-----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, H2VHNU34SIYDv3X0pqm3axz88Mki6CimPplRBSn011g9/Dhwg97LQLUd4RMjcChG N6TjDHWClShf1BluyOwzvg== 0001047469-99-031278.txt : 19990813 0001047469-99-031278.hdr.sgml : 19990813 ACCESSION NUMBER: 0001047469-99-031278 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19990630 FILED AS OF DATE: 19990812 FILER: COMPANY DATA: COMPANY CONFORMED NAME: DESTRON FEARING CORP /DE/ CENTRAL INDEX KEY: 0000881283 STANDARD INDUSTRIAL CLASSIFICATION: RADIO & TV BROADCASTING & COMMUNICATIONS EQUIPMENT [3663] IRS NUMBER: 841079037 STATE OF INCORPORATION: DE FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-19688 FILM NUMBER: 99684963 BUSINESS ADDRESS: STREET 1: 490 VILLAUME AVE CITY: S ST PAUL STATE: MN ZIP: 55075-2445 BUSINESS PHONE: 6124551621 MAIL ADDRESS: STREET 1: 490 VILLAUME AVE CITY: 490 VILLAUME AVE STATE: MN ZIP: 55075 FORMER COMPANY: FORMER CONFORMED NAME: DESTRON IDI INC DATE OF NAME CHANGE: 19930328 10-Q 1 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarterly Period Ended June 30, 1999 [ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT For the Transition Period From ____________ to ____________ Commission file number 0-19688 DESTRON FEARING CORPORATION (Exact name of Registrant as specified in its charter) Delaware 84-1079037 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 490 Villaume Avenue South St. Paul, MN 55075 (651) 455-1621 (Address of principal executive offices) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No As of August 10, 1999, there were 13,403,982 outstanding shares of Common Stock. DESTRON FEARING CORPORATION FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 1999 INDEX -----
Page ---- PART I -- FINANCIAL INFORMATION Item 1 -- Financial Statements 3 Item 2 -- Management's Discussion and Analysis of Financial Condition and Results of Operations 11 PART II -- OTHER INFORMATION Item 1 -- Legal Proceedings 14 Item 6 -- Exhibits and Reports on Form 8-K 17 Signatures 18
- 2 - PART 1. FINANCIAL INFORMATION Item 1. FINANCIAL STATEMENTS DESTRON FEARING CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (UNAUDITED) JUNE 30, 1999 AND SEPTEMBER 30, 1998 (in thousands, except share and per share amounts)
- ------------------------------------------------------------------------------ ASSETS June 30, September 30, 1999 1998 ----------- ------------ CURRENT ASSETS: Cash and cash equivalents $ 460 $ 104 Accounts receivable, net 2,555 2,212 Inventories, net 3,604 4,753 Vendor deposits 615 475 Prepaid expenses and other current assets 137 33 -------- -------- Total current assets 7,371 7,577 PROPERTY AND EQUIPMENT, net 1,888 1,922 GOODWILL, net 1,854 1,917 OTHER ASSETS, net 131 147 -------- -------- $ 11,244 $ 11,563 -------- -------- -------- -------- LIABILITIES AND SHAREHOLDERS' EQUITY CURRENT LIABILITIES: Line of credit $ -- $ 1,278 Accounts payable 761 988 Customer deposits 322 865 Accrued liabilities 545 495 Current portion of long-term obligations 663 2,544 -------- -------- Total current liabilities 2,291 6,170 LONG-TERM OBLIGATIONS, net of current portion 972 677 -------- -------- Total liabilities 3,263 6,847 -------- -------- SHAREHOLDERS' EQUITY: Common stock, $.01 par value; 20,000,000 shares authorized; 13,404,000 shares issued and outstanding 134 134 Common stock warrants 100 -- Additional paid-in capital 19,889 19,846 Accumulated deficit (12,142) (15,264) -------- -------- Total shareholders' equity 7,981 4,716 -------- -------- $ 11,244 $ 11,563 -------- -------- -------- --------
The accompanying notes are an integral part of these consolidated financial statements. - 3 - DESTRON FEARING CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) FOR THE QUARTER AND NINE MONTHS ENDED JUNE 30, 1999 AND 1998 (in thousands, except per share amounts)
- ----------------------------------------------------------------------------------------------------------------- Quarter Ended June 30, Nine Months Ended June 30, ------------------------ -------------------------- 1999 1998 1999 1998 ------------- ------------- --------- --------- NET REVENUE $ 5,271 $ 3,123 $ 14,782 $ 10,103 COSTS AND EXPENSES: Cost of sales 2,961 2,171 8,691 6,946 Selling, general and administrative 712 982 2,435 2,857 Research and development 192 253 594 813 Interest expense and other 77 127 342 379 -------- -------- -------- -------- Total costs and expenses 3,942 3,533 12,062 10,995 INCOME (LOSS) BEFORE INCOME TAXES 1,329 (410) 2,720 (892) PROVISION FOR INCOME TAXES 27 -- 70 -- -------- -------- -------- -------- NET INCOME (LOSS) BEFORE EXTRAORDINARY GAIN 1,302 (410) 2,650 (892) EXTRAORDINARY GAIN ON DEBT RESTRUCTURING -- -- 472 -- -------- -------- -------- -------- NET INCOME (LOSS) $ 1,302 $ (410) $ 3,122 $ (892) -------- -------- -------- -------- -------- -------- -------- -------- BASIC AND DILUTED EARNINGS (LOSS) PER COMMON SHARE: Income before extraordinary item $ 0.10 $ (0.03) $ 0.20 $ (0.07) Extraordinary item -- -- 0.03 -- -------- -------- -------- -------- $ 0.10 ($ 0.03) $ 0.23 $ (0.07) -------- -------- -------- -------- -------- -------- -------- -------- WEIGHTED AVERAGE COMMON AND COMMON EQUIVALENT SHARES OUTSTANDING: Basic 13,390 13,315 13,366 13,302 -------- -------- -------- -------- -------- -------- -------- -------- Diluted 13,463 13,315 13,397 13,302 -------- -------- -------- -------- -------- -------- -------- --------
