-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, D1Uial7ht6IcrwzrUB4Q4LTEbi3nBfdNX2LRrbQFGABfFSfZA5HfGVDbV5YdBp9m xakkikaUwCw+cortiAiuRw== 0001017062-98-000583.txt : 19980319 0001017062-98-000583.hdr.sgml : 19980319 ACCESSION NUMBER: 0001017062-98-000583 CONFORMED SUBMISSION TYPE: 10-K/A PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19970928 FILED AS OF DATE: 19980318 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: IRVINE SENSORS CORP/DE/ CENTRAL INDEX KEY: 0000357108 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMMERCIAL PHYSICAL & BIOLOGICAL RESEARCH [8731] IRS NUMBER: 330280334 STATE OF INCORPORATION: DE FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10-K/A SEC ACT: SEC FILE NUMBER: 001-08402 FILM NUMBER: 98568517 BUSINESS ADDRESS: STREET 1: 3001 REDHILL AVE CITY: COSTA MESA STATE: CA ZIP: 92626 BUSINESS PHONE: 7145498211 MAIL ADDRESS: STREET 1: 3001 REDHILL AVE STREET 2: BLDG 3 STE 104 CITY: COSTA MESA STATE: CA ZIP: 92626 10-K/A 1 FORM 10-K/A DATED SEPTEMBER 28, 1997 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K/A (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934 [FEE REQUIRED] For the fiscal year ended September 28, 1997 OR [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934 [FEE REQUIRED] For the transition period from _________ to _________. Commission file number 1-8402 -------- IRVINE SENSORS CORPORATION (Exact name of registrant as specified in its charter) Delaware 33-0280334 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 3001 Redhill Avenue, Costa Mesa, California 92626 (Address of principal executive offices) (Zip Code) (714) 549-8211 (Registrant's telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: Name of each exchange on Title of each class: which registered: Common Stock Boston Stock Exchange Incorporated Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past ninety (90) days. Yes X No --- --- To the extent known by the registrant, the aggregate market value of the Common Stock held beneficially by non-affiliates of the registrant was approximately $19,343,100 on December 19, 1997. As the Preferred Stock is not publicly traded it has not been included in the computation. As of December 19, 1997, there were 21,241,266 shares of Common Stock outstanding. Documents Incorporated by Reference: Portions of the Registrant's Annual Report to Stockholders for the fiscal year ended September 28, 1997; (Part II); portions of the Registrant's Definitive Proxy Statement to be used in connection with Registrant's Annual Meeting of Stockholders to be held on February 27, 1998 (Part III). Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K ((S) 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy of information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K [_]. PART I Item 1. Business. General The Company and its subsidiaries are organized into these primary business groups. Irvine Sensors Corporation - -------------------------- Irvine Sensors Corporation (the "ISC") is the developer of proprietary technologies to produce extremely compact packages of solid state microcircuitry, which offer volume, power, weight and operational advantages versus less miniaturized alternatives. These advantages result from ISC's ability to assemble microelectronic chips in a three-dimensional "stack" instead of alongside each other on a flat surface, as is the case with more conventional methods. These stacking technologies have also led to ISC's development of collateral technologies for the design of low power and low noise chips, thinning of chips and various specialized applications of chips and stacked chip assemblies in fields ranging from image processing to digital photography. ISC's core chip-stacking technology was originally conceived and developed as a means of addressing the demands of space-based surveillance. However, the degree of miniaturization realizable from ISC's technologies has attracted R&D sponsorship from various U.S. government funding agencies for a wide variety of potential military and space applications. Since its inception, ISC has derived most of its revenues from such funded research and development. Since the early 1990s, ISC has sought to commercially exploit its technologies and has received an increasing share of its revenues from the sale of its stacked memory cubes. During June 1992, ISC entered into a joint development agreement with IBM to commercialize ISC's chip-stacking technology for computer memory applications. In April 1996, ISC purchased a memory-stacking line in Essex Junction, Vermont from IBM, and in October 1997, disposed of that line and consolidated that sector of its business with its California operation. In October 1995, ISC formed a subsidiary, Novalog, Inc. ("Novalog"), to commercially exploit its low power chip technology. In April 1997, ISC formed a subsidiary, MicroSensors, Inc. ("MSI"), to commercially exploit its technologies for low noise readout electronics and miniaturized inertial sensors. Novalog, Inc. - ------------- Novalog designs, develops and sells proprietary integrated circuits ("ICs") for use in wireless infrared communication. Novalog's initial products, trademarked SIRComm(TM), SIR2(TM), SIRFIR(TM), MiniSIR(TM) and BayBeamer(TM), enable infrared, line-of-sight data transfer between computers, electronic organizers, printers, modems and other electronic devices that have compatible ports. Novalog is an active participant in the standards body of the Infrared Data Association ("IrDA"), which establishes the hardware and software protocols for such products. Novalog believes its products have advantages in terms of power consumption, dynamic range, size and economics as compared to the products of its competitors. As of September 1997, Novalog has shipped nearly one and one-half million of its packaged ICs to manufacturers servicing the IrDA marketplace and, although there can be no assurance, management anticipates growing demand for such products. In fiscal 1997, Novalog accounted for approximately 6% of the Company's revenues. MicroSensors, Inc. - ------------------ MSI was formed to develop and sell proprietary micromachined sensors and related electronics. Micromachining involves the use of semiconductor manufacturing processes to build electromechanical devices with feature sizes measured in microns or fractions thereof. As prices have declined for micromachined devices, such solid-state units have migrated from initial aerospace and military applications to automotive, industrial process-control and medical applications. SRI Consulting (Menlo Park, CA) has reported that some observers expect sensors built in this manner to eventually replace virtually all electromechanical sensors, creating a market of several billion dollars annually. MSI has received a U.S. government contract for development of a proprietary micro gyro with projected performance features heretofore achievable only at much higher cost. Effective October 1997, MSI has negotiated its first commercial contract and has commenced development of a multi-channel readout chip pursuant to that contract, however, MSI did not generate any revenues in fiscal 1997. MSI believes, although there can be no assurance, that these contracts have positioned MSI to effectively compete in this emerging marketplace. __________ ISC was incorporated in Delaware in January 1988. Pursuant to a merger effective in May 1988 with a corporation of the same name incorporated in California in December 1974, the Company succeeded to all of the assets and liabilities of such predecessor corporation. Its principal executive offices are located at 3001 Redhill Avenue, Building. 3, Costa Mesa, California 92626, and its telephone number is (714) 549-8211. Novalog was incorporated in California in October 1995. Its principal executive offices are located at 125 Kalmus Drive, #K-1, Costa Mesa, California 92626, and its telephone number is (714) 429-1122. Novalog is a consolidated subsidiary of ISC. MSI was incorporated in Delaware in April 1997. Its principal executive offices are located at 3001 Redhill Avenue, Building 3, Costa Mesa, California 92626, and its telephone number is (714) 444-8729. MSI is a consolidated subsidiary of ISC. Products and Technology The Company has developed a family of standard products consisting of stacked memory chips, and believes that its chip stacking technology can offer demonstrable benefits to designers of systems that incorporate numerous integrated circuits, by improving speed and reducing size, weight and power usage. In addition, since ISC's technology reduces the number of interconnections between chips, potential system failure points can also decrease. The Company believes that the features achievable with its chip stacking technology will have application in space and in aircraft in which weight and volume considerations are dominant, as well as in various other applications in which portability is required and speed is important. The Company intends to exploit its potential market by focusing on the sale of the stacked memory products to high end, high margin government and commercial users to whom the technical improvement will be most valuable. While these applications tend to require lower unit volume, the sales are at significantly higher prices than many applications requiring high volume production. Furthermore, the Company has existing relationships with some of the potential customers in this market. Since fiscal 1995, the Company has been shipping quantities of its stacked memory products to customers for both government and commercial purposes. However, there is no assurance that the Company will be successful in marketing such products for widespread applications. The Company also intends to continue to market infrared sensing devices for surveillance, acquisition, tracking and interception applications for a variety of Defense Department and NASA missions. The demand for performance has produced a wide variety of competitors and competitive systems ranging from various three-dimensional designs to highly dense two-dimensional designs. Although some competitors are generally believed to be better financed, more experienced and organizationally stronger, the Company is not aware of any system in existence or under development that can stack memory chips more densely than its three-dimensional approach. See "Competition." The Company is not aware of any technical disadvantages to its chip stacking technology. However, until high volume production is achieved, as to which there is no assurance, the ultimate cost of products utilizing the Company's chip stacking technology cannot be firmly established. Since the Company believes cost will be a major factor in determining utility for many market segments, the Company will remain at a disadvantage in penetrating these segments until manufacturing volumes reach materially higher levels than have been achieved. In addition to its chip stacking technology, the Company has developed a Serial Infrared Communications chip using elements of its sensor chip design technology. This device is being used in products which allows computers and computer peripherals to communicate using infrared transmissions in a manner similar to that employed by remote control units for televisions and video cassette recorders. The Company is actively marketing its Serial Infrared Communications chips through its subsidiary, Novalog, Inc. In June 1995, the Company commenced production shipments of an integrated circuit (IC) chip designed to permit mobile units such as notebook computers and cellular phones to communicate with printers, modems, or other stationary peripherals by using infrared (IR) signals rather than cables or radio frequency transmissions. Potential Product Application Neural Networks. In 1991, the Company received funding from U.S. Navy's Office of Naval Research for potential use of its technology in neural networks. After the successful completion of this phase 1 contract, the Company received two $5,200,000 follow-on contracts from the Navy in June 1993 and January 1997 to further develop the neural networks technology. This phase of the contract was completed and the Company is presently negotiating a third follow-on contract under which the Company will deliver demonstration products to the Navy. Neural networks contain large numbers of sensing nodes which continuously interact with each other, similar to the way that the neurons of a human brain interact to process sensory stimuli. Neural networks are the subject of scientific inquiry because pattern recognition and learning tasks, which humans perform well, and computers perform poorly, appear to be dependent on such processing. Neither conventional computers nor advanced parallel processors have the interconnectivity needed to emulate neural network processing techniques. The Company believes its chip stacking technology offers a way to achieve the very high levels of interconnectivity necessary to construct an efficient artificial neural network. To the Company's knowledge, no other presently available packaging approaches are believed to offer this potential. The full embodiment of this technology is not expected to yield near-term products for the Company, although it is anticipated to keep the Company actively involved in advanced R&D relevant to the Company's long-range business interests. However, elements of this technology, including a proprietary chip set, are currently being developed with a view to early product utilization. Development Contract In April 1980, the Company entered into an agreement with R & D Leasing Ltd., ("RDL"), a limited partnership in which the Company's Chairman of the Board and a Senior Vice-President are general partners with beneficial interests, to design an electronic circuit, to develop certain fabrication processes and to build equipment for testing electronic integrated circuits. In connection with the development of the electronic test equipment under the RDL agreement, certain other proprietary fabrication processes were developed to which RDL retained ownership. Upon the occurrence of certain specified events, such as the use of RDL's patented fabrication processes in connection with contracts, the agreement with RDL provides that the Company will pay RDL a royalty fee of 3.5% of revenues from sales of the basic devices using the processes created during the development of this equipment. In June 1989, the Board of Directors approved an agreement with RDL whereby $40,000 of royalty fees were converted to a long-term note payable and a warrant to purchase shares of the Company's Common Stock. The note was unsecured, bore no interest and had a due date of June 30, 1995. The warrant to purchase 200,000 shares of Common Stock at 20 cents per share had an expiration date of June 30, 1995. In October 1989, the Board of Directors approved an amendment to the RDL agreement. Under the amendment the Company will pay RDL a royalty of 3.5% of all Company sales of the basic devices using the processes created during the development of the RDL equipment. In addition, RDL is entitled to receive an amount equal to 7% of all royalties earned by the Company from sales of these products by the Company's sublicensees. The Company's exclusive rights to the technology extend to all uses, both government and commercial. RDL agreed to defer its royalty claims and subordinate them with respect to all other creditors in exchange for options to purchase up to 1,000,000 shares of the Company's Common Stock, which are exercisable by applying the deferred royalties to the purchase. The initial 500,000 options vested immediately at the time of the initial five year deferral period in October 1989. In October 1994, the remaining 500,000 options vested upon RDL's