10KSB 1 mikrosf.txt SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ---------------------------------- FORM 10-KSB ANNUAL REPORT UNDER SECTION 13 OR 15 (D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 2004 Commission file number 2-67918 MIKROS SYSTEMS CORPORATION -------------------------- (Name of Small Business Issuer in Its Charter) Delaware 14-1598200 -------- ----------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 707 Alexander Road, Suite 208, Princeton, New Jersey 08540 (Address of principal executive offices, Including Zip Code) Issuer's Telephone Number, including area code: 609-987-1513 ------------ Securities Registered Pursuant to Section 12(b) of the Exchange Act: None Securities Registered Pursuant to Section 12(g) of the Exchange Act: Common Stock, $.01 par value 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. [X] Yes [ ] No Check if there is no disclosure of delinquent filers in response to Item 405 of Regulation S-B is not contained in this Form, and no disclosure will be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of Form 10-KSB or any amendment to this Form 10-KSB. [X] State Registrant's revenues for the fiscal year ended December 31, 2004: $1,044,000. The aggregate market value of the voting and non-voting common equity held by nonaffiliates of Registrant as of March 23, 2005, was approximately $2,420,417, based on the average of the bid and asked price quoted by National Quotation Bureau, Inc. The number of shares outstanding of the Registrant's $.01 par value common stock as of March 23, 2005 was 31,766,753. Transitional Small Business Disclosure Format Yes:________ No: ____X____ PART I Item 1. Description of Business -------------------------------- Mikros Systems Corporation ("Mikros" or the "Company") is an advanced technology company specializing in the research and development of electronic systems technology primarily for military applications. Classified by the U.S. Department of Defense (DoD) as a small business, our capabilities include technology management, electronic systems engineering and integration, radar systems engineering, combat/Command, Control, Communications, Computers & Intelligence (C4I) systems engineering, and communications engineering. Our headquarters are located at 707 Alexander Road, Suite 208, in Princeton, New Jersey. History of the Company ---------------------- Founded in 1978 in Albany, New York, Mikros was formed to leverage the microprocessor advancements coming out of the nearby General Electric Research and Development Center into state-of-the-art digital signal processing applications for the defense industry. We specialized in developing technology and products advancing the state of military RF (radio frequency or wireless) and underwater data communications. Through several U.S. Navy Small Business Innovation Research (SBIR) awards in the early 1990s, we developed and fielded the AN/USQ-120 Multi-Frequency Link-11 Data Terminal Set in wide use today in Aegis cruisers and destroyers. In the mid 1990s, we began shifting our core business area away from military communication applications to the rapidly expanding commercial wireless communications arena. Our advanced DSP technology base and core competencies enabled us to develop unique, proprietary technology, high-speed data broadcasting techniques utilizing the commercial AM and FM radio spectrum. In 1998, we sold our military communications business to an unrelated third party. Due to dwindling capital and a limited commercial market demand for wireless data broadcasting (one-way communication) applications, we re-entered the military electronic systems business in 2002 upon expiration of our non- compete restrictions imposed by the 1998 sale of our military communications business. Because of our past successes in the U.S. DoD SBIR program (11 awards from 1988 through 1996), we began pursuing SBIR awards within our areas of expertise. In May 2002, the U.S. Navy's Dahlgren Division, Naval Surface Warfare Center awarded us a $100,000 Phase I SBIR contract to investigate the feasibility of a Multi-Function Distributed Analysis Tool, or MFDAT. As envisioned, the MFDAT was to be semi-automated, intelligent test tool designed to support U.S. Navy technical personnel in the maintenance, alignment and diagnosis of complex electronic systems. The overall objectives of the MFDAT program were: - To achieve higher readiness through reduced maintenance downtime and better system assurance; - To increase system reliability by supporting predictive failure analysis and proactive remediation; and - To promote more effective use of technicians through increased automation, distance support and interactive training. The completed Phase I program produced an operational, proof-of-concept, software demonstration/simulation model of the MFDAT system. In August 2003, we were awarded a $750,000 Phase II SBIR contract from NSWCDD to continue our development of the MFDAT system. The Phase II program produced a prototype system capable of performing alignment and maintenance procedures on the Aegis AN/SPY-1A radar system. This MFDAT prototype system proved the viability of incorporating the functionality of multiple electronic test equipment into a single, programmable system. In general, the MFDAT technology developed enables common testing processes, training, and equipment for electronic system support thereby providing a viable path toward meeting the Navy's readiness goals while reducing the dependency on manpower, manpower training, and discrete test equipment. The success of our MFDAT Phase II program prompted the Navy to award an additional $250,000 enhancement to the Phase II contract to accelerate the transitioning, or "commercializing" in SBIR parlance, of the technology into a product suitable for naval shipboard use. In September 2004, we received another award from NSWCDD valued at approximately $2,400,000 to commercialize our MFDAT technology into a fully- integrated, man-portable test tool qualified for U.S. Navy fleet use. This contract is referred to as an SBIR Phase III contract, and it secures our SBIR data rights in the MFDAT technology for a period of five years beyond the last delivery under the contract. We have named the resulting product ADEPT, an acronym for the Adaptive Diagnostic Electronic Portable Testset; its initial application shall be as a computer-aided alignment and maintenance tool for the AN/SPY-1 radar system, which is the primary air, and surface radar for the Aegis Combat System installed on the Ticonderoga (CG-47) and Arleigh Burke (DDG-51) class warships. Key anticipated benefits of ADEPT include: - Significant reduction in system calibration, alignment, maintenance, and repair times; - Improved system readiness, availability, and performance; - More effective use of technical manpower through increased automation, distance support, and interactive training; - Distance support capable enabling "expert" remote (shore-based) system support and fleet-wide system analysis; - Reduction in the amount of electronic test equipment required for organizational level support; and - Modular and programmable to overcome current test equipment obsolescence issues and to support future capability enhancements in future systems. Also in 2004, we began work on another independent SBIR subject area. In June 2004, the Office of Naval Research awarded us a $100,000 SBIR Phase I contract to analyze the potential for interference between emerging Wireless Local Area Network systems and DoD radar systems, and to evaluate and quantify the potential improvements which may be afforded by selected mitigation techniques. This Radar Wireless Spectral Efficiency (RWSE) SBIR Phase I program was completed in January 2005 and concluded that the potential exists for mutual interference between WLANs and DoD radars, particularly during land-based, littoral and harbor navigation operation of DoD radars. We recommended that further study of the identified mutual interference mechanisms was warranted, including empirical testing to characterize the effects of the interference and the potential mitigation techniques identified during the Phase I program. Corporate Growth & Strategy --------------------------- Our strategy for continued growth is two-fold. First, we expect to continue expanding our technology base, backlog, and revenue by continuing our active participation in the DoD SBIR program bidding on projects that fall within our areas of expertise electronic systems engineering and integration, radar systems engineering, combat/C4I (Command, Control, Communications, Computers & Intelligence) systems engineering, and communications engineering. We believe that we can utilize the intellectual property developed under our various SBIR awards to develop proprietary products, such as the ADEPT described above, with broad appeal in both the government and commercial marketplace. This state-of-the-art test equipment can be used by many commercial customers such as the FAA, radio and TV stations, cell phone stations, and airlines. Second, we believe that through our marketing of products such as ADEPT we will develop key relationships with prime defense system contractors. Our strategy is to develop these relationships into longer-term, key subcontractor roles on future major defense programs awarded to these prime contractors. Competition ----------- Competition in the SBIR arena is very high, and there are numerous small businesses against which we compete for SBIR awards. In our general business area of electronic defense systems and products, we also compete against many larger companies with greater financial and human resources than us. There can be no assurance that we will be successful in competing against such businesses. Intellectual Property --------------------- We have two patents covering digital signal processing technology and our base scheme of implementing Link-11. We also have developed and continue to develop intellectual property (technology and data) under our SBIR contracts. Under SBIR data rights, we are protected from unauthorized use of this technology and data for a period of five years after acceptance of all items to be delivered under a particular SBIR contract or any follow-on contract. Employees --------- As of December 31, 2004, we had three full-time employees working at our Conshohocken, Pennsylvania Research & Development Center and three part-time employees. None of the employees belong to a labor union. We believe relations with our employees are satisfactory. We also use the services of subcontractors and/or consultants as necessary to aid in software and hardware development and for the manufacture of products. Available Information --------------------- Mikros maintains a website located at http://www.Mikros.us. On or through our website we make available at no cost our annual, quarterly, and current reports, and any amendments to those reports, as soon as reasonably practicable after electronically filing such reports with the U.S. Securities and Exchange Commission ("SEC"). Information contained on our website is not part of this report or any other report filed with the SEC. ITEM 2. PROPERTIES. Our headquarters are located at 707 Alexander Road, Building 2, Suite 208, Princeton, New Jersey 08540-6331 where we maintain our administrative office. Our engineering research, design and development facility is located at 625 W. Ridge Pike, Suite C-106, Conshohocken, Pennsylvania 19428, where we lease approximately 4,000 square feet of general office space. The lease agreement covering this property runs through August 2005. We also lease a marketing office at Three Crystal Park, 2231 Crystal Drive, Suite 1005, Arlington, Virginia 22202-3742. ITEM 3. LEGAL PROCEEDINGS. We know of no material, active, or pending legal proceedings against Mikros, nor are we involved as a plaintiff in any material proceeding or pending litigation. There are no proceedings in which any of our directors, officers, or affiliates, or any registered or beneficial shareholder, is an adverse party or has a material interest adverse to the Company's interest. Risk Factors ------------ We operate in a rapidly changing business environment that involves substantial risk and uncertainty. The following discussion addresses some of the risks and uncertainties that could cause, or contribute to causing, actual results to differ materially from expectations. We caution all readers to pay particular attention to the descriptions of risks and uncertainties described below and in other sections of this Annual Report on Form 10-KSB and our other filings with the SEC. We do not presently know of any additional risks and uncertainties that are currently deemed material and which may also impair our business operations and financial results. If any of the following risks actually occur, our business, financial condition or results of operations could be materially adversely affected. In such case, the trading price of our Common Stock could decline and we may be forced to consider additional alternatives, including bankruptcy. This Annual Report on