The accompanying notes are an integral part of these consolidated financial statements. - 4 - DESTRON FEARING CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) FOR THE NINE MONTHS ENDED JUNE 30, 1999 AND 1998 (in thousands)
- ----------------------------------------------------------------------------------------------- Nine Months Ended June 30, ------------------------------- 1999 1998 ------------ ------------ OPERATING ACTIVITIES: Net income (loss) $ 3,122 $ ( 892) Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: Extraordinary gain on debt restructuring (472) -- Depreciation and amortization 358 360 Changes in operating items: Accounts receivable (343) 636 Inventories 1,149 280 Vendor deposits (140) (16) Prepaid expenses and other current assets (104) (14) Accounts payable and accrued liabilities (177) 28 Customer deposits (543) -- ------------ ------------ Net cash provided by operating activities 2,850 382 ------------ ------------ INVESTING ACTIVITIES: Purchases of fixed assets (245) (191) ------------ ------------ FINANCING ACTIVITIES: Issuance of common stock 43 58 Repayments of long-term obligations (1,014) (1,152) Net borrowings (repayments) on bank line of credit (1,278) 343 ------------ ------------ Net cash used in by financing activities (2,249) (751) ------------ ------------ NET CHANGE IN CASH 356 (560) CASH AND CASH EQUIVALENTS beginning of period 104 1,075 ------------ ------------ CASH AND CASH EQUIVALENTS end of period $ 460 $ 515 ------------ ------------ ------------ ------------ SUPPLEMENTAL CASH FLOW INFORMATION: Interest paid $ 330 $ 386 ------------ ------------ ------------ ------------ SUPPLEMENTAL DISCLOSURE OF NON CASH ACTIVITIES: Issuance of common stock warrants in connection with debt restructuring $ 100 $ -- ------------ ------------ ------------ ------------
The accompanying notes are an integral part of these consolidated financial statements. - 5 - DESTRON FEARING CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1999 AND 1998 (unaudited) - ------------------------------------------------------------------------------- 1. GENERAL The information included in the accompanying consolidated interim financial statements is unaudited and should be read in conjunction with the audited consolidated financial statements and notes thereto contained in the most recent Annual Report on Form 10-K filed for Destron Fearing Corporation and its subsidiaries (collectively, the "Company"). In the opinion of management, all adjustments, consisting of normal recurring items, necessary for a fair presentation of the financial position and results of operations for the interim periods presented have been reflected herein. The results of operations for interim periods are not necessarily indicative of the results to be expected for the entire fiscal year. 2. INVENTORIES Inventories are valued at the lower of first in, first out, cost or market, and consist of the following (in thousands):
June 30, 1999 September 30, 1998 --------------- ------------------ Raw materials $1,444 $2,481 Finished goods 2,160 2,272 ------- ------- Total inventories $3,604 $4,753 ------- ------- ------- -------
3. NET INCOME (LOSS) PER COMMON SHARE Net income (loss) per common and common equivalent share is based on the weighted average number of common and common equivalent shares outstanding for the period. Common equivalent shares consist primarily of stock options granted to employees, directors and others, and outstanding warrants. In fiscal 1998, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 128, "Earnings per Share." SFAS No. 128 established new accounting standards for computing and presenting earnings (loss) per share data (EPS). Basic EPS is computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding during the period, excluding potentially dilutive securities. Diluted EPS is calculated using the treasury stock method and reflects the dilutive effect of outstanding options, warrants and other securities. - 6 - A reconciliation of EPS calculations under SFAS No. 128 is as follows for the quarter and nine months ended June 30 (in thousands, except per share amounts).