extended deferral. The 1,000,000 options are exercisable at $1.00 until October 1999. If RDL exercises its option in whole or in part, title to RDL's technology would transfer to the Company and all further royalty obligations would cease. If the option expires unexercised, the subordination provisions would terminate and the accrued royalties would be due and payable in the same manner as any other corporate obligation. In October 1990, the Company and RDL consummated an agreement in which full settlement of the $40,000 note was arranged. RDL agreed to the cancellation of the Company's $40,000 debt and surrendered the warrant to purchase 200,000 shares of the Company's stock in exchange for a cash payment of $5,000 and 200,000 unregistered shares of the Company's Common Stock. As of September 28, 1997, the Company had accrued $613,800 in deferred royalties. With the exception of the 200,000 unregistered shares of the Company's Common Stock and the $5,000 cash payment to RDL made in connection with the cancellation of the Company's $40,000 note in October 1990, no royalties were paid by the Company during fiscal years 1997, 1996 and 1995. The Company believes that the terms of the foregoing transactions were no less favorable to the Company than would have been obtained from a non-affiliated third party for similar services. Manufacturing The Company had been manufacturing stacked memory products at its facilities in Vermont and California. The Vermont facilities were configured for high volume production where as the California facility is designed for low volume and prototype production. At the present time, the Company stacks DRAM, SRAM and FLASH memory die. The stacking process involves a standard process which fabricates cubes comprising of approximately 50 die layers along with ceramic cap and base substrates laminated with an extremely thin adhesive layer and interconnected with a thin-film bus metalization to bring the chip input/output signals out to the top surface of the stacks. The cubes are then segmented or split into subsections as required for the particular product configuration being built. Finally, the cubes, mini-cubes or short stacks are burned in, tested, graded, kitted for packaging, out-sourced for packaging and screening, and returned for final test. The Company has disposed of its manufacturing operations in Vermont during fiscal 1997. The primary components of the Company's non-memory products are integrated circuits and infrared detectors. The integrated circuits are designed by the Company for manufacture by others from silicon wafers and other materials readily available from multiple sources. Due to the ready availability of these materials, the Company does not have any special arrangements with suppliers for their purchase. The Company does not produce detectors. However, the Company has developed a process which enables it to use relatively low cost and unsophisticated detectors which are generally available from numerous sources. Because of the nature of the sophisticated research and development work performed under its development contracts, the Company designs and assembles equipment for testing and prototype development. The Company utilizes the unique capability of this equipment to seek, qualify for and perform additional contract research and development for its customers. The Company does not have any manufacturing capability to produce electro-optical or infrared detectors. Backlog At December 1, 1997, the Company's funded backlog was $2,110,300 compared to $5,393,100 at November 24, 1996. The Company anticipates that all of the funded backlog will be filled in fiscal 1998. In addition, the Company has $2,197,700 of unfunded backlog of contracts which typically is funded when the previously funded amounts have been expended. The Company is also continuing to negotiate for additional research contracts and commercial sales, which, if obtained, could materially increase this backlog. Failure to obtain these contracts in a timely manner could materially affect the Company's short-term results. Customers and Marketing The Company anticipates focusing its sensor product marketing efforts on U.S. military agencies or contractors to those agencies. The Company is continually seeking and preparing proposals for additional contracts. The Company has also begun to develop potential non-military uses of its technology. Potential commercial applications may include computer-related electronics packaging and a broad range of industrial recognition devices such as process control devices and security systems. In fiscal 1997, contracts with all branches of the U.S. government accounted for 43 percent of the Company's revenues, the remaining 57 percent of the Company's revenues was derived from non-government sources. During fiscal 1997, revenues derived from the U.S. Navy and various divisions of Lockheed Martin Corporation accounted for approximately 23 percent and 22 percent of total consolidated revenues, respectively. Loss of these customers would have a material adverse impact on the Company's short-term results. Contracts with government agencies may be suspended or terminated by the government at any time, subject to certain conditions. Similar termination provisions are typically included in agreements with prime contractors. There is no assurance the Company will not experience suspensions or terminations in the future. The Company presently has limited marketing resources and thus focuses its efforts in specific areas of interest. The Vice President-Marketing coordinates the marketing activities of senior and technical management with respect to government programs. The President and a Marketing Manager direct the marketing activities of Novalog, Inc. which produces the SIRComm products. As a result of the post cold-war defense cutbacks, many defense contractors are experiencing declines in their business base as government agencies' budgets are reduced. The Company believes that as the defense budget decreases there will be more emphasis and funds directed to advanced technology systems and research programs for which the Company is qualified to compete. However, there can be no assurances that the Company will be successful in competing against the larger defense contractors for potential programs. Competition The demand for high performance semiconductors has produced a wide variety of competitors and competitive systems, ranging from various three-dimensional designs to highly dense two-dimensional designs. Some of the Company's competition is generally believed to be better financed, more experienced and organizationally stronger than the Company. The Company is aware of two large companies that have developed competing approaches to chip stacking. They are Texas Instruments, Inc. (TI) and Thompson CSF (Thompson). In addition, there are several small companies and divisions of large companies that have various technologies for stacking a limited number of chips. The Company is aware of many companies which are currently servicing the military focal plane market. These include Santa Barbara Research Center, TI, Lockheed Martin Corporation, Raytheon, Litton Industries, Infrared Industries, Inc., EG&G Judson, OptoElectronics-Textron, Inc., Dense Pac Inc., and Boeing Corporation. The Company believes that many of its competitors have financial, labor and capital resources greater than those of the Company and there is no assurance that the Company will be able to compete successfully. The Company is aware of several companies which currently service the market for serial infrared detectors. They include Hewlett-Packard, Temic, Sharp, and IBM, among others, all of whom have financial, labor and capital resources greater than those of the Company. Research and Development The Company believes government and commercial research contracts will provide the major portion of funding necessary for continuing development of its products. However, the manufacture of stacked circuitry modules in volume will require substantial additional funds, which may involve additional equity or debt financing or a joint venture, license or other arrangement. There can be no assurance that sufficient funding will be available from government or other sources or that the Company's products will be successfully developed for volume production. The Company's expenditures for research and development for the fiscal years ended September 28, 1997, September 29, 1996, and October 1, 1995 were $1,616,600, $2,009,700, and $1,280,000, respectively. These expenditures of Company funds were in addition to the Company's cost of revenues associated with its customer-sponsored research and development activities. The spending levels of Company funds on research and development compared to its overall expenses are indicative of the Company's resolve to maintain its competitive advantage by developing new products and improving upon its existing technology. The Company has funded its research and development activities primarily through contracts with the federal government and with funds from the Company's public and private stock and bond offerings. Patents, Trademarks and Licenses The Company has a policy of protecting its investment in technology by seeking to obtain, where practical, patents on the inventions made by its employees. As of September 28, 1997, forty one U.S. and foreign patents have been issued and other U.S. patent applications are pending. Foreign patent applications corresponding to several of the U.S. patents and patent applications are also pending. There is no assurance that additional patents will issue in the U.S. or elsewhere. Moreover, the issuance of a patent does not carry any assurance of successful application, commercial success or adequate protection. There is no assurance that the Company's existing patents or any other patent that may issue in the future would be upheld if the Company seeks enforcement of its patent rights against an infringer or that the Company will have sufficient resources to prosecute its rights, nor is there any assurance that patents will provide meaningful protection from competition. The Company has been advised by its patent counsel, Thomas Plante, Esq., that no adverse patent has been found which might create an infringement problem in the marketing of the Company's HYMOSS and line array focal planes. If others were to assert that the Company is utilizing technology covered by patents held by them, the Company would evaluate the necessity and desirability of seeking a license from the patent holder. There is no assurance that the Company is not infringing on other patents or that it could obtain a license if it were so infringing. Those products and improvements which the Company develops under government contracts are generally subject to royalty-free use by the government for government applications. However, the Company has negotiated certain "non- space" exclusions in government contracts and has the right to file for patent protection on commercial products which may result from government-funded research and development activities. The Company has exclusive rights to technology developed under an agreement with R & D Leasing, Ltd. ("RDL"), a limited partnership. Under the agreement, the Company will pay royalties of 3.5% of all direct sales, by the Company, of the basic devices using the technology. RDL will also receive 7% of all income earned by the Company from sublicensees. The Company's Chairman of the Board and a Senior Vice-President have a beneficial interest in RDL. See "Development Contracts." Environmental matters The Company believes that it is substantially in compliance with all regulations concerning the discharge of materials into the environment, and such regulations have not had a material effect on the capital expenditures or operations of the Company. Employees As of September 28, 1997, the Company had 65 full-time employees and 4 consultants. Of the full-time employees, 49 were engaged in engineering, production and technical support, 3 in sales and marketing and 13 in finance and administration. None of the Company's employees is represented by a labor union and the Company has experienced no work stoppages due to labor problems. The Company considers its employee relations to be excellent. Item 2. Properties The following table sets forth information with respect to the Company's facilities:
Location Square Feet Lease Expiration ---------------------- ----------- ---------------- Advanced Technology Operations Costa Mesa, California 19,000 July 1998 Computer Products Operations Burlington, Vermont 20,200 December 1998 Novalog, Inc. Costa Mesa, California 4,100 April 1999 Corporate Costa Mesa, California 6,400 July 1998
The facilities used by Advanced Technology Operations include laboratories containing clean rooms for operations requiring a working environment with reduced atmospheric particles. The Company believes that its facilities are adequate for their respective operations, and that the facilities of the Company are maintained in good repair. Item 3. Legal Proceedings. None. Item 4. Submission of Matters to a Vote of Security Holders. None. PART II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters. The following table sets forth the range of representative high and low bid prices of the Company's Common Stock (Nasdaq SmallCap Market symbol: IRSN) in the over-the-counter market for the periods indicated, as furnished by NASD, Inc. These prices represent prices among dealers, do not include retail markups, markdowns or commissions, and may not represent actual transactions:
Common Stock Bid Prices ---------------------- High Low --------- --------- Fiscal Year Ended September 28, 1997: First Quarter $ 1 1/2 $ 0 27/32 Second Quarter $ 1 9/16 $ 1 Third Quarter $ 1 5/32 $ 0 31/32 Fourth Quarter $ 1 9/16 $ 1 7/32 Fiscal Year Ended September 29, 1996: First Quarter $ 9 1/2 $ 5 1/4 Second Quarter $ 6 1/4 $ 4 5/8 Third Quarter $ 7 7/8 $ 4 5/8 Fourth Quarter $ 5 1/8 $ 2 1/4
On December 19, 1997, the closing bid and asked prices for the Company's Common Stock were $1.00 and $1 1/32, respectively. On December 19, 1997, there were approximately 823 stockholders of record and 7,200 beneficial holders based on information provided by the Company's transfer agent. The Company has not paid cash dividends on any class of its stock since its incorporation. Under Delaware law there are certain restrictions which limit the Company's ability to pay cash dividends in the future. Item 6. Selected Financial Data. The following table summarizes certain selected consolidated financial data and is qualified by the more detailed Consolidated Financial Statements incorporated herein by reference (see Item 8, below):
FISCAL YEAR ENDED ---------------------------------------------------------------------------- September 28, September 29, October 1, October 2, October 3, 1997 1996 1995 1994 1993 ------------- ------------- ----------- ----------- ----------- Consolidated Statement of Operations Data: - ------------------------------------------ Total revenues $ 13,693,200 $ 12,024,200 $ 8,041,400 $ 5,139,400 $ 4,286,300 Loss from operations (14,809,200) (11,154,700) (3,071,500) (2,629,500) (1,552,100) Net loss (14,875,600) (15,914,700) (4,137,500) (2,463,900) (1,507,600) Loss per common and common equivalent share $ (0.73) $ (0.94) $ (0.28) $ (0.18) $ (0.12) ------------ ------------ ----------- ----------- ----------- Weighted average number of shares outstanding 20,475,100 16,874,300 14,966,500 14,141,500 12,865,800 ------------ ------------ ----------- ----------- -----------
Loss per common and common equivalent shares includes, where applicable, cumulative dividends on Preferred Stock which have not been declared or paid.