Form 10-KSB also contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in the forward-looking statements as a result of certain factors, including the risks described below and elsewhere in this Annual Report on Form 10-KSB. We have a history of operating losses and continue to experience a lack of liquidity and working capital deficits. Although we had net income of $91,881 and a working capital surplus of $43,193 for the year ended December 31, 2004, we incurred a net loss of $(113,692) for the year ended December 31, 2003. As of December 31, 2004, we still had an accumulated deficit of $(11,797,970). In addition, we may incur substantial expenditures to expand our future business operations. We have a history of working capital deficits and do not believe our current working capital will be sufficient to meet such objectives. There can be no assurance that we will achieve a profitable level of operations in the future. We may be unable to obtain additional capital required to fund our operations and finance our growth. We believe alliances or other partnership agreements must be developed with entities who may be interested in supporting our commercial programs, or other business transactions which would generate resources sufficient to assure continuation of our operations and research programs. If we are unable to obtain additional adequate financing or enter into such business alliances, management will be required to further curtail our operations. Failure to obtain such additional financing on terms acceptable to us, if coupled with a material shortfall from our current operating plan would negatively impact our ability to continue operations. We may be unable to continue as a going concern. Based on our current plans, we believe that our existing available cash may not be adequate to satisfy current and planned operations for the next 12 months. Accordingly, we may require additional financing prior to a return to profitability. All of these factors raise a substantial doubt as to our ability to continue as a going concern. The report of our independent auditors, which is included in this Annual Report on Form 10-KSB, includes a going concern qualification. If we cannot sufficiently improve our profitability or raise more funds on acceptable terms, we could be required to further reduce our expenditures, further reduce our workforce and possibly explore additional alternatives, including seeking bankruptcy protection. We may experience substantial variability in our quarterly operating results. Our revenue, gross profit, operating income and net income may vary substantially from quarter to quarter due to a number of factors. Many factors, some of which are not within our control, may contribute to fluctuations in operating results. These factors include the following: - market acceptance of our new products; - budgetary constraints of our customers; - new product and service introductions by our competitors or us; - our employment patterns; - market factors affecting the availability or costs of qualified technical personnel; - timing and customer acceptance of our new product and service offerings; - length of sales cycle; and - industry and general economic conditions. Our success depends on the services of our senior management and our ability to hire and retain additional skilled personnel. The future success of our company depends on the personal efforts and abilities of the members of our senior management team to provide strategic direction, develop business, manage operations and maintain a cohesive and stable environment. Specifically, we are dependent upon Thomas J. Meaney, President and Chief Executive Officer, and David C. Bryan, Executive Vice President and Chief Operating Officer. We do not have employment agreements with any key personnel. Furthermore, our performance also depends on our ability to attract and retain management and qualified professional and technical operating staff. Competition for these skilled personnel is intense. The loss of services of any key executive, or inability to continue to attract and retain qualified staff, could have a material adverse effect on our business, results of operations and financial condition. We do not maintain any key employee insurance on any of our executives. We have limited operating history in providing commercial wireless applications. Historically, we developed and sold technology and products for military applications, primarily to the U.S. Navy. The commercial wireless products that we intend to develop perform different functions than our historic products, and are targeted at an entirely different customer base. Because we have not previously operated as a provider of commercial wireless products, we have no basis to evaluate our ability to develop, market and sell such products. Our ability to commercialize these products and services and generate operating profits and positive operating cash flow will depend principally upon our ability to: - develop and manufacture commercially attractive products; - attract and retain an adequate number of customers; - enter new markets and compete successfully in them; - manage operating expenses; raise additional capital to fund our capital expenditure plans; and - attract and retain qualified personnel. We have limited marketing experience. We will be required to develop a marketing and sales network that will effectively demonstrate the advantages of our commercial offerings over competing options. Our marketing experience with our new commercial products is limited, and we have not identified a customer for a commercially feasible application. We currently perform all our marketing through our own employees. There can be no assurance that we will be successful in our marketing efforts, that we will be able to establish adequate sales and distribution capabilities, or that we will be able to enter into marketing agreements or relationships with third parties on financially acceptable terms. The market for our products is subject to rapid technological change. The market for our products and planned products is characterized by rapid changes in technology including the potential introduction of new types of wireless communications and digital signal processor technologies which could have a material adverse impact on our business. Our future success will depend in part on our ability to continually enhance our current technology and to develop or acquire new ideas that address the needs of potential users. There can be no assurance that we will be successful in developing new products or procedures that respond to technological changes. There can be no assurance that research and development by competitors will not render our technology obsolete or uncompetitive. In addition, in a technology-based industry, there can be no assurance that a claim of patent or other infringement will not be made against us. While we are not aware of any such claims, no infringement studies have been conducted on our behalf. Our industry is highly competitive. High technology applications such as those being developed by us often require large investments of both money and talent. Many large entities with greater financial, technical and human resources than us are currently investing heavily in products and services that compete directly with our contemplated services and underlying products. There is no assurance that our offerings can be successfully marketed against such competition. In addition, being first in the market with new high technology is a critical factor in a company's success in the market. There is no assurance that we will be able to introduce new offerings to the market before any of our competitors. As the markets in which we compete mature and new and existing companies compete for customers, price competition is likely to intensify, and such price competition could adversely affect our results of operations. We may issue additional shares of our capital stock that could dilute the value of your shares. Our outstanding securities include shares of convertible preferred stock, options and warrants. During the respective terms of the options and warrants, and when the preferred stock is outstanding, the holders thereof are given an opportunity to profit from a rise in the market price of our common stock, causing a dilution of the interests of existing stockholders. Thus, the terms on which we may obtain additional financing during that period may be adversely affected. The holders of preferred stock, options, and warrants may exercise their respective rights to acquire our common stock at a time when we would, in all likelihood, obtain needed capital through a new offering of securities on terms more favorable than those provided by these outstanding securities. In the event that such holders exercise their rights to acquire shares of our common stock at such time, the net tangible book value per share of our common stock will be subject to dilution. Future sales of our securities by existing stockholders could adversely affect the market price of our common stock. Future sales of shares by existing stockholders under Rule 144 of the Securities Act of 1933 or through the exercise of outstanding options or otherwise could have a negative impact on the market price of our common stock. We are unable to estimate the number of shares that may be sold under Rule 144 because such sales depend on the market price for our common stock, the personal circumstances of the sellers and a variety of other factors. Any sale of substantial amounts of our common stock or of our other securities in the open market may adversely affect the market price of the Company's Common Stock and may adversely affect our ability to obtain future financing in the capital markets as well as create a potential market overhang. Our common stock is subject to "penny stock" regulations which may affect the ability of our stockholders to sell their shares. Our common stock is subject to Rule 15g-9 under the Securities Exchange Act, which imposes additional sales practice requirements on broker/dealers that sell such securities to persons other than established customers and "accredited investors" (generally, an individual with a net worth in excess of $1,000,000 or an annual income exceeding $200,000, or $300,000 together with his or her spouse's income). For transactions covered by this rule, a broker/dealer must make a special suitability determination for the purchaser and receive the purchaser's written consent to the transaction prior to the sale. Consequently, the rule may adversely affect the ability of the holders of our common stock to sell their shares in the secondary market. Regulations of the SEC define "penny stock" to be any non-Nasdaq equity security that has a market price (as therein defined) of less than $5.00 per share or with an exercise price of less than $5.00 per share, subject to certain exceptions. For any transaction involving a penny stock, unless exempt, the rules require delivery, prior to any transaction involving penny stock, of a disclosure schedule prepared by the SEC relating to the penny stock market. The SEC also requires disclosure about commissions payable to both the broker/dealer and its registered representative and information regarding current quotations of the securities. Finally, the SEC requires that monthly statements be sent disclosing recent price information for the penny stock held in the account and information on the limited market in penny stocks. Our earnings may be adversely affected when we change our accounting policy with respect to employee stock options. Stock options are an important component of compensation packages for our senior-level employees. We currently do not deduct the expense of employee stock option grants from our income. However, in December 2004, the Financial Accounting Standards Board adopted a new policy requiring companies to recognize compensation costs in their financial statements for share-based payment transactions, including stock option grants to employees. Beginning January 1, 2006, we will be required to record the value of stock options issued to employees as an expense. When we change this accounting policy, our earnings could be materially adversely affected. We are currently evaluating the impact that this standard will have on our operating results. We rely on third-party contractors for engineering services that may be difficult to replace. We currently provide all engineering services through third-party contractors such as Anteon Corporation. These services may not continue to be available on commercially reasonable terms, if at all. Services that are not immediately replaceable would need to be internally developed, which could take substantial time and resources. The loss or inability to maintain any of these engineering service providers could result in delays in the development of our products and services until equivalent services, if available, are identified, developed, and integrated, which could harm our business. We have never paid dividends on our common stock and we do not