Quarter Ended June 30 Nine Months Ended June 30 ----------------------- -------------------------- 1999 1998 1999 1998 ---- ---- ---- ---- Net income (loss) $ 1,302 ($ 410) $ 3,122 ($ 892) -------- -------- -------- -------- -------- -------- -------- -------- Weighted average number of common shares outstanding 13,390 13,315 13,366 13,302 Dilutive effect of stock options and warrants after application of the treasury stock method 73 -- 31 -- -------- -------- -------- -------- 13,463 13,315 13,397 13,302 -------- -------- -------- -------- -------- -------- -------- -------- Basic and diluted earnings (loss) per common share $ 0.10 ($ 0.03) $ 0.23 ($ 0.07) -------- -------- -------- -------- -------- -------- -------- --------
4. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENT In June 1997, the Financial Accounting Standards Board issued SFAS No. 131, "Disclosures About Segments of an Enterprise and Related Information." SFAS No.131, which is effective for fiscal years beginning after December 15, 1997, requires that public business enterprises report information about operating segments in annual financial statements and selected information in interim financial reports. It also establishes standards for related disclosures about products and services, geographic areas and major customers. The Company is currently evaluating the impact of SFAS No. 131 and will adopt the disclosure requirements in its annual report for fiscal year 1999, when required. 5. DEBT RESTRUCTURING In March 1999, the Company completed a restructuring of its outstanding vendor note payable (balance of $2,352,000 prior to restructuring), whereby the vendor assigned the note to a third party. Effective March 1, 1999, the new noteholder agreed to a reduction of the principal to $1,529,000 to reflect a 35% discount, with interest at 9.25% and monthly payments of $50,000 through January 2002. In connection with this restructuring, the Company granted warrants to the new noteholder to purchase 275,000 shares of the Company's common stock at $1.00 per share. The warrants are exercisable at any time through March 15, 2004. The warrants were recorded at their estimated fair value as of the date of issuance. In accordance with the requirements of SFAS No. 15, "Accounting by Debtors and Creditors for Troubled Debt Restructurings," the Company recorded a net gain on restructuring of $472,000 in the second quarter of fiscal 1999. In May 1999, the Company made an additional $600,000 cash payment against the principal of the note. Giving effect to this additional payment, the note is currently scheduled to be retired in November 2000. - 7 - 6. LEGAL PROCEEDINGS Colorado Patent Actions On January 8, 1996, the Company commenced a patent infringement trial against four competitors in the United States District Court of Colorado. (The patent involved is No. 5,211,129, which relates to the Company's injectable transponder technology, which was issued in May, 1993 and expires in May, 2010.) On January 29, 1996, the jury in the trial returned a verdict in favor of the Company and found that the defendants had willfully infringed on the Company's patent and awarded damages of $444,000, including prejudgment interest. The defendants appealed the judgment against them, and the Company cross-appealed the failure of the court to increase the Company's damages. On July 24, 1997, the Court of Appeals for the Federal Circuit handed down its decision in the appeal. The decision of the Court of Appeals affirmed the trial court's judgment, holding the Company's patent is valid and was willfully infringed by the competitors. However, the Court of Appeals remanded to the trial court for further proceedings the issue of whether the Company engaged in inequitable conduct in prosecuting the patent application before the United States Patent Office. On November 7, 1997, the U.S. District Court of Colorado, on remand on the issue of inequitable conduct, found no intent on the part of the Company to deceive the Patent Office, and therefore that no inequitable conduct occurred and the Company's '129 patent was enforceable. On February 9, 1998, the District Court Judge issued an Order containing findings and conclusions and entered a Third Amended Judgment confirming the Court's finding of no inequitable conduct. The defendants appealed this decision, and oral argument to the U.S. Court of Appeals for the Federal Circuit was held on December 8, 1998. On January 26, 1999, the Court of Appeals entered an order affirming the U.S. District Court's decision that the Company had not engaged in inequitable conduct in obtaining the '129 patent and thus the patent was enforceable. The order of the Court of Appeals has the effect of continuing the permanent injunction entered by the United States District Court in Colorado which prohibits the defendants from manufacturing, using, selling, or offering to sell the transponders that violate the Company's '129 patent. Because the defendants did not pursue a timely appeal to the United States Supreme Court, the January 26, 1999 decision of the Court of Appeals is now final and not appealable. Further, during the pendency of the first appeal, the Company pursued a contempt action against certain defendants for willful violations of the District Court's permanent injunction. On November 7, 1997, a Magistrate Judge of the District Court recommended that the defendants be found in willful contempt of the permanent injunction and that the Company should be awarded double damages, amounting to $33,000, as well as attorneys' fees and costs. On February 9, 1998, the District Court Judge issued an Order adopting the Magistrate's recommendation that the defendants were in contempt. This finding of contempt was not appealed and is now final. On January 23, 1998, the Company filed a second Motion for Contempt against certain defendants. Following a March 27, 1998 hearing, on April 23, 1998 the Magistrate Judge entered a recommendation that the defendants be held in contempt a second time, based upon their attempts to solicit purchase orders from the Denver Metro Microchip Committee and their manufacture, use and sale of the ID-100 Zip Quill transponder product. The Company has requested treble damages, attorneys' fees, costs and sanctions against the defendants for their contempt of the District Court permanent injunction. The defendants have objected to the recommendations of the Magistrate Judge. On March 18, 1999, the District Court entered an order of contempt against the defendants arising from their - 8 - efforts to solicit purchase orders from the Denver Metro Microchip Committee, but found that it could not determine if the ID-100 Zip Quill transponder product was made for the purpose of evading the injunction without essential change in the nature of the device and, therefore, determined a new infringement trial was necessary. As part of the