September 28, September 29, October 1, October 2, October 3, 1997 1996 1995 1994 1993 -------------- ------------- ----------- ----------- ---------- Consolidated Balance Sheet Data: - -------------------------------- Current assets $ 6,637,200 $ 9,648,200 $ 9,927,500 $ 6,795,500 $2,135,900 Current liabilities $ 7,395,600 $ 5,787,100 $ 3,545,400 $ 1,355,400 $ 739,000 Working capital $ (758,400) $ 3,861,100 $ 6,382,100 $ 5,440,100 $1,396,900 Total assets $ 9,449,300 $21,742,200 $15,609,200 $10,355,400 $3,897,500 Long-term debt $ 1,207,000 $ 3,165,600 $ 201,200 $ 81,100 $ 62,600 Shareholders' equity $(2,939,900) $ 8,312,700 $ 9,494,100 $ 8,800,400 $2,977,400
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operation. The information required by Item 7 of this report is set forth on pages 2 through 4 of the Company's 1997 Annual Report to Stockholders and is incorporated by reference in this Annual Report on Form 10-K/A. Item 8. Financial Statements and Supplementary Data. The financial statements, together with the report thereon of Price Waterhouse LLP dated December 16, 1997 appearing on pages 5 through 18 of the Company's 1997 Annual Report to Stockholders are incorporated by reference in this Annual Report on Form 10-K/A. With the exception of the aforementioned information and the information incorporated in Item 7, the 1997 Annual Report to Stockholders is not to be deemed filed as part of this Annual Report on Form 10-K/A. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure. None. PART III The following items included in the Company's Definitive Proxy Statement dated January 23, 1998 to be used in connection with the Company's Annual Meeting of Stockholders to be held on February 27, 1998 are incorporated herein by reference:
Pages in Proxy Statement ------------------------ Item 10. Directors and Executive Officers of the Registrant. 2-5 Item 11. Executive Compensation. 7-10 Item 12. Security Ownership of Certain Beneficial Owners and Management. 7-8 Item 13. Certain Relationships and Related Transactions. 15
PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K. (a) The following documents are filed as part of this report: 1. Financial Statements:
Pages in Annual Report* -------------- Consolidated Balance Sheet 5 Consolidated Statement of Operations 6 Consolidated Statement of Shareholders' Equity 7 Consolidated Statement of Cash Flows 8 Notes to Consolidated Financial Statements 9-17 Report of Independent Accountants 18
* Incorporated by reference from the indicated pages of the 1997 Annual Report to Stockholders. 2. Financial Statement Schedules: Report of Independent Accountants on Financial Statements Schedules for the fiscal years ended September 28, 1997, September 29, 1996, and October 1, 1995: Schedule II - Valuation and Qualifying Accounts All other schedules have been omitted because they are not applicable, or not required, or because the required information is included in the financial statements or notes thereto which have been incorporated herein by reference. 3. Exhibits - The following is a list of the exhibits to this report:
Exhibit Number Exhibit Description - ------- ------------------- 3.1 Certificate of Incorporation, as amended to date. (8) 3.2 By-Laws, as amended to date. (14) 4.1 Specimen Common Stock certificate. (8) 4.2 Form of Representative's Warrants. (9) 10.1 (A) 1981 Incentive Stock Option Plan and 1981 Nonstatutory Stock Option Plan, as amended to date, and (B) Form of Stock Option Agreement. (1)(2) 10.2 Lease Agreements for the premises at 3001 Redhill Avenue, Building III, Costa Mesa, California. (11) 10.3 Employee Stock Bonus Plan and Trust Agreement dated June 29, 1982 effective December 31, 1982 (3), Amendment dated December 14, 1982. (4) 10.4 Amendment to Employee Stock Bonus Plan and Trust Agreement dated September 25, 1990. (8) 10.5 Master Trust Agreement for Employee Deferred Benefit Plans dated August 22, 1990. (5) 10.6 Agreement with R&D Leasing, Ltd. and Note Payable dated June 23, 1989. (6) 10.7 License Agreement with R&D Leasing, Ltd. dated October 20, 1989. (6) 10.8 Agreement with R&D Leasing, Ltd. dated October 1, 1990. (7) 10.9 Contract between the Company and U.S. Army Strategic Defense Command dated September 28, 1990. (7) 10.10 1991 Stock Option Plan, as adopted by the Board of Directors December 9, 1991. (8) 10.11 Form of Stock Option Agreement for 1991 Stock Option Plan. (9) 10.12 Contract between the Company and Office of Naval Research dated July 8, 1993. (10) 10.13 Amendment to Employee Stock Bonus Plan and Trust agreement dated October 4, 1993. (12) 10.14 Lease Agreement for the premises at 1 Green Tree Park, South Burlington, Vermont. (12) 10.15 Contract between the Company and Naval Air Warfare Center dated March 31, 1995. (12) 10.16 License Agreement with Unitrode Integrated Circuits Corporation dated May 30, 1995. (12) 10.17 Purchase Order from Cray Research, Inc. dated May 8, 1995. (12) 10.18 Subcontract between the Company and Lockheed Sanders, Inc. dated June 30, 1995. (12) 10.19 Office, Manufacturing Facility, and Equipment Lease with International Business Machines Corporation (13) 10.20 Form of 8% Series A Convertible Subordinated Debentures Due 1998 (13) 10.21 Form of 8% Convertible Subordinated Debentures Due 1998 (13) 10.22 Contract between the Company and Nasa Management Office - JPL dated March 12, 1996 (14) 10.23 Contract between the Company and Office of Naval Research dated July 19, 1996 (14) 10.24 Contract between the Company and Wright-Patterson Air Force Base dated August 12, 1996 (14) 10.25 Purchase Order from Loral Federal Systems Co. dated April 26, 1996 (14) 11 Statement re Computation of Per Share Earnings.
13 Portions of Registrant's Annual Report to Stockholders for the fiscal year ended September 28, 1997. 21 Subsidiaries of the Registrant 23.1 Consent of Independent Accountants 23.2 Consent of Thomas Plante, Esq., Patent Counsel 27 Financial Data Schedule
_________________________ (1) Incorporated by reference to Part II of Registrant's Registration Statement on Form S-18 filed with the Commission's Los Angeles Regional Office on December 23, 1981 (Registration No. 2-75512-LA)(the-"S-18 Registration Statement"). (2) Incorporated by reference to Part II of Pre-effective Amendment No. 1 to the S-18 Registration Statement filed with the Commission's Los Angeles Regional Office on February 10, 1982; 1987 amendment filed by amendment to Form 10-K for the fiscal year ended September 27, 1987. (3) Incorporated by reference to Part II of Pre-effective Amendment No. 3 to the S-18 Registration Statement filed with the Commission's Los Angeles Regional Office on May 27, 1982. (4) Incorporated by reference to Part II of Registrant's Registration Statement on Form S-1 filed with the Commission on March 23, 1983 (Registration No. 2-82596) (the "S-1 Registration Statement"). (5) Incorporated by reference to Part II of Pre-effective Amendment No. 3 to the Form S-2 filed with the Commission on March 3, 1987 (Registration No. 33-10134). (6) Incorporated by reference to Part IV of Registrant's Annual Report on Form 10-K for the fiscal year ended October 1, 1989. (7) Incorporated by reference to Part IV of Registrant's Annual Report on Form 10-K for the fiscal year ended September 30, 1990. (8) Incorporated by reference to Part IV of Registrant's Annual Report on Form 10-K for the fiscal year ended September 29, 1991. (9) Incorporated by reference to Part II of Pre-effective Amendment No. 2 to the Form S-2 filed with the Commission on July 9, 1992 (Registration No. 33-47977). (10) Incorporated by reference to Part IV of Registrant's Annual Report on Form 10-K for the fiscal year ended October 3, 1993. (11) Incorporated by reference to Part IV of Registrant's Annual Report on Form 10-K for the fiscal year ended October 2, 1994. (12) Incorporated by reference to Part IV of Registrant's Annual Report on Form 10-K/A for the fiscal year ended October 1, 1995. (13) Incorporated by reference to Registrant's Form 8-K dated April 19, 1996. (14) Incorporated by reference to Part IV of Registrant's Annual Report on Form 10-K/A for the fiscal year ended September 28, 1996. (b) Reports on Form 8-K: No report on Form 8-K was filed by the Company with respect to the quarter ended September 28, 1997. REPORT OF INDEPENDENT ACCOUNTANTS ON FINANCIAL STATEMENT SCHEDULES To the Board of Directors of Irvine Sensors Corporation Our audits of the consolidated financial statements referred to in our report dated December 16, 1997 appearing on page 18 of the 1997 Annual Report to Shareholders of Irvine Sensors Corporation (which report and consolidated financial statements are incorporated by reference in this Annual Report on Form 10-K) also include an audit of the Financial Statement Schedules listed in Item 14(a) of this Form 10-K. In our opinion, these Financial Statement Schedules present fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. /s/ PRICE WATERHOUSE LLP PRICE WATERHOUSE LLP Costa Mesa, California December 16, 1997 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. IRVINE SENSORS CORPORATION --------------------------- (Registrant) Date: March 17, 1998 By: /s/ JOHN J. STUART, JR. --------------------------- John J. Stuart, Jr. Chief Financial Officer (Principal Accounting Officer) SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
Additions Balance at Charged to Balance Beginning Costs and at End of Year Expenses Deductions of Year ---------- ---------- ---------- ---------- Year ended September 28, 1997: - ------------------------------ Allowance for doubtful accounts $ 10,000 $ - $ - $ 10,000 Inventory reserves 2,043,700 1,156,100 1,015,000 2,184,800 Year ended September 29, 1996: - ------------------------------ Allowance for doubtful accounts $ 10,000 $ - $ - $ 10,000 Inventory reserves 380,800 1,662,900 - 2,043,700 Year ended October 1, 1995: - --------------------------- Allowance for doubtful accounts $ 10,000 $ - $ - $ 10,000 Inventory reserves - 380,800 - 380,800
EX-13 2 1997 ANNUAL REPORT EXHIBIT 13 Irvine Sensors Corporation Annual Report 1997 Irvine Sensors Corporation Financial Highlights
Fiscal Year Ended ------------------------------------------------------------------------- September 28, September 29, October 1, October 2, October 3, 1997 1996 1995 1994 1993 - ---------------------------------------------------------------------------------------------------------- Revenues $ 13,693,200 $ 12,024,200 $ 8,041,400 $ 5,139,400 $ 4,286,300 ========================================================================= Loss from operations $(14,809,200) $(11,154,700) $(3,071,500) $(2,629,500) $(1,552,100) ========================================================================= Net loss $(14,875,600) $(15,914,700) $(4,137,500) $(2,463,900) $(1,507,600) ========================================================================= Net loss per common and common equivalent share $ (0.73) $ (0.94) $ (0.28) $ (0.18) $ (0.12) ========================================================================= Weighted average number of shares outstanding 20,475,100 16,874,300 14,966,500 14,141,500 12,865,800 ========================================================================= Long-term debt $ 1,207,000 $ 3,165,600 $ 201,200 $ 81,100 $ 62,600 ========================================================================= Convertible debt $ 250,000 $ 3,400,000 $ 2,250,000 $ - $ - ========================================================================= Total assets $ 9,449,300 $ 21,742,200 $15,609,200 $10,355,400 $ 3,897,500 =========================================================================
Price Range of Common Stock The following table sets forth the range of representative high and low bid prices of the Company's common stock in the over-the-counter market for the periods indicated, as furnished by The NasdaqStock Market. These prices represent prices among dealers, do not include retail markups, markdowns or commissions, and may not represent actual transactions:
Fiscal Year Ended -------------------------------------------------- September 28, 1997 September 29, 1996 ------------------------- ----------------------- High Low High Low -------------------------------------------------- Common Stock Bid Prices First Quarter $1-1/2 $0-27/32 $9-1/2 $5-1/4 Second Quarter $1-9/16 $1 $6-1/4 $4-5/8 Third Quarter $1-5/32 $0-31/32 $7-7/8 $4-5/8 Fourth Quarter $1-9/16 $1-7/32 $5-1/8 $2-1/4
On December 19, 1997, there were approximately 823 stockholders of record and 7,200 beneficial holders, based on information provided by the Company's transfer agent. The Company has not paid cash dividends on any class of its stock since its incorporation; under Delaware law there are certain restrictions which limit the Company's ability to pay cash dividends in the future. Dear Shareholder: ________________________________________________________________________________ Fiscal 1997 saw major changes for Irvine Sensors Corporation. A new President and Chief Executive Officer was named, the IBM cubing line was shut down and MicroSensors, Inc. (MSI), a new subsidiary, was created. Although the full effect of these changes will not be visible until fiscal 1998, some results were already measurable at the end of fiscal 1997. Fiscal 1997 revenues reached a record $13.7 million from $12 million in fiscal 1996. Fiscal 1997 losses of $14.9 million, nearly a record, included almost $6 million of one-time, noncash write-downs resulting from the shutdown of the IBMcubing line late in the year. Excluding this plant closure cost, fiscal 1997 losses from operations were reduced by more than $2 million compared to fiscal 1996. Both the record revenues and near-record losses in fiscal 1997 were dominated by results from our Vermont operations. Both effects will be largely gone in fiscal 1998, which is expected to see revenue growth from other segments of our business replace much of the lost revenue from Vermont without the corresponding losses. With the termination of the Vermont operations and a reduction in costs in California, we expect major improvement in operating results in the new fiscal year beginning with the first quarter. In order to focus on areas with the most immediate prospects for return, major changes were made in the management team, emphasizing marketing and commercial skills, areas in which we have been woefully weak. This emphasis has already produced expanded business opportunities for us, both in new types of stacked memories targeted toward more price-sensitive markets and in the growing market for microsensors which MSI is addressing. MSI is an outgrowth of our years of government-funded R&D related to very-low- noise readout electronics. This technology is highly desired by the rapidly emerging commercial markets for MicroElectroMechanical Systems (MEMS). MEMS devices encompass a variety of tiny, silicon and metal structures, built on semiconductor lines, which perform functions as diverse as deploying airbags, controlling printer heads and measuring blood pressure. Analysts project the global MEMS market will grow to well over $10 billion annually by the year 2000. A key enabler of these markets will be the ability to measure and control these devices with very-low-noise electronics such as MSI has pioneered. MSI has received its first commercial contract, the design and manufacture of a multi- channel readout chip for EG&G Astrophysics, a major supplier of airport security systems. Its technology has also led MSI to a patent-pending microgyro design that could potentially offer a breakthrough combination of price and performance to the automobile industry. The engineering design of such a product is underway. Although Novalog, Inc., our first commercial subsidiary, has been extremely successful in adding to its list of "design-wins," it has been faced with a wireless infrared market that is growing more slowly than expected. However, recent increases in order rates from large customers suggest that these delays may be ending. To position Novalog for its anticipated growth, approximately 10 percent of Novalog's stock was sold for approximately $2 million, a $20 million valuation that is double that of the original Novalog private placement. With the drain of the Vermont operations behind us, management and financial resources can now turn toward the other parts of our business. We have an extensive inventory of technologies with emerging commercial relevance, assets which should become increasingly visible in fiscal 1998. /s/ JAMES ALEXIOU /s/ JAMES D. EVERT - --------------------- --------------------- James Alexiou James D. Evert Chairman of the Board President and CEO December 22, 1997 The statements in this report that are forward-looking are dependent on risks and uncertainties including such factors, among others, as the development risks inherent in new technology, the impact of competitive technologies and the pace at which new markets develop. Further information on Irvine Sensors Corporation is contained in publicly filed disclosures available through the SEC's EDGAR database (http://www.sec.gov) or from the Company's Investor Relations. 