-----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, I0YA3NT1yjR0dDf/2FHXy05Saf/tFG0OPENqmM0wIf0DfJ91CTYz6AThjQPZMcSq I/y0/eJyXYRPdQa0jwiGnA== 0000897101-01-000149.txt : 20010223 0000897101-01-000149.hdr.sgml : 20010223 ACCESSION NUMBER: 0000897101-01-000149 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 20001231 FILED AS OF DATE: 20010214 FILER: COMPANY DATA: COMPANY CONFORMED NAME: DIGITAL BIOMETRICS INC CENTRAL INDEX KEY: 0000868373 STANDARD INDUSTRIAL CLASSIFICATION: COMPUTER PERIPHERAL EQUIPMENT, NEC [3577] IRS NUMBER: 411545069 STATE OF INCORPORATION: DE FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 333-72031 FILM NUMBER: 1544735 BUSINESS ADDRESS: STREET 1: 5600 ROWLAND RD CITY: MINNETONKA STATE: MN ZIP: 55343 BUSINESS PHONE: 6129320888 MAIL ADDRESS: STREET 1: 5600 ROWLAND RD STREET 2: 5600 ROWLAND RD CITY: MINNETONKA STATE: MN ZIP: 55343 10-Q 1 0001.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended December 31, 2000 ------------------------------------------------- or [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ______________________ to ______________________ Commission File Number: 0-18856 -------------------------------------------------------- DIGITAL BIOMETRICS, INC. (Exact name of registrant as specified in its charter) Delaware 41-1545069 -------- ---------- (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 5600 Rowland Road, Minnetonka, Minnesota 55343 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) (952) 932-0888 -------------- (Registrant's telephone number, including area code) N/A (Former name, former address and former fiscal year, if changed since last report) 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 filing requirements for the past 90 days. [x] Yes [ ] No Indicate the number of shares of each of the issuer's classes of common stock, as of the latest practicable date. common stock, $.01 par value January 31, 2001 - 16,980,731 shares ---------------------------- ------------------------------------ (Class) (Outstanding) 1 DIGITAL BIOMETRICS, INC. THREE MONTHS ENDED DECEMBER 31, 2000 INDEX PART I - FINANCIAL INFORMATION: PAGE ---- ITEM 1. FINANCIAL STATEMENTS (UNAUDITED) BALANCE SHEETS 4 STATEMENTS OF OPERATIONS 5 STATEMENTS OF CASH FLOWS 6 NOTES TO FINANCIAL STATEMENTS 7 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 14 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 20 PART II - OTHER INFORMATION: ITEM 1. LEGAL PROCEEDINGS 21 ITEM 2. CHANGES IN SECURITIES 21 ITEM 3. DEFAULTS UPON SENIOR SECURITIES 21 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 21 ITEM 5. OTHER INFORMATION 21 ITEM 6. (a) EXHIBITS 21 (b) REPORTS ON FORM 8-K 21 SIGNATURES 22 - ---------- 2 DIGITAL BIOMETRICS, INC. THREE MONTHS ENDED DECEMBER 31, 2000 SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 Except for the historical information contained herein, the matters discussed in this Form 10-Q include forward-looking statements made within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. As provided for under the Private Securities Litigation Reform Act, the Company cautions investors that actual results of future operations may differ from those anticipated in forward-looking statements due to a number of factors, including the Company's ability to maintain profitability, introduce new products and services, build profitable revenue streams around new product and service offerings, maintain loyalty and continued purchasing of the Company's products by existing customers, execute on customer delivery and installation schedules, collect outstanding accounts receivable and manage the concentration of accounts receivable and other credit risks associated with selling products and services to governmental entities and other large customers, create and maintain satisfactory distribution and operations relationships with automated fingerprint identification system ("AFIS") vendors, attract and retain key employees, secure timely and cost-effective availability of product components, meet increased competition, maintain adequate working capital and liquidity, including the availability of financing as may be required, and upgrade products and develop new technologies. For a more complete description of such factors, see "Risk Factors" under Item 7 of the Company's Form 10-K report for the year ended September 30, 2000. 3 DIGITAL BIOMETRICS, INC. BALANCE SHEETS (UNAUDITED)
December 31, September 30, 2000 2000 ------------ ------------ Current assets: Cash and cash equivalents $ 1,414,966 $ 1,893,156 Restricted cash (note 5) 625,000 -- Accounts receivable, less allowance for doubtful accounts of $124,000 5,878,624 9,256,468 Notes receivable (notes 6 and 12) 750,000 -- Inventory (notes 2 and 7) 5,047,427 3,900,754 Prepaid expenses and other costs (note 2) 477,755 215,103 ------------ ------------ Total current assets 14,193,772 15,265,481 ------------ ------------ Property and equipment 3,435,880 3,265,846 Less accumulated depreciation and amortization (2,505,734) (2,330,177) ------------ ------------ 930,146 935,669 ------------ ------------ Patents, trademarks, copyrights and licenses, net of accumulated amortization of $59,684 and $82,501, respectively 46,700 45,149 ------------ ------------ $ 15,170,618 $ 16,246,299 ============ ============ Current liabilities: Accounts payable $ 1,022,650 $ 1,711,438 Deferred revenue (note 2) 5,533,311 3,642,246 Other accrued expenses (notes 2 and 9) 1,269,506 1,750,088 ------------ ------------ Total current liabilities 7,825,467 7,103,772 Total liabilities 7,825,467 7,103,772 ------------ ------------ Stockholders' equity (note 10): Preferred stock, undesignated, par value $.01 per share, 5,000,000 shares authorized, none issued -- -- Common stock, $.01 par value. Authorized, 40,000,000 shares; issued and outstanding 16,979,565 and 16,851,725 shares, respectively 169,796 168,517 Additional paid-in capital 49,150,402 48,741,875 Deferred compensation (78,375) (93,750) Accumulated deficit (41,896,672) (39,674,115) ------------ ------------ Total stockholders' equity 7,345,151 9,142,527 ------------ ------------ $ 15,170,618 $ 16,246,299 ============ ============
See accompanying notes to financial statements. 4 DIGITAL BIOMETRICS, INC. STATEMENTS OF OPERATIONS (UNAUDITED)