same March 18, 1999 Order, the District Court instructed the parties to submit briefs on the issue of damages flowing from the contempt and further held that the Company may register its willful infringement judgment against the defendants with the District Court for the District of Minnesota and for the District of Columbia for purposes of enforcing the judgment and collecting the previously awarded damages from the defendants. On April 15, 1999, the Company filed a notice of appeal to the United States Court of Appeals for the Federal Circuit regarding the District Court's failure to find contempt from defendants' offers for sale and sales of the ID-100 Zip Quill. This issue is undergoing briefing by the parties, after which the Court of Appeals will select a date for oral argument. On April 26, 1999, the parties simultaneously submitted briefs on the issue of damages resulting from the defendants' contempt of court in soliciting purchase orders from the Denver Metro Microchip Committee. The Company seeks an award of several thousand dollars for the contempt. The defendants urged the District Court to award no damages. The Company believes that the District Court will likely not resolve this damage issue until after the Court of Appeals rules on the merits of the pending appeal. Minnesota Patent Actions On December 17, 1996, the same three competitors found to be willful infringers in the Colorado Patent Actions filed a lawsuit against the Company and its United States distributor, Schering-Plough, in the United States District Court for the District of Minnesota. The plaintiffs alleged that the defendants participated in unfair competition, breached an oral contract and infringed on three of the plaintiffs' United States patents. On January 24, 1997, the plaintiffs withdrew this lawsuit in its entirety. On April 21, 1997, four plaintiffs (including the three competitors identified in the foregoing paragraph) filed a lawsuit against the Company and Schering-Plough and another of the Company's competitors in the United States District Court for the District of Minnesota. The plaintiffs allege that the defendants participated in unfair competition, breached an oral agreement and infringed on three of the plaintiffs' United States patents and requested that the Court award compensatory and treble damages of an unspecified amount. On May 16, 1997, the plaintiffs amended the lawsuit and, in their complaint as amended, allege patent infringement, false advertising, unfair competition and attempted monopolization on the part of the Company, among other matters, stemming from the ISO standards. This lawsuit has been stayed by agreement of all parties pending the outcome of the appeal of the Colorado Patent Action. Since the Company was successful in obtaining an affirmance of the judgment of enforceability in the Colorado Patent Action, the Company's exposure, if any, in the Minnesota litigation may be reduced. As a result of the favorable ruling in the Colorado Patent Action on February 9, 1998, and as indicated in the above paragraph, the Minnesota litigation has been stayed pending the Federal Circuit Court decision in the Colorado Patent Action. The Company is now assessing its alternatives in the Minnesota Patent Actions in light of the January 26, 1999 decision of the Court of Appeals in the Colorado Patent Action. Minnesota Class Action On January 28, 1999, a class action lawsuit was commenced against the Company in the United States District - 9 - Court for the District of Minnesota on behalf of persons who were shareholders of record of the Company's common stock on December 29, 1998 and received the Company's Proxy Statement dated December 29, 1998 ("Proxy Statement") for the Company's annual meeting of stockholders to be held on January 29, 1999 ("Annual Meeting"). The complaint principally alleged violations of federal securities laws based on disclosures in the Proxy Statement. The plaintiffs alleged that the Proxy Statement failed to inform the stockholders of their ability to exercise dissenters' rights in connection with the proposed reverse stock split described in the Proxy Statement. The Company believes the plaintiffs' case had no merit because the Proxy Statement is believed to contain a complete and accurate description of the reverse stock split, including the absence of dissenters' rights. In connection with the above-described class action lawsuit, on January 28, 1999, the plaintiffs filed a motion requesting an order that would prevent the Company from holding the Annual Meeting or, in the alternative, that would prevent it from holding the vote on the proposed reverse stock split. A hearing on the motion was held on January 29, 1999 in the United States District Court for the District of Minnesota. In a strongly worded order from the bench, Judge James M. Rosenbaum ruled in favor of the Company and denied plaintiffs' motion, which allowed the Company to hold the Annual Meeting as planned. At the January 29, 1999 Annual Meeting of the Company's shareholders, the shareholders authorized the Company's Board of Directors to carry out the reverse stock split at any time before April 1, 1999. Due to increases in the price of the Company's common stock as quoted on The Nasdaq SmallCap Market, the Board determined to forgo the reverse stock split and allowed its authority to execute the stock split to expire unexercised on April 1, 1999. In view of that development, the plaintiffs in the class action lawsuit agreed to dismiss the complaint with prejudice and without any further cost to the Company. Based on this agreement, on July 29, 1999, Judge Rosenbaum dismissed the plaintiffs' complaint with prejudice and without costs to either party. Thus, this matter has been concluded. - 10 - Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS Net income for the third quarter of fiscal year 1999 was $1,302,000 compared to a net loss of $410,000 in the prior year's third quarter. Year-to-date net income before the extraordinary gain was $2,650,000 compared to a net loss of $892,000 in the comparable year earlier period. The extraordinary gain of $472,000 posted in the second quarter of fiscal 1999 was the result of a debt restructuring. (See "Liquidity and Capital Resources"). Net income for the nine-month period in fiscal 1999 was $3,122,000. The increase in net income for the quarter and nine months was the result of strong sales growth, improved margins and continued lower operating expenses. Net revenue for the quarter ended June 30, 1999 of $5,271,000 was 69% higher than the $3,123,000 reported for the comparable quarter of fiscal 1998. For the nine-month period, revenue was $14,782,000, representing a 46% increase from the fiscal 1998 period. In the third quarter, electronic product sales grew 151% compared to the same quarter last year. Visual identification product revenue decreased 13% from the