1 Irvine Sensors Corporation Management's Discussion and Analysis of Financial Condition and Results of Operations ________________________________________________________________________________ Results of Operations FISCAL YEAR ENDED SEPTEMBER 28, 1997 vs. FISCAL YEAR ENDED SEPTEMBER 29, 1996 Revenues in fiscal 1997 of $13,693,200 showed an increase of $1,669,000 or 14 percent compared to fiscal 1996. This increase was primarily attributable to the Company's Advanced Technology Operations in Costa Mesa. In mid-fiscal year the Company announced the closing of its Vermont facilities due to the lower than required revenue base and high fixed cost of operations. In comparing revenues generated by excluding the Vermont operations, fiscal 1997 revenues were $6,604,700 compared to $5,460,300 in fiscal 1996, an increase of 21 percent. Cost of revenues of $17,573,100 in fiscal 1997 was $435,500 higher than in fiscal 1996; however, as a percentage of revenues, fiscal 1997 showed an improvement of 14 percentage points over fiscal 1996. Operations excluding Vermont recorded cost of revenues of $6,586,500 in fiscal 1997 compared to $6,757,800 in fiscal 1996, a reduction of $171,300 or three percentage points. In fiscal 1997, cost of revenues included a charge of $1,156,100 to increase the Company's inventory reserve for, first: Wide Word SRAM memory cubes the Company has been producing for future deliveries pursuant to an anticipated contract which has not yet materialized and, second: slower than anticipated sales of its Flash memory cubes. General and administrative expenses were reduced by $592,300 in fiscal 1997 compared to fiscal 1996, and research and development expenses were also reduced by $393,100 in fiscal 1997 compared to fiscal 1996. These combined reductions of $1,156,700 in cost of sales, general and administrative, and research and development reflect actual cost reductions accomplished in fiscal 1997 while management re-structured the Company to take advantage of new product opportunities and to expand the Company's traditional customer R&D base. With the decision to close the Vermont facilities, the Company incurred a loss of $5,873,400 in fiscal 1997 related to the sale of the surplus facilities and equipment. Interest income declined by $69,000 in fiscal 1997 primarily related to the Vermont facilities. The Company originally accounted for its convertible debentures in accordance with APB 14, "Accounting for Convertible Debt and Debt Issued with Stock Purchase Warrants." However, the Securities and Exchange Commission (SEC) staff has indicated that convertible debt instruments which are convertible at a discount from market should be accounted for by treating the maximum discount as interest expense with an offset to paid-in capital. In November 1997, the Company was advised that past issuers of such securities have recently restated prior financial statements to comport with the SEC view. In conformance therewith, the Company has calculated noncash interest expense of $4,396,700 with a like amount added to paid-in capital in the second quarter of fiscal 1996. The Company also recorded a noncash interest expense of $1,101,700 in the fourth quarter of fiscal 1995 related to convertible debentures issued in fiscal 1995 which were convertible at a discount from the market price of the common stock. Because of the offsetting nature of these entries, there is no effect on Shareholders' equity. Net loss of $14,875,600 in fiscal 1997 was $1,039,100 lower than the net loss reported for fiscal 1996. On a comparable basis, excluding plant closure costs in fiscal 1997, and noncash debenture interest in fiscal 1996, the adjusted net loss excluding the Vermont operations was $3,381,100 in fiscal 1997 compared to $5,520,500 in fiscal 1996 - an overall improvement of $2,139,400. FISCAL YEAR ENDED SEPTEMBER 29, 1996 vs. FISCAL YEAR ENDED OCTOBER 1, 1995 The Company continued in fiscal 1996 with record-setting revenues of $12,024,200, which represents a 50 percent increase from fiscal 1995. The growth in revenues was primarily attributable to increases in shipments of products from the Company's Computer Products Operations (CPO) in Vermont and, to a lesser extent, shipments of the Company's new serial infrared communications chip (SIRComm) from the Company's subsidiary, Novalog, Inc. The SIRComm chip has continued to gain market acceptance since its introduction in late fiscal 1995. The increase in shipments from CPO was a result of substantial increases in bookings that began in the second half of fiscal 1995 combined with the continued ramp-up in production of stacked memory products achieved 2 Irvine Sensors Corporation Management's Discussion and Analysis of Financial Condition and Results of Operations ________________________________________________________________________________ during fiscal 1996. The increase in product revenues was offset slightly by a decrease in contract revenues which was primarily attributable to procurement delays related to the Company's Advanced Technology Operations (ATO). ATO, which is largely dependent on contracts from the U.S. government's military agencies and subcontracts from major government contractors, continued to be adversely impacted during fiscal 1996 by delays in contracts funding and awards caused by the federal government's budget crisis earlier in the year. The Company anticipates some delays in contract funding and awards to be rectified in the first quarter of fiscal 1997. Other revenues were derived from a license agreement with Unitrode Corporation which involves the transfer of technology allowing Unitrode to produce Novalog's SIRComm chip. Cost of revenues as a percentage of revenues for fiscal year 1996 was 143 percent as compared to 90 percent in fiscal year 1995. The increase was attributable to the Company's inability to absorb additional indirect costs incurred while it ramped up its revenue-generating capacities during fiscal 1996. A substantial escalation of overhead costs occurred at CPO as a result of the IBM cubing line acquisition and facility lease, the completion of the joint development activities with IBM to commercialize the Company's chip-stacking technology, and from efforts to ramp up production of stacked memory products to meet existing backlog requirements and projected bookings. After management's review of the existing backlog of orders at CPO for stacked memory cubes and the anticipated cost to complete such orders at CPO, the Company, in keeping with its policy to recognize losses when they are first identified, established a reserve at September 29, 1996, for the estimated loss upon completion of these orders. The anticipated future loss which would be incurred upon completion of the manufacturing process and shipment to the customer was charged to cost of revenues in fiscal 1996 and the corresponding credit was recorded as an increase to the work in process inventory reserve to be applied as a reduction of the manufacturing cost in fiscal 1997 when product will be made and shipped to the customer. This accrued loss resulted in a reduction of the inventory valuation at September 29, 1996. Funding delays on existing contracts and the delays in obtaining new contracts created under-absorbed costs at ATO. The increase in costs of revenues was offset slightly by Novalog's improved margins experienced during fiscal 1996 attributable to efficiencies realized from the increase in shipments of its SIRComm chip. The Company anticipates the cost of revenues ratio to improve during fiscal 1997 at CPO resulting from anticipated manufacturing efficiencies and at ATO attributable to improved backlog of funded research and development contracts. The Company increased its expenditure in research and development by $729,700 or 57 percent compared to fiscal 1995. The increase was primarily attributable to efforts directed at developing new products. During fiscal 1996, the Company experienced growth in its administrative infrastructure in conjunction with the increase in business activity and the anticipation of future growth driven by the transition to a products-based company. General and administrative (G&A) expense increased $1,497,400 compared to fiscal 1995. As a percentage of revenues, G&A was 34 percent in fiscal 1996 compared to 32 percent in fiscal 1995. The increase in G&A expense is primarily attributable to additional marketing costs associated with promoting the Company's products and efforts directed toward obtaining new research and development contract awards. In addition, the Company incurred non-recurring legal expense in connection with negotiation of the IBM cube line acquisition and facility lease, and negotiation of its bank loan financing activities, and in the incorporation of its subsidiary, Novalog, Inc. Interest expense increased $413,900 during fiscal 1996 compared to fiscal 1995. The increase in interest expense was primarily attributable to interest incurred on subordinated debenture bonds (see Note 6 of Notes to Consolidated Financial Statements) and, to a lesser extent, interest on capital lease obligations incurred primarily during fiscal 1995. Interest income increased slightly from fiscal 1995 as a result of additional cash and cash equivalents held in deposits during fiscal 1996 which were obtained from the financing activities discussed above. The Company originally accounted for its convertible debentures in accordance with APB 14, "Accounting for Convertible Debt and Debt Issued with Stock Purchase Warrants." However, the Securities and Exchange Commission (SEC) staff has indicated that convertible debt instruments which are convertible at a discount from market should be accounted for by treating the maximum discount as interest expense with an offset to paid-in capital. In November 1997, the Company was advised that past issuers of such securities have recently restated prior financial statements to comport with the SEC view. In conformance therewith, the Company has calculated noncash interest expense of $4,396,700 with a like amount added to paid-in capital 3 Irvine Sensors Corporation Management's Discussion and Analysis of Financial Condition and Results of Operations ________________________________________________________________________________ in the second quarter of fiscal 1996. The Company also recorded a noncash interest expense of $1,101,700 in the fourth quarter of fiscal 1995 related to convertible debentures issued in fiscal 1995 which were convertible at a discount from the market price of the common stock. Because of the offsetting nature of these entries, there is no effect on Shareholders' equity. Net loss for fiscal 1996 was $15,914,700 compared to $4,137,500 in fiscal 1995 and net loss per share went from ($0.28) per share in fiscal 1995 to ($0.94) per share in fiscal 1996. Liquidity, Capital Resources and Impact of Changing Prices The primary uses of cash and cash equivalents during fiscal 1997 were to support the winding down and exit from the Vermont facility and funding of the Company's net loss, which also included R&D and start-up costs for its MicroSensors, Inc. subsidiary. In addition, during fiscal 1997, the Company sold $4.1 million of common stock in Novalog for a total of a 31 percent minority interest. At September 28, 1997, the Company had cash and cash equivalents of $1,639,300, and subsequent to September 28, 1997, has obtained $1,148,000 cash in additional equity financing. The Company anticipates that the existing working capital and its projected operating results will meet its cash requirements for the immediate future and for the growth of its subsidiary businesses. Contracts with government agencies may be suspended or terminated by the government at any time, subject to certain conditions. Similar termination provisions are typically included in agreements with prime contractors. In 1983 the Company experienced such termination of one of its contracts. There is no assurance the Company will not experience suspensions or terminations in the future. Such termination, if material, could cause a disruption of the Company's revenue stream and could result in employee layoffs. At September 28, 1997, the Company's funded backlog, excluding the Vermont operations, was approximately $1,902,800 compared to $1,800,000 at September 29, 1996. In addition, existing contracts include a large amount of unfunded backlog which typically is funded when the previously funded amounts have been expended. Subsequent to fiscal year end the total backlog was $4,308,000 as of December 1, 1997. Except for historical information contained herein, this Report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. The forward- looking statements contained herein are subject to certain risks and uncertainties, including such factors, among others, as the pace at which new markets develop, the ability of the Company to introduce new products and ramp up manufacturing in a timely manner while controlling its operating expenses and the response of competitors, many of whom are bigger and better financed than the Company. In addition, the scope of the Company's growth plan may introduce unanticipated risks and financial requirements. The availability of external financing for the Company's plan cannot be assured and is subject to numerous factors including those unrelated to the Company's performance such as economic and market conditions. Further, the Company's financial performance prior to substantial growth in revenues may not permit additional equity financing and may place at risk the continuation of its long-term debt financing because of inability to achieve financial covenants. Accordingly, investors are advised to assess forward-looking statements contained herein with caution. Additional information on various risks and uncertainties potentially affecting the Company's results are contained in publicly filed disclosures available through the Securities and Exchange Commission EDGAR database (http://www.sec.gov) or from the Company's Investor Relations. 4 Irvine Sensors Corporation Consolidated Balance Sheet
