date. Previously, the Company used the intrinsic value method under Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25"), as amended by related interpretations of the FASB. Under APB 25, no compensation cost was recognized for stock options because the quoted market price of the stock at the grant date was equal to the amount per share the employee had to pay to acquire the stock after fulfilling the vesting period. SFAS 123R supersedes APB 25 as well as Statement of Financial Accounting Standard 123 "Accounting for Stock-Based Compensation", which permitted pro forma footnote disclosures to report the difference between the fair value method and the intrinsic value method. As of December 31, 2005 and March 31, 2006, no awards have been granted under the Company's plan. In addition, during the three months ended March 31, 2006, Five Star did not grant any stock options or any other stock-based awards under its plan, and therefore the adoption of this pronouncement did not have a material effect on the Company's consolidated results of operations for the three months ended March 31, 2006. At March 31, 2006, Five Star had 1,100,000 options outstanding all of which were exercisable under its stock option plan with an aggregate weighted average price of $.14 per share and a contractual remaining life of .8 years. The aggregate intrinsic value of the options outstanding at March 31, 2006 was $40,000. 6 The following table provides the pro forma effect on net earnings as if the fair-value-based measurement method had been applied to all stock-based compensation for the three months ended March 31, 2005 (in thousands, except per share amounts): Three months ended March 31, 2005 Net loss - As reported $(820) Compensation expense, net of tax Five Star stock options (1) (2) -------- Pro forma net loss $(822) Basic and diluted loss per share As reported $(.05) Pro forma net loss per share $(.05) (1) Expense relates to option grants made by Five Star prior to the acquisition of a controlling interest in Five Star by the Company. 3. Per share data Basic and diluted loss per share for the three months ended March 31, 2006 and 2005 is based upon the actual number of National Patent Development shares outstanding for the period. Outstanding warrants to acquire 1,423,887 common shares issued in December 2004 were not included in the 2006 and 2005 diluted computation, as their effect would be anti-dilutive. Loss per share for the three months ended March 31, 2006 and 2005 are as follows (in thousands, except per share amounts): Three months ended March 31, 2006 2005 ---- ---- Basic and Diluted EPS Net loss $(149) $(820) Weighted average shares outstanding, basic and diluted 17,825 17,799 Basic and diluted loss per share $(.01) $(.05) 7 4. Long-term debt Long-term debt Long-term debt is comprised of the following (in thousands): March 31, December 31, 2006 2005 ------- ------- MXL Pennsylvania Mortgage (a) $1,180 $1,205 Other debt 124 186 Capital lease obligations 1 6 ------- - 1,305 1,397 ------- ------- Less current maturities (226) (291) --------- ------ $1,079 $1,106 (a) The loan which is collateralized by real estate and fixtures, requires monthly repayments of $8,333 plus interest at 2.5% above the one month LIBOR rate and matures on March 8, 2011, when the remaining amount outstanding of approximately $680,000 is due in full. The loan is guaranteed by GP Strategies Corporation ("GPS"). 5. Short term borrowings Five Star short-term borrowings In 2003, Five Star obtained a Loan and Security Agreement (the "Loan Agreement") with Bank of America Business Capital (formerly Fleet Capital Corporation) (the "Lender"). The Loan Agreement has a five-year term, with a maturity date of June 30, 2008. The Loan Agreement, as amended in August 1, 2005 provides for a $35,000,000 revolving credit facility, which allows Five Star to borrow based upon a formula of up to 65% of eligible inventory and 85% of eligible accounts receivable, as defined therein. The interest rates under the Loan Agreement consist of LIBOR plus a credit spread of 1.5% (7.07% at March 31, 2006) for borrowings not to exceed $15,000,000 and the prime rate (7.75% at March 31, 2006) for borrowings in excess of the above-mentioned LIBOR-based borrowings. The credit spreads can be reduced in the event that Five Star achieves and maintains certain performance benchmarks. At March 31, 2006 and December 31, 2005, approximately $21,120,000 and $19,764,000 was outstanding under the Loan Agreement and approximately $6,885,000 and $1,451,000 was available to be borrowed, respectively. Substantially all of Five Star's assets are pledged as collateral for these borrowings. Under the Loan Agreement Five Star is subject to covenants requiring minimum net worth, limitations on losses, if any, and minimum or maximum values for certain financial ratios. As of March 31, 2006 Five Star was in compliance with all required covenants. 8 In connection with the Loan Agreement, Five Star also entered into a derivative transaction with the Lender. The derivative transaction is an interest rate swap and has been designated as a cash flow hedge. Effective July 1, 2004 through June 30, 2008, Five Star will pay a fixed interest rate of 3.38% to the Lender on notional principal of $12,000,000. In return, the Lender will pay to Five Star a floating rate, namely, LIBOR, on the same notional principal amount. The credit spread under the new Loan Agreement is not included in, and will be paid in addition to this fixed interest rate of 3.38%. The fair value of the interest rate swap amounted to $466,000 and $395,000 at March 31, 2006 and December 31, 2005, respectively and is included in other assets in the accompanying balance sheets. On June 17, 2004, Five Star also entered into a derivative interest rate collar transaction during the period from July 1, 2004 through June 30, 2008 on notional principal of $12,000,000. The transaction consists of an interest rate floor of 2.25%, whereas if LIBOR is below 2.25%, the Lender will pay to Five Star the difference between LIBOR and 2.25%, on the same notional principal amount. The transaction also consists of an interest rate cap of 5.75%, whereas if LIBOR is above 5.75%, Five Star will pay to the Lender the difference between LIBOR and 5.75%, on the same notional principal amount. MXL short-term borrowings On March 1, 2005, MXL obtained a Line of Credit Loan (the "MXL Line") from M&T Bank with a one year term, maturing on March 1, 2006, which has been extended to June 30, 2006 on the same terms. The MXL Line provides for a $1,000,000 revolving credit facility, which is secured by MXL's eligible accounts receivable, inventory and a secondary claim on the Lancaster, PA property. The interest rates under the MXL Line consist of LIBOR plus a credit spread of 3% or the prime rate plus a credit spread of 0.25%. The MXL Line is subject to an unused commitment fee of 0.25% of the average daily unused balance of the line payable quarterly. National Patent Development has guaranteed the MXL Line. At March 31, 2006, $950,000 was outstanding under the MXL Line and $50,000 was available to be borrowed. The MXL Line contains certain financial covenants, most significant being a cash flow coverage ratio of 1.25 to 1.00, which is calculated at December 31. 