comparable quarter of fiscal 1998 due to a shift of expected sales to the first two quarters of this fiscal year. Visual identification sales for the nine-month period increased 5% over the nine months of fiscal 1998. Cost of sales of $2,961,000 for the third quarter and $8,691,000 for the nine-month period were higher than the comparable fiscal 1998 periods by 36% and 25%, respectively. The higher costs were attributable to higher revenues during the quarter. Gross profit margins improved to 44% and 41% of revenue in the third quarter and nine-month period of fiscal 1999, respectively, compared to 30% and 31% for each of those periods in fiscal 1998. Gross margins continue to improve significantly, as in prior quarters this fiscal year, due to higher sales levels and a resulting improvement in overhead absorption, improved cost efficiencies and a favorable product mix. Selling, general and administrative expenses for the third quarter of fiscal 1999 were $712,000, or 27% lower than for the same period last year. For the nine-month period ended June 30, 1999, these expenses were $2,435,000, which was a 15% decrease over last year's comparable period. Selling expenses decreased 38% for the quarter and 25% for the nine-month period due to a decrease in personnel. General and administrative expenses are down $64,000 and $37,000, respectively, for the third quarter and nine months compared with comparable periods in fiscal 1998, due principally to lower legal and investor relations expenses. Research and development expense of $192,000 in the third quarter of 1999 is down 24% over last year's third quarter and down 27% over comparable nine-month periods. Lower research and development expense is due to less emphasis on outside consultants. Interest and other of $77,000 in the third quarter of fiscal 1999 is $50,000 lower than the third quarter of fiscal 1998 due to significantly lower debt levels. Debt was restructured in the second quarter of fiscal 1999 causing a favorable variance of $37,000 for the nine months ended June 30, 1999. In the second quarter of fiscal 1999, the Company recorded an extraordinary gain of $472,000 resulting from a restructuring of a vendor note. In a transaction involving the sale of the note to a third party, the debt was reduced as of March 1, 1999 to $1,529,000 at 9 1/4% interest from $2,352,000 at 11 1/4% interest and the Company issued five-year warrants to the note holder to purchase 275,000 shares of common stock at $1.00 per share. Net of costs directly associated with the restructuring, the total gain on the transaction was $693,000, $221,000 of - 11 - which will be recognized in the form of lower interest expense over the life of the note. (See Exhibits 10.1, 10.2 and 10.3 hereto). The Company derives a significant portion of its revenue from export sales. The gross profit and cash requirements of these sales do not vary materially from the requirements of its domestic sales. LIQUIDITY AND CAPITAL RESOURCES Historically, the Company has utilized financing sources such as public and private equity offerings and borrowings from financial institutions and individual investors to fund its operating activities. The Company believes that its cash on hand at June 30, 1999 and funds available under its existing credit agreement combined with funds expected to be generated by operations will provide the Company with adequate liquidity and capital resources for working capital and other cash requirements through at least fiscal 1999. As reflected in the financial statements included in the Company's most recent Annual Report on Form 10-K, the Company incurred a net loss of $1,980,000 for the year ended September 30, 1998, and also experienced negative cash flow from operations. Prior to the successful restructuring of its vendor note payable in March 1999, the Company had also been in default on this note. Additionally, at that time, the Company's line of credit agreement had not yet been renewed beyond June 30, 1999. As a result of conditions at September 30, 1998, and as of the date of filing of the most recent 10-K, the auditors' report on the Company's financial statements as of and for the year ended September 30, 1998 contained a qualification which indicated substantial doubt about the Company's ability to continue as a going concern. (See additional discussion below regarding fiscal 1999 financing activities.) The Company's current operating activities provided $2,850,000 during the nine-month period ended June 30, 1999 primarily related to net income of $3,122,000 and a net $1,149,000 decrease in inventories, partially offset by the non-cash gain in debt restructuring and changes in customer deposits and other operating items. The Company's investing activities used $245,000 during the nine-month period ended June 30, 1999 for the purchase of fixed assets. Its financing activities used net cash of $2,249,000 during the same period for repayments of long-term obligations and line of credit borrowings. As of June 30, 1999, the Company had net working capital of $5,080,000 with a current ratio of 3.22 to 1.0, which represents a $3,673,000 increase in working capital from September 30, 1998. The debt restructuring reduced overall debt levels and allowed a significant reclassification of debt from short-term to long-term, thereby significantly improving the Company's working capital position. The Company has a $3,000,000 revolving credit facility with Coast Business Credit, a division of Southern Pacific Thrift and Loan Association of Los Angeles, California. The credit facility is secured by all of the Company's receivables, inventories, investment property, equipment and general intangibles, as defined in the agreement. Borrowings under the facility are payable on demand and are limited to a portion of eligible accounts receivable and inventories, as defined in a borrowing formula in the agreement. The agreement has been renewed through June 30, 2001, with provisions for extensions of the maturity date. Interest on the credit facility is paid monthly at a rate equal to the greater of eight percent (8%) or prime plus one and three-quarters percent (1 3/4%). At June 30, 1999, the Company had no outstanding borrowings under the facility and had a maximum availability under the borrowing formula of $3,000,000. - 12 - In June 1997, the Company completed an agreement with a vendor whereby $4,290,000 of a trade payable was converted into a promissory note. In August 1998, the Company advised the vendor it could not comply with the original payment schedule of the promissory note. Beginning in September 1998, the Company unilaterally reduced the monthly payment to $50,000. In March 1999, the note was restructured as described above. In May 1999, a one-time payment of $600,000 was made to further accelerate payment of this note. The Company plans to continue making monthly payments of $50,000 until