September 28, September 29, 1997 1996 - --------------------------------------------------------------------------------------------------------------- Assets Current Assets: Cash and cash equivalents $ 1,639,300 $1,954,000 Accounts receivable, net of allowances of $10,000 1,237,700 3,023,900 Inventory 2,577,300 4,386,700 Other current assets 1,182,900 283,600 ------------------------------------- Total current assets 6,637,200 9,648,200 ------------------------------------- Equipment, furniture and fixtures, net 2,775,800 11,906,700 Other assets 36,300 187,300 ------------------------------------- $ 9,449,300 $21,742,200 ===================================== Liabilities and Shareholders' Equity (Deficit) Current Liabilities: Accounts payable $ 4,370,800 $2,197,800 Accrued expenses 684,700 936,100 Deferred revenue 106,100 2,382,600 Notes payable and current portion of long-term debt 2,234,000 270,600 ------------------------------------- Total current liabilities 7,395,600 5,787,100 ------------------------------------- Long-term debt 593,200 2,809,900 Deferred royalties payable - affiliated company 613,800 355,700 Convertible subordinated debentures 250,000 3,400,000 Preferred stock of consolidated subsidiary 118,500 118,500 Minority interest in consolidated subsidiary 3,418,100 500,000 Long-term accrued expenses - 458,300 Commitments and Contingencies Shareholders' Equity (Deficit): Preferred stock, $0.01 par value, 500,000 shares authorized; 8,785 shares Series B Convertible Cumulative Preferred outstanding; aggregate liquidation preference of $237,200 50 50 4,974 shares Series C Convertible Cumulative Preferred outstanding; aggregate liquidation preference of $253,700 50 50 Common stock, $0.01 par value, 40,000,000 shares authorized; 21,541,300 and 18,710,000 shares issued and outstanding 215,400 187,100 Common stock warrants; 340,000 and 239,200 issued and outstanding - - Paid-in capital 46,424,100 42,829,400 Accumulated deficit (49,579,500) (34,703,900) ------------------------------------- Total shareholders' equity (deficit) (2,939,900) 8,312,700 ------------------------------------- $ 9,449,300 $ 21,742,200 =====================================
See accompanying Notes to Consolidated Financial Statements. 5 Irvine Sensors Corporation Consolidated Statement of Operations
Fiscal Year Ended -------------------------------------------- September 28, September 29, October 1, 1997 1996 1995 - -------------------------------------------------------------------------------------------- Revenues--contract research and development $ 5,821,100 $ 3,614,300 $ 5,844,700 Product sales 7,872,100 8,283,900 2,032,300 Other - 126,000 164,400 -------------------------------------------- Total revenues 13,693,200 12,024,200 8,041,400 -------------------------------------------- Costs and expenses: Cost of contract revenues 5,737,800 4,694,400 5,030,800 Cost of product sales 11,835,300 12,443,200 2,267,900 General and administrative 3,439,300 4,031,600 2,534,200 Research and development 1,616,600 2,009,700 1,280,000 Loss related to plant closure 5,873,400 - - -------------------------------------------- 28,502,400 23,178,900 11,112,900 -------------------------------------------- Loss from operations (14,809,200) (11,154,700) (3,071,500) Interest expense (443,600) (469,800) (55,900) Interest income 39,300 108,300 92,600 Noncash interest expense related to convertible debentures - (4,396,700) (1,101,700) -------------------------------------------- Loss before minority interest and provision for income taxes (15,213,500) (15,912,900) (4,136,500) Minority interest in loss of subsidiary (340,500) - - Provision for income taxes 2,600 1,800 1,000 -------------------------------------------- Net loss $ (14,875,600) $(15,914,700) $(4,137,500) ============================================ Net loss per common and common equivalent share $ (0.73) $ (0.94) $ (0.28) ============================================ Weighted average number of shares outstanding 20,475,100 16,874,300 14,966,500 ============================================
See accompanying Notes to Consolidated Financial Statements. 6 Irvine Sensors Corporation Consolidated Statement of Shareholders' Equity (Deficit)
Common Stock Common Stock Preferred Stock Shares Issued Warrants Issued Shares Issued Total ----------------- ---------------- ---------------- Paid-in Accumulated Shareholders' Number Amount Number Amount Number Amount Capital (Deficit) Equity (Deficit) - ----------------------------------------------------------------------------------------------------------------------------------- Balance at October 2, 1994 14,710,700 $147,100 291,200 $- 16,190 $ 200 $23,304,800 $(14,651,700) $ 8,800,400 ------------------------------------------------------------------------------------------------------- Stock options exercised 103,100 1,000 - - - - 219,900 - 220,900 Common stock issued to employee retirement plan 68,000 700 - - - - 471,600 - 472,300 Sale of common stock 382,100 3,800 - - - - 1,933,500 - 1,937,300 Common stock warrants issued - - 79,700 - - - - - - Common stock warrants exercised 244,000 2,500 (244,000) - - - 1,096,500 - 1,099,000 Series B and Series C preferred stock converted to common stock 58,900 600 - - (1,177) - (600) - - Net loss - - - - - - - (4,137,500) (4,137,500) Additional paid-in capital related to convertible debentures - - - - - - 1,101,700 - 1,101,700 ------------------------------------------------------------------------------------------------------- Balance at October 1, 1995 15,566,800 $155,700 126,900 $- 15,013 $ 200 $28,127,400 $(18,789,200) $ 9,494,100 ------------------------------------------------------------------------------------------------------- Stock options exercised 257,100 2,600 - - - - 209,100 - 211,700 Common stock issued to employee retirement plan 172,900 1,700 - - - - 685,700 - 687,400 Common stock warrants issued - - 222,000 - - - - - - Common stock warrants exercised 109,700 1,100 (109,700) - - - 293,400 - 294,500 Series B and Series C preferred stock converted to common stock 50,100 500 - - (1,002) (100) (400) - - Convertible debentures converted to common stock 2,553,400 25,500 - - - - 9,117,500 - 9,143,000 Net loss - - - - - - - (15,914,700) (15,914,700) Additional paid-in capital related to convertible debentures - - - - - - 4,396,700 - 4,396,700 ------------------------------------------------------------------------------------------------------- Balance at September 29, 1996 18,710,000 $187,100 239,200 $- 14,011 $ 100 $42,829,400 $(34,703,900) $ 8,312,700 ------------------------------------------------------------------------------------------------------- Common stock issued to employee retirement plan 347,600 3,500 - - - - 442,000 - 445,500 Convertible debentures converted to common stock 2,441,400 24,400 - - - - 3,125,600 - 3,150,000 Series B and Series C preferred stock converted to common stock 12,600 100 - - (252) - (100) - - Sale of common stock 22,200 200 - - - - 19,800 - 20,000 Common stock bonus issued 7,500 100 - - - - 7,400 - 7,500 Common stock warrants issued - - 118,000 - - - - - - Common stock warrants expired - - (17,200) - - - - - - Net loss - - - - - - - (14,875,600) (14,875,600) ------------------------------------------------------------------------------------------------------- Balance at September 28, 1997 21,541,300 $215,400 340,000 $- 13,759 $ 100 $46,424,100 $(49,579,500) $ (2,939,900) =======================================================================================================
See accompanying Notes to Consolidated Financial Statements. 7 Irvine Sensors Corporation Consolidated Statement of Cash Flows
Fiscal Year Ended ---------------------------------------- September 28, September 29, October 1, 1997 1996 1995 - -------------------------------------------------------------------------------- Cash flows from operating activities: Cash received from customers $ 15,479,400 $ 11,388,300 $ 7,237,900 Cash paid to suppliers and employees (18,342,500) (19,008,200) (10,457,200) Interest received 39,300 108,300 92,600 Interest paid (443,600) (469,800) (55,900) Income taxes paid (2,600) (1,800) (1,000) ------------ ------------ ------------ Net cash used in operating activities $ (3,270,000) $ (7,983,200) $ (3,183,600) Cash flows from investing activities: Marketable securities, at cost - - 4,447,500 Capital facilities and equipment expenditure (1,113,400) (8,525,200) (3,105,500) Proceeds from refund on equipment purchase 324,500 - - Proceeds from sale of equipment 1,051,900 - - ------------ ------------ ------------ Net cash provided by (used in) investing activities 263,000 (8,525,200) 1,342,000 Cash flows from financing activities: Principal payments under notes payable and capital lease obligations (253,300) (217,100) (131,600) Proceeds from issuance of long-term debt - 3,013,200 395,800 Proceeds from issuance of convertible subordinate debentures - 10,293,000 2,250,000 Minority interest in subsidiary 2,918,100 500,000 Proceeds from issuance of common stock and common stock warrants 27,500 506,200 3,257,200 ------------ ------------ ------------ Net cash provided by financing activities 2,692,300 14,095,300 5,771,400 ------------ ------------ ------------ Net increase (decrease) in cash and cash equivalents (314,700) (2,413,100) 3,929,800 Cash and cash equivalents at beginning of year 1,954,000 4,367,100 437,300 ------------ ------------ ------------ Cash and cash equivalents at end of year $ 1,639,300 $ 1,954,000 $ 4,367,100 ============ ============ ============ Reconciliation of net loss to net cash used in operating activities: Net loss $(14,875,600) $(15,914,700) $ (4,137,500) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization $ 2,994,500 $ 2,268,100 $ 1,004,600 Loss on sale of capital facilities and equipment 5,873,400 - - Common stock issued to employee retirement plan 445,500 687,400 472,300 Noncash interest expense related to convertible debentures - 4,396,700 1,101,700 (Increase) decrease in accounts receivable 1,786,200 (635,900) (803,500) (Increase) decrease in inventory 1,809,400 (1,455,800) (2,677,800) (Increase) decrease in other current assets (899,300) (42,100) (168,400) (Increase) decrease in other assets 151,000 (155,200) (20,900) Increase in accounts payable and accrued expenses 1,921,600 1,159,900 828,000 Increase (decrease) in deferred revenue (2,276,500) 1,017,600 1,174,200 Increase (decrease) in accrued rent (458,300) 458,300 - Increase in royalties accrued - affiliated company 258,100 232,500 43,700 ------------ ------------ ------------ Total adjustments 11,605,600 7,931,500 953,900 ------------ ------------ ------------ Net cash used in operating activities $ (3,270,000) $ (7,983,200) $ (3,183,600) ============ ============ ============ Noncash investing and financing activities: Common stock issued to employee retirement plan $ 445,600 $ 687,400 $ 472,300 ------------ ------------ ------------ Capitalized lease obligations $ - $ 3,200 $ 395,800 ------------ ------------ ------------ Conversion of debentures to common stock $ 3,150,000 $ 10,450,000 $ - ------------ ------------ ------------ Noncash interest expense related to convertible debentures $ - $ 4,396,700 $ 1,101,700 ------------ ------------ ------------
See accompanying Notes to Consolidated Financial Statements. 8 Irvine Sensors Corporation Notes to Consolidated Financial Statements ________________________________________________________________________________ Note 1 - Summary of Significant Accounting Policies CONSOLIDATION The consolidated financial statements include the accounts of Irvine Sensors Corporation (the Company) and its subsidiaries, Novalog, Inc., MicroSensors, Inc., 3D Microelectronics, Inc., 3D MicroSystems, Inc. and Carson Alexiou Corporation (CAC). All significant intercompany transactions and balances have been eliminated in consolidation. FISCAL YEAR The Company's fiscal year ends on the Sunday nearest September 30. Fiscal 1997 (52 weeks) ended on September 28, 1997, fiscal 1996 (52 weeks) ended on September 29, 1996, and fiscal 1995 (52 weeks) ended on October 1, 1995. USE OF ESTIMATES The preparation of the financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. REVENUES The Company's revenues were derived from shipments of functional memory stacks from its Vermont facility, shipments of the SIRComm infrared chip and the development and manufacture of prototype and sample products for its customers. The Company continues to contract to develop prototypes and provide research, development, design, testing and evaluation of complex detection and control defense systems. The Company's R&D contracts are usually cost plus fixed fee (best effort) or fixed price and revenues are recognized as costs are incurred and include applicable fees or profits primarily in the proportion that costs incurred bear to estimated final costs. Production orders for memory stacks and SIRComm chips are generally priced in accordance with the Company's established price list. The Novalog and MicroSensors subsidiaries are product oriented companies with sales primarily to OEM manufacturers and revenues are recorded when products are shipped. The Company provides for anticipated losses on contracts by a charge to income during the period in which they are first identified. Unbilled accounts receivable are stated at estimated realizable value. United States government contract costs, including indirect costs, are subject to audit and adjustment by negotiations between the Company and government representatives. Indirect contract costs have been agreed upon through fiscal 1994. Contract revenues have been recorded in amounts which are expected to be realized upon final settlement. Other revenues in fiscal 1996 and 1995 were derived from a licensing agreement with Unitrode to transfer technology required to produce the Company's SIRComm chip. (See Note 14 - Technology Licenses.) RESEARCH AND DEVELOPMENT COSTS A major portion of the Company's operations is comprised of customer-funded research and prototype development or related activities. The Company also incurs costs in research and development of new concepts in proprietary products. Such costs are charged to expense as incurred. INVENTORY Inventory is valued at the lower of cost or market. Cost is determined by the first-in, first-out (FIFO) basis. Inventories are reviewed quarterly to determine saleability and obsolescence. A reserve is established for slow moving and obsolete items. EQUIPMENT, FURNITURE AND FIXTURES The Company capitalizes costs of additions to equipment, furniture and fixtures, together with major renewals and betterments. In addition, the Company capitalizes overhead and general and administrative costs for all in-house capital projects. Maintenance, repairs, and minor renewals and betterments are charged to expense. When assets are sold or otherwise disposed of, the cost and related accumulated depreciation are removed from the accounts and any resulting gain or loss is recognized. Depreciation of equipment, furniture and fixtures is provided over the estimated useful lives of the assets, primarily using the straight-line method. The useful lives are three to seven years. Leasehold improvements are amortized over the terms of the leases. Expenditures for repairs and maintenance were $275,100, $369,500 and $210,800 in fiscal years 1997, 1996 and 1995, respectively. INCOME TAXES The Company accounts for income taxes in accordance with Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes" (FAS 109). Under the liabilities method specified by FAS 109, the deferred tax assets and liabilities are measured each year based on the difference between the financial statement and tax bases of assets and liabilities at the applicable enacted tax rates. Additionally, a valuation allowance is recorded for that portion of deferred tax assets for which it is more likely than not that the assets will not be realized. The deferred tax provision is the result of changes in the deferred tax assets and liabilities. EARNINGS PER SHARE Computations of primary earnings per share are based on the weighted average number of shares of common stock outstanding, including dilutive stock options, convertible preferred stock and common stock warrants where applicable. 