6. Inventories Inventories are comprised of the following (in thousands): March 31, 2006 December 31, 2005 -------------- ----------------- Raw materials $ 346 $ 386 Work in process 221 113 Finished goods 26,337 23,522 ------- -------- $26,904 $24,021 ======= ======= 9 7. Investment in Valera Pharmaceuticals, Inc. ("Valera") Valera is a specialty pharmaceutical company engaged in the development and commercialization of prescription pharmaceuticals principally utilizing Valera's patented Hydron drug delivery technology. Valera's lead product is a twelve-month implant that delivers histrelin, a synthetic nonapeptide agonist of luteinizing hormone-releasing hormone (LHRH). LHRH agonists have become a mainstay in treating locally advanced and metastatic prostate cancer. On October 13, 2004, Valera announced that the FDA approved the marketing of Vantas(TM), the name for Valera's long-acting LHRH implant for treating prostate cancer. Prior to June 2000, Valera operated as a division of GPS. In connection with an offering of GPS 6% Convertible Subordinated Exchangeable Notes due June 2003, Valera was incorporated as a separate company and became a wholly-owned subsidiary of GP Strategies through GP Strategies' ownership of 100% of the common stock of Valera. In December 2001, Valera completed a $7 million private placement of Series A convertible preferred stock to certain institutional investors. As a condition of the private placement, GP Strategies contractually gave up operating control over Valera through an Investors Rights Agreement, which gave GPS the right to designate one director on Valera's board of directors and gave the other stockholders the right to designate the other directors, and subsequent thereto accounted for the investment under the equity method. As a result of Valera operating losses, GPS investment was written down to zero. In 2003, Valera completed a private placement offering pursuant to which Valera raised approximately $13.5 million in gross proceeds from the sale of Series B convertible preferred stock. As part of such transaction, GPS was granted an option until March 31, 2004, to purchase up to $5 million of the Series B convertible preferred stock at the offering price of $0.725 per share, which was subsequently verbally extended to June 30, 2004. On June 30, 2004, GPS transferred a portion of its option to an institutional investor, who exercised such option and purchased from Valera 3,448,276 shares of Series B convertible preferred stock for $0.725 per share. The balance of the option expired unexercised. In consideration of such transfer, such institutional investor granted the Company an option until October 28, 2004 to purchase up to 2,068,966 shares of Series B convertible preferred stock owned by such institutional investor for prices ranging from $0.725 to $0.7685 per share. The Company exercised such option on October 28, 2004 at a price of $0.7685 per share, for an aggregate exercise price of $1,590,000. On November 12, 2004, the Company obtained the funds necessary to pay the exercise price (see Note 9(a)). On August 16, 2004, Valera sold 11,600,000 shares of Series C convertible preferred stock and received gross proceeds of $11.6 million. As of December 31, 2005 and 2004, the Company owned 10,000,000 shares of Valera common stock and 2,068,966 shares of Valera series B convertible preferred stock. Assuming conversion of all of the outstanding shares of Series A, Series B and Series C convertible preferred stock and exercise of stock options held by employees of Valera at December 31, 2005, the Company would own approximately 18% of Valera. On February 7, 2006 Valera completed an initial public offering of 3,862,500 shares 10 of common stock at $9.00 per share. All the convertible preferred stock outstanding at the time of the offering, including accrued dividends, automatically converted into common stock. In addition, Valera effected a 1 for 6 reverse split of common stock. Subsequent to the public offering after giving effect to the conversion of the Series B preferred stock and the reverse split the Company owned 2,070,670 shares of Valera common stock or approximately 14% of the outstanding shares of common stock. The Company entered into a lock-up agreement with the underwriters of the public offering which restricts the Company from selling or otherwise disposing of its shares of Valera common stock for a period of 180 days from February 1, 2006. On October 17, 2003, MXL received from GPS in partial payment of a note receivable the common shares of Valera and recorded such shares at zero representing their carrying amount to GPS. As a result of the Investors Rights Agreement referred to above, the Company was accounting for its investment in Valera under the equity method. However as the Company had not guaranteed obligations of Valera and had not otherwise committed to provide further support for Valera, it had discontinued recognizing additional losses of Valera. As described above, the Company's investment in voting stock of Valera has declined below 20%. In addition, at December 31, 2005 Valera's board of directors consists of nine directors only one of which has been designated by the Company. Accordingly the Company believes that it no longer has the ability to exercise significant influence over operating and financial policies of Valera and no longer accounts for its investment in Valera by the equity method. As a result thereof, as of December 31, 2005 the investment in Valera's Series B convertible preferred stock is being accounted for at cost. As a result of the initial public offering, the Company's investment in Valera's common stock became a marketable security and accordingly, at March 31, 