the restructured note is paid in full in November 2000. While management believes that this restructuring will improve the Company's ability to meet its ongoing cash flow requirements in the foreseeable future, there can be no assurance in this regard. - 12 - In November 1998, the Company received notice from The Nasdaq Stock Market that the Company's common stock would be delisted from The Nasdaq Small Cap Market if the closing bid price did not trade at or above $1.00 for ten consecutive trading days prior to February 17, 1999. The Company's common stock was able to meet this requirement. Management is no longer considering a reverse stock split. YEAR 2000 During fiscal 1997 and 1998, the Company undertook a comprehensive review of its computer systems and related software to ensure that all systems would properly recognize Year 2000 and continue to process data. The review encompassed information technology systems, significant third party relationships and manufactured product lines. Based upon this internal assessment, the Company upgraded major portions of its information systems during the first quarter of fiscal 1998 to ensure Year 2000 compliance. The cost of evaluating and replacing certain business systems did not have a significant impact on the Company's results of operations. The cost of approximately $100,000 was funded through operating cash flows. These costs were attributable primarily to the purchase of new software and equipment and were expensed or capitalized on a basis consistent with the Company's accounting policies for capital assets. The Company is currently in the process of evaluating the Year 2000 preparedness of its customers, suppliers and service providers by soliciting representations and assurances from such third parties. If these representations prove to be inadequate, the Company's business, financial condition and results of operations could be adversely affected. With regard to its manufactured electronic products, the Company believes that its embedded technologies are Year 2000 compliant. As of the date of this report, the Company also is in the process of preparing contingency plans to address any remaining exposures to Year 2000 matters, after consideration of the above plans. There can be no assurance that these plans will successfully mitigate all Year 2000 risks. FORWARD-LOOKING INFORMATION The information set forth in the preceding paragraphs and certain areas elsewhere in this Form 10-Q contains forward-looking information. Therefore, if, for any reason (including, without limitation, those described below), the Company's operations require more capital than anticipated, revenues do not reach anticipated levels, or cash flow needs are greater than planned, the Company may need additional financing in order to maintain its operations. There can be no assurance that the Company would be able to obtain any required additional financing when needed or that such financing, if obtained, would be on terms favorable or acceptable to the Company. If the Company was unable to obtain additional financing when needed and under acceptable conditions, it would be required to significantly scale back plans for growth and perhaps reduce the scope of its operations. Factors that may affect the Company's revenues, use of capital, expenses and/or cash flow, and that would cause actual results to differ materially from those anticipated include, but are not limited to, the introduction of competing products with performance equivalent to or exceeding that of the Company's products, a claim (whether or not successfully made) that the Company's products infringe a patent held by another company or individual, any performance problems involving the Company's products, changes in technology that could cause the Company's products to become obsolete, the departure of key members of management and/or key employees, regulatory requirements that would make the Company's products difficult or uneconomical to produce, and general economic conditions. - 13 - PART II. OTHER INFORMATION Item 1. Legal Proceedings Colorado Patent Actions On January 8, 1996, the Company commenced a patent infringement trial against four competitors in the United States District Court of Colorado. (The patent involved is No. 5,211,129, which relates to the Company's injectable transponder technology, which was issued in May, 1993, and expires in May, 2010.) On January 29, 1996, the jury in the trial returned a verdict in favor of the Company and found that the defendants had willfully infringed on the Company's patent and awarded damages of $444,000, including prejudgment interest. The defendants appealed the judgment against them, and the Company cross-appealed the failure of the court to increase the Company's damages. On July 24, 1997, the Court of Appeals for the Federal Circuit handed down its decision in the appeal. The decision of the Court of Appeals affirmed the trial court's judgment, holding that the Company's patent is valid and was willfully infringed by the competitors. However, the Court of Appeals remanded to the trial court for further proceedings the issue of whether the Company engaged in inequitable conduct in prosecuting the patent application before the United States Patent Office. On November 7, 1997, the U.S. District Court of Colorado, on remand on the issue of inequitable conduct, found no intent on the part of the Company to deceive the Patent Office, and therefore that no inequitable conduct occurred and the Company's '129 patent was enforceable. On February 9, 1998, the District Court Judge issued an Order containing findings and conclusions and entered a Third Amended Judgment confirming the Court's finding of no inequitable conduct. The defendants appealed this decision, and oral argument to the U.S. Court of Appeals for the Federal Circuit was held on December 8, 1998. On January 26, 1999, the Court of Appeals entered an order affirming the U.S. District Court's decision that the Company had not engaged in inequitable conduct in obtaining the '129 patent and thus the patent was enforceable. The order of the Court of Appeals has the effect of continuing the permanent injunction entered by the United States District Court in Colorado which prohibits the defendants from manufacturing, using, selling, or offering to sell the transponders that violate the Company's '129 patent. Because the defendants did not pursue a timely appeal to the United States Supreme Court, the January 26, 1999 decision of the Court of Appeals is now final and not appealable. Further, during the pendency of the first appeal, the Company pursued a contempt action against certain defendants for willful violations of the District Court's permanent injunction. On November 7, 1997, a Magistrate Judge of the District Court recommended that the defendants be found in willful contempt of the permanent injunction and that