9 Irvine Sensors Corporation Notes to Consolidated Financial Statements ________________________________________________________________________________ STATEMENT OF CASH FLOWS For purposes of the Consolidated Statement of Cash Flows, the Company considers all demand deposits and Certificates of Deposit with original maturities of 90 days or less to be cash equivalents. FAIR VALUE OF FINANCIAL INSTRUMENTS The carrying amounts reported in the balance sheet for cash and cash equivalents, accounts receivable and payable, other liabilities and debt approximate fair value. The fair value of royalties payable to affiliate is not determinable due to their related party nature. ACCOUNTING FOR STOCK-BASED COMPENSATION In October 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" (SFAS 123), which establishes financial accounting and reporting standards for stock-based employee compensation. Under SFAS 123, companies are encouraged, but not required, to adopt a method of accounting for stock compensation awards based upon the estimated fair value at the date the options/awards are granted as determined through the use of a pricing model (the "Fair Value Method"). Companies continuing to account for such awards in accordance with the existing guidance of Accounting Principles Board Option No. 25, "Accounting for Stock Issued to Employees" (APB 25), have to disclose in the notes to their financial statements the pro forma impact on net income and net income per share had they utilized the Fair Value Method. This statement is effective for the Company in fiscal year 1997. The Company continues to account for stock compensation awards in accordance with APB 25, with the appropriate footnote disclosure required under SFAS 123. IMPAIRMENT OF LONG-LIVED ASSETS In March 1995, The Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 121, "Accounting For the Impairment of Long- Lived Assets and for Long-Lived Assets to be Disposed Of" (SFAS 121), which establishes accounting standards for the impairment of long-lived assets to be reviewed whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. In addition, SFAS 121 requires that certain long-lived assets be reported at the lower of carrying amount or fair value less cost to sell. The Company adopted SFAS 121 in fiscal 1997. The adoption of SFAS 121 had no significant impact on its consolidated financial position or results of operations. EARNINGS PER SHARE In February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128, "Earnings per Share" (SFAS 128). SFAS 128 simplifies the standards for computing Earnings per Share (EPS), eliminating the presentation of primary EPS (currently required by Accounting Principles Board Opinion No. 15, "Earnings per Share") and requiring dual presentation of basic and diluted EPS on the face of the income statement for all public corporations with complex capital structures. SFAS 128 is effective for financial statements for both interim and annual periods ending after December 15, 1997. Early adoption is not permitted, although pro forma disclosure is optional. SFAS 128 is not expected to have a significant impact on per share data. NOTE 2 - ISSUANCE OF COMMON STOCK AND SERIES A PREFERRED STOCK In August 1995, the Company completed the sale of approximately 382,100 unregistered shares of the Company's common stock in a private financing pursuant to Regulation S to institutional and private investors in Canada and Europe. The Company agreed to use its best efforts to register these shares for subsequent resale by the holders thereof. After regulatory requirements were met by holders of these securities, restrictive legends on these shares were removed and the shares could then be traded without restrictions. The net proceeds of approximately $1.9 million were added to the Company's general fund. During fiscal 1995, the Company issued 103,100 shares of common stock to ten employees and one non-employee director upon exercise of options granted under the Company's Stock Option plans. Net proceeds of $220,900 were added to the Company's general fund. During fiscal 1996, the Company issued 257,100 shares of common stock to seven employees, two of whom are officers and one officer-director, and three non- employee directors upon exercise of options granted under the Company's Stock Option Plans. Net proceeds of $211,700 were added to the Company's general fund. In conjunction with the fiscal 1995 private financing of $2.25 million of 8 percent convertible subordinated debentures (the "1995 Debentures"), the Company issued an additional $500,000 of 1995 Debentures in October 1995 to institutional investors in Europe. The gross proceeds less expenses were added to the Company's general funds. During fiscal 1996, the Company, at the request of bondholders, converted the entire $2.75 million of outstanding 1995 Debentures at varying rates into 509,400 shares of the Company's common stock, which were subsequently registered and may be traded without restrictions. 10 Irvine Sensors Corporation Notes to Consolidated Financial Statements ________________________________________________________________________________ In a private financing during February and March 1996, the Company issued $11.1 million of 8 percent convertible subordinated debentures due in 1998 (the "1996 Debentures") to institutional and private investors in Canada and Europe. The 1996 Debentures are convertible into shares of common stock at varying rates which are contingent upon the closing bid prices of the common stock. The Company has the right to demand conversion of the 1996 Debentures at any time after March 1997. Interest is payable semiannually on January 31 and July 31 of each year. The 1996 Debentures are subordinated to prior payment of bank indebtedness of the Company. The gross proceeds less expenses were added to the Company's general funds. During fiscal 1997, the Company, at the request of bondholders, converted $3,150,000 of the outstanding 1996 Debentures at varying rates into 2,441,400 shares of the Company's common stock. With these conversions, all but $250,000 of the original issue of $11.1 million of the 1996 Debentures was retired. In May 1996, the Company had registered the resale of 2,997,000 shares of common stock which the Company then believed would be sufficient to cover the conversion of the entire $11.1 million series of 1996 Debentures and related warrants, which had been issued in February and March 1996. However, due to the decline in the price of the Company's common stock, the number of shares issued pursuant to conversions through September 28, 1997, exceeded this registration. Furthermore, the Company projects that approximately 100,000 additional unregistered shares could be required to convert the remaining outstanding 1996 Debentures at September 28, 1997. The Company is currently in the process of preparing a new registration statement to register the resale of the additional shares issued and issuable pursuant to 1996 Debenture conversions, which have not yet been sold subject to Rule 144. Note 3 - Common Stock Warrants In July 1992, the Company consummated a public offering of 750,000 shares of common stock and granted the Underwriter an option to purchase up to 112,500 additional shares of common stock to cover over-allotments. In connection with this offering, the Company granted to the Underwriter warrants to purchase up to 75,000 shares of common stock at a price of $5.10 per share, which was 120 percent of the public offering price of the shares. The warrants are exercisable during the four-year period beginning July 9, 1993, and expiring July 8, 1997. During fiscal 1995, 57,800 of these warrants were exercised. The remaining 17,200 were not exercised and expired on July 8, 1997. In February 1993 and July 1993, the Company granted warrants to two consultants to purchase 25,000 and 30,000 unregistered shares of common stock at prices of $4.72 and $8.875 per share, respectively, in connection with services rendered. The shares underlying these warrants were registered in fiscal 1995 and the prices reduced to $4.50 per share. The warrant for 25,000 shares was exercised in fiscal 1995 and the warrant for 30,000 shares was exercised in fiscal 1996. In connection with the February 1994 sale of approximately 1.36 million shares of common stock to investors in Canada and Europe, the Company granted warrants to the foreign investment banker to purchase up to 136,200 shares of common stock at an average price of $8.23 per share. In fiscal 1995, the price was reduced to $4.50 per share and the warrants were exercised. In February 1994, the Company granted a warrant to its legal counsel to purchase 25,000 unregistered shares of common stock at a price of $8.75 per share in connection with services rendered. In fiscal 1995, the price was reduced to $4.50 per share and the warrant was exercised. In connection with the August 1995 sale of approximately 382,100 shares of common stock and the issuance of approximately $2.75 million of the 1995 Debentures, the Company granted to the foreign investment banker warrants to purchase up to approximately 79,700 shares of common stock at prices ranging from $7.47 to $8.33 per share. In fiscal 1996, the price was reduced to $2.00 per share and the warrants were exercised. In connection with the sale of $11.1 million of the 1996 Debentures in February and March 1996, the Company granted warrants to the foreign investment banker to purchase up to 222,000 shares of common stock at a price to be determined based on the average conversion prices of the 1996 Debentures. The warrants are exercisable beginning March 1997. In fiscal 1997 the Company granted warrants, the value of which it believes to be not material, to four consultants in varying amounts to purchase up to 118,000 shares of unregistered common stock at prices ranging from $0.9375 to $1.50. As of September 28, 1997, there are a total of 340,000 warrants outstanding of which 15,000 expire in August 2000, 222,000 expire in March 2001 and 103,000 expire between February and June 2002. 11 Irvine Sensors Corporation Notes to Consolidated Financial Statements ________________________________________________________________________________ Note 4 - Series B and Series C Convertible Preferred Stocks The Series B and Series C Convertible Cumulative Preferred Stocks, which were originally issued to the Company's Employee Retirement Plan, each bear a 10 percent cumulative annual dividend, which under Delaware law may generally be paid only out of (i) retained earnings or (ii) net profit in the current or preceding fiscal year. To the extent that the dividends are not declared and paid in any fiscal year, the obligation carries over to the next fiscal year. These shares of Series B and Series C Convertible Cumulative Preferred Stocks are not redeemable, carry a liquidation preference over the common stock of $15.00 and $30.00, respectively, per share and are convertible, at the option of the holder, into 50 shares of common stock for each share of Series B and Series C Convertible Cumulative Preferred Stock, respectively. Distributions of vested benefits made from the Plan to former employees and the subsequent surrender and conversion into shares of common stock are as follows:
Preferred Stock Common Series B Series C Stock ----------------------------- Distribution dates: October 1994 880 297 58,900 March 1996 522 480 50,100 January 1997 48 204 12,600 ----------------------------- 1,450 981 121,600 =============================