anticipate paying dividends in the foreseeable future. We have never paid cash dividends on our common stock. Any payment of cash dividends in the future will depend upon our earnings (if any), financial condition and capital requirements. We do not anticipate paying dividends in the foreseeable future. In addition, we have executed certain loan agreements, which prohibit the payment of a dividend on our common stock as long as such agreements are in place. Accordingly, any potential investor who anticipates the need for current dividends from its investment should not purchase any of our securities. Our common stock is thinly traded and the price of our common stock may experience price volatility. Our common stock currently is traded over-the- counter on the NASD Bulletin Board. There can be no assurance that an active market in any of our securities will be sustained. Absent a public trading market, an investor may be unable to liquidate its investment. We believe that factors such as the announcements of the availability of new services and new contracts by us or our competitors, quarterly fluctuations in our financial results and general conditions in the communications industry could cause the price of our common stock to fluctuate substantially. If stockholders seek to sell their shares in a thinly traded stock, it may be difficult to obtain the price desired. In addition, stock markets have experienced extreme price volatility in recent years. This volatility has had a substantial effect on the market prices of securities issued by many companies for reasons unrelated to the operating performance of the specific companies. Our share ownership is highly concentrated. Our directors, officers and principal stockholders, and certain of their affiliates, beneficially own approximately 41.1% (without giving effect to any outstanding options, warrants or other convertible securities) of our outstanding common stock and will have significant influence over the outcome of all matters submitted to the stockholders for approval, including the election of our directors. In addition, such influence by management could have the effect of discouraging others from attempting to take control of us, thereby increasing the likelihood that the market price of our common stock will not reflect a premium for control. We have adopted certain anti-takeover provisions. We have authorized 4,040,000 shares of preferred stock, which may be issued by our Board of Directors on such terms, and with such rights, preferences and designations as the Board may determine. Issuance of such preferred stock, depending upon the rights, preferences and designations thereof, may have the effect of delaying, deterring or preventing a change in control of our company. The 2,052,433 shares of issued and outstanding preferred stock have certain rights and preferences, including dividend and liquidation preferences, which also may have the effect of delaying, deterring or preventing a change in control of us. In addition, certain "anti- takeover" provisions of the Delaware General Corporation Law (the "DGCL"), among other things, restrict the ability of stockholders to effect a merger or business combination or obtain control of the Company, and may be considered disadvantageous by a stockholder. Corporate governance requirements are likely to increase our costs and make it more difficult to attract and retain qualified directors. We are subject to corporate governance requirements under the Sarbanes-Oxley Act of 2002, as well as rules adopted pursuant to that legislation by the SEC. We expect that these and other new laws, rules and regulations will increase our legal and financial compliance costs and place a significant burden on management. We also expect that new regulatory requirements will make it more difficult and more expensive for us to obtain director and officer liability insurance. We may be required to accept reduced coverage or incur significantly higher premium costs to obtain coverage. These new requirements are also likely to make it more difficult for us to attract and retain qualified individuals to serve as members of our board of directors or committees of the board, particularly the audit committee. In addition, as of December 31, 2006, we will become subject to the requirements of Section 404 of the Sarbanes-Oxley Act. To date, we have taken limited actions with respect to compliance under Section 404. We may need to hire additional personnel and/or engage outside consulting firms to assist in our efforts to comply with Section 404. Any failure to improve our internal accounting controls or other problems with our control systems could result in delays or inaccuracies in reporting financial information, or non-compliance with SEC reporting and other regulatory requirements, any of which could adversely affect or business and stock price. Item 4. Submission of Matters to a Vote of Security Holders ------------------------------------------------------------ None. PART II Item 5. Market for the Registrants' Common Equity and Related Stockholder Matters ------------------------------------------------------------------------------ The following table sets forth the range of high and low closing bid prices of our common stock for the periods indicated as determined by the National Quotation Bureau, Inc. The quoted prices represent only prices between dealers on each trading day as submitted from time to time by certain of the securities dealers wishing to trade in our common stock, do not reflect retail mark-ups, mark-downs or commissions, and may differ substantially from prices in actual transactions. Bid High Low 2004 First Quarter $ 0.1600 $ 0.0370 Second Quarter 0.1100 0.0600 Third Quarter 0.2000 0.0700 Fourth Quarter 0.2800 0.1500 2003 First Quarter $ 0.0600 $ 0.0100 Second Quarter 0.0800 0.0410 Third Quarter 0.0650 0.0250 Fourth Quarter 0.0700 0.0320 We have never paid cash dividends on our common stock. Any payment of cash dividends in the future will depend upon our earnings (if any), financial condition, and capital requirements. We do not anticipate paying dividends in the foreseeable future. As of March 23, 2005, we had 453 holders of record of our common stock. The following information relates to all securities of the Company issued by us during the year ended December 31, 2004 which were not registered under the securities laws at the time of grant, issuance and/or sale (and which were not previously reported on a Quarterly Report on Form 10-QSB): On December 31, 2003, we granted an aggregate of 200,000 shares of our common stock to employees and consultants of the Company in consideration of services previously rendered to us. Such shares were not registered under the Securities Act of 1933, as amended (the "Securities Act"). We did not employ an underwriter in connection with the issuance of the securities described above. We believe that the issuance of the foregoing securities was exempt from registration under Section 4(2) of the Securities Act as transactions not involving any public offering and such securities having been acquired for investment and not with a view to distribution. All recipients had adequate access to information about us. Item 6. Management's Discussion and Analysis of Financial Condition and Results of Operations ---------------------------------------------------------- Critical Accounting Policies And Estimates The discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us 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, we evaluate our estimates, including those related to bad debts, investments, recoverability of long-lived assets, income taxes, restructuring charges, and contingencies and litigation. We base our estimates on historical experience and on various other assumptions that we believe 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. Revenue Recognition Revenue from research and development contracts is recognized as work is performed and costs are incurred. Billings to the Federal government are generally in accordance with the terms of the applicable contracts, and utilize provisional indirect rates during the year. These rates are subject to audit by applicable government agencies. Unbilled revenue reflects work performed, but not billed at the time pending contractual requirements and are classified as a current asset. Billings to customers in excess of revenue earned are classified as advanced billings, and shown as a liability. Our financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America, which contemplates the continuation of our company as a going concern. We have sustained substantial operating losses in recent years. In addition, we have used substantial amounts of working capital in our operations. These conditions raise substantial doubt about our ability to continue as a going concern. Management's plans and intentions on the going concern issue are discussed below. These financial statements do not include any adjustments that would be required if we were unable to continue as a going concern. In view of these matters, realization of a major portion of the assets reflected in our balance sheet is dependent upon continued operations of our company, which in turn is dependent on us being able to obtain financing and/or equity to support further development for our commercial wireless business and continuing operations. Our management believes that actions presently being taken to revise our operating and financial requirements in conjunction with the revenues we expect to realize from the SBIR Phase III contract provide the opportunity to continue as a going concern. Recently Issued Accounting Standards In January 2003, the Financial Accounting Standards Board issued FASB Interpretation No. 46, "Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51." FIN 46 was revised in December 2003. This Interpretation provides new guidance for the consolidation of variable interest entities (VIEs) and requires such entities to be consolidated by their primary beneficiaries if the entities do not effectively disperse risk among parties involved. The Interpretation also adds disclosure requirements for investors that are involved with unconsolidated VIEs. The disclosure requirements apply to all financial statements issued after December 31, 2003. The consolidation requirements apply to companies that have interests in special purpose entities for periods ending after December 15, 2003. Consolidation of other types of VIEs is required in financial statements for periods ending after December 15, 2004. The adoption of this Interpretation did not have and is not expected to have an impact on our financial condition or results of operations. In May 2003, the Financial Accounting Standards Board issued Statement No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity." This Statement requires that an issuer classify a financial instrument that is within its scope as a liability. Many of these instruments were previously classified as equity. This Statement was effective for financial instruments entered into or modified after May 31, 2003 and otherwise was effective beginning July 1, 2003. The adoption of this standard did not have an impact on our financial condition or results of operations. Results of Operations --------------------- General In 2002, we re-entered the military electronic systems business and began pursuing SBIR awards within our areas of expertise. Revenues from our government contracts represented 100% of our revenues for the years ended December 31, 2004 and 2003. We believe that we can utilize the intellectual property developed under our various SBIR awards to develop proprietary products for both the government and commercial marketplace. The statements contained in this Annual Report on Form 10-KSB that are not historical facts are forward-looking statements (as such term is defined in the Private Securities Litigation Reform Act of 1995). Such forward-looking statements may be identified by, among other things, the use of forward-looking terminology such as "believes," "expects," "may," "will," "should" or "anticipates" or the negative thereof or other variations thereon or comparable terminology, or by discussions of strategy that involve risks and uncertainties. These forward-looking statements, such as statements regarding anticipated future revenues, products under development, size of markets for products under development and other statements regarding matters that are not historical facts, involve predictions. Our actual results, performance or achievements could differ materially from the results expressed in, or implied by, these forward- looking statements contained in this Annual Report on Form 10-KSB. Factors that could cause actual results, performance or achievements to vary materially include, but are not limited to:changes in business conditions, changes in our sales strategy and product development plans, changes in the radio digital data marketplace, competition between us and other companies that may be entering the radio digital data marketplace, competitive pricing pressures, market acceptance of our products under development, and delays in the development of products. Compliance with Sarbanes-Oxley Requirements ------------------------------------------- Section 404 of the Sarbanes-Oxley Act of 2002 requires management to perform an evaluation of its internal control over financing reporting and have our independent auditors attest to such evaluation. We have been actively preparing for the implementation of this requirement by, among other things, establishing an ongoing program to document, evaluate and test the systems and processes necessary for compliance. While we anticipate that we will be able to comply on a timely basis with these requirements, unforeseen delays may occur which could prevent us from achieving timely compliance. If we fail to complete our evaluation on a timely basis and in a satisfactory manner, or if our external auditors are unable to attest on a timely basis to the adequacy of our internal control, we may be subject to additional scrutiny surrounding our internal control over financial reporting. 