2006, the investment, to the extent of shares available to be sold within a year at any balance sheet date under Rule 144 or an effective registration statement, has been classified as available for sale securities and measured at fair value with the adjustment to fair value and changes therein to be retained by the Company recorded in other comprehensive income. The remainder of the investment is considered restricted and will continue to be carried at cost. In addition, if it is determined that the Company is no longer an affiliate, the shares would become freely tradable after the initial six month lock-up period. The Valera shares available for sale over the next 12 months at March 31, 2006 totaled 446,566 and resulted in an unrealized gain of $3,919,000 being included in accumulated other comprehensive income as of such date. Two related parties, Bedford Oak Partners and Mr. Jerome I. Feldman, are entitled to receive 50% of any profit received from the sale, on a pro-rata basis, of 404,004 shares of Valera common stock in excess of $3.94 per share (see Note 9(a)). The unrealized profit on Valera shares available for sale at March 31, 2006 which would be payable to the related parties upon sale totaled $271,000, which is included in Accounts payable and accrued expenses on the March 31, 2006 balance sheet. 11 8. Business segments The operations of the Company currently consist of the following two business segments, by which the Company is managed. The MXL Segment manufactures precision coated and molded optical plastic products. MXL is a specialist in the manufacture of polycarbonate parts requiring adherence to strict optical quality specifications, and in the application of abrasion and fog resistant coatings to those parts. The Five Star Segment distributes paint sundry items, interior and exterior stains, brushes, rollers, caulking compounds and hardware products on a regional basis. The following tables set forth the sales and operating income (loss) of each of the Company's operating segments (in thousands): Three months ended March 31, 2006 2005 ---- ---- Sales Five Star $28,952 $28,239 MXL 2,253 1,838 --------- --------- $31,205 $30,077 Three months ended March 31, 2006 2005 ---- ---- Segment operating income (loss) Five Star $ 920 $ 478 MXL 94 (504) ----- -------- $1,014 $(26) A reconciliation of the segment operating income (loss) to loss before income taxes and minority interest in the condensed consolidated statements of operations is shown below (in thousands): Three months ended March 31, 2006 2005 ---- ---- Segment operating income (loss) $1,014 $(26) Corporate and other general and administrative expenses (480) (535) Interest expense (379) (372) Investment and other income 34 163 ------- -------- Income (loss) before income taxes and minority interest $189 $(770) 12 9. Related party transactions a) On November 12, 2004, the Company entered into an agreement to borrow approximately $1,022,000 from Bedford Oak Partners, which is controlled by Harvey P. Eisen, a director of the Company, and approximately $568,000 from Jerome I. Feldman, who is Chairman and Chief Executive Officer of the Company, to exercise the option to purchase Series B Convertible Preferred shares of Valera. The loans bore interest at 6% per annum, matured on October 31, 2009, and were secured by all shares of Valera owned by the Company, including the purchased shares. Bedford Oak Partners and Jerome I. Feldman are entitled to receive 50% of any profit received by the Company from the sale on a pro-rata basis of the Valera purchased shares. On January 11, 2005, the Company prepaid the loans, including accrued interest of approximately $16,000, to Bedford Oak Partners and Jerome I. Feldman out of the proceeds from the claims relating to the Learning Technologies acquisition. b) Certain of the Company's executive officers are also executive officers of GP Strategies and will remain on GPS' payroll. The executive officers do not receive any salary from the Company; however, they provide the Company with management services under a management agreement between GPS and the Company. Services under the agreement relate to corporate federal and state income taxes, corporate legal services, corporate secretarial administrative support, and executive management consulting. The term of the agreement extends for three years from the date of the spin-off, or through November 24, 2007, and may be terminated by either the Company or GPS on or after July 30, 2006 with 180 days prior written notice. Prior to July 1, 2005 GPS charged the Company a management fee to cover an allocable portion of the compensation of these officers, based on the time they spent providing services to the Company, in addition to an allocable portion of certain other corporate expenses. Effective July 1, 2005 GPS and the Company amended the above management agreement. Pursuant to the amendment, the Company will pay GPS an annual fee of not less than $970,000 as compensation for these services, payable in equal monthly installments. The fee includes $698,000 for the period July 1, 2005 through June 30, 2006, representing approximately 80% of the cost of the compensation and benefits required to be provided by GPS to Jerome Feldman, who serves as the Company's Chief Executive Officer. Such fee shall be increased by 80% of any increase of the cost of the compensation and benefits required to be provided by GPS to Mr. Feldman; in addition, the Company shall remain liable for paying to GPS 80% of the cost of the compensation and benefits required to be provided by GPS to Mr. Feldman if the management agreement expires, is terminated, or is otherwise not extended through May 31, 2007. The Company paid GPS approximately $216,000 for the quarter ended March 31, 2006 as compensation for services. The Company also occupies a portion of corporate office space leased by GPS. The Company compensates GPS approximately an additional $205,000 annually for use of this space. GPS' lease extends through December 31, 2006. 