The shares of Preferred Series B and Series C, respectively, tendered for conversion have been retired. Undeclared dividends of $105,400 and $104,500 on the remaining outstanding Preferred Series B and Series C, respectively, will be carried forward to fiscal 1998. Note 5 - Preferred Stock of Consolidated Subsidiary The preferred stock outstanding represents an ownership interest in CAC by former employees and an Employee Stock Bonus Plan which CAC had formed. The preferred stock has a $100 par value and there are 1,400 shares authorized and 1,185 shares issued and outstanding. There are no conversion rights or liquidation preferences of this preferred stock which extend to the common stock of the Company. Note 6 - Convertible Subordinated Debentures In July, August and October 1995, the Company issued in a private financing $2.75 million of 8 percent convertible subordinated debentures (the "1995 Debentures") due in 1997 to institutional and private investors in Canada and Europe. The 1995 Debentures were convertible into shares of common stock at $6.50 per share, subject to adjustment under certain conditions. The Company had the right to demand conversion of the 1995 Debentures at any time after July 31, 1996. Interest was payable semi-annually on January 31 and July 31 of each year. The 1995 Debentures were subordinated to prior payment of bank indebtedness of the Company. The gross proceeds less expenses were added to the Company's general funds. The Company registered the shares underlying the 1995 Debentures and in fiscal 1996 the 1995 Debentures were converted into 509,400 shares of the Company's common stock. In a private financing during February and March 1996, the Company issued $11.1 million of 8 percent convertible subordinated debentures due in 1998 (the "1996 Debentures") to institutional and private investors in Canada and Europe. The 1996 Debentures are convertible into shares of common stock at varying rates which are contingent upon the closing bid prices of the common stock. The Company has the right to demand conversion of the 1996 Debentures at any time after March 1997. Interest is payable semiannually on January 31 and July 31 of each year. The 1996 Debentures are subordinated to prior payment of bank indebtedness of the Company. The gross proceeds less expenses were added to the Company's general funds. In May 1996, the Company filed a registration statement covering 2,997,000 shares, the approximate number of shares estimated to underly the 1996 Debentures and related warrants based on the then projected trading range of the Company's stock. The Company originally accounted for its convertible debentures in accordance with APB 14, "Accounting for Convertible Debt and Debt Issued with Stock Purchase Warrants." However, the Securities and Exchange Commission (SEC) staff has indicated that convertible debt instruments which are convertible at a discount from market should be accounted for by treating the maximum discount as interest expense with an offset to paid-in capital. In November 1997, the Company was advised that past issuers of such securities have recently restated prior financial statements to comport with the SEC view. In conformance therewith, the Company has calculated noncash interest expense of $4,396,700 with a like amount added to paid-in capital in the second quarter of fiscal 1996. The Company also recorded a noncash interest expense of $1,101,700 in the fourth quarter of fiscal 1995 related to convertible debentures issued in fiscal 1995 which were convertible at a discount from the market price of the common stock. Because of the offsetting nature of these entries, there is no effect on Shareholders' equity. 12 Irvine Sensors Corporation Notes to Consolidated Financial Statements ________________________________________________________________________________ During fiscal 1997, the Company, at the request of bondholders, converted $3,150,000 of the outstanding 1996 Debentures at varying rates into 2,441,400 shares of the Company's common stock. With these conversions, all but $250,000 of the original issue of $11.1 million of the 1996 Debentures was retired. In May 1996, the Company had registered the resale of 2,997,000 shares of common stock which the Company then believed would be sufficient to cover the conversion of the entire $11.1 million series of 1996 Debentures and related warrants, which had been issued in February and March 1996. However, due to the decline in the price of the Company's common stock, the number of shares issued pursuant to conversions through September 28, 1997, exceeded this registration by 1,710,400 and the resale of such shares is presently unregistered. Furthermore, the Company projects that approximately 100,000 additional unregistered shares could be required to convert the remaining outstanding 1996 Debentures at September 28, 1997. The Company is currently in the process of preparing a new registration statement to register the resale of the additional shares issued and issuable pursuant to 1996 Debenture conversions. Note 7 - Related Party Transactions In April 1980, the Company entered into an agreement with R & D Leasing Ltd. (RDL), a limited partnership in which the Company's CEO and a Senior Vice- President are general partners with beneficial interests, to design an electronic circuit, to develop certain fabrication processes and to build equipment for testing electronic integrated circuits. In connection with the development of the electronic test equipment under the RDL agreement, certain other proprietary fabrication processes were developed to which RDL retained ownership. Upon the occurrence of certain specified events, such as the use of patented fabrication processes in connection with contracts, the agreement with RDL provides that the Company will pay RDL a royalty fee of 3.5 percent of revenues from sales of the basic devices using the processes created during the development of this equipment. In June 1989, the Board of Directors approved an agreement with RDL whereby $40,000 of royalty fees was converted to a long-term note payable and a warrant to purchase shares of the Company's common stock. The note was unsecured, bore no interest and had a due date of June 30, 1995. The warrant to purchase 200,000 shares of common stock at $0.20 per share had an expiration date of June 30, 1995. In October 1989, the Board of Directors approved an amendment to the RDL agreement limiting the royalty fees under certain circumstances and deferring and subordinating all royalty claims with respect to all other creditors for an initial period of five years. The amendment allows the Company, at RDL's option, to pay up to $250,000 of accrued royalties in shares of the Company's common stock at a price of $0.50 per share. In the event that RDL extends the period to ten years the amount would be increased to $1,000,000 and the price would increase to $1.00 per share. Should RDL exercise its option to accept payment in shares of the Company's common stock, in whole or in part, title to RDL's technology would transfer to the Company and future royalty obligations would cease. In fiscal 1994, RDL extended the period to ten years. In October 1990, the Company and RDL consummated an agreement in which full settlement of the $40,000 note payable was arranged. RDL forgave $20,000 of the Company's $40,000 debt, evidenced by the aforementioned $40,000 note payable, and surrendered its warrant to purchase 200,000 shares of the Company's stock in exchange for a cash payment of $5,000 and 200,000 unregistered shares of the Company's common stock. As of September 28, 1997, the Company owed RDL $613,800 in deferred royalty fees. Note 8 - Composition of Certain Financial Statement Captions
September 28, September 29, 1997 1996 ----------------------------- Accounts receivable: U.S. government $1,145,100 $1,608,800 Other customers 92,600 1,415,100 ----------------------------- $1,237,700 $3,023,900 =============================
Accounts receivable includes unbilled amounts of $600,900 and $1,151,600 at September 28, 1997, and September 29, 1996, respectively. Unbilled amounts represent contract revenues for which billings have not been presented to customers at year-end. These amounts are billed in accordance with applicable contract terms, usually within 30 days. Accounts receivable also includes billed retention of $28,700 and $63,000 at September 28, 1997, and September 29, 1996, respectively. These amounts are normally collected upon final audit of costs by the U.S. government.
September 28, September 29, 1997 1996 ----------------------------- Inventory: Raw materials $ 185,400 $ 537,900 Work in process 2,382,900 2,862,300 Finished goods 9,000 986,500 ----------------------------- $2,577,300 $4,386,700 =============================
Title to all inventories remains with the Company. Inventoried materials and costs relate to work in process on customers' orders and on the Company's 13 Irvine Sensors Corporation Notes to Consolidated Financial Statements ________________________________________________________________________________ generic module parts and memory stacks which the Company anticipates it will sell to customers. Such inventoried costs are stated generally at the total of the direct production costs including overhead. Inventory valuations do not include general and administrative expenses.
September 28, September 29, 1997 1996 ----------------------------- Equipment, furniture and fixtures: Engineering and production equipment $7,252,200 $16,615,800 Furniture and fixtures 330,700 353,300 Computer software programs 598,100 739,900 Leasehold improvements 765,400 900,700 ----------------------------- 8,946,400 18,609,700 Less accumulated depreciation and amortization 6,170,600 6,703,000 ----------------------------- $2,775,800 $11,906,700 =============================
Engineering and production equipment includes approximately $209,800 of capitalized leases. Accumulated amortization of capitalized leases amounted to $108,300 and $66,300 at September 28, 1997, and September 29, 1996, respectively.
September 28, September 29, 1997 1996 ----------------------------- Accrued expenses: Salaries and wages $267,800 $353,900 Vacation 217,700 236,900 Payroll taxes 58,300 57,100 Accounting fees 47,600 55,800 Accrued rent - 91,700 Other accrued expenses 93,300 140,700 ----------------------------- $684,700 $936,100 =============================
Note 9 - Notes Payable Current and long-term debt consists of the following:
September 28, September 29, 1997 1996 ---------------------------- Note payable to bank bearing interest at prime (8.5 percent at September 28, 1997) plus 1.5 percent due in monthly installments of $63,400 beginning May 1997 $2,819,200 $3,000,000 Capitalized lease obligations maturing at various dates through 1997 8,000 80,500 Less current portion 2,234,000 270,600 ---------------------------- $ 593,200 $2,809,900 ============================
In accordance with a Forbearance Agreement executed subsequent to September 28, 1997, between the Company and the bank, the Company has agreed to accelerate repayment of the Note Payable to the bank. The current portion of the debt includes $1,026,900 due from the sale of assets which was received by the bank in October 1997. The Company has also agreed, among other requirements, to reduce the principal balance by $250,000 cash in each quarter ending December 1997 and March 1998 and thereafter to reduce the remaining balance by a minimum of $200,000 quarterly. The long-term portion of $593,200 comprises principal note payments of $93,200 due in fiscal 1999 and $500,000 that will be refinanced with the issuance of the Company's common stock pursuant to the Forbearance Agreement. Execution of the Forbearance Agreement also resulted in a waiver of the Company's financial covenant defaults at September 28, 1997, and an amendment to the loan agreement eliminating such financial covenants on a prospective basis. In connection therewith, the Company pledged, as collateral, one million shares of Novalog Inc. common stock held by the Company. Note 10 - Income Taxes The tax effects of significant items comprising the Company's income tax calculation as of September 28, 1997, are as follows: Current deferred tax assets: Reserves not currently deductible $ 709,700 Operating loss carryforwards 949,400 Long-term deferred tax assets: Operating loss carryforwards 15,909,200 Tax credit carryforwards 449,900 Vapital loss carryforwards 8,500 Valuation allowance (18,026,700) ------------ Net deferred tax asset $ - ============
The differences between the Company's effective income tax rate and the statutory U.S. federal income tax rate for the fiscal years September 28, 1997, and September 29, 1996, respectively, are as follows: The total valuation allowance changed $5,411,000 from September 29, 1996, to September 28, 1997. The provisions for income taxes for the fiscal years ended September 28, 1997, September 29, 1996, and October 1, 1995, consist of provisions for state income taxes of $2,600, $1,800 and $1,000, respectively. No provisions for federal income taxes have been made in these fiscal years due to the net operating losses. At September 28, 1997, the Company had net operating loss carryforwards of approximately $44,175,900 for financial reporting and federal income tax purposes expiring in varying amounts from fiscal year 1998 through fiscal year 2012, and $23,767,000 for California and Vermont State Franchise tax purposes expiring in varying amounts from fiscal year 14 Irvine Sensors Corporation Notes to Consolidated Financial Statements ________________________________________________________________________________ 1998 through fiscal year 2002, available to offset future federal, California and Vermont taxable income. In addition, as of September 28, 1997, the Company had investment tax credits and qualified research credits of $133,400 and $316,500, respectively, expiring in varying amounts through fiscal year 2008 and available to offset future federal taxes. The ability of the Company to utilize the net operating loss and credit carryforwards may be restricted by certain provisions of the Internal Revenue Code. Note 11 - Operating Leases The Company leases certain facilities and equipment under cancelable and noncancelable lease obligations. Total rental expense for operating leases amounted to $1,685,200, $1,633,500 and $562,500 for the fiscal years ended September 28, 1997, September 29, 1996, and October 1, 1995, respectively. Minimum lease commitments existing at September 28, 1997, are approximately as follows:
Fiscal years ending: 1998 $619,900 1999 104,000 2000 1,300 -------- Total minimum payments $725,200 ========