Three Months Ended December 31, 2000 1999 ------------ ------------ Revenue: Identification systems (note 2) $ 4,802,486 $ 5,773,261 Maintenance 1,718,417 1,068,722 ------------ ------------ Total revenue 6,520,903 6,841,983 ------------ ------------ Cost of revenue: Identification systems (note 2) 3,139,879 3,934,251 Maintenance 1,352,046 781,143 ------------ ------------ Total cost of revenue 4,491,925 4,715,394 ------------ ------------ Gross margin 2,028,978 2,126,589 ------------ ------------ Selling, general and administrative expenses: Sales and marketing (note 2) 802,046 586,029 Engineering and development 812,982 493,454 General and administrative 657,052 639,198 Non-recurring charges (note 12) 599,403 -- ------------ ------------ Total expenses 2,871,483 1,718,681 ------------ ------------ Income (loss) from operations (842,505) 407,908 Other income (expense), net 55,600 38,227 ------------ ------------ Income (loss) before accounting change (786,905) 446,135 Cumulative effect of change in accounting principle (note 2) (1,435,652) -- ------------ ------------ Net income (loss) $ (2,222,557) $ 446,135 ============ ============ Earnings (loss) per common share - -------------------------------- Income (loss) before accounting change $ (0.05) $ 0.03 Cumulative effect of change in accounting principle (0.08) -- ------------ ------------ Net income (loss) per common share $ (0.13) $ 0.03 ============ ============ Earnings (loss) per common share - assuming dilution - ---------------------------------------------------- Income (loss) before accounting change $ (0.05) $ 0.03 Cumulative effect of change in accounting principle (0.08) -- ------------ ------------ Net income (loss) per common share $ (0.13) $ 0.03 ============ ============ Weighted average common shares outstanding 16,889,626 16,133,544 ============ ============ Weighted average common shares outstanding - assuming dilution 16,889,626 17,500,465 ============ ============
See accompanying notes to financial statements. 5 DIGITAL BIOMETRICS, INC. STATEMENTS OF CASH FLOWS (UNAUDITED)
Three Months Ended December 31, ----------------------------- 2000 1999 ------------ ------------ Cash flows from operating activities: Net income (loss) $ (2,222,557) $ 446,135 Adjustments to reconcile net income (loss) to net cash (used in) provided by operating activities: Provision for doubtful accounts receivable -- 5,428 Deferred compensation amortization 104,001 12,125 Depreciation and amortization 178,786 157,264 Write-off of intangible assets 607 -- Gain on disposal of fixed assets -- (3,353) Interest expense on debentures converted into common stock -- 12,350 Changes in operating assets and liabilities: Restricted cash (625,000) -- Accounts and notes receivable 2,627,844 915,846 Inventories (1,146,673) (121,778) Prepaid expenses (262,653) (27,555) Accounts payable (688,788) (1,158,632) Deferred revenue 1,891,065 612,672 Accrued expenses (262,517) 119,972 ------------ ------------ Net cash (used in) provided by operating activities (405,885) 970,474 ------------ ------------ Cash flows from investing activities: Purchase of property and equipment (170,034) (79,321) Proceeds from disposal of property and equipment -- 10,018 Patents, trademarks, copyrights and licenses (5,386) (7,090) ------------ ------------ Net cash used in investing activities (175,420) (76,393) ------------ ------------ Cash flows from financing activities: Principal payments on capital lease obligations -- (21,331) Exercise of options 103,115 185,872 ------------ ------------ Net cash provided by financing activities 103,115 164,541 ------------ ------------ Increase (decrease) in cash and cash equivalents (478,190) 1,058,622 Cash and cash equivalents at beginning of period 1,893,156 3,175,868 ------------ ------------ Cash and cash equivalents at end of period $ 1,414,966 $ 4,234,490 ============ ============
See accompanying notes to financial statements. 6 DIGITAL BIOMETRICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2000 (UNAUDITED) (1) DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION Digital Biometrics, Inc., (the "Company," "Digital Biometrics" or "DBI") is a leading provider of identification information systems that employ "biometric" technology, which is the science of identifying individuals by measuring distinguishing biological characteristics. DBI's biometric identification and information technology services enable law enforcement and other government agencies to identify suspects and manage information on individuals, and help commercial employers and government agencies to conduct background checks on applicants for employment or permits. DBI's offerings include computer-based fingerprinting and photographic systems, software tools, multi-media data storage and communications servers, and the systems integration and software development services required to implement identification management systems. Under new management during the past three years, Digital Biometrics has evolved from a single-product, live-scan hardware supplier to an identification management systems company. DBI continues to expand its product line and information technology services to further penetrate the law enforcement market, while introducing new products and services for the emerging applicant-processing and security markets among commercial and government customers. DBI's systems are used wherever background identification checks and licensing are needed. Typical customers include: U.S. government agencies, such as the Immigration and Naturalization Service ("INS") and U.S. Postal Service; local and state police; United States armed forces; school districts; financial institutions; utilities; and casinos. The Company's main products are special-purpose, computer-based systems for "live-scan" fingerprint capture. These live-scan systems employ patented, high-resolution optics and specialized hardware and software, combined with industry-standard computer hardware and software, to create highly optimized, special-purpose systems which capture, digitize, print and transmit forensic-grade fingerprint and photographic images. Also, the Company is engaged in a joint venture with Lakes Gaming, Inc. (formerly known as Grand Casinos, Inc.), TRAK 21 Development, LLC, to develop, test and market an automated wagering tracking system based on technology developed by the Company. This system is intended to track the betting activity of casino patrons playing blackjack. A majority of the Company's revenues in the three-month periods ended December 31, 2000 and 1999 were derived from live-scan systems sales, photographic image capture systems, maintenance and applications development services to governmental customers. The Company's sales have historically included large purchases by a relatively small number of customers. This concentration of sales among few relatively large customers is expected to continue in the foreseeable future. Furthermore, the nature of government markets and procurement processes is expected to result in continued quarter-to-quarter fluctuations in the Company's revenues and earnings which are and will continue to be difficult to predict. 