13 10. Subsequent event On May 9, 2006 the Company announced that it and its 64% owned subsidiary Five Star had signed a non-binding letter of intent with FLJ Partners, LLC ("FLJ") providing for the sale by the Company to FLJ of its approximately 64% interest in Five Star for $2,950,000, or approximately $.3230 per share. The Company and Five Star have agreed to negotiate exclusively with FLJ with respect to Five Star until May 31, 2006. The letter of intent, which is subject to a number of conditions including, without limitation, due diligence by FLJ, the negotiation and execution of definitive agreements, and possible third party consents, contemplates that (i) FLJ will create a newly formed entity ("Newco"), which will enter into a merger agreement with Five Star and a stock purchase agreement with the Company, (ii) Newco will commence a tender offer for all of Five Star's outstanding shares, at the same $.3230 price per share that it will pay for the Company's Five Star stock, (iii) after the expiration of the tender offer, FLJ will consummate a merger providing any non-tendering holders of Five Star shares with the same consideration as those who tendered, and (iv) upon consummation of the merger, FLJ would cause Five Star to repay its $2.8 million note to the Company, together with all accrued interest. As a result of the above, if and when the Company enters into a final agreement to sell its Five Star shares, Five Star will be reflected as a discontinued operation in the Company's consolidated financial statements. There can be no assurances that the proposed transactions will be consummated, either on the terms set forth in the letter of intent or at all. 14 NATIONAL PATENT DEVELOPMENT CORPORATION AND SUBSIDIARIES Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations General Overview The Company operates in two segments: MXL and Five Star. The Company also owns certain other non-core assets, including investments in 2 publicly held companies, Millennium Cell and Valera Pharmaceuticals; and certain real estate. National Patent Development monitors Millennium Cell for progress in the commercialization of Millennium Cell's emerging technology and monitors Valera Pharmaceuticals for progress in the sales efforts related to their product. MXL Overview The primary business of MXL is the manufacture of polycarbonate parts requiring adherence to strict optical quality specifications, and the application of abrasion and fog resistant coatings to those parts. MXL also designs and constructs injection molds for a variety of applications. Some of the products that MXL produces include: o facemasks and shields for recreation purposes and industrial safety companies, o precision optical systems, including medical optics, military eye wear and custom molded and decorated products, and o tools, including optical injection mold tools and standard injection mold tools. MXL's manufactures and sells its products to various commercial and government customers, who utilize MXL's parts to manufacture products that will be ultimately delivered to the end-user. MXL's government customers include various offices of the Department of Defense, while MXL's commercial customers are primarily in the recreation, safety, and security industries. Some of MXL's consumer based products are considered to be at the high-end of their respective markets. As a result, sales of MXL's products may decline together with a decline in discretionary consumer spending; therefore a key performance indicator that the Company's management uses to manage the business is the level of discretionary spending in key markets, specifically the United States and Japan. Other key performance measures used by the Company's management to run the business include: o consumer confidence indices in key markets, o sales levels of complementary items in the recreational vehicle market, such as motorcycles, RV's and snowmobiles, o levels of defense spending, and o new OSHA safety standards. 15 MXL believes that the principal strengths of its business are its state-of-the-art injection molding equipment, advanced production technology, high quality standards, and on time deliveries. However, due to the focused nature of the market, MXL has a limited customer base and tends to be adversely affected by a loss in business from its significant customers. As a result of losses of business from certain of its key customers, MXL sales and operating profits for the past several years have shown a declining trend, reflecting a loss in market share. To reverse the declining sales trend, a new management team with significant sales and marketing experience has was established in 2004. To further grow, MXL not only intends to regain market share in its existing market, but to leverage its expertise as a molder and coater of optical quality products by expanding into other markets and products. However, due to the spin-off from GP Strategies, MXL may have less financial resources at its disposal with which to support and grow the business, as National Patent Development has a smaller market capitalization and less access to capital markets than GP Strategies. Five Star Overview Five Star is a publicly held company that is a leading distributor in the United States of home decorating, hardware, and finishing products. Five Star offers products from leading manufacturers in the home improvement industry and distributes those products to retail dealers, which include lumber yards, "do-it yourself" centers, hardware stores and paint stores. Five Star has grown to be one of the largest independent distributors in the Northeast United States by providing a complete line of competitively priced products, timely delivery and attractive pricing and financing terms to its customers. The following key factors affect Five Star's financial and operation performance: o its ability to negotiate the lowest prices from its suppliers, o its ability to increase revenue by obtaining new customers, while maintaining a level fixed cost structure by utilizing its existing warehouses, o the housing market in general, o consumers' confidence in the economy, o consumers' willingness to invest in their homes, and o weather conditions that are conducive to home improvement projects. The following key performance measures are utilized by the Company's management to run Five Star's business: o new U.S. housing starts, o sales of existing homes, o sales of high margin products to its customers, o purchases from each vendor, and o performance benchmarks used by Home Depot and Lowe's, such as number of stores and square footage, as well as financial benchmarks. 