Note 12 - Stock Option Plans and Employee Retirement Plan In December 1981, the Company's shareholders adopted two stock option plans: the 1981 Incentive Stock Option Plan (Incentive Plan) and the 1981 Nonstatutory Stock Option Plan (Nonstatutory Plan). The Incentive Plan provided for the granting of options to key management employees and the Nonstatutory Plan provided for the granting of options to both key management employees and non- employee directors. The maximum number of shares which could be optioned and sold under the two plans was 1,450,000 shares, of which no more than 800,000 and 400,000 could be optioned and sold to directors and non-director officers, respectively. Under the terms of the Incentive Plan, options could be granted at an exercise price equal to the fair market value of the Company's common stock on the date the options were granted, and under the terms of the Nonstatutory Plan, options could be granted at 85 percent of the fair market value, on the date the options were granted. If, however, the optionee owned more than 10 percent of the outstanding common stock of the Company, the exercise price of incentive stock options would be at least 110 percent of such fair market value. Options, generally, are not exercisable before one year from the date of grant, and are generally exercisable in installments. Options granted under the Incentive Plan may not exceed five years in duration and options granted under the Nonstatutory Plan may not exceed ten years in duration. The Plans terminated on December 11, 1991, after which date no options could be granted under the Plans. As of September 29, 1996, there were no outstanding options under the Plans. In December 1991, the Board of Directors adopted the 1991 Stock Option Plan to replace the 1981 Plans, which had terminated. This new Plan was approved by shareholders at the Company's Annual Meeting in February 1992. Under the 1991 Plan, options to purchase an aggregate of 675,000 shares of the Company's common stock may be granted to both key management employees and non-employee directors. Options granted may be either Incentive Stock Options or Nonstatutory Stock Options and the requirements for participation, exercise price and other terms are similar to the 1981 Plans. As of September 28, 1997, options to purchase 125,500 shares at prices ranging from $1.4375 (40,000 shares) to $7.75 (8,300 shares) were outstanding under the 1991 plan, of which 58,500 were exercisable at September 28, 1997. In January 1995, the Board of Directors adopted the 1995 Stock Option Plan to replace the 1991 Plan, which was fully subscribed at the time. The 1995 Plan was approved by shareholders at the Company's Annual Meeting in February 1995. Under the 1995 Plan, options to purchase an aggregate of 700,000 shares of the Company's common stock may be granted to both key management employees and non- employee directors. In August 1997, the Board of Directors authorized an increase in the number of options to an aggregate of 1,650,000 shares, subject to ratification by shareholders at the Company's Annual Meeting in February 1998. Options granted may be either Incentive Stock Options or Nonstatutory Stock Options, and requirements for participation, exercise price and other terms are similar to the 1991 Plan. As of September 28, 1997, options to purchase 1,255,100 shares at prices ranging from $0.98 (580,000 shares) to $6.50 (10,000 shares) were outstanding under the 1995 Plan, of which 47,200 were exercisable at September 28, 1997. Stock option activity is summarized as follows:
Option Price Shares Per Share ------------------------------- 1981 PLAN: - ---------- Options outstanding at October 2, 1994 52,400 $0.5625 to $1.5625 Exercised (48,400) 0.5625 to 1.5625 ---------- Options outstanding at October 1, 1995 4,000 0.5625 Exercised (4,000) $0.5625 ---------- Options outstanding at September 29, 1996 - ==========
15 Irvine Sensors Corporation Notes to Consolidated Financial Statements ________________________________________________________________________________ 1991 Plan: - ---------- Options outstanding at October 2, 1994 527,000 $1.3125 to $8.625 Granted 98,500 6.00 Exercised (54,200) 1.3125 to 7.75 --------- Options outstanding at October 1, 1995 571,300 1.3125 to 8.625 Exercised (314,100) 1.3125 to 4.09 Cancelled (19,000) 4.09 to 8.625 Expired (27,500) 1.3125 to 4.09 --------- Options outstanding at September 29, 1996 210,700 4.28 to 8.625 Granted 43,000 1.4375 to 2.3125 Cancelled (76,500) 6.00 to 7.6875 Expired (51,700) 4.28 to 8.6520 --------- Options outstanding at September 28, 1997 125,500 $1.4375 to $7.75 ========= 1995 Plan: - ---------- Granted in fiscal 1995 228,500 $6.00 to $6.50 --------- Options outstanding at October 1, 1995 228,500 6.00 to 6.50 Granted 343,500 5.0625 to 8.50 Cancelled (128,000) 6.00 to 6.50 --------- Options outstanding at September 29, 1996 444,000 5.0625 to 8.50 Granted 1,153,000 0.98 to 2.3125 Cancelled (341,900) 1.00 to 8.50 --------- Options outstanding at September 28, 1997 1,255,100 $0.98 to $6.50 =========
Pursuant to SFAS No. 123 "Accounting for Stock Based Compensation," the Company is required to disclose the effects on the net loss and per share data as if the Company had elected to use the fair value approach to account for all of its employee stock-based compensation plans. Had the compensation cost for the Company's plans been determined using the fair value method, the compensation expense would have had the effects of increasing the Company's net loss for the years ended September 28, 1997, and September 29, 1996, to the pro forma amounts of $15,041,000 and $16,255,700, respectively, with a corresponding pro forma loss per share of $0.73 and $0.96, respectively. These pro forma amounts were determined estimating the fair value of each option granted during fiscal 1996 and fiscal 1997 on its grant date, using the Black-Scholes option-pricing model. Assumptions of no dividend yield, a risk-free interest rate of 6 percent which approximates the Federal Reserve Board's rate for treasuries at the time granted, an expected life of three years, and a volatility rate of 86.9 percent were applied to all options granted during fiscal year 1996 and fiscal year 1997. The weighted average fair value at the grant date for the options granted during fiscal years 1997 and 1996 was $0.75 and $3.47 per option, respectively. In fiscal 1982, the Company established an Employee Retirement Plan, which is effective for fiscal year 1982 and thereafter. The plan provides for annual contributions to the Company's Stock Bonus Trust (SBT) to be determined by the Board of Directors and which will not exceed 15 percent of total payroll. At the discretion of the Trustee, the SBT will purchase common stock at fair market value or other interest-bearing securities or investments for the accounts of individual employees who will gain a vested interest of 20 percent in their accounts after three years of service, and 20 percent each year of service thereafter, until fully vested after seven years of service. That portion of cash or stock held in an employee's account and not vested at termination of employment will be redistributed in accordance with a prearranged formula. Management believes that the contributions made by the Company to the SBT, to the extent they relate to government cost-plus-fixed-fee contracts, will be reimbursable by the U.S. government. In fiscal years 1995, 1996 and 1997 the Company's contributions to the SBT were 68,000, 172,900 and 347,600 shares of common stock, respectively, which had estimated market values of $472,300, $687,400 and $445,500, respectively. Note 13 - Revenues In fiscal 1997, contracts with all branches of the U.S. government accounted for 43 percent of the Company's revenues, and the remaining 57 percent of the Company's revenues was derived from non-government sources. Of the 43 percent applicable to the U.S. government, there were three agencies of the government that accounted for 55 percent, 13 percent and 11 percent. Other government agencies accounted for the remaining 21 percent. Of the 57 percent applicable to non-government sources, two customers accounted for 49 percent and 39 percent of the revenues. In fiscal 1996, contracts with all branches of the U.S. government accounted for 31 percent of the Company's revenues, and the remaining 69 percent of the Company's revenues was derived from non-government sources. of the 31 percent applicable to the U.S. government, there was one agency of the government that accounted for 16 percent. Other government agencies accounted for the remaining 15 percent. Of the 69 percent applicable to non-government sources, two customers accounted for 23 percent and 21 percent of the revenues. 16 Irvine Sensors Corporation Notes to Consolidated Financial Statements ________________________________________________________________________________ In fiscal 1995, contracts with all branches of the U.S. government accounted for 74 percent of the Company's revenues, and the remaining 26 percent of the Company's revenues was derived from non-government sources. Of the 74 percent applicable to the U.S. government, there were two agencies of the government that accounted for 30 percent and 21 percent, respectively. Other government agencies accounted for the remaining 23 percent. There were no non-government customers who individually accounted for more than 10 percent. Note 14 - Technology Licenses In June 1992 the Company and International Business Machines (IBM) entered into an agreement to develop manufacturing technology required to commercially produce parts using the Company's technology for stacking integrated circuits. In June 1993, IBM and the Company jointly announced the opening of a pilot manufacturing line at an IBM facility. The agreement provided for the Company to receive royalties on stacked chip parts sold by IBM and will share equally with IBM any royalties received from the licensing of the jointly developed manufacturing technology. In April 1996, the Company reached an agreement with IBM wherein the Company acquired the operating line from IBM and leased the facilities. This agreement was terminated in fiscal 1997. In May 1995, the Company and Unitrode Corporation (Unitrode) entered into an agreement to transfer to Unitrode the technology required to produce the Company's wireless infrared communication integrated circuit (SIRComm). The Company will receive licensing and royalty payments for the technology transfer and on SIRComm products sold by Unitrode. Note 15 - Deferred Revenues The Company received prepayments from customers related to services and products which had not been delivered as of the balance sheet date. Revenues are recorded upon delivery of these services and products. Note 16 - Acquisition and Disposal of Equipment On April 19, 1996, the Company consummated an agreement for the acquisition and operation of the equipment comprising IBM's cubing line located at IBM's Essex Junction, Vermont facility. The cubing line was established by IBM to manufacture the stacked-chip assemblies required to commercialize the Company's proprietary chip-stacking technology under the joint development alliance that IBM and the Company entered into in 1992. According to the terms of the agreement, the Company acquired the equipment and clean room, which comprises the cubing line for a cash payment of approximately $6.5 million. In addition, the Company signed a facility lease agreement for the space required to operate the cubing line under the Company's management within the IBM facility through December 1998. The terms of the facility lease agreement include escalating rent payments, which have been straight lined for financial reporting purposes. The difference between the amount paid and the amount expensed during fiscal 1996 has been reported as accrued rent. The agreement was terminated in fiscal 1997 and the deferred rent balances were netted against rent expense. As part of the process to terminate the agreement with IBM, the Company disposed of the equipment acquired from IBM in April 1996 and other fixed assets purchased and/or constructed at the IBM facility. These assets with a net book value of $6,925,300 were sold for proceeds of $1,051,900, resulting in a loss on the disposal of $5,873,400. At September 28, 1997, $1,026,900 of those proceeds was still receivable and is included in Other current assets on the balance sheet. During October 1997, these proceeds were received by the Company's lender and applied against the principal of the Company's long-term debt. 17 Irvine Sensors Corporation Report of Independent Accountants ________________________________________________________________________________ [LOGO OF PRICE WATERHOUSE LLP] To the Board of Directors and Shareholders of Irvine Sensors Corporation In our opinion, the accompanying consolidated balance sheet and the related consolidated statements of operations, of shareholders' equity (deficit) and of cash flows present fairly, in all material respects, the financial position of Irvine Sensors Corporation and its subsidiaries at September 28, 1997, and September 29, 1996, and the results of their operations and their cash flows for each of the three years in the period ended September 28, 1997, in conformity with generally accepted accounting principles. 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 of these statements in accordance with generally accepted auditing standards which 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above. /s/ Price Waterhouse Costa Mesa, California December 16, 1997 18 Irvine Sensors Corporation Corporate Information ________________________________________________________________________________ Directors James Alexiou/1,2/, Chairman of the Board, Irvine Sensors Corporation John C. Carson, Senior Vice-President, Irvine Sensors Corporation Joanne S. Carson, Secretary, Irvine Sensors Corporation Marc Dumont/1/, Financial Advisor James D. Evert, President and CEO, Irvine Sensors Corporation Walter E. Garrigan, Financial Advisor Thomas H. Lenagh/2/, Financial Advisor General Frank P. Ragano/1/, Chairman and CEO of CMS, Inc., a manufacturer of defense munitions Vincent F. Sollitto Jr., President and CEO of Photon Dynamics Inc., a manufacturer of electronic capital equipment /1/Member of the Compensation Committee /2/Member of the Audit Committee Officers John C. Carson, Senior Vice-President Joanne S. Carson, Secretary Floyd K. Eide, Vice-President James D. Evert, President and Chief Executive Officer David Pinto, Treasurer and Controller John J. Stuart, Jr., Vice-President and Chief Financial Officer Executive Offices Irvine Sensors Corporation, 3001 Redhill Avenue, Building III, Costa Mesa, California 92626 Counsel Grover T. Wickersham, P.C., Wickersham Law Offices, 430 Cambridge Avenue, Suite 100, Palo Alto, California 94306 Independent Accountants Price Waterhouse LLP, 575 Anton Boulevard, Costa Mesa, California 92628 Transfer Agent ChaseMellon Shareholder Services, 400 S. Hope St., 4th Floor, Los Angeles, California 90071 Stock Data Nasdaq Listing: Common Stock - IRSN Boston Stock Exchange Listing: Common Stock - ISCB Form 10-K Shareholders may obtain without charge a copy of the Company's Annual Report on Form 10-K for the fiscal year ended September 28, 1997, as filed with the Securities and Exchange Commission, without exhibits thereto, and may obtain any exhibit thereto upon payment of a nominal copying charge, by writing to Joanne S. Carson, Secretary, Irvine Sensors Corporation, 3001 Redhill Avenue, Costa Mesa, California 92626. 19 Irvine Sensors Corporation 3001 Redhill Avenue Costa Mesa, California 92626 EX-23.1 3 CONSENT OF INDEPENDENT AUDITORS EXHIBIT 23.1 CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the incorporation by reference in the Prospectus constituting part of this Registration Statement on Form S-8 (No. 2-85501) of Irvine Sensors Corporation of our report dated December 16, 1997, which appears on page 18 of the 1997 Annual Report to Shareholders of Irvine Sensors Corporation, which is incorporated by reference in Irvine Sensors Corporation's Annual Report on Form 10-K for the year ended September 28, 1997. We also consent to the incorporation by reference of our report on the Financial Statement Schedules, which appears on page 14 of this Form 10-K. /s/ PRICE WATERHOUSE LLP Price Waterhouse LLP Costa Mesa, California January 5, 1998 EX-23.2 4 CONSENT OF PATENT COUNSEL EXHIBIT 23.2 Exhibit 23.2 - Consent of Patent Counsel I hereby consent to the reference to me in this Annual Report - Form 10-K of Irvine Sensors Corporation under the section entitled "Patents and Trademarks." /s/ Thomas J. Plante ---------------------- THOMAS J. PLANTE, Esq. Irvine, California March 18, 1998 -----END PRIVACY-ENHANCED MESSAGE-----