7 DIGITAL BIOMETRICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2000 (UNAUDITED) The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions for Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. For further information, refer to financial statements and footnotes thereto included in the Company's annual report on Form 10-K for the year ended September 30, 2000. (2) ACCOUNTING CHANGE In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 101 ("SAB 101") which provides the staff's views in applying generally accepted accounting principles to selected revenue recognition issues. In October 2000, the SEC provided interpretive guidance for SAB 101. Effective October 1, 2000 the Company has adopted the new standard and changed its method of accounting for certain identification systems revenue. Since most of the equipment the Company sells includes installation provided by the Company, under SAB 101, a significant portion of revenue recognition is deferred until installation, particularly where the equipment is integrated to an outside network. Prior to October 1, 2000 the Company generally recognized product revenue on the date of shipment for orders which were f.o.b. origin and upon delivery for f.o.b. destination. The Company recorded a $1,436,000 cumulative effect of an accounting change in the three-month period ended December 31, 2000 with the adoption of SAB 101. Under this accounting change, $3,890,000 of revenue recorded in periods prior to October 1, 2000 will be recorded as revenue again as the equipment is installed. Of this amount, $3,171,000 of revenue was recognized during the three-month period ended December 31, 2000. 8 DIGITAL BIOMETRICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2000 (UNAUDITED) Effects of adoption of this accounting change on the balance sheet as of December 31, 2000 and on the statement of operations for the three-month period ended December 31, 2000 are as follows:
Total Impact as of and for the Shipments Shipments Three-Month Prior to on or After Period Ended October 1, 2000 October 1, 2000 December 31, 2000 --------------- --------------- ----------------- Balance Sheet Inventory $ 336,000 $ 470,000 $ 806,000 Prepaid expenses 20,000 33,000 53,000 Deferred revenue 718,000 1,229,000 1,947,000 Other accrued expenses (94,000) (132,000) (226,000) Statement of Operations Revenue $ 3,171,000 $ (1,229,000) $ 1,942,000 Cost of revenue 1,932,000 (602,000) 1,330,000 Sales and marketing 72,000 (33,000) 39,000 Cumulative effect of change in accounting principle (1,436,000) -- (1,436,000)
(3) SIGNIFICANT CUSTOMERS AND CONCENTRATION OF CREDIT RISK The Company extends credit to substantially all of its customers. Approximately 90% and 96%, respectively, of customer accounts receivable at December 31, 2000 and September 30, 2000 were from government agencies, of which 18% and 34%, respectively, was from one customer. Revenue from one customer in the three-month period ended December 31, 2000 accounted for 22% of total revenue, and revenue from two customers in the three-month period ended December 31, 1999 accounted for 49% of total revenue. Export revenue for the three-month periods ended December 31, 2000 and 1999 were less than 1% of total revenue. 9 DIGITAL BIOMETRICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2000 (UNAUDITED) (4) STATEMENT OF CASH FLOWS For purposes of the statements of cash flows, the Company considers all highly liquid debt instruments and certificates of deposit purchased with an original maturity date of three months or less to be cash equivalents. SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Three Months Ended December 31, 2000 1999 --------- --------- Cash paid during the period for interest $ 202 $3,510 ========= ========= For supplemental disclosure of non-cash investing and financing activities see note 10. (5) RESTRICTED CASH Pursuant to normal contractual terms of a federally funded development grant, the Company was required to establish either a performance bond or an escrow account equal to the amounts payable to certain major subcontractors for the project aggregating $625,000. Since the Company was in a strong cash position, it chose to establish the escrow and avoid the cost of the performance bond. The amount held in escrow is released upon proof of payment to the subcontractors. (6) NOTES RECEIVABLE Concurrent with the parties' execution and delivery of the merger agreement, DBI provided to Visionics Corporation a six-month $1,000,000 working capital facility bearing interest at 12.5 percent per annum and secured by substantially all the assets of Visionics. The amount advanced under this working capital facility was $750,000 as of December 31, 2000. (7) INVENTORY Inventory is valued at standard cost which approximates the lower of first-in, first-out (FIFO) cost or market. Inventory consists of the following: December 31, September 30, 2000 2000 ------------ ------------ Components and subassemblies $ 3,348,118 $ 3,210,121 Work in process 239,123 217,211 Finished goods 654,583 473,422 Finished goods shipped to customers awaiting installation 805,603 -- ------------ ------------ $ 5,047,427 $ 3,900,754 ============ ============ 10 DIGITAL BIOMETRICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2000 (UNAUDITED) (8) LINES OF CREDIT The Company has an inventory and receivables financing line of credit for the lesser of eligible inventory and receivables or $2,000,000. Borrowings under this line of credit are secured by all the assets of the Company. The line bears interest at a rate of 0.5% (one half percent) above the prime rate. The line will expire in April, 2001 and is expected to be renewed. There were no borrowings under this line at December 31, 2000. (9) OTHER ACCRUED EXPENSES Other accrued expenses consists of: December 31, September 30, 2000 2000 ------------ ------------ Accrued salaries, bonuses and commissions $ 149,110 $ 343,958 Accrued vacation 323,138 306,955 Accrued installation costs 138,000 480,500 Accrued warranty costs 160,080 301,570 Other accrued expenses 499,178 317,105 ------------ ------------ $ 1,269,506 $ 1,750,088 ============ ============ (10) STOCKHOLDERS' EQUITY During the three-month period ended December 31, 2000, the Company granted stock option awards to executive and non-executive employees for the purchase of an aggregate of 374,250 shares of common stock. These options are exercisable at prices from $4.438 to $6.188 per share and expire in 2007. Effective December 31, 2000, the Company issued 73,923 shares of common stock to satisfy the Company's discretionary matching to employees electing participation in the Company's 401(k) retirement plan. This issuance increased common stock and additional paid-in capital by $218,065 and reduced accrued compensation by the same amount. 11 DIGITAL BIOMETRICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2000 (UNAUDITED) (11) NET INCOME (LOSS) PER COMMON SHARE The per share computations are based on the weighted average number of common shares outstanding during the periods.