16 Five Star operates in the Home Improvement market, which has grown in recent years and for which the Home Improvement Research Institute predicts average annual industry growth of nearly 5% for the next several years. Nonetheless, Five Star faces intense competition from large national distributors, smaller regional distributors, and manufacturers that bypass the distributor and sell directly to the retail outlet. The principal means of competition for Five Star are its strategically placed distribution centers and its extensive inventory of quality, name-brand products. In addition, Five Star's customers face stiff competition from Home Depot and Lowe's, which purchase directly from manufacturers. As a result of such competition, while the Home Improvement market has expanded significantly in recent years, Five Star's revenue has increased only incrementally, and such revenue would have declined if Five Star had not entered into new geographic sales territories as described below. In spite of this, the independent retailers that are Five Star's customers remain a viable alternative to Home Depot and Lowe's, due to the shopping preferences of and the retailer's geographic convenience for some consumers. Five Star has also established a presence in the Mid-Atlantic States, servicing customers as far south as North Carolina, which has generated additional annual revenues of approximately $10.4 million. Five Star services this territory from its existing New Jersey warehouse, enabling Five Star to leverage its fixed costs over a broader revenue base. To further expand, Five Star will attempt to grow its revenue base in the Mid-Atlantic States, to acquire complementary distributors and to expand the distribution of its use of private-label products sold under the "Five Star" name. However, due to the spin-off from GPS, Five Star has less financial resources at its disposal with which to support and grow the business, as the Company has a smaller market capitalization and less access to capital markets than GPS. On May 9, 2006 the Company announced that it and its 64% owned subsidiary Five Star had signed a non-binding letter of intent with FLJ Partners, LLC ("FLJ") providing for the sale by the Company to FLJ of its approximately 64% interest in Five Star for $2,950,000, or approximately $.3230 per share. As a result of the above, Five Star will be reflected as a discontinued operation in the Company's consolidated financial statements if and when the Company enters into a final agreement to sell its Five Star shares. There can be no assurances that the proposed transactions will be consummated, either on the terms set forth in the letter of intent or at all. Operating Highlights Three months ended March 31, 2006 compared to the three months ended March 31, 2005 For the three months ended March 31, 2006, the Company had net income before income tax expense and minority interests of $189,000 compared to a loss before income tax expense and minority interests of $770,000 for the three months ended March 31, 2005. The change in pre-tax income of $959,000 is primarily a result of increased gross margin at both Five Star and MXL totaling $827,000, as well as reduced corporate and other general and administrative expenses of $268,000, partially offset by reduced investment and other income of $129,000. 17 Sales Three months ended March 31, 2006 2005 ---- ---- Five Star $28,952,000 $28,239,000 MXL 2,253,000 1,838,000 ------------- ------------- $31,205,000 $30,077,000 The increase in Five Star sales of $713,000 during the quarter ended March 31, 2006, were the result of a small increase in unit sales as well increased prices from major vendors that were passed on to the Five Star's customers, effective January 1, 2006. The increase in MXL sales of $415,000 was a result of increased sales volume and prices from existing customers resulting from a concerted effort to expand sales opportunities with existing customers. Of the increased sales approximately $100,000 was attributable to MXL's second largest customer. Gross margin Three months ended March 31, ---------------------------------------------------- ------------- --------- ----------------- ---------- 2006 % 2005 % ------ - ------- - Five Star $4,768,000 16.5 $4,404,000 15.6 MXL 608,000 27.0 145,000 7.9 ---------- ------ ------------ ----- $5,376,000 17.2 $4,549,000 15.1 ---------- ---- ---------- ---- Five Star's gross margin increased to $4,768,000, or 16.5% of net sales, for the quarter ended March 31, 2006, as compared to $4,404,000, or 15.6% of net sales, for the quarter ended March 31, 2005. The increase in gross margin dollars and gross margin percentage for the quarter ended March 31, 2006 was primarily driven by Five Star's efforts to restructure its pricing strategies, less aggressive trade show pricing and a reduction in direct shipments to customers, which historically generate lower gross margins, with a number of vendors, including its major exterior stain supplier and 2 of its largest hardware vendors. In addition, Five Star achieved reduced warehouse expenses due to the elimination of an outside warehouse as a result of reduced inventory levels as compared to March 31, 2005. MXL gross profit of $608,000, or 27% of sales, for the quarter ended March 31, 2006 increased by $463,000 when compared to gross profit of $145,000, or 7.9% of sales, for the quarter ended March 31, 2005, mainly due to the following; (i) increased margins in all product lines due to increased pricing, (ii) reduced business with low margin customers, (iii) reduced costs due to exiting the Massachusetts facility and the consolidation of all MXL's injection molding and precision coating operations at its Lancaster PA facility. 18 Selling, general, and administrative expenses For the three months ended March 31, 2006, selling, general and administrative expenses decreased by $268,000 from $5,110,000 for the three months ended March 31, 2005 to $4,842,000 partially due to the following; (i) reduced general and administrative expenses of $52,000 at the Company corporate level, (ii) reduced selling, general and administrative expenses at Five Star of $78,000 primarily attributable to a $175,000 recovery of bad debts written off in prior years, partially offset by increased delivery expenses due to rising fuel prices,(iii ) reduced selling, general and administrative expenses of $135,000 at MXL primarily due to reduced facility costs related to closing of the Massachusetts facility in 2005, as well as increased operating efficiencies. Investment and other income, net The Company recognized investment and other income of $34,000 for the three months ended March 31, 2006 compared to gains of $163,000 for the three months ended March 31, 2005. The reduced investment and other income, is primarily due to a gain of $152,000 realized on the