2004 vs. 2003: ------------- Total contract revenues in 2004 were approximately $1,044,000 compared to $231,000 in 2003, an increase of 352%. The increase was due entirely to the Phase II SBIR contract in the amount of $728,000 and the Phase III SBIR contract in the amount of $194,000. Additionally and as a result of these contracts, our cost of sales increased from approximately $141,000 in 2003 to approximately $714,000 in 2004. In 2004 and 2003 contract revenues were derived entirely from SBIR contracts. General and Administrative expenses were approximately $191,000 in 2004 compared to $158,000 in 2003. No interest expense was incurred in 2004 or 2003. These expenses increased due to higher costs incurred for administrative and bid and proposal salaries and related costs. The engineering expenses were approximately $114,000 in 2004 compared to approximately $45,000 in 2003. There were higher engineering costs for the year ended December 31, 2004 due to the SBIR Phase II and Phase III contracts. In 2004, we recognized other revenue of approximately $67,000 as the result of changing our estimates associated with certain obligations. No such amounts were recorded in 2003. We realized a net profit of approximately $92,000 in 2004 compared to a net loss of approximately $114,000 in 2003 due entirely to the Phase II and Phase III SBIR contracts being in place and changing our estimates of certain obligations of approximately $67,000. Liquidity and Capital Resources ------------------------------- Our financial statements have been prepared on the basis that the Company will continue as a going concern, which contemplates the realization of assets and satisfaction of liabilities and commitments in the normal course of business. At December 31, 2004, we had an accumulated deficit of $11,797,970 and working capital of $43,193. Thus, there is substantial doubt about our ability to continue as a going concern. Since our inception, we have financed our operations through debt, private and public offerings of equity securities and cash generated by operations. In 2004, we had cash flow provided by operations of approximately $85,000 compared to cash flow used in operations of approximately $47,000 in 2003. There was working capital of $43,193 as of December 31, 2004 as compared to a working capital deficiency of $60,624 at December 31, 2003. We maintain a line of credit facility for maximum borrowings of up to $34,000. Outstanding balances on this line of credit accrue interest at the bank's published prime rate. This line matures in October 2006 and payment has been personally guaranteed by our President. There were no amounts outstanding under this line-of-credit at December 31, 2004. We believe revenues from the SBIR Phase III contract provide us with the opportunity to continue as a going concern. We anticipate considering the sale of additional debt and equity securities under appropriate market conditions, alliances or other partnership agreements with entities interested in supporting our government programs, or other business transactions which would generate resources sufficient to assure continuation of our operations and research programs. There can be no assurance, assuming we successfully raise additional funds or enter into business alliances, that we will achieve profitability or positive cash flow. If we are unable to obtain additional adequate financing or enter into such business alliances, management will be required to sharply curtail our operations. Failure to obtain such additional financing on terms acceptable to us may materially adversely affect our ability to continue as a going concern. Item 7. Financial Statements -------------------------------- The financial statements required to be filed pursuant to this Item 7 are appended to this report on Form 10-KSB. Report of Independent Registered Public Accounting Firm Balance Sheet at December 31, 2004 Statements of Operations for the years ended December 31, 2004 and 2003 Statements of Shareholders' Deficiency for the years ended December 31, 2004 and 2003 Statements of Cash Flows for the years ended December 31, 2004 and 2003 Notes to Financial Statements Item 8. Changes In and Disagreements with Accountants on Accounting and Financial Disclosure ------------------------------------------------------------------------------ On February 17, 2004, we accepted the resignation of Lipman, Selznick & Witkowski ("Lipman") as our independent auditors and engaged the services of Beard Miller Company LLP as independent auditors. The change in auditors was effective February 17, 2004. This determination was approved by our Board of Directors. Beard Miller Company LLP will audit our financial statements for the fiscal years ended December 31, 2004 and 2003. During our two most recent fiscal years ended December 31, 2002, there were no disagreements between the Company and Lipman on any matter of accounting principles or practices, financial disclosure, or auditing scope or procedure, which disagreements, if not resolved to Lipman's satisfaction, would have caused Lipman to make reference to the subject matter of the disagreement in connection with its reports. Lipman's prior audit report on our financial statements for each of the two most recent fiscal years in the period ended December 31, 2002 contained no adverse opinion or disclaimer of opinion and was not modified or qualified as to uncertainty, with the exception of a going concern matter, audit scope, or accounting principles. Item 8A. Controls and Procedures -------------------------------- Evaluation of disclosure controls and procedures. Based on his evaluation of the Company's disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of December 31, 2004, the Company's president (principal executive officer and principal financial officer) has concluded that the Company's disclosure controls and procedures are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms and are operating in an effective manner. There have not been any changes in the Company's internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) that occurred during the Company's most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting. Item 8B. Other Information --------------------------- None. PART III Item 9. Directors and Executive Officers of the Company --------------------------------------------------------- The current members of the Board of Directors of the Company are as follows: Served as a Positions with Name Age Director Since the Company Paul G. Casner 67 2002 Director Thomas C. Lynch 62 1997 Director Thomas J. Meaney 70 1986 President and Director Wayne E. Meyer 78 1988 Chairman of the Board and Director Tom L. Schaffnit 58 2000 Director The principal occupation and business experience, for at least the past five years, of each current director and named executive is as follows: Paul G. Casner, Jr. has been a director of the Company since May 2002. Mr. Casner currently serves as Executive Vice President and Chief Operating Officer of DRS Technologies, Inc. From 1994 to 1998, Mr. Casner served as President of the Electronic Systems Group of DRS Technologies. Before joining DRS Technologies, Mr. Casner was the Chairman and Chief Executive Officer of Technology Applications and Service Company. Mr. Casner has over 35 years of Defense Industry experience, including several senior positions in Business Management, Technical Management, Strategic Planning and Business Development. He is a member of the Naval Reserve Association and is a Commodore of the Navy League of the United States, in addition to other professional affiliations. Mr. Casner is also a director of ACE-COMM Corporation. Thomas C. Lynch has been a Director of the Company since February 1997. Mr. Lynch is currently Senior Vice President of The Staubach Company. From August 2000 to November 2001, Mr. Lynch served as Senior Vice President of Safeguard Securities, Inc. From 1998 to August 2000, he was Executive Vice President and later became President and Chief Operating Officer of CompuCom Systems, Inc. Prior to joining CompuCom, Mr. Lynch had been Senior Vice President of Safeguard Scientifics, Inc., a position he held from November 1995. Mr. Lynch serves as a Director on the following boards: Pennsylvania Eastern Technology Council, Epitome Systems, Telkonet, Armed Forces Benefit Association, Catholic Leadership Institute, National Center for the American Revolution at Valley Forge and USO World Board of Governors. He has served as President of Valley Forge Historical Society and Chairman of the Cradle of Liberty Council, Boy Scouts of America. He currently serves as a trustee of the US Naval Academy Foundation. Thomas J. Meaney has been a Director of the Company since July 1986 and was Chairman of the Board from June 1997 to February 1999. He was appointed President in June 1986 and continued to serve until February 1997. On September 30, 1998, he was reappointed President of the Company. From February 1983 to June 1986, Mr. Meaney was Senior Vice President and Director of Robotic Vision Systems Incorporated ("RVSI"), a manufacturer of robotic vision systems. Mr. Meaney served as a Director of RVSI until 1991 when he resigned from the post. Prior to 1983 and for more than five years, he was Vice President - Business Development, International of Norden Systems and President - Norden Systems Canada, both divisions of United Technologies Corporation and developers of computer and electronic products and systems. He presently owns his own defense consulting company with offices in Arlington, Virginia and Chadds Ford, Pennsylvania. Wayne E. Meyer has been a Director of the Company since April 1988, Chairman of the Board 1990 to 1997, and re-elected as Chairman in February 1999. From 1986 to present, he has been the Founder and President of the W.E. Meyer Corporation, based in Arlington, Virginia. The company engages in consulting and advice to industry, government and academic institutions in matters of systems engineering, project management, strategic planning and military and electronic designs. He enlisted in the U.S. Navy as an Apprentice Seaman in 1943 and retired in 1985 in the rank of Rear Admiral. As a national authority on Ballistic Missile Defense, he serves on numerous boards, groups and panels. Tom L. Schaffnit has been a Director of the Company since June 2000. Since March 1999, he has been President of Schaffnit Consulting, Inc., a technology- related management consulting company specializing in wireless data communications and automotive telematics. He was President of CUE Data Corporation from February 1997 to March 1999, responsible for creating and implementing new datacasting services on a nationwide FM subcarrier paging network. Previously, he served as a Senior Manager with Deloitte & Touche Consulting Group, and as Director with Nordicity Group (since acquired by PricewaterhouseCoopers). Mr. Schaffnit remains actively involved in the evolution of wireless technology, and is co-author of the book "The Comprehensive Guide to Wireless Technologies". Section 16(a) Beneficial Ownership Reporting Compliance Section 16(a) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), requires our Directors, officers and shareholders who beneficially own more than 10% of any class of our equity securities registered pursuant to Section 12 of the Exchange Act to file initial reports of ownership and reports of changes in ownership with respect to our equity securities with the SEC. All reporting persons are required by SEC regulation to furnish us with copies of all reports that such reporting persons file with the SEC pursuant to Section 16(a). Based solely on our review of the copies of such forms received by us and upon written representations of such reporting persons, we believe that all reporting persons are in compliance with all Section 16(a) filing requirements applicable to such reporting persons. Information Concerning the Board of Directors and Corporate Governance The Board of Directors of the Company had a total of three meetings during 2004. No