Three Months Ended December 31, ----------------------------- 2000 1999 ------------ ------------ Shares outstanding at beginning of period 16,851,725 16,017,629 Shares issued under retirement plan 73,923 45,855 Restricted stock awards -- 1,125 Exercise of options and warrants 53,917 88,498 Shares issued upon conversion of debentures -- 116,369 ------------ ------------ Shares outstanding at end of period 16,979,565 16,269,476 ============ ============ Weighted average common shares outstanding 16,889,626 16,133,544 Dilutive common shares assumes: Options -- 869,928 Warrants -- 496,993 ------------ ------------ Weighted average common shares outstanding - assuming dilution 16,889,626 17,500,465 ============ ============ Net income (loss) $ (2,222,557) $ 446,135 ============ ============ Net income (loss) per common share $ (0.13) $ 0.03 ============ ============ Net income (loss) per common share - assuming dilution $ (0.13) $ 0.03 ============ ============
The following is a summary of those securities outstanding at December 31 for the respective periods, which have been excluded from the calculations because the effect on net income (loss) per common share would not have been dilutive:
For the Three-Month Period Ended December 31, -------------------------- 2000 1999 -------------------------- Options 2,910,806 27,500 Warrants 585,017 112,893
12 DIGITAL BIOMETRICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2000 (UNAUDITED) (12) MERGER WITH VISIONICS CORPORATION On October 18, 2000, the Company announced signing a definitive merger agreement with Visionics Corporation, the global face recognition technology leader. The proposed merger was approved unanimously by the Board of Directors of both companies. A special meeting of DBI's stockholders is scheduled for February 15, 2001 to vote on the proposed merger and to vote on changing the merged entity's name to Visionics Corporation. If the merger is completed, the Company will provide to holders of Visionics common stock and holders of options to purchase Visionics common stock, merger consideration equal in value to 7,000,000 shares of the Company's common stock. We expect the merger to be accounted for as a pooling-of-interest. Management believes the merger will create a company that is strategically positioned at the forefront of the biometrics technology industry, leveraging Visionics' leadership in technology and innovation with DBI's engineering and manufacturing expertise. The merged company intends to develop a totally new way of delivering biometrics on a platform that is scalable, cost-effective and easier for original equipment manufacturers (OEMs) and developers to adopt. The combined entity plans to offer deployment-ready hardware components - - so called NETWORK APPLIANCES - that support facial recognition and other biometrics. On these components, developers and OEMs can readily build large scale applications or solutions in areas such as information security, banking, access control, law enforcement, ID solutions, CCTV security among others. The focus will initially be on offering a hardware encapsulation of Visionics' FaceIt(R) technology because of its broad appeal. This will deliver facial recognition capabilities through OPEN SYSTEMS PROTOCOLS to any internet-enabled device equipped with a digital camera (e.g. ATMs, airline check-in kiosks, boarding gates, physical access control systems, desktop and laptop computers, handheld wireless devices with built-in digital cameras, CCTV security cameras, etc.). Concurrent with the parties' execution and delivery of the merger agreement, DBI provided to Visionics a six-month $1,000,000 working capital facility bearing interest at 12.5% per annum and secured by substantially all the assets of Visionics. The amount advanced under this working capital facility was $750,000 as of December 31, 2000. The Company expects the merger to be accounted for as a pooling-of- interest. Expenses incurred pursuant to the merger activities are recorded as non-recurring charges. 13 DIGITAL BIOMETRICS, INC. THREE MONTHS ENDED DECEMBER 31, 2000 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS GENERAL As more fully described in the subsection "Risk Factors" under Item 7 of the Company's Form 10-K report for the year ended September 30, 2000, this report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These include statements regarding intent, belief or current expectations of the Company and its management and are made in reliance upon the "safe harbor" provisions of the Securities Litigation Reform Act of 1995. Stockholders and prospective investors are cautioned that any such forward-looking statements are not guarantees of future performance and involve a number of risks and uncertainties that may cause the Company's actual results to differ materially from the results discussed in the forward-looking statements. Digital Biometrics, Inc., ("Digital Biometrics" or "DBI") is a leading provider of identification information systems that employ "biometric" technology, which is the science of identifying individuals by measuring distinguishing biological characteristics. DBI's biometric identification systems and information technology services enable law enforcement and other government agencies to identify and manage information about individuals, and help commercial employers and government agencies to conduct background checks on applicants for employment, permits or citizenship. DBI's product and service offerings include computer-based fingerprinting and photographic systems including mobile wireless systems, software tools, multi-media data storage and communications servers, and the systems integration and software development services required to implement identification management systems. Digital Biometrics has evolved from essentially a single-product live-scan hardware supplier to an identification information systems company. DBI continues to expand its product line and information technology services to further penetrate the law enforcement market, while introducing new products and services for the emerging applicant-processing and security markets among commercial and government customers. Typical customers include: U.S. government agencies such as the Immigration and Naturalization Service ("INS") and U.S. Postal Service; local and state police; United States armed forces; school districts; financial institutions; utilities; airports; and casinos. DBI's main products are special-purpose, computer-based "live-scan" systems for the capture and transmission of high-resolution forensic-grade fingerprints, along with text information on the fingerprinted subject and in some cases photographs. These live-scan systems employ patented, high-resolution optics and specialized hardware and software, combined with industry-standard computer hardware and software, to create highly optimized, special-purpose systems which capture, digitize, print and transmit forensic-grade fingerprint and photographic images to large-scale databases (sold by other vendors), and receive return messages on the identity of the individual being checked. These systems, including the new Identification Based Information System (IBIS) for 14 DIGITAL BIOMETRICS, INC. THREE MONTHS ENDED DECEMBER 31, 2000 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS wireless, real-time mobile identification, are among the most complex biometric systems ever developed. DBI's business includes data capture systems as well as identification information networks. These products and services are used by commercial customers and government agencies to conduct fingerprint-based background checks on applicants for employment or permits, as well as by law enforcement agencies. DBI's strategy is to continue to market live-scan systems to law enforcement agencies while expanding its product and service offerings and the markets it serves. The law enforcement market for live-scan biometric products is well established. DBI believes there is growing