sale of Millennium Cell, Inc. common stock during the three months ended March 31, 2005. Income taxes For the three months ended March 31, 2006 and 2005, the Company recorded an income tax expense of $238,000, or an effective rate of 126% and an income tax expense of $43,000, or an effective tax rate of 5.6%, respectively, which represents the Company's applicable federal, state and local tax expense for the periods. The provision for income taxes differs from the tax computed at the federal statutory income tax rate due primarily to recording income tax expense on the income of Five Star, a 64% owned subsidiary, which is not included in the Company's consolidated return and not recording income tax benefit for the losses of National Patent and MXL. Liquidity and capital resources At March 31, 2006, the Company had cash and cash equivalents totaling of $5,072,000. The Company believes that cash, investments on hand and borrowing availability under existing credit agreements will be sufficient to fund the Company's working capital requirements for at least the next twelve months. For the three months ended March 31, 2006, the Company's working capital decreased by $293,000 to $12,796,000 from $13,089,000 as of December 31, 2005. The working capital decrease was primarily a result of a net loss for the period. The decrease in cash and cash equivalents of $43,000 for the three months ended March 31, 2006 resulted from net cash used in operations of $1,347,000, due primarily to a net loss of $149,000, an increase in accounts receivable of $7,538,000, an increase in inventory of $2,883,000, partially offset by an increase in accounts payable and accrued expenses of $8,750,000; net cash 19 provided by investing activities of $65,000, consisting of repayment of a receivable from GPS of $196,000, partially offset by purchases of property, plant and equipment of $131,000; and net cash provided by financing activities of $1,239,000, consisting of proceeds of short term borrowings of 1,331,000, offset by repayments of long-term debt of $92,000. On March 1, 2005, MXL obtained a Line of Credit Loan (the "MXL Line") from M&T Bank with a one year term, maturing on March 1, 2006, which has been extended to June 30, 2006 on the same terms. The MXL Line provides for a $1,000,000 revolving credit facility, which is secured by MXL's eligible accounts receivable, inventory and a secondary claim on the Lancaster, PA property. The interest rates under the MXL Line consist of LIBOR plus a credit spread of 3% or the prime rate plus a credit spread of 0.25%. The MXL Line is subject to an unused commitment fee of 0.25% of the average daily unused balance of the line payable quarterly. The Company has guaranteed the MXL Line. At March 31, 2006, $950,000 was outstanding under the MXL Line and $50,000 was available to be borrowed. The MXL Line contains certain financial covenants, most significant being a cash flow coverage ratio of 1.25 to 1.00, which is calculated at December 31. In 2003, Five Star obtained a Loan and Security Agreement (the "Loan Agreement") with Bank of America Business Capital (formerly Fleet Capital Corporation) (the "Lender"). The Loan Agreement has a five-year term, with a maturity date of June 30, 2008. The Loan Agreement, as amended in August 1, 2005 provides for a $35,000,000 revolving credit facility, which allows Five Star to borrow based upon a formula of up to 65% of eligible inventory and 85% of eligible accounts receivable, as defined therein. The interest rates under the Loan Agreement consist of LIBOR plus a credit spread of 1.5% (7.07% at March 31, 2006) for borrowings not to exceed $15,000,000 and the prime rate (7.75% at March 31, 2006) for borrowings in excess of the above-mentioned LIBOR-based borrowings. The credit spreads can be reduced in the event that Five Star achieves and maintains certain performance benchmarks. At March 31, 2006, approximately $21,120,000 was outstanding under the Loan Agreement and approximately $6,885,000 was available to be borrowed. Substantially all of Five Star's assets are pledged as collateral for these borrowings. Under the Loan Agreement Five Star is subject to covenants requiring minimum net worth, limitations on losses, if any, and minimum or maximum values for certain financial ratios. As of March 31, 2006 Five Star was in compliance with all required covenants. The following table sets forth the significant debt covenants at March 31, 2006:
Covenant Required Calculated - -------- -------- ---------- Minimum tangible net worth $6,000,000 $7,648,000 Debt to tangible net worth < 6 2.76 Fixed charge coverage >1.1 3.92 Quarterly income No loss in consecutive $278,000-first quarter income quarters
20 Management discussion of critical accounting policies The preparation of our financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Our estimates, judgments and assumptions are continually evaluated based on available information and experience. Because of the use of estimates inherent in the financial reporting process, actual results could differ from those estimates. Certain of our accounting policies require higher degrees of judgment than others in their application. These include valuation of accounts receivable, accounting for investments, and impairment of long-lived assets which are summarized below. Revenue recognition Revenue on product sales is recognized at the point in time when the product has been shipped, title and risk of loss has been transferred to the customer, and the following conditions are met: persuasive evidence of an arrangement exists, the price is fixed and determinable, and collectibility of the resulting receivable is reasonably assured. Allowances for estimated returns and allowances are recognized when sales are recorded. Valuation of accounts receivable Provisions for allowance for doubtful accounts are made based on historical loss experience adjusted for specific credit risks. Measurement of such losses requires consideration of National Patent Development's historical loss experience, judgments about customer credit risk, and the need to adjust for current economic conditions. The allowance for doubtful accounts as a percentage of total gross trade receivables was 2.04% and 4.2% at March 31, 2006 and December 31, 2005, respectively. Impairment of long-lived tangible assets Impairment of long-lived tangible assets with finite lives results in a charge to operations whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of long-lived tangible