director attended fewer than 75% of the aggregate of the meetings of the Board of Directors except for Thomas C. Lynch. Upon consideration of the criteria and requirements regarding director independence set forth in the rules of the National Association of Securities Dealers, Inc. ("NASD"), the Board of Directors has determined that a majority of its members are independent. In 2003, due to the limited operations of the Company, our Board of Directors determined that it was not necessary to establish an audit committee, a compensation committee or a nominating committee. In March 2004, the Board of Directors formed an Audit Committee. The full Board of Directors continues to perform the functions of a compensation committee and a nominating committee. The members of the Audit Committee are Thomas C. Lynch, Wayne E. Meyer and Tom L. Schaffnit. The Board of Directors has determined that each of such members is independent as independence is defined in NASD Rule 4200(a)(15) and Rule 10A- 3(b)(1) of the Exchange Act and that the Audit Committee composition will meet the requirements of NASD Rule 4350(d)(2). The Audit Committee oversees and monitors management's and the independent outside auditors' participation in the accounting and financial reporting processes and the audits of the financial statements of the Company. The Audit Committee has the responsibility to appoint, compensate, retain and oversee the work of the outside independent auditors and to consult with the independent auditors and the appropriate officers of the Company on matters relating to outside auditor independence, corporate financial reporting, accounting procedures and policies, adequacy of financial accounting and operating controls, and the scope of audits. The Audit Committee is governed by an Audit Committee Charter, which was adopted on March 10, 2004. We are currently reviewing a written code of business conduct and ethics that will apply to our principal executive officer and principal financial and accounting officer, or persons performing similar functions. We intend to disclose any amendments to, or waivers from, our code of business conduct and ethics that are required to be publicly disclosed pursuant to SEC rules by filing such amendment or waiver with the SEC. Board Compensation ------------------ Each member of our Board of Directors receives reimbursement of expenses incurred in connection with his or her services as a member of our Board. The following table identifies the current executive officers of the Company: Capacities in In Current Name Age Which Served Position Since ---------------- --- ------------- -------------- Thomas J. Meaney 70 President September 1998 and Director David C. Bryan 50 Executive Vice President March 2002 Chief Operating Officer Patricia A. Kapp 38 Secretary and September 1998 Treasurer Item 10. Executive Compensation -------------------------------- The following Summary Compensation Table sets forth information concerning compensation for services in all capacities awarded to, earned by or paid to the Company's Chief Executive Officer and the four most highly compensated executive officers of the Company whose aggregate cash compensation exceeded $100,000 (collectively, the "Named Executives") during the years ended December 31, 2002, 2003 and 2004. SUMMARY COMPENSATION TABLE Annual Compensation(1) Name and Principal Position Year Salary ($) (a) (b) (c) Thomas J. Meaney, President 2004 2003 2002 $14,025.00 $ 375.00 0 (1) The costs of certain benefits are not included because they did not exceed, in the case of each Named Executive, the lesser of $50,000 or 10% of the total of annual compensation reported in the above table. Item 11. Security Ownership of Certain Beneficial Owners and Management ------------------------------------------------------------------------ The following is certain information about our equity compensation plans as of December 31, 2004: Equity Compensation Plan Information (a) (b) (c) --------------------------------------------------------------- Number of securities Number of securities to remaining available for be issued upon Weighted-average future issuance under exercise of outstanding exercise price of equity compensation options, warrants and outstanding options, plans (excluding rights warrants and rights securities reflected in column (a)) Plan Category ------------------------------------------------------------ Equity compensation plans approved by security holders 401,818 $.1913 - Equity compensation plans not approved by security holders - - - -------------- ------------------ ------------------ Total 401,818 $.1913 - =============== ================== ========== Common Stock The following table sets forth certain information, as of March 23, 2005 with respect to holdings of our common stock by (i) each person known by us to be the beneficial owner of more than 5% of the total number of shares of common stock outstanding as of such date, (ii) each of the current directors and Named Executives, and (iii) all current directors and officers as a group. Amount and Nature of Beneficial Percent Name of Beneficial Owner Ownership(1) Of Class (i) Certain Beneficial Owners: Princeton Valuation Consultants, 2,920,050(2) 8.9 L.L.C. 5 Vaughn Drive Princeton, New Jersey 08540 (ii) Current Directors and Named Executives: Paul G. Casner 1,474,200(3) 4.5 Thomas C. Lynch 1,474,200(3) 4.5 Thomas J. Meaney 6,649,642(4) 19.1 Wayne E. Meyer 4,263,450(5) 12.9 Tom L. Schaffnit 2,174,654(6) 6.6 (iii) All Current Directors and Officers as a Group (seven persons) 16,639,146(7) 42.4 * Less than 1% (1) Except as otherwise indicated, all shares are beneficially owned and the sole investment and voting power is held by the persons named. (2) Includes 202,500 shares issuable upon conversion of Convertible Preferred Stock and 695,883 shares issuable upon conversion of Series B Stock. (3) Includes 1,091,800 shares issuable upon the exercise of warrants. (4) Includes 50,000 shares issuable upon conversion of Convertible Preferred Stock, 1,949,775 shares issuable upon conversion of Series B Stock and 1,091,800 shares issuable upon the exercise of warrants. (5) Includes 30,000 shares issuable upon conversion of Series B Stock, 100,000 shares issuable upon the exercise of options and 1,091,800 shares issuable upon the exercise of warrants. (6) Includes 341,395 shares issuable upon the exercise of options and 1,091,800 shares issuable upon the exercise of warrants. (7) See Notes 3 through 6. Also includes 40,000 shares issuable upon the exercise of options held by other officers. Convertible Preferred Stock The following table sets forth certain information, as of March 23, 2005, with respect to holdings of our Convertible Preferred Stock by (i) each person known by us to be the beneficial owner of more than 5% of the total number of shares of our Convertible Preferred Stock outstanding as of such date, (ii) each of the current directors and Named Executives, and (iii) all current directors and officers as a group. Amount and Nature of Beneficial Percent Name of Beneficial Owner Ownership(1) of Class (i) Certain Beneficial Owners: Princeton Valuation Consultants L.L.C. 202,500 79.4 5 Vaughn Drive Princeton, New Jersey 08540 (ii) Current Directors and Named Executives: Paul G. Casner -- -- Thomas C. Lynch -- -- Thomas J. Meaney 50,000 19.6 Wayne E. Meyer -- -- Tom L. Schaffnit -- -- (iii) All Current Directors and Officers as a Group (seven persons) 50,000 19.6 (1) Except as otherwise indicated, all shares are beneficially owned and the sole investment and voting power is held by the persons named. Series B Stock The following table sets forth certain information, as of March 23, 2005, with respect to holdings of our Series B Stock by (i) each person known by us to be the beneficial owner of more than 5% of the total number of shares of our Series B Stock outstanding as of such date, (ii) each of the current directors and Named Executives, and (iii) all current directors and officers as a group. Amount and Nature of Beneficial Percent Name of Beneficial Owner Ownership(1) of Class (i) Certain Beneficial Owners: The Mercantile & General 91,342 8.3 Reinsurance Company, PLC Moorfields House Moorfields London EC2Y 9AL Princeton Valuation Consultants, 231,961 21.0 L.L.C 5 Vaughn Drive Princeton, New Jersey 08540 (ii) Current Directors and Named Executives: Paul G. Casner -- -- Thomas C. Lynch -- -- Thomas J. Meaney 649,925 59.0 Wayne E. Meyer 10,000 * Tom L. Schaffnit -- -- (iii) All Current Directors and Officers as a Group (seven persons) 659,925 59.0 * Less than 1% (1) Except as otherwise indicated, all shares are beneficially owned and the sole investment and voting power is held by the persons named. Series C Stock The following table sets forth certain information, as of March 23, 2005, with respect to holdings of our Series C Stock by (i) each person known by us to be the beneficial owner of more than 5% of the total number of shares of our Series C Stock outstanding as of such date, (ii) each of the current directors and Named Executives, and (iii) all current directors and officers as a group. Amount and Nature of Beneficial Percent Name of Beneficial Owner Ownership(1) of Class (i) Certain Beneficial Owners: (ii) Current Directors and Named Executives: Paul G. Casner -- -- Thomas C. Lynch -- -- Thomas J. Meaney 5,000 100.0 Wayne E. Meyer -- -- Tom L. Schaffnit -- -- (iii) All Current Directors and Officers as a Group (seven persons) 5,000 100.0 * Less than 1% (1) Except as otherwise indicated, all shares are beneficially owned and the sole investment and voting power is held by the persons named. Series D Stock The following table sets forth certain information, as of March 23, 2005, with respect to holdings of our Series D Stock by (i) each person known by us to be the beneficial owner of more than 5% of the total number of shares of our Series D Stock outstanding as of such date, (ii) each of the current directors and Named Executives, and (iii) all current directors and officers as a group. Amount and Nature of Beneficial Percent Name of Beneficial Owner Ownership(1) of Class (i) Certain Beneficial Owners: Princeton Valuation Consultants, L.L.C. 138,000 20.0 5 Vaughn Drive Princeton, New Jersey 08540 Frederick C. Tecce 138,000 20.0 c/o Mikros Systems Corporation 707 Alexander Road, Bldg 2, Suite 208 Princeton, New Jersey 08540 The Estate of Joseph R. Burns 138,000 20.0 c/o Mikros Systems Corporation 707 Alexander Road, Bldg 2, Suite 208 Princeton, New Jersey 08540 (ii) Current Directors and Named Executives: Paul G. Casner -- -- Thomas C. Lynch -- -- Thomas J. Meaney 138,000 20.0 Wayne E. Meyer 138,000 20.0 Tom L. Schaffnit -- -- (iii) All Current Directors and Officers as a Group (seven persons) 276,000 40.0 (1) Except as otherwise indicated, all shares are beneficially owned and the sole investment and voting power is held by the persons named. Item 12. Certain Relationships and Related Transactions -------------------------------------------------------- In 1996, Safeguard Scientifics (Delaware), Inc., invested $1 million in the Company in exchange for 10% ownership in the Company. At the same time, Mobile Broadcasting Corporation (MBC) was created to exploit the AM radio technology, particularly in mobile or portable platforms such as automobiles. Mikros owned a majority interest in MBC, with the balance of MBC ownership held by Safeguard Scientifics. Data Design and Development Corporation (3D) was also founded in 1996 as part of the Safeguard Scientific agreement to own the AM and FM technology. 3D licensed the FM technology rights in North America to Mikros and the AM technology rights in North America to MBC. Mikros owned two-thirds of the equity of 3D, and Safeguard owned the remaining one-third interest. In November 2002, Safeguard Scientifics (Delaware), Inc. sold its equity interests in MBC, 3D and the Company to Paul G. Casner, Thomas Lynch, Thomas J. Meaney, Wayne E. Meyer and Tom L. Schaffnit, each of whom is a Director of the Company. Mr. Meaney also is President, Chief Executive Officer and Chief Financial Officer of the Company. Each of such individuals acquired 382,400 shares of the Company's Common Stock and warrants to purchase 1,091,800 shares of Common Stock. In January 2003, Messrs. Casner, Lynch, Meaney, Meyer and Schaffnit each contributed the equity interests of MBC and 3D to the capital of the Company. Upon this contribution, MBC and 3D became wholly owned subsidiaries of the Company and were later dissolved. Item 13. Exhibits ----------------------------------------------------------------- Note: All exhibits that were filed as exhibits (i) to our Registration Statement on Form S-18, File No. 2-67918-NY, as amended or, (ii) if so specified, to previously filed Annual Reports on Form 10-KSB or to previously filed Current Reports on Form 8-K, are indicated by a parenthesis setting forth the exhibit number by which the exhibits were identified in said Registration Statement and are hereby incorporated by reference. 3.1 Certificate of Incorporation [Exhibit 2(I)]. 3.2 By-laws [Exhibit 2(II)]. 