demand from other governmental and commercial markets to employ identification information technologies in enrollment and applicant processing applications. Digital Biometrics is aggressively pursuing these emerging markets. DBI is engaged in a joint venture with Lakes Gaming, Inc., formerly known as Grand Casinos, Inc., named TRAK 21 Development, LLC, to develop, test and market an automated wagering tracking system based on technology developed by DBI. This system is intended to track the betting activity of casino patrons playing blackjack. PROPOSED MERGER WITH VISIONICS CORPORATION On October 18, 2000, the Company announced signing a definitive merger agreement with Visionics Corporation, the global face recognition technology leader. It was approved unanimously by the Board of Directors of both companies. A special meeting of DBI's stockholders is scheduled for February 15, 2001 to vote on the proposed merger and to vote on changing the merged entity's name to Visionics Corporation. If the merger is completed, the Company will provide to holders of Visionics common stock and holders of options to purchase Visionics common stock, merger consideration equal in value to 7,000,000 shares of the Company's common stock. Management believes the merger will create a company that is strategically positioned at the forefront of the biometrics technology industry, leveraging Visionics' leadership in technology and innovation with DBI's engineering and manufacturing expertise. The merged company intends to develop a totally new way of delivering biometrics on a platform that is scalable, cost-effective and easier for original equipment manufacturers ("OEMs") and developers to adopt. The combined entity plans to offer deployment-ready hardware components - - so called NETWORK APPLIANCES - that support facial recognition and other biometrics. On these components, developers and OEMs can readily build large-scale applications or solutions in areas such as information security, banking, access control, law enforcement, ID solutions, CCTV security among others. The focus will initially be on offering a hardware encapsulation of Visionics' FaceIt(R) technology because of its broad appeal. This will deliver facial recognition capabilities through OPEN SYSTEMS PROTOCOLS to any internet-enabled device equipped with a digital camera (e.g. ATMs, airline check-in kiosks, boarding gates, physical access control systems, desktop and laptop computers, handheld wireless devices with built-in digital cameras, CCTV security cameras, etc.). 15 DIGITAL BIOMETRICS, INC. THREE MONTHS ENDED DECEMBER 31, 2000 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS DBI expects the proposed merger with Visionics Corporation to position DBI at the forefront of the biometrics technology industry. By leveraging Visionics' leadership in technology and innovation with DBI's engineering and manufacturing expertise, DBI intends to deliver biometrics on a platform that is scalable, cost-effective and easy for original equipment manufacturers and developers to adopt. Concurrent with the parties' execution and delivery of the merger agreement, DBI provided to Visionics a six-month $1,000,000 working capital facility bearing interest at 12.5 percent per annum and secured by substantially all the assets of Visionics. The amount advanced under this working capital facility was $750,000 as of December 31, 2000. OTHER GENERAL The law enforcement market and government procurement processes are subject to budgetary, economic and political considerations which vary significantly from state to state and among different agencies. These characteristics, together with the increasing level of competition within the live-scan electronic fingerprint industry, have resulted (and are expected to continue to result) in an irregular revenue cycle for the Company. Prior to October 1, 2000 the Company generally recognized product revenue on the date of shipment for orders which were f.o.b. origin and upon delivery for f.o.b. destination, although recognition at some later milestone was not uncommon based on the terms of specific customer contracts. With the adoption of the Securities and Exchange Commission issued Staff Accounting Bulletin No. 101 pertaining to revenue recognition, the Company changed its revenue recognition policy on October 1, 2000 to defer revenue recognition until its products are installed. Revenue for professional services contracts and systems integration services revenues are recognized using the percentage of completion method, completed contract basis or on a time-and-materials basis. Revenues from maintenance and repair contracts are recognized over the period of the agreement. Services revenues are recognized when the related services are performed. The Company's standard terms of sale are payment due net in thirty days, f.o.b. Digital Biometrics, Inc. Terms of sale and shipment may, however, be subject to negotiation and may affect the Company's timing and criteria for revenue recognition. RESULTS OF OPERATIONS THREE MONTHS ENDED DECEMBER 31, 2000 COMPARED TO THREE MONTHS ENDED DECEMBER 31, 1999 Total revenue was $6,521,000 for the three months ended December 31, 2000 compared to $6,842,000 for the same prior-year period. Identification systems revenue declined 17% to $4,802,000 compared to $5,773,000 in the same prior-year period. The period ended December 31, 1999 included significant shipments under a contract with the Immigration and Naturalization Services (INS). There was not a similar level of sales on any contract in the three-months ended December 31, 2000. Identification systems revenue for the three-month period ended December 31, 2000 includes $3,171,000 of revenue recognized under SAB 101 for products delivered in previous 16 DIGITAL BIOMETRICS, INC. THREE MONTHS ENDED DECEMBER 31, 2000 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS periods and installed during the current-year period. Also, the current-year period reflects the deferral of $1,229,000 of revenue to future periods for product shipped during the current-year period but not installed as of December 31, 2000. Revenue from one customer in the three-month period ended December 31, 2000 accounted for 22% of total revenue, and revenues from two customers in the same prior-year period accounted for 49% of total revenue. Export revenue for the three-month periods ended December 31, 2000 and 1999 were less than 1% of total revenue. Maintenance revenue was $1,718,000 for the three months ended December 31, 2000 compared to $1,069,000 for the same prior-year period, an increase of 61%. This increase is due primarily to a larger installed base of live-scan systems covered by maintenance agreements. Overall gross margin for the three months ended December 31, 2000 and 1999 was 31%. Gross margin on identification systems revenue was 35% for the three months ended December 31, 2000 compared to 32% in the same prior-year period. This increase is due primarily to lower installation and warranty costs. Maintenance margin for the three months ended December 31, 2000 and 1999 was 21% and 27%, respectively. The maintenance staff does new installations as well as provide maintenance. The Company has increased staffing in this area to accommodate the growing install base while still providing excellent installation services. When they are doing installation work, their time is charged to cost of sales. The Company had a lower than expected level of installation and, consequently, a higher portion of time was charged to maintenance. The decrease in maintenance margin is due primarily to an increase in personnel-related costs during the current-year period to accommodate the growing installed base. Sales and marketing expense for the three-month period ended December 31, 2000 was 12% of total revenue compared to 9% for the same prior-year period. The increase in sales and marketing costs is due primarily to valuation of a stock option to a consultant and an increase in personnel-related costs and promotional activities for new product marketing. Engineering and development expense was 12% of total revenue for the three-month period ended December 31, 2000 compared to 7% for the same period a year ago. This increase is due primarily to an increase in new product development costs related to IBIS and for the development of a biometric network appliance. Engineering expenses for the three-month periods ended December 31, 2000 and 1999 are net of $159,000 and $239,000, respectively, of costs related to a federally funded demonstration project grant. The Company expects engineering and development expenses to exceed 10% of total revenue through the end of fiscal 2001. General and administrative expenses for the three-month periods ended December 31, 2000 and 1999 were 10% and 9%, respectively, of total revenue. The increase in general and administrative expenses as a percentage of total revenue is due primarily to the decrease in revenue. 