assets to be held and used is measured by a comparison of the carrying amount of the asset to future undiscounted net cash flows expected to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured by determining the amount by which the carrying amount of the assets exceeds the fair value of the asset. Assets to be disposed of are reported at the lower of their carrying amount or fair value less cost of sale. 21 The measurement of the future net cash flows to be generated is subject to management's reasonable expectations with respect to National Patent Development's future operations and future economic conditions which may affect those cash flows. As of March 31, 2006, National Patent Development holds undeveloped land in Pawling, New York with a carrying amount of approximately $2.5 million and in East Killingly, Connecticut with a carrying amount of approximately $0.4 million, which management believes is less than its fair value, less cost of sale. Accounting for investments The Company's investment in marketable securities are classified as available-for-sale and recorded at their market value with unrealized gains and losses recorded as a separate component of stockholders' equity. A decline in market value of any available-for-sale security below cost that is deemed to be other than temporary, results in an impairment loss, which is charged to earnings. On October 8, 2003 the Company acquired additional shares of Five Star, bringing its ownership to 54%. Five Star is consolidated into the Company's consolidated financial statements and is no longer accounted for as an equity investment effective as of that date. Determination of whether an investment is impaired and whether an impairment is other than temporary requires management to evaluate evidence as to whether an investment's carrying amount is recoverable within a reasonable period of time considering factors which include the length of time that an investment's market value is below its carrying amount and the ability of the investee to sustain an earnings capacity that would justify the carrying amount of the investment. On October 17, 2003, the Company received GPS' shares of Valera Pharmaceuticals pursuant to the Repayment and recorded such shares at zero representing their carrying amount to GPS after reflecting Valera losses. On December 31, 2005, the Company owned 100% of Valera's common stock and 2,068,966 shares of the Series B convertible preferred stock (a 17.7% ownership interest, assuming conversion of Valera outstanding preferred stock and exercise of stock options held by employees of Valera) but no longer had financial and operating control of Valera. As a condition of a private placement of preferred stock in December 2001, GPS contractually gave up operating control over Valera through an Investors Rights Agreement. At December 31, 2005 the Company accounted for its investment in Valera's Series B convertible preferred stock under the cost method. On February 7, 2006 Valera completed an initial public offering of 3,862,500 shares of common stock at $9.00 per share. After giving effect to the conversion of the preferred stock into common stock and a 1 for 6 reverse stock split of common stock effected by Valera in connection with the offering, the Company's preferred shares were converted into common stock and the Company now owns 2,070,670 shares of common stock of Valera or approximately 14% of the currently outstanding shares of common stock as of March 31, 2006. As a result of the initial public offering, the Company's investment in Valera's common stock became a marketable security and accordingly, at March 31, 22 2006, the investment, to the extent of shares available to be sold within a year at any balance sheet date under Rule 144 or an effective registration statement, has been classified as available for sale securities and measured at fair value with the adjustment to fair value and changes therein to be retained by the Company recorded in other comprehensive income. The remainder of the investment will be considered restricted and will continue to be carried at cost. In addition, if it is determined that the Company is no longer an affiliate, the shares would become freely tradable after the initial six month lock-up period. The Valera shares available for sale over the next 12 months at March 31, 2006 totaled 446,566. Two related parties, Bedford Oak Partners and Mr. Jerome I. Feldman, are entitled to receive 50% of any profit received from the sale, on a pro-rata basis, of 404,004 shares of Valera common stock in excess of $3.94 per share. The amounts payable to the related parties totaled $271,000 at March 31, 2006 and has been recorded as a liability within Accounts payable and accrued expenses on the March 31, 2006 balance sheet. Income taxes To arrive at our income tax provision and other tax balances, significant judgment is required. In the ordinary course of our business, there are many transactions and calculations where the ultimate tax outcome is uncertain. Some of these uncertainties arise as a consequence of the treatment of capital assets, financing transactions and multistate taxation of operations. Although we believe that our estimates are reasonable, no assurance can be given that the final tax outcome of these matters will not be different than that which is reflected in our historical tax provisions and accruals. Such differences could have a material impact on our income tax provision, other tax accounts and net income in the period in which such determination is made. The Company records a valuation allowance against deferred income tax assets when management believes it is more likely than not that some portion or all of the deferred income tax assets will not be realized. Management considers factors such as reversal of deferred income tax liabilities, projected future taxable income, tax planning strategies, changes in tax law and other factors .A change to these factors could impact the estimated valuation allowance and income tax expense. Under SFAS No. 109, "Accounting for Income Taxes," deferred tax assets and liabilities are determined based on differences between the financial reporting and tax basis of assets and liabilities, and are measured using enacted tax rates and laws that will be in effect when the differences are expected to reverse. SFAS No. 109 provides for the recognition of deferred tax assets if realization of such assets is more likely than not. Based on the weight of available evidence, we have provided a valuation allowance against certain deferred tax assets. The valuation allowance was based on the historical earnings patterns within individual tax jurisdictions that make it uncertain that we will have sufficient income in the appropriate jurisdictions to realize the full value of the assets. We will continue to evaluate the realizability of the deferred tax assets on a quarterly basis. 