the Company should be awarded double damages, amounting to $33,000, as well as attorneys' fees and costs. On February 9, 1998, the District Court Judge issued an Order adopting the Magistrate's recommendation that the defendants were in contempt. This finding of contempt was not appealed and is now final. On January 23, 1998, the Company filed a second Motion for Contempt against certain defendants. Following a March 27, 1998 hearing, on April 23, 1998 the Magistrate Judge entered - 14 - a recommendation that the defendants be held in contempt a second time, based upon their attempts to solicit purchase orders from the Denver Metro Microchip Committee and their manufacture, use and sale of the ID-100 Zip Quill transponder product. The Company has requested treble damages, attorneys' fees, costs and sanctions against the defendants for their contempt of the District Court permanent injunction. The defendants have objected to the recommendations of the Magistrate Judge. On March 18, 1999, the District Court entered an order of contempt against the defendants arising from their efforts to solicit purchase orders from the Denver Metro Microchip Committee, but found that it could not determine if the ID-100 Zip Quill transponder product was made for the purpose of evading the injunction without essential change in the nature of the device and, therefore, determined a new infringement trial was necessary. As part of the same March 18, 1999 Order, the District Court instructed the parties to submit briefs on the issue of damages flowing from the contempt and further held that the Company may register its willful infringement judgment against the defendants with the District Court for the District of Minnesota and for the District of Columbia for purposes of enforcing the judgment and collecting the previously awarded damages from the defendants. On April 15, 1999, the Company filed a notice of appeal in the United States Court of Appeals for the Federal Circuit regarding the District Court's failure to find contempt from defendants' offers for sale and sales of the ID-100 Zip Quill. The issue is undergoing briefing by the parties, after which the Court of Appeals will select a date for oral argument. On April 26, 1999, the parties simultaneously submitted briefs on the issue of damages resulting from the defendants' contempt of court in soliciting purchase orders from the Denver Metro Microchip Committee. The Company seeks an award of several thousand dollars for the contempt. The defendants urged the District Court to award no damages. The Company believes that the District Court will likely not resolve this damage issue until after the Court of Appeals rules on the merits of the pending appeal. Minnesota Patent Actions On December 17, 1996, the same three competitors found to be willful infringers in the Colorado Patent Actions filed a lawsuit against the Company and its United States distributor, Schering- Plough, in the United States District Court for the District of Minnesota. The plaintiffs alleged that the defendants participated in unfair competition, breached an oral contract and infringed on three of the plaintiffs' United States patents. On January 24, 1997, the plaintiffs withdrew this lawsuit in its entirety. On April 21, 1997, four plaintiffs (including the three competitors identified in the foregoing paragraph) filed a lawsuit against the Company and Schering-Plough and another of the Company's competitors in the United States District Court for the District of Minnesota. The plaintiffs allege that the defendants participated in unfair competition, breached an oral agreement and infringed on three of the plaintiffs' United States patents and requested that the Court award compensatory and treble damages of an unspecified amount. On May 16, 1997, the plaintiffs amended the lawsuit and, in their complaint as amended, allege patent infringement, false advertising, unfair competition and attempted monopolization on the part of the Company, among other matters, stemming from the ISO standards. This lawsuit has - 15 - been stayed by agreement of all parties pending the outcome of the appeal of the Colorado Patent Action. Since the Company was successful in obtaining an affirmance of the judgment of enforceability in the Colorado Patent Action, the Company's exposure, if any, in the Minnesota litigation may be reduced. As a result of the favorable ruling in the Colorado Patent Action on February 9, 1998, and as indicated in the above paragraph, the Minnesota litigation has been stayed pending the Federal Circuit Court decision in the Colorado Patent Action. The Company is now assessing its alternatives in the Minnesota Patent Actions in light of the January 26, 1999 decision of the Court of Appeals in the Colorado Patent Action. Minnesota Class Action On January 28, 1999, a class action lawsuit was commenced against the Company in the United States District Court for the District of Minnesota on behalf of persons who were shareholders of record of the Company's common stock on December 29, 1998 and received the Company's Proxy Statement dated December 29, 1998 ("Proxy Statement") for the Company's annual meeting of stockholders to be held on January 29, 1999 ("Annual Meeting"). The complaint principally alleged violations of federal securities laws based on disclosures in the Proxy Statement. The plaintiffs alleged that the Proxy Statement failed to inform the stockholders of their ability to exercise dissenters' rights in connection with the proposed reverse stock split described in the Proxy Statement. The Company believes the plaintiffs' case had no merit because the Proxy Statement is believed to contain a complete and accurate description of the reverse stock split, including the absence of dissenters' rights. In connection with the above-described class action lawsuit, on January 28, 1999, the plaintiffs filed a motion requesting an order that would prevent the Company from holding the Annual Meeting or, in the alternative, that would prevent it from holding the vote on the proposed reverse stock split. A hearing on the motion was held on January 29, 1999 in the United States District Court for the District of Minnesota. In a strongly worded order from the bench, Judge James M. Rosenbaum ruled in favor of the Company and denied plaintiffs' motion, which allowed the Company to hold the Annual Meeting as planned. At the January 29, 1999 Annual Meeting of the Company's shareholders, the shareholders authorized the Company's Board of Directors to carry out the reverse stock split at any time before April 1, 1999. Due to increases in the price of the Company's common stock as quoted on The Nasdaq SmallCap Market, the Board determined to forgo the reverse stock split and allowed its authority to execute the stock split to expire unexercised on April 1, 1999. In view of that development, the plaintiffs in the class