17 DIGITAL BIOMETRICS, INC. THREE MONTHS ENDED DECEMBER 31, 2000 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Non-recurring charges for the three-month period ended December 31, 2000 of $599,000 consists primarily of professional services costs associated with the merger activities with Visionics Corporation. Other income, net increased to $56,000 for the three months ended December 31, 2000 from $38,000 for the same prior-year period due to an increase in interest income from higher cash balances and accrued interest on the working capital facility with Visionics Corporation. The Company recorded a charge of $1,436,000 for the cumulative effect of change in accounting method during the three-month period ended December 31, 2000. The change in accounting method has been adopted pursuant to a change in revenue recognition based upon the Securities and Exchange Commission's Staff Accounting Bulletin No. 101 ("SAB 101") which provides the staff's views in applying generally accepted accounting principles to selected revenue recognition issues. Effective October 1, 2000, the Company changed its revenue recognition policy on product shipments from time of shipment to time of installation. The Company generated a net loss for the three-month period ended December 31, 2000 of $2,223,000, or $0.13 per share loss, as compared to a net income of $446,000, $0.03 per share, for the same prior-year period. The combined effect on the current-year period for the change in accounting method per SAB 101 and the non-recurring charges pertaining to the merger with Visionics approximated a net loss of $1,463,000 or $0.09 per share loss. INFLATION The Company does not believe inflation has significantly affected revenues or expenses. NET OPERATING LOSS CARRYFORWARDS At December 31, 2000, the Company had carryforwards of net operating losses of approximately $38,000,000 that may allow the Company to reduce future income taxes that would otherwise be payable. The carryforwards are subject to the limitation provisions of Internal Revenue Code sections 382 and 383. These sections provide limitations on the availability of net operating losses and credits to offset current taxable income and related income taxes when an ownership change has occurred. The Company's initial public offering in December 1990 resulted in an ownership change pursuant to these provisions and, accordingly, the use of approximately $3,300,000 of the above carryforwards is subject to an annual limitation, estimated at $350,000. At this time the remaining net operating loss limitation with respect to the 1990 ownership change is approximately $375,000. Any future ownership change could create a limitation with respect to loss carryforwards not currently subject to an annual limitation. It is possible the proposed merger with Visionics Corporation may result in an ownership change and a resulting annual limitation. Approximately $2,783,000 of the $38,000,000 net operating loss carryforwards relates to compensation associated with the exercise of non-qualified stock options which, when realized, would result in approximately $1,113,000 credited to additional paid-in capital. 18 DIGITAL BIOMETRICS, INC. THREE MONTHS ENDED DECEMBER 31, 2000 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS LIQUIDITY AND CAPITAL RESOURCES GENERAL Effective January 1, 2000, the Company established an inventory and receivables financing line of credit for the lesser of eligible inventory and receivables or $2,000,000 with Associated Bank Minnesota, formerly named Riverside Bank. Borrowings under this line of credit are secured by all the assets of the Company. The line bears interest at a rate of 0.5% (one half percent) above the prime rate. The line will expire in April, 2001 and is expected to be renewed. There were no borrowings under this line at December 31, 2000. For the period from the Company's inception in 1985 through December 31, 2000, the Company's cumulative deficit was $41,897,000. The Company generated its first net income during fiscal 1999. At December 31, 2000, the Company had $1,415,000 in cash and cash equivalents and $625,000 of restricted cash. Historically, the Company has been reliant on the availability of outside capital to sustain its operations. Management believes that cash, cash equivalents, and other working capital provided from operations, together with available financing sources, are sufficient to meet current and foreseeable operating requirements of the Company's business as it has existed historically. If consummated, the proposed merger with Visionics will substantially increase DBI's need for capital, necessitating that DBI seek further financing. To fully exploit the opportunities presented by the merger, such as joint product development and entry into new markets, additional capital will be required. There can be no assurance, however, that the financing necessary to pursue the combined company's business plan will be available on terms acceptable or favorable to DBI, or on any terms. If DBI fails to obtain such financing, its business prospects and the market price of DBI's common stock may be materially adversely affected. ANALYSIS OF CASH FLOWS FROM OPERATIONS Net cash used in operating activities was $406,000 for the three months ended December 31, 2000 compared to net cash provided by operating activities of $970,000 in the same prior-year period. The decrease in cash flow from operating activities resulted primarily from the net loss incurred during the current-year period and the increase in restricted cash associated with a federally funded development grant, partially offset by decreased accounts receivable balances and net changes in deferred revenue and inventory as a result of a change in revenue recognition pursuant to SAB 101. Net cash used in investing activities increased to $175,000 for the three months ended December 31, 2000 from $76,000 the same prior-year period due primarily to purchases of computer equipment used to support customer service operations. 19 DIGITAL BIOMETRICS, INC. THREE MONTHS ENDED DECEMBER 31, 2000 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Net cash provided by financing activities was $103,000 for the three-month period ended December 31, 2000 compared to $165,000 during the same prior-year period. Cash from financing activities was provided primarily from stock option exercises. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Not applicable. 20 PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS There are no material lawsuits pending or, to the Company's knowledge, threatened against the Company. ITEM 2. CHANGES IN SECURITIES (a) Not applicable. (b) Not applicable. (c) Not applicable. ITEM 3. DEFAULTS UPON SENIOR SECURITIES No changes since September 30, 2000 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None ITEM 5. OTHER INFORMATION None ITEM 6. (a) EXHIBITS Exhibit 10.17 Change in Terms Agreement dated January 31, 2001 between the Company and Associated Bank Minnesota. (b) REPORTS ON FORM 8-K There were no reports on Form 8-K filed by the Company during the three-month period ended December 31, 2000. 21 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. DIGITAL BIOMETRICS, INC. ------------------------ (Registrant) February 14, 2001 /s/ Robert F. Gallagher -------------------------------- Robert F. Gallagher Chief Financial Officer 22 EX-10.17 2 0002.txt CHANGE IN TERMS AGREEMENT EXHIBIT 10.17 CHANGE IN TERMS AGREEMENT