23 Forward-looking statements The forward-looking statements contained herein reflect the Company's management's current views with respect to future events and financial performance. These forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements, all of which are difficult to predict and many of which are beyond the control of the Company, including, but not limited to the risks and uncertainties detailed in the Company's periodic reports and registration statements filed with the Securities and Exchange Commission. 24 Item 3. Quantitative and Qualitative Disclosure About Market Risk We have no material changes to the disclosure on this matter made in our report on Form 10-K for the fiscal year ended December 31, 2005. Item 4. Controls and Procedures a. Evaluation of disclosure controls and procedures. The Company's Chief Executive Officer and Chief Financial Officer have reviewed and evaluated the effectiveness of the Company's disclosure controls and procedures (as defined in Exchange Act Rules 240.13a-15(e) and 15d-15(c)) as of a date covered by this quarterly report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that the Company's current disclosure controls and procedures are effective as of the evaluation date, providing them with material timely information relating to the Company required to be disclosed in the reports the Company files or submits under the Exchange Act. c. Changes in internal controls. There have been no significant changes in the Company's internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation. 25 PART II. OTHER INFORMATION Item 1. Legal Proceedings None Item 1A. Risk Factors The Company has no material changes to the disclosure on this matter made in its Annual Report on Form 10-K for the fiscal year ended December 31, 2005. Item 2. Unregistered Sales of Equity Securities and Use of Proceeds None Item 3. Defaults Upon Senior Securities None Item 4. Submission of Matters to a Vote of Security Holders None Item 5. Other Information None 26 Item 6. Exhibits 10.1 Non-Binding Letter of Intent among the Company, FLJ Partners, Inc. and Five Star Five Star Products, Inc. Incorporated herein by reference to Exhibit 99 of the Company's Form 8-K dated May 10, 2006. 10.2 Form of Indemnification Agreement. Incorporated herein by reference to Exhibit 10.1 of the Company's Form 8-K dated May 15, 2006. 31.1 Certification of Chief Executive Officer of the Company dated May 19, 2006 pursuant to Securities and Exchange Act Rule 13d-14(a)/15(d-14(a), as adopted pursuant to Section 302 and 404 of the Sarbanes-Oxley Act of 2002.* 31.2 Certification of Chief Financial Officer of the Company dated May 19, 2006 pursuant to Securities and Exchange Act Rule 13d-14(a)/15(d-14(a), as adopted pursuant to Section 302 and 404 of the Sarbanes-Oxley Act of 2002.* 32.2 Certification of Chief Executive Officer and Chief Financial Officer of the Company dated May 19, 2006 pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.* ________ - *Filed herewith 27 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed in its behalf by the undersigned thereunto duly authorized. NATIONAL PATENT DEVELOPMENT CORPORATION DATE: May 19, 2006 Jerome I. Feldman Chairman of the Board and Chief Executive Officer DATE: May 19, 2006 Scott N. Greenberg Chief Financial Officer 28 EX-31 2 ex311.txt CERTIFICATION OF CEO Exhibit 31.1 CERTIFICATION I, Jerome I. Feldman, Chief Executive Officer, certify that: 1. I have reviewed this quarterly report on Form 10-Q of National Patent Development Corporation; 2. Based on my knowledge, this 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 report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officers 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 registrant 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 registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; c) Evaluated the effectiveness of the registrant'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 period covered by this report based on such evaluation; 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 registrant's board of directors (or persons performing the equivalent functions): 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 registrant'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: May 19, 2006 Jerome I. Feldman Chief Executive Officer EX-31 3 ex312.txt CERTIFICATION OF CFO Exhibit 31.2 CERTIFICATION I, Scott N. Greenberg, Chief Financial Officer, certify that: 1. I have reviewed this quarterly report on Form 10-Q of National Patent Development Corporation; 2. Based on my knowledge, this 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 report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant'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 registrant 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 registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; c) Evaluated the effectiveness of the registrant'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 period covered by this report based on such evaluation; 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 registrant's board of directors (or persons performing the equivalent functions): 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 registrant'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: May 19, 2006 Scott N. Greenberg Chief Financial Officer EX-32 4 ex32.txt CERTIFICATION PURUSANT TO SECTION 1380 PURSUANT TO SECTION 906 OF SARBANES OXLEY ACT OF 2002 Exhibit 32.1 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350 AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report on Form 10-Q of National Patent Development Corporation (the "Company") for the first quarter ended March 31, 2006 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), the undersigned hereby certifies, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to such officer's knowledge: (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 operations of the Company. Date: May 19, 2006 Jerome I. Feldman Scott N. Greenberg Chief Executive Officer Chief Financial Officer -----END PRIVACY-ENHANCED MESSAGE-----