3.3 Form of Certificate of Amendment to Certificate of Incorporation [Exhibit 2(III)]. 3.4 Form of Certificate of Amendment of Incorporation with respect to increase of authorized shares [Exhibit IV)]. 4.1 Certificate of Designations of Series B Preferred Stock and Series C Preferred Stock [Exhibit 4.1 to Form 8-K filed September 12, 1988]. 4.2 Revised form of Series C Preferred Stock Purchase Warrant issued to Bishop Capital, L.P. as assigned to the Investors. 4.3 Form of Series C Preferred Stock Purchase Warrant issued to Unicorn Ventures, Ltd., Renaissance Holdings PLC and Gartmore Information and Financial Trust PLC. [Exhibit 4.5 to Form 10-K for 1988 filed May 15, 1989]. 4.4 Form of Series C Preferred Stock Purchase Warrant assigned to the Investors. [Exhibit 4.10 to Form 10-K for 1990 filed April 12, 1991]. 4.5 Form of Series C Preferred Stock Purchase Warrant assigned to the Investors [Exhibit 4.11 to Form 10-K for 1990 filed April 12, 1991]. 4.6 Assignment and Sale Agreement dated October 27, 1992 by and among Renaissance Holdings PLC, acting by its Receivers, the Company, and each of the Investors and, as to Section 1.1 thereof only, the Chartfield Group, acting by its Receivers [Exhibit 4.1 to Form 8-K filed October 27, 1992]. 4.7 Loan Modification and Intercreditor Agreement dated October 27, 1992 by and among the Company and the Investors [Exhibit 4.2 to Form 8-K filed October 27, 1992]. 4.8 Certificate of Designations of Serial Preferred Stock [Exhibit 4.16 to Form 10-K for 1993 filed March 30, 1994]. 10.1 Loan Agreement dated April 26, 1988 between the Company and Bishop Capital, L.P. as assigned to the Investors [Exhibit 10.1 to Form 8-K filed September 12, 1988]. 10.2 Security Agreement dated April 26, 1988 between the Company and Bishop Capital, L.P. as assigned to the Investors [Exhibit 10.2 to Form 8-K filed September 12, 1988]. 10.3 Amendment to Loan Agreement and Promissory Note dated as of January 27, 1989 between Bishop Capital, L.P. as assigned to the Investors and the Company. [Exhibit 10.4 to Form 10-K for 1988 filed May 15, 1989]. 10.4 Investment Agreement dated as of June 30, 1988 between Unicorn Ventures, Ltd., Unicorn Ventures II, L.P., as assigned to the Investors and the Company [Exhibit 10.6 to Form 8-K filed September 12, 1988]. 10.5 Security Agreement dated June 30, 1988 from the Company to Unicorn Ventures, Ltd. and Unicorn Ventures II, L.P. as assigned to the Investors [Exhibit 10.9 to Form 8-K filed September 12, 1988]. 10.6 Registration Agreement dated as of June 30, 1988 between Unicorn Ventures, Ltd., Unicorn Ventures II, L.P., as assigned to the Investors and the Company [Exhibit 10.10 to Form 8-K filed September 12, 1988] 10.7 Consent and Amendment Agreement dated March 31,1989 as assigned to the Investors. [Exhibit 10.10 to Form 10-K for 1988 filed May 15, 1989]. 10.8 1988 Restricted Stock Award Plan. [Exhibit 10.20 to Form 10-K for 1988 filed May 15, 1989]. 10.9 Form of Restricted Stock Agreement. [Exhibit 10.21 to Form 10-K for 1988 filed May 15, 1989]. 10.10 Incentive Stock Option [Exhibit 10(c)(III) to Form 10-K for the year ended December 13, 1981]. 10.11 Amended and Restated Stock Option Plan (1988)[Exhibit 10.27 to Form 10-K for 1989 filed April 3, 1990]. 10.12 Security Agreement dated April 19, 1990 from Mikros to Bishop Capital, L.P. as assigned to the Investors [Exhibit 10.35 to Form 10-K for 1990 filed April 12, 1991]. 10.13 Security Agreement dated April 19, 1990 from Mikros to Renaissance Holdings PLC as assigned to the Investors. [Exhibit 10.36 to Form 10-K for 1990 filed April 12, 1991]. 10.14 Consent and Amendment Agreement dated as of April 19, 1990 as assigned to the Investors. [Exhibit 10.37 to Form 10-K for 1990 filed April 12, 1991]. 10.15 Note Modification and Stock Purchase Agreement dated December 31, 1993. [Exhibit 10.47 to Form 10-K for 1993 filed March 30, 1994]. 10.16 Common Stock and Warrant Purchase Agreement dated November 15, 1996 by and between Mikros Systems Corporation and Safeguard Scientifics (Delaware), Inc. (Delaware), Inc. [Exhibit 10.1 to Form 8-K filed November 18, 1996]. 10.17 License Agreement dated November 15, 1996 by and between Mikros Systems Corporation and Data Design and Development Corporation. [Exhibit 10.2 to Form 8-K filed November 18, 1996]. 10.18 Technology License Agreement dated November 15, 1996 by and among Data Design and Development Corporation, Mikros Systems Corporation and Mobile Broadcasting Corporation. [Exhibit 10.3 to Form 8-K filed November 18, 1996]. 10.19 Form of 1996 Warrant with Schedule of Warrants. [Exhibit 10.24 to Form 10-K filed February 28,1997]. 10.20 Registration Statement of shares included in the Incentive Stock Option Plan (1981)and the 1992 Incentive Stock Option Plan [Form S-8/S-3 filed April 25,1997]. 10.21 Contract to sell defense contracts to General Atronics Corporation dated April 10, 1998 [Exhibit 10.25 to Form 10-K filed November 13, 1998]. 10.22 Non-Compete agreement with General Atronics Corporation dated April 10,1998 [Exhibit 10.26 to Form 10-K filed November 13, 1998]. 10.23 Lease agreement with the Daily Plan It for office space dated July 29, 1998 [Exhibit 10.23 to Form 10-K filed February 28, 1997]. 10.24 Contribution Agreement dated as of January 28, 2003. between the Company and Paul G. Casner, Thomas C. Lynch, Thomas J. Meaney, Wayne E. Meyer and Tom L. Schaffnit [Exhibit 10.24 to Form 10-KSB filed March 31, 2003]. 31.1 Certification of principal executive officer and principal financial officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of principal executive officer and principal financial officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. 1350. Item 14. Principal Accountant Fees and Services ----------------------------------------------- Audit Fees ---------- We have engaged Beard Miller Company LLP for the audit of our financial statements for the year ended December 31, 2004 and the reviews of the financial statements included in each of our quarterly reports on Form 10-QSB during the year ended December 31, 2004 for a fee of $20,066. Beard Miller Company LLP billed us an aggregate of $13,500 in fees for professional services rendered in connection with the audit of our financial statements for the year ended December 31, 2003. Audit-Related Fees ----------------- The aggregate fees billed by our independent accountants for audit-related services during the fiscal years ended December 31, 2004 and 2003 totaled $0. Tax Fees -------- There were no fees billed by our independent accountants for tax fees for the years ended December 31, 2004 and 2003. All Other Fees -------------- There were no fees billed by our independent accountants for non-audit services during the years ended December 31, 2004 and 2003. Audit Committee Pre-Approval Policies and Procedures ---------------------------------------------------- All auditing services and non-audit services (other than the de minimus exceptions provided by Exchange Act) provided to us by our independent accountants must be pre-approved in the future by the Audit Committee. Any future Audit-Related Fees and Tax Fees will be pre-approved by the Audit Committee. SIGNATURE PAGE Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. MIKROS SYSTEMS CORPORATION -------------------------- (Registrant) Dated: March 31, 2005 By: /s/ Thomas J. Meaney -------------------------------- Thomas J. Meaney, President Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated and on the date indicated. Signatures Date /s/ Wayne E. Meyer --------------------------- March 31, 2005 Wayne E. Meyer, Chairman /s/ Paul G. Casner --------------------------- March 31, 2005 Paul G. Casner, Director /s/ Thomas C. Lynch March 31, 2005 ------------------------------ Thomas C. Lynch, Director /s/ Thomas J. Meaney ------------------------------ March 31, 2005 Thomas J. Meaney, Director /s/ Tom L. Schaffnit March 31, 2005 ------------------------------ Tom L. Schaffnit, Director Report of Independent Registered Public Accounting Firm To the Board of Directors and Shareholders of MIKROS SYSTEMS CORPORATION Princeton, New Jersey We have audited the accompanying balance sheet of Mikros Systems Corporation as of December 31, 2004, and the related statements of operations, shareholders' deficiency, and cash flows for the years ended December 31, 2004 and 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 audits. We conducted our audits 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 audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Mikros Systems Corporation as of December 31, 2004, and the results of its operations and its cash flows for the two years 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 to the financial statements, the Company has sustained recurring losses from operations in prior years that raise substantial doubt about its ability to continue as a going concern. Management's plans in regard 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/Beard Miller Company LLP Reading, Pennsylvania March 2, 2005 MIKROS SYSTEMS CORPORATION BALANCE SHEET DECEMBER 31, ASSETS 2004 ------------------------------ ------------ CURRENT ASSETS Cash $ 93,723 Receivable on government contracts 172,141 Other Current Assets 4,081 ------------ TOTAL CURRENT ASSETS 269,945 ------------ Equipment 1,342 Less: Accumulated Depreciation (937) ------------ 405 ------------ TOTAL ASSETS $ 270,350 ============ See Notes to Financial Statements MIKROS SYSTEMS CORPORATION BALANCE SHEET (continued) LIABILITIES AND DECEMBER 31, SHAREHOLDERS' EQUITY (DEFICIENCY) 2004 ---------------------------------- ----------- CURRENT LIABILITIES Accrued Payroll and Payroll Taxes $ 47,026 Accrued Expenses 98,797 Accounts Payable 80,929 ------------ TOTAL CURRENT LIABILITIES 226,752 ------------ REDEEMABLE SERIES C PREFERRED STOCK par value $.01 per share, authorized 150,000 shares, issued and outstanding 5,000 shares 80,450 ----------- SHAREHOLDERS' EQUITY (DEFICIENCY) Preferred Stock, convertible, par value $.01 per share, authorized 2,000,000 shares, issued and outstanding 255,000 shares 2,550 Preferred Stock, Series B convertible, par value $.01 per share, authorized 1,200,000 shares, issued and outstanding 1,102,433 shares 11,024 Preferred Stock, Series D, par value $.01 per share 690,000 shares authorized, issued and outstanding 6,900 Common Stock, par value $.01 per share, authorized 60,000,000 shares, issued and outstanding 31,766,753 shares 317,668 Capital in excess of par value 11,422,976 Accumulated Deficit (11,797,970) ------------ TOTAL SHAREHOLDERS' DEFICIENCY ( 36,852) ------------ TOTAL LIABILITIES AND SHAREHOLDERS' DEFICIENCY $ 270,350 ============ See Notes to Financial Statements MIKROS SYSTEMS CORPORATION STATEMENTS OF OPERATIONS Years Ended December 31, 2004 2003 ------------ ----------- Contract Revenues $ 1,043,714 $ 230,645 Cost of sales 714,451 140,964 ------------ ----------- Gross margin 329,263 89,681 ------------ ----------- Expenses Engineering 113,832 45,283 General and Administrative 190,884 158,098 ------------ ----------- Total expenses 304,716 203,381 ------------ ----------- Income (loss) from operations 24,547 (113,700) Other Income: Interest 36 8 Other Income 67,298 0 ------------ ----------- Net income (loss) before income taxes 91,881 (113,692) Income taxes 0 0 ------------ ----------- Net income (loss) $ 91,881 $(113,692) ============ =========== Basic and diluted earnings (loss) per share $ 0.00 $ (0.00) ============ =========== Weighted average number of shares outstanding 31,766,753 31,566,753 ============ ============= See Notes to Financial Statements MIKROS SYSTEMS CORPORATION STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIENCY) YEARS ENDED DECEMBER 31, 2004 AND 2003 $0.01 Par Value $0.01 Par Value $0.01 Par Value 2019: ------------------------------------------------------------- Par Number Par Number Par 2021: of shares Value of shares Value of shares Value 2022: -------------------------------------------------------------- 2024: Balance, January 1, 2003 255,000 $2,550 1,102,433 $11,024 690,000 $6,900 2028: ---------- ------- --------- ------- --------- -------- 2029: Balance,December 31, 2003 255,000 2,550 1,102,433 11,024 690,000 6,900 2032 Net income 2033 ---------- ------ ---------- ------- --------- -------- 2034Balance, December 31, 2004 255,000 $2,550 1,102,433 $11,024 690,000 $6,900 2035: ======= ====== =========- ======= ======= ======== Capital in excess of Accumulated Par Value Deficit Total 2041: ----------------------------------------------------------------- Par 2043: of shares Value 2044: ------------------------------------------------------------------ 2046: Balance,January 1, 2003 31,566,753 $315,668 $ 11,370,271$(11,776,159) (69,246) 2048:Issuance of Common Stock 200,000 2,000 4,000 6,000 Capital Contribution 48,705 48,705 Net loss (113,692 ) (113,692) 2054: ---------- -------- ----------- ------------ --------- Balance,December 31, 2003 31,766,753 $317,668 11,422,976 (11,889,851) (128,733) Net Income 91,881 91,881 ---------- --------- ----------- ------------- --------- 2060: Balance, December 31, 2004 31,766,753 $317,668 $ 11,422,976 $(11,797,970) $(36,852) 