- -------------- ------------ ------------ ---------- ----------- -------- --------- ---------- PRINCIPAL LOAN DATE MATURITY LOAN NO CALL/COLL ACCOUNT OFFICER INITIALS $2,000,000.00 01-31-2001 04-30-2001 90241693 127732 DS - -------------- ------------ ------------ ---------- ----------- -------- --------- ---------- References in the shaded area are for Lender's use only and do not limit the applicability of this document to any particular loan or item. Any item above containing "***" has been omitted due to text length limitations. - ---------------------------------------------------------------------------------------------
BORROWER: DIGITAL BIOMETRICS, INC. LENDER: ASSOCIATED BANK MINNESOTA 5600 ROWLAND ROAD SUITE 205 PLYMOUTH OFFICE MINNETONKA, MN 55343 2655 CAMPUS DRIVE PLYMOUTH, MN 55441 PRINCIPAL AMOUNT: $2,000,000.00 INITIAL RATE: 9.50% DATE OF AGREEMENT: JANUARY 31, 2001 DESCRIPTION OF EXISTING INDEBTEDNESS. PROMISSORY NOTE #90241693 DATED NOVEMBER 19, 1999 IN THE ORIGINAL AMOUNT OF $2,000,000.00. A CHANGE IN TERMS AGREEMENT DATED NOVEMBER 19, 2000. DESCRIPTION OF COLLATERAL. ALL CORPORATE ASSETS PER COMMERCIAL SECURITY AGREEMENT DATED NOVEMBER 19, 1999. DESCRIPTION OF CHANGE IN TERMS. TO EXTEND MATURITY DATE. PROMISE TO PAY. DIGITAL BIOMETRICS, INC. ("Borrower") promises to pay to ASSOCIATED BANK MINNESOTA ("Lender"), or order, in lawful money of the United States of America, the principal amount of Two Million & 00/100 Dollars ($2,000,000.00) or so much as may be outstanding, together with interest on the unpaid outstanding principal balance of each advance. Interest shall be calculated from the date of each advance until repayment of each advance. PAYMENT. Borrower will pay this loan in one payment of all outstanding principal plus all accrued unpaid interest on April 30, 2001. In addition, Borrower will pay regular monthly payments of accrued unpaid Interest beginning February 28, 2001, and all subsequent interest payments are due on the same day of each month after that. The annual interest rate for this Agreement is computed on a 365/360 basis; that is, by applying the ratio of the annual interest rate over a year of 360 days, multiplied by the outstanding principal balance, multiplied by the actual number of days the principal balance is outstanding. Borrower will pay Lender at Lender's address shown above or at such other place as Lender may designate in writing. VARIABLE INTEREST RATE. The interest rate on this Agreement is subject to change from time to time based on changes in an independent index which is the PRIME RATE OF INTEREST AS PUBLISHED EACH BUSINESS DAY IN THE MONEY RATES SECTION OF THE WALL STREET JOURNAL (the "Index"). The Index is not necessarily the lowest rate charged by Lender on its loans. If the Index becomes unavailable during the term of this loan, Lender may designate a substitute index after notice to Borrower. Lender will tell Borrower the current Index rate upon Borrower's request. The interest rate change will not occur more often than each DAY. Borrower understands that Lender may make loans based on other rates as well. The Index currently is 9.00% per annum. The interest rate to be applied to the unpaid principal balance of the Note will be at a rate of 0.500 percentage points over the Index, resulting in an Initial rate of 9.500% per annum. NOTICE: Under no circumstances will the interest rate on the Note be more than the maximum rate allowed by applicable law. PREPAYMENT. Borrower agrees that all loan fees and other prepaid finance charges are earned fully as of the date of the loan and will not be subject to refund upon early payment (whether voluntary or as a result of default), except as otherwise required bylaw. Except for the foregoing, Borrower may pay without penalty all or a portion of the amount owed earlier than it is due. Early payments will not, unless agreed to by Lender in writing, relieve Borrower of Borrower's obligation to continue to make payments of accrued unpaid interest. Rather, early payments will reduce the principal balance due. Borrower agrees not to send Lender payments marked "paid in full", "without recourse", or similar language. If Borrower sends such a payment, Lender may accept it without losing any of Lender's rights under this Agreement, and Borrower will remain obligated to pay any further amount owed to Lender. All written communications concerning disputed amounts, including any check or other payment instrument that indicates that the payment constitutes "payment in full" of the amount owed or that is tendered with other conditions or limitations or as full satisfaction of a disputed amount must be mailed or delivered to: ASSOCIATED BANK MINNESOTA, PLYMOUTH OFFICE 2655 CAMPUS DRIVE, PLYMOUTH, MN 55441. LATE CHARGE. If a payment is 10 days or more late, Borrower will be charged 5.000% of the unpaid portion of the regularly scheduled payment. INTEREST AFTER DEFAULT. Upon default, including failure to pay upon final maturity, Lender, at its option, may, if permitted under applicable law, increase the variable interest rate on this Agreement to 3.500 percentage points over the Index. The interest rate will not exceed the maximum rate permitted by applicable law. DEFAULT. Each of the following shall constitute an Event of Default under this Agreement: Payment Default. Borrower fails to make any payment when due under the Indebtedness. Other Defaults. Borrower fails to comply with or to perform when due any other term, obligation, covenant, or condition contained in this Agreement or in any of the Related Documents or to comply wit or to perform any term, obligation, covenant or condition contained in any other agreement between Lender and Borrower. Default in Favor of Third Parties. Borrower defaults under any loan, extension of credit, security agreement, purchase or sales agreement, or any other agreement, in favor of any other creditor or person that may materially affect any of Borrower's property or Borrower's ability to perform Borrower's obligations under this Agreement or any of the Related Documents. False Statements. Any warranty, representation or statement made or furnished to Lender by Borrower or on Borrower's behalf under this Agreement or the Related Documents is false or misleading in any material respect, either now or at the time made or furnished or becomes false or misleading at any time thereafter. Insolvency. The dissolution or termination of Borrower's existence as a going business, the insolvency of Borrower, the appointment of a receiver for any part of Borrower's property, any assignment for the benefit of creditors, any type of creditor workout, or the commencement of any proceeding under any bankruptcy or insolvency laws by or against Borrower. Creditor or Forfeiture Proceedings. Commencement of foreclosure or forfeiture proceedings, whether by judicial proceeding, self-help, repossession or any other method, by any creditor of Borrower or by any governmental agency against any collateral securing the Indebtedness. This includes a garnishment of any of Borrower's accounts, including deposit accounts, with Lender. However, this Event of Default shall not apply if there is a good faith dispute by Borrower as to the validity or reasonableness of the claim which is the basis of the creditor or forfeiture proceeding and if Borrower gives Lender written notice of the creditor or forfeiture proceeding and deposits with Lender monies or a surety bond for the creditor or forfeiture proceeding, in a amount determined by Lender, in its sole discretion, as being an adequate reserve or bond for the dispute. Events Affecting Guarantor. Change in Ownership. Any change in ownership of twenty-five percent (25%) or more of the common stock of Borrower. CHANGE IN TERMS AGREEMENT PAGE 2 LOAN NO 90241693 (CONTINUED) Adverse Change. A material adverse change occurs in Borrower's financial condition, or Lender believes the prospect of payment or performance of the Indebtedness is impaired. Insecurity. Lender in good faith believes itself insecure. Cure Provisions. If any default, other than a default in payment is curable and if Borrower has not been given a notice of a breach of the same provision of this Agreement within the preceding twelve (12) months, it may be cured (and no event of default will have occurred) if Borrower, after receiving written notice from Lender demanding cure of such default: (1) cures the default within thirty (30) days; or (2) if the cure requires more than thirty (30) days, immediately initiates steps which Lender deems in Lender's sole discretion to be sufficient to cure the default and thereafter continues and completes all reasonable and necessary steps sufficient to produce compliance as soon as reasonably practical. LENDER'S RIGHTS. Upon default, Lender may declare the entire unpaid principal balance on this Agreement and all accrued unpaid interest immediately due, and then Borrower will pay that amount. ATTORNEYS' FEES; EXPENSES. Lender may hire or pay someone else to help collect this Agreement if Borrower does not pay. Borrower will pay Lender that amount. This includes, subject to any limits under applicable law, Lender's reasonable attorneys' fees and Lender's legal expenses, whether or not there is a lawsuit, including reasonable attorneys' fees, expenses for bankruptcy proceedings (including efforts to modify or vacate any automatic stay or injunction), and appeals. If not prohibited by applicable law, Borrower also will pay any court costs, in addition to all other sums provided by law. GOVERNING LAW. This Agreement will be governed by, construed and enforced in accordance with federal law and the laws of the State of Minnesota. This Agreement has been accepted by Lender in the State of Minnesota. RIGHT OF SETOFF. To the extent permitted by applicable law, Lender reserves a right of setoff in all Borrower's accounts with Lender (whether checking; savings, or some other account). This includes all accounts Borrower holds jointly with someone else and all accounts Borrower may open in the future. However, this does not include any IRA or Keogh accounts, or any trust accounts for which setoff would be prohibited by law. Borrower authorizes Lender, to the extent permitted by applicable law, to charge or setoff all sums owing on the indebtedness against any and all such accounts, and, at Lender's option, to administratively freeze all such accounts to allow Lender to protect Lender's charge and setoff rights provided in this paragraph. LINE OF CREDIT. This Agreement evidences a revolving line of credit. Advances under this Agreement may be requested either orally or in writing by Borrower or by an authorized person. Lender may, but need not, require that all oral requests be confirmed in writing. All communications, instructions, or directions by telephone or otherwise to Lender are to be directed to Lender's office shown above. Borrower agrees to be liable for all sums either: (A) advanced in accordance with the instructions of an authorized person or (B) credited to any of Borrower's accounts with Lender. The unpaid principal balance owing on this Agreement at any time may be evidenced by endorsements on this Agreement or by Lender's internal records, including daily computer print-outs. Lender will have no obligation to advance funds under this Agreement if: (A) Borrower or any guarantor is in default under the terms of this Agreement or any agreement that Borrower or any guarantor has with Lender, including any agreement made in connection with the signing of this Agreement; (B) Borrower or any guarantor ceases doing business or is insolvent; (C) any guarantor seeks, claims or otherwise attempts to limit, modify or revoke such guarantor's guarantee of this Agreement or any other loan with Lender; (D) Borrower has applied funds provided pursuant to this Agreement for purposes other than those authorized by Lender; or (E) Lender in good faith believes itself insecure. CONTINUING VALIDITY. Except as expressly changed by this Agreement, the terms of the original obligation or obligations, including all agreements evidenced or securing the obligation(s), remain unchanged and in full force and effect. Consent by Lender to this Agreement does not waive Lender's right to strict performance of the obligation(s) as changed, nor obligate Lender to make any future change in terms. Nothing in this Agreement will constitute a satisfaction of the obligation(s). It is the intention of Lender to retain as liable parties all makers and endorsers of the original obligation(s), including accommodation parties, unless a party is expressly released by Lender in writing. Any maker or endorser, including accommodation makers, will not be released by virtue of this Agreement. If any person who signed the original obligation does not sign this Agreement below, then all persons signing below acknowledge that this Agreement is given conditionally, based on the representation to Lender that the non-signing party consents to the changes and provisions of this Agreement or otherwise will not be released by it. This waiver applies not only to any initial extension, modification or release, but also to all such subsequent actions. LOAN AGREEMENT. An exhibit, titled "Loan Agreement", is attached to this note and by this reference is made a part of this note just as if all the provisions, terms and conditions of the Loan Agreement had been fully set forth in this note. SUCCESSORS AND ASSIGNS. Subject to any limitations stated in this Agreement on transfer of Borrower's interest, this Agreement shall be binding upon and inure to the benefit of the parties, their successors and assigns. If ownership of the Collateral becomes vested in a person other than Borrower, Lender, without notice to Borrower, may deal with Borrower's successors with reference to this Agreement and the Indebtedness by way of forbearance or extension without releasing Borrower from the obligations of this Agreement or liability under the Indebtedness. MISCELLANEOUS PROVISIONS. Lender may delay or forgo enforcing any of its rights or remedies under this Agreement without losing them. Borrower and any other person who signs, guarantees or endorses this Agreement, to the extent allowed by law, waive presentment, demand for payment, and notice of dishonor. Upon any change in the terms of this Agreement, and unless otherwise expressly stated in writing, no party who signs this Agreement, whether as maker, guarantor, accommodation maker or endorser, shall be released from liability. All such parties agree that Lender may renew or extend (repeatedly and for any length of time) this loan or release any party or guarantor or collateral; or impair, fail to realize upon or perfect Lender's security interest in the collateral; and take any other action deemed necessary by Lender without the consent of or notice to anyone. All such parties also agree that Lender may modify this loan without the consent of or notice to anyone other than the party with whom the modification is made. The obligations under this Agreement are joint and several. SECTION DISCLOSURE. This loan is made under Minnesota Statutes, Section 47.59. CHANGE IN TERMS AGREEMENT PAGE 3 LOAN NO 90241693 (CONTINUED) PRIOR TO SIGNING THIS AGREEMENT, BORROWER READ AND UNDERSTOOD ALL THE PROVISIONS OF THIS AGREEMENT, INCLUDING THE VARIABLE INTEREST RATE PROVISIONS. BORROWER AGREES TO THE TERMS OF THE AGREEMENT. BORROWER. DIGITAL BIOMETRICS, INC. By: /s/ Robert F. Gallagher ------------------------------------------- Robert F. Gallagher, Vice President/CFO of DIGITAL BIOMETRICS, INC. -----END PRIVACY-ENHANCED MESSAGE-----