2061======= ======== =========== ============= ====== See Notes to Financial Statements MIKROS SYSTEMS CORPORATION STATEMENTS OF CASH FLOWS Years Ended December 31, 2004 2003 ---------- ----------- Cash Flow From Operating Activities: Net income (loss) $ 91,881 $ (113,692) Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: Depreciation and Amortization 5,100 4,613 Impairment loss on fixed assets and patents 6,836 19,015 Expense related to stock based compensation - 6,000 Net Changes in Operating Assets and Liabilities Accounts Receivable (121,593) (8,887) Other Current Assets 48 (3,629) Accounts Payable 37,707 16,861 Accrued Payroll and Payroll Taxes 848 24,647 Other accrued expenses 64,068 8,539 ----------- --------- Net Cash provided by (used in) operating activities - net increase (decrease) in cash 84,895 (46,533) Cash, Beginning of year 8,828 55,361 ----------- --------- Cash, end of year $ 93,723 $ 8,828 ============ ============= Supplementary disclosure of non-cash investing and financing activities: Capital contribution through forgiveness of payable to affiliate $ - $ 48,705 ============= ============== See Notes to Financial Statements MIKROS SYSTEMS CORPORATION NOTES TO FINANCIAL STATEMENTS NOTE 1 - THE COMPANY --------------------- Mikros Systems Corporation (the "Company") was founded in 1978 in Albany, New York. The Company's headquarters are located at 707 Alexander Road, Suite 208, Princeton, New Jersey; telephone (609)987-1513. Initially, the Company supplied technology for military applications. The related knowledge base and proprietary technology developed was recognized as applicable to the rapidly expanding wireless business in the commercial sector. In 1995, the Company's Board of Directors decided the Company should pursue commercial contracts which would employ advanced techniques to enhance the data transmission rates in the AM and FM radio spectrum. Since the Company had limited resources, it was decided to pursue the AM technology. In 1996, Safeguard Scientifics (Delaware), Inc., (Safeguard) invested $1,000,000 in the Company in exchange for 10% ownership in the Company. At the same time, Mobile Broadcasting Corporation (MBC) was created to exploit the AM radio technology, particularly in mobile or portable platforms such as automobiles. Initially, Safeguard invested $1,000,000 in MBC for 75% ownership and the Company owned the remaining 25%. The Company's share in MBC was subsequently increased to 50%, as a result of the Company's investment in the development of this technology. Data Design and Development Corporation (3D) was founded in 1996 as a part of the Company's agreement with Safeguard Scientific and retained ownership of the AM and FM technology. 3D had licensed the FM technology rights in North America to the Company and the AM technology rights in North America to MBC. Mikros owned 2/3 of 3D and Safeguard owned the remaining 1/3. In November 2002, Safeguard Scientifics sold its equity interests in MBC, 3D and the Company to Paul G. Casner, Thomas Lynch, Thomas J. Meaney, Wayne E. Meyer and Tom L. Schaffnit, each of whom is a Director of the Company. Mr. Meaney also is President, Chief Executive Officer and Chief Financial Officer of the Company. Each of such individuals acquired from Safeguard Scientifics (Delaware), Inc. 382,400 shares of the Company's Common Stock and warrants to purchase 1,091,800 shares of Common Stock. In January 2003, Messrs. Casner, Lynch, Meaney, Meyer and Schaffnit each contributed the equity interests of MBC and 3D to the capital of the Company. Upon this contribution, MBC and 3D became wholly owned subsidiaries of the Company. The Company subsequently dissolved MBC and 3D during 2003. In May 2002, the Company entered into a phase I research contract with the Naval Surface Warfare Center in Dahlgren, Virginia. This contract was designed to help fund the development of a certain technology to be utilized by the U.S. Department of Defense. This contract provided for research funding of approximately $100,000 in 2002 and 2003. In 2004 and 2003, the Company's only revenues were generated from Phase I, II and III research contracts with the Naval Surface Warfare Center in Dahlgren, Virginia. The Phase II contract was entered into on August 8, 2003 and is expected to continue through the first quarter of 2005. The contract provided for initial research funding of $150,000, which was later increased to $600,000. The contract also provides for supplemental funding of up to $250,000, at the option of the issuer. The Contract is a cost plus a fixed fee contract and the Company is billing its actual costs on a bi-weekly basis. As of December 31, 2004, the Company had billed $930,000 under this phase II contract. In June 2004, the Company was awarded a Small Business Innovation Research (SBIR) Phase I contract from the Office of Naval Research. Valued at approximately $100,000, the contract is for researching and evaluating techniques to minimize interference between the U.S. Navy radar and wireless communication systems. In September 2004, the Company was awarded a Small Business Innovation Research (SBIR) Phase III contract from the Naval Surface Warfare Center Dahlgren, Virginia valued at approximately $2,400,000, the contract is to complete the development and to begin initial production of an intelligent test tool for Navy radars. The Multi-Function Distributed Analysis Tool (MFDAT) has been designed by the Company under the SBIR Phase II contract, which began in August 2003. As of December 31, 2004, the Company had billed $194,000 under this Phase III contract. NOTE 2 - SIGNIFICANT ACCOUNTING POLICIES ---------------------------------------- Basis of Presentation --------------------- The Company's financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America. These financial statements have been prepared assuming that the Company will continue as a going concern. However, the Company has sustained substantial operating losses in recent years and has used substantial amounts of working capital in its operations. These conditions raise substantial doubt about the Company's ability to continue as a going concern. These financial statements do not include any adjustments that would be required if the Company were unable to continue as a going concern. The Company expects that the development of a product that can be marketed and sold will require a significant amount of additional funding. The Company's ability to continue as a going concern is dependent upon the Company's ability to obtain the necessary funding to support its research and development efforts and to ultimately produce and market a product that will provide the Company with revenues sufficient to support its on-going operations. Management believes that actions presently being taken to minimize expenses that are not reimbursable under the Phase II and Phase III contracts coupled with expected supplemental funding under the Phase II contract will be sufficient to enable the Company to meet its operating needs and continue with its product research and development. Use of Estimates ---------------- The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management 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 reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Accounts Receivable on Government Contract ------------------------------------------ Accounts receivable are stated at outstanding balances, less an allowance for doubtful accounts, if necessary. When necessary, the allowance for doubtful accounts is established through provisions charged against operations. Accounts deemed to be uncollectible are charged against the allowance and subsequent recoveries, if any, are credited to the allowance. The allowance for doubtful accounts is maintained at a level considered adequate to provide for losses that can be reasonably anticipated. Management's periodic evaluation of the adequacy of the allowance is based on past experience, agings of the receivables, adverse situations that may affect a customers' ability to pay, current economic conditions and other relevant factors. This evaluation is inherently subjective as it requires estimates that may be susceptible to significant change. Unpaid balances remaining after the stated payment terms are considered past due. Cash ----- Cash balances consist of balances that are immediately available to the company and are held by financial institutions. These balances may, at times, exceed FDIC insured limits. Equipment --------- Equipment is stated at cost. Depreciation is computed using the straight-line method based on estimated useful lives of 4 years. Depreciation expense amounted to $5,100 and $2,493 for years ended December 31, 2004 and 2003, respectively. During the fourth quarter of 2004 and based upon the review of its fixed assets, the Company recorded an impairment charge of $6,836, which was the remaining carrying value of certain assets that were believed to have no further use to the Company. This charge is included in the accompanying statement of operations for the year ended December 31, 2004 as general and administrative expenses. Net Income (Loss) per Common Share ---------------------------------- The Company reports earnings per share in accordance with the provisions of Statement of Financial Accounting Standards No. 128 (SFAS No. 128), Earnings Per Share. SFAS No. 128 requires the presentation of basic and diluted earnings per share in conjunction with the disclosure of the methodology used in computing such earnings per share. Basic earnings per share excludes the dilutive effect of securities and other contracts and is computed by dividing income available to common stockholders by the weighted average common shares outstanding during the period. Diluted earnings per share takes into account the potential dilution that could occur if securities or other contracts to issue common stock were exercised and converted into common stock. Stock Options ------------- The Company has adopted Statement of Financial Accounting Standards No. 123 (SFAS No. 123), Accounting for Stock-Based Compensation, which requires expanded disclosures of stock-based compensation arrangements. SFAS No. 123 encourages, but does not require, compensation cost to be measured based on the fair value of the equity instrument awarded. It allows the Company to continue to measure compensation cost for these plans using the intrinsic value based method of accounting prescribed by Accounting Principles Board Opinion No. 25 (APB 25), Accounting for Stock Issued to Employees. The Company has elected to continue to recognize compensation cost based on the intrinsic value of the equity instrument awarded to employees as prescribed in APB 25. SFAS No. 123 requires company's that continue to utilize APB 25 to make pro-forma disclosures of net income and earnings per share as if the fair-value method of accounting prescribed by SFAS No. 123 had been applied. Management has determined that proforma net income and earnings per share information is not materially different than reported net income and earnings per share. Revenue Recognition ------------------- Revenues under the Phase I, Phase II, and Phase III contracts are recognized when the Company incurs reimbursable costs under the contract. During 2004 and 2003, all contract revenues were recognized on contracts with the Federal Government. Reclassifications ----------------- Certain 2003 balances have been reclassified to conform with their 2004 financial statement presentation. These reclassifications had no effect on previously reported net loss for 2003. Patents ------- The Company was amortizing costs for its two patents over their legal life of 17 years. These patents were scheduled to expire in 2010 and 2015. Accumulated amortization of these patents at December 31, 2002 was $14,901. The Company recorded amortization expense related to these patents of approximately $2,119 in 2003. In 2003, the Company determined that it was unlikely that the remaining carrying value for these patents would be recovered and recorded an impairment loss equal to the carrying value. This impairment loss of $19,015 is included in the statement of operations for the year ended December 31, 2003. Income Taxes ------------ The Company accounts for its income taxes under the liability method prescribed by SFAS No. 109, Accounting for Income Taxes. Deferred tax assets and liabilities are determined based on the difference between the financial statement and the tax bases of assets and liabilities as measured by the enacted tax rates which will be in effect when these differences reverse. Deferred tax expense is the result of changes in deferred tax assets and liabilities. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion of the deferred tax asset will not be realized. Recently Issued Accounting Standards ------------------------------------ In December 2004, the Financial Accounting Standards Board (FASB) issued Statement No. 123(R), "Share-Based Payment." Statement No. 123(R) revised Statement No. 123, "Accounting for Stock-Based Compensation," and supersedes APB Opinion No.25, "Accounting for Stock Issued to Employees," and its related implementation guidance. Statement No. 123(R) will require compensation costs related to share-based payment transactions to be recognized in the financial statements (with limited exceptions). The amount of compensation cost will be measured based on the grant-date fair value of the equity or liability instruments issued. Compensation cost will be recognized over the period that an employee provides service in exchange for the award. This statement is effective for the Company as of the beginning of the first interim or annual reporting period that begins after December 15, 2005. The Company is currently evaluating the impact that this standard will have on its result of operations and financial position. NOTE 3 STOCKHOLDERS' EQUITY ----------------------------- CONVERTIBLE PREFERRED STOCK --------------------------- Each share of the convertible preferred stock can be redeemed at the Company's option for $1 per share or can be converted into shares of the Company's common stock. Each share of preferred stock is convertible into one share of common stock. This conversion rate is subject to adjustment in certain circumstances. Upon any liquidation, dissolution or winding up of the Company, each holder will be entitled to their redemption price once shareholders of Series B and Series C preferred stock have been fully paid. SERIES B CONVERTIBLE PREFERRED STOCK ------------------------------------ Each share of Series B Preferred Stock is convertible into three shares of the Company's common stock at a price of $.33 per share of common stock to be received upon conversion and entitles the holder thereof to cast three votes on all matters to be voted on by the Company's Shareholders. Upon any liquidation, dissolution, or winding up of the Company, each holder of Series B Preferred Stock will be entitled to be paid, after all distributions of payments are made upon the Series C Preferred Stock and before any payment is made upon the Company's Convertible Preferred Stock, an amount in cash equal to $1.00 for each share of Series B Preferred Stock held, and such holders will not be entitled to any further payment. SERIES D CUMULATIVE PREFERRED STOCK ----------------------------------- The Series D Preferred Stock provides for an annual cumulative dividend of $.10 per share. The shares are not convertible into any other class of stock and are subject to redemption at the Company's option at any time at a redemption price of $1.00 per share plus all unpaid cumulative dividends. Upon liquidation, dissolution or winding up of the Corporation, each holder of Series D Preferred Stock will be entitled to be paid, after all distributions or payments are made upon the Corporation's Convertible Preferred Stock, Series B Preferred Stock, and Series C Preferred Stock, an amount in cash equal to the Redemption Price for each share of Series D Preferred Stock held by such holder. The holders of Series D Preferred Stock will not be entitled to any further payment. As of December 31, 2004 and 2003, there were dividends in arrears on shares of Series D Preferred Stock of $759,000 and $690,000, respectively. COMMON STOCK WARRANTS --------------------- In November 2002, the Company reacquired common stock warrants that were held by one of the Company's stockholder's. These warrants gave that stockholder the right to purchase, at any time, 5,459,000 shares of the Company's common stock. Contemporaneously, the Company issued new warrants to certain other shareholders to purchase 5,459,000 shares of the Company's common stock. The terms of the reacquired warrants and the newly issued warrants are identical. These warrants expire in November 2006 and can be exercised at a price of $.78 per share for the purchase of 3,071,000 shares of common stock and $.65 per share for the purchase of 2,388,000 shares of common stock. None of the warrants were exercised as of December 31, 2004. NOTE 4 - INCOME TAXES --------------------- The income tax provision is computed as follows: 2004 2003 --------- --------- Current tax expense $ 0 $ 0 Deferred tax expense (benefit) 25,548 (143,746) Increase (decrease) in valuation allowance (25,548) 143,746 --------- --------- Net Tax Provision $ 0 $ 0 ========= ========= The difference between the statutory federal income tax rate and the effective Company tax rate is as follows: 2004 2003 -------- ---------- Federal statutory rate 34.0% 34.0% Utilization of net operating loss carry forward (34.0) (34.0) --------- ---------- Effective tax rate 0.0% 0.0% ========= ========== Total available net operating loss carry forwards at December 31, 2004 are reflected in the following schedule: YEAR AVAILABLE FOR AVAILABLE FOR OF FEDERAL STATE EXPIRATION TAX PURPOSES TAX PURPOSE 2005 81,000 - 2010 602,000 79,000 2011 1,422,000 - 2017 339,000 - 2019 307,000 - 2021 77,000 - 2022 39,000 - 2023 107,000 -------------- ------------- $ 2,974,000 $ 79,000 ============== ============= During 2004, federal net operating loss carry forwards of approximately $83,000 and state net operating loss carry forwards of approximately $92,000 were utilized by the Company for purposes of the Company's tax provision. Consequently, the Company's valuation allowance associated with the related deferred tax assets was reduced by approximately $26,000 in 2004. In 2003, the valuation allowance was increased by approximately $144,000. The deferred taxes consist of the following as of December 31: 2004 2003 --------- --------- Deferred tax asset: Net operating loss carry forwards $ 1,022,043 $ 1,087,502 Valuation allowance ( 1,022,043) ( 1,087,502) ---------- ----------- Net deferred tax asset $ - $ - ========== =========== NOTE 5 - STOCK OPTIONS ---------------------- The Company has outstanding stock options for the purchase of the Company's common stock. These options were issued pursuant to a stock option plan adopted by the Company in 1992. The ability to grant options under this plan expired in 2002. Specific terms of the remaining options outstanding under this plan are dictated by the term of individual stock option agreements. Generally, the exercise price of the options is the market price of the Company's stock on the date that the option was granted. A summary of the status of the Company's stock option plan as of December 31, 2004 and 2003 is presented below: Weighted Weighted Average Average Exercise Exercise Common Stock Options: 2004 Price 2003 Price ----------------------------------------- Options outstanding beginning of year 401,818 $0.1913 401,818 $0.1913 - - - Exercised - - - - Cancelled - - - - ----------------------------------------- Options outstanding, end of year 401,818 $0.1913 401,818 $0.1913 2538: ======================================= Options exercisable, end of year: 401,818 0.1913 381,395 0.1898 ================================ The following table summarizes information about options outstanding at December 31, 2004 and 2003: 2004 Options Outstanding --------------------------------------------------------- Number Weighted Avg. Options Exercise Outstanding Remaining Exercisable at Prices at 12/31/04 Contractual Life 12/31/04 (Years) -------- ----------- ---------------- ------------- $0.1500 280,000 5.08 280,000 $0.1875 10,000 0.42 10,000 $0.2200 81,818 5.67 81,818 $0.5000 30,000 1.58 30,000 401,818 401,818 ======= ========= 2003 Options Outstanding --------------------------------------------------------- Number Weighted Avg. Options Exercise Outstanding Remaining Exercisable at Prices at 12/31/03 Contractual Life 12/31/03 (Years) -------- ----------- ---------------- ------------- $0.1500 280,000 6.08 280,000 $0.1875 10,000 1.42 10,000 $0.2200 81,818 6.67 61,395 $0.5000 30,000 2.58 30,000 401,818 381,395 ======= ========= The Company recorded compensation expense of $6,000 on the distribution of stock grants to certain employees in 2003. Note 6 INCOME (LOSS) PER SHARE -------------------------------- The Company's calculation of earnings (loss) per share is as follows: 2004 2003 ----- ----- Net income (loss) applicable to common stockholders $ 91,881 $ (113,692) ========== ========== Average basic shares outstanding 31,766,753 31,566,753 Assumed conversion of preferred stock 3,562,299 - Effect of dilutive options and warrants - - ---------- ----------- Average dilutive shares outstanding 35,329,052 31,566,753 =========== =========== Net income (loss) per common share - basic and diluted $ 0.00 $ 0.00 ============ =========== A total of 5,860,818 common stock options and warrants were not included in the computation of diluted earnings per share because of their anti-dilutive effect for the year ended December 31, 2004. A total of 5,840,395 common stock options and warrants and 3,562,299 shares of convertible preferred stock were not included in the computation of diluted earnings per share because of their anti- dilutive effect for the year ended December 31, 2003. Note 7 LINE OF CREDIT ----------------------- The Company maintains a line of credit facility for maximum borrowings of up to $34,000. Outstanding balances on this line of credit accrue interest at the bank's published prime rate. This line matures in October 2006 and payment has been personally guaranteed by the Company's President. There were no amounts outstanding under this line at December 31, 2004. NOTE 9 - COMMITMENTS -------------------- The Company leases its administrative office and marketing facilities through month-to-month leases. Our engineering research, design and development lease agreement runs through August 2005. Total rent expense during 2004 and 2003 was $21,100 and $16,487, respectively. Note 10 - SERIES C REDEEMABLE PREFERRED STOCK -------------------------------------------- The Series C Preferred Stock is not convertible into any other class of the Company's stock and is subject to redemption at the Company's option at any time or if certain events occur, such as capital reorganizations, consolidations, mergers, or sale of all or substantially all of the Company's assets. Upon any liquidation, dissolution or winding up of the Company, each holder of Series C Preferred Stock will be entitled to be paid, before any distribution or payment is made upon any other class of stock of the Company, an amount in cash equal to the redemption price for each share of Series C Preferred Stock held by such holder, and the holders of Series C Preferred Stock will not be entitled to any further payment. The redemption price per share is $16.09. Note 11 ACCRUED EXPENSES -------------------------- Accrued expenses as of December 31, 2004 are comprised of the following items: Accrued liability to subcontractor for services billed $ 25,000 Accrued loss on SBIR Phase I contract 21,500 Disputed subcontractor charges 33,000 Refundable advance from government 19,297 -------- $ 98,797 ======== Exhibit 31.1 CERTIFICATION I, Thomas J. Meaney, certify that: 1. I have reviewed this annual report on Form 10-KSB of Mikros Systems 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 small business issuer as of, and for, the periods presented in this report; 4. I am 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 my supervision, to ensure that material information relating to the small business issuer, including its consolidated subsidiaries, is made known to me by others within those entities, particularly during the period in which this report is being prepared; b) [Paragraph omitted in accordance with SEC transition instructions contained in SEC Release 34-47986] c) 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 period covered by this report based on such evaluation; and d) 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 fiscal quarter that has materially affected, or is reasonably likely to materially affect, the small business issuer's internal control over financial reporting; and 5. I have disclosed, based on my most recent evaluation of internal control over financial reporting, to the small business issuer's auditors and the audit committee of the small business issuer'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 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. /s/ Thomas J. Meaney ___________ Dated: March 31, 2005 Thomas J. Meaney, President, Chief Executive Officer and Chief Financial Officer (Principal Executive Officer and Principal Financial Officer) 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 Annual Report on Form 10-KSB of Mikros Systems Corporation (the "Company") for the year ended December 31, 2004 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), the undersigned, Thomas J. Meaney, President, Chief Executive Officer and Chief Financial Officer of the Company, hereby certifies, pursuant to 18 U.S.C. Section 1350, 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 operations of the Company. /s/ Thomas J. Meaney* ___________ Dated: March 31, 2005 Thomas J. Meaney, President, Chief Executive Officer and Chief Financial Officer (Principal Executive Officer and Principal Financial Officer) *A signed original of this written statement required by Section 906 has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request.