action lawsuit agreed to dismiss the complaint with prejudice and without any further cost to the Company. Based on this agreement, on July 29, 1999, Judge Rosenbaum dismissed the plaintiffs' complaint with prejudice and without costs to either party. Thus, this matter has been concluded. - 16 - Item 6. Exhibits and Reports on Form 8-K a. Exhibits: The following exhibit is hereby incorporated by reference to Exhibit 10.32 to the Company's Annual Report on Form 10-K for the year ended September 30, 1997: 10.1 Promissory Note dated June 1, 1997 issued by the Company to Hughes Microelectronics Europa Espana S.A. The following exhibits are hereby filed as part of the Quarterly Report on Form 10-Q: 10.2 Amendment No. 1 to Promissory Note dated as of March 15, 1999 by and between the Company and Data Sales Co., Inc. 10.3 Warrant Agreement dated as of March 15, 1999 by and between the Company and Data Sales Co., Inc. 11.1 Not filed b. Reports on Form 8-K No reports on Form 8-K were filed in the quarter ended June 30, 1999. - 17 - SIGNATURES In accordance with 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. DESTRON FEARING CORPORATION (Registrant) Dated: August 10, 1999 ------------------------------ By: Randolph K. Geissler President Chief Executive Officer - 18 - EX-10.2 2 EXHIBIT 10.2 AMENDMENT NO. 1 TO PROMISSORY NOTE THIS AMENDMENT, is made as of the 15th day of March, 1999, by and between Destron Fearing Corporation, a Delaware corporation (the "Maker"), and Data Sales Co., Inc., a Minnesota corporation ("Holder"), as assignee of Raytheon Marine Company ("Raytheon"). WITNESSETH: WHEREAS, the Maker previously executed and delivered to Hughes Microelectronics Europa Espana S.A. ("Hughes") that certain Promissory Note (the "Hughes Note") dated as of June 1, 1997 in the original principal amount of $4,290,562.00 and payable to the order of Hughes, a copy of which is attached hereto as EXHIBIT A; WHEREAS, Raytheon acquired all right, title and interest of Hughes in the Hughes Note when Raytheon acquired Hughes' assets; WHEREAS, on the date hereof, Raytheon assigned to the Holder the Hughes Note and all of Raytheon's right, title and interest in and to the Hughes Note; and WHEREAS, in consideration of, among other things, the issuance by the Maker to the Holder on the date hereof of warrants to purchase 275,000 shares of the Maker's $0.01 per share par value common stock, the Maker and the Holder have agreed to amend the Hughes Note as hereinafter provided. NOW, THEREFORE, in consideration of the foregoing premises, and further in consideration of the mutual promises herein contained, the receipt and sufficiency of which are hereby acknowledged, the Maker and the Holder hereby agree to amend the Hughes Note as follows: 1. The first sentence in the first paragraph of the Hughes Note is hereby deleted in its entirety and is replaced and superseded by the following sentence: FOR VALUE RECEIVED, the undersigned, Destron Fearing Corporation, a Delaware corporation ("Maker"), promises to pay to Data Sales Co., Inc. ("Holder"), the principal amount of One Million Five Hundred Twenty-Eight Thousand Seven Hundred Eighty-One and 00/100 U.S. Dollars (U.S. $1,528,781.00), with interest from March 1, 1999 on the unpaid principal balance hereunder accruing at the rate of 9.25% per annum. This Note shall be payable in monthly installments of Fifty Thousand and 00/100 U.S. Dollars (U.S. $50,000.00), with the first installment of interest and principal due on March 31, 1999, and continuing on the last day of each calendar month until the amounts evidenced by this Note are paid in full. 2. The dollar amount of "$4,290,562.00," wherever such amount appears in the Hughes Note and whether such amount appears in numbers or words, is hereby changed to "$1,528,781.00." 3. The second paragraph of the Hughes Note, beginning with "This Note arises from a debt owing on the sale of industrial property . . .," is hereby deleted in its entirety. 4. The third sentence in what was the third paragraph of the Hughes Note, beginning with "All amounts due hereunder shall be payable without defense, set off or counterclaim . . .," is hereby deleted in its entirety and is replaced and superseded by the following sentence: All amounts due hereunder shall be payable without defense, set off or counterclaim, in lawful money of the United States of America, by check make payable to the Holder and sent by the Maker to the Holder at 3450 Burnsville Parkway, Burnsville, Minnesota 55337, or in such other manner or at such other place as Holder or any holder hereof shall designate in writing for such purpose from time to time. 5. What was the fourth paragraph of the Hughes Note, beginning with "The foregoing notwithstanding, to the extent permitted by Maker's existing Loan and Security Agreement with Coast Business Credit-Registered Trademark- ("Senior Lender") any and all amounts received by Maker . . .," is hereby deleted in its entirety. 6. What was the fifth paragraph of the Hughes Note, beginning with "At the end of each calendar quarter commencing with the quarter ending December 31, 1997, to the extent Maker is in compliance with the Senior Lender's payment schedule . . . ," is hereby deleted in its entirety. 7. The portion of the first sentence of what was the eighth paragraph of the Hughes Note, consisting of "Upon the occurrence that Maker should be found in default as stated under Senior Lender's Events of Default (Exhibit B)," is hereby deleted in its entirety and is replaced and superseded by the following: Upon the occurrence that Maker should be found in default as stated under the Events of Default of Coast Business Credit-Registered Trademark- ("Senior Lender") (Exhibit B), 8. The second sentence of what was the ninth paragraph of the Hughes Note, beginning with "At all times while this Note is outstanding, Maker will provide the Holder and a copy to its parent, Hughes Electronic Corporation . . .," is hereby deleted in its entirety and is replaced and superseded by the following: At all times while this Note is outstanding, Maker will provide the Holder its Form 10-Q quarterly filings and Form 10-K annual filing with the Securities and Exchange Commission ("SEC") simultaneously with making its filing with the SEC. 9. What was the tenth paragraph of the Hughes Note, beginning with "Maker convenants to deliver to Holder, to the attention of Mr. Amnon Carr, on or before June 30, 1997, a letter or letters from Maker's outside legal counsel . . .," is hereby deleted in its entirety. What was the eleventh paragraph of the Hughes Note, beginning with "Maker covenants to deliver to Holder, to the attention of Mr. Amnon Carr, within ninety (90) days after the end of each of Maker's fiscal years . . .," is hereby deleted in its entirety. 10. What was the twentieth paragraph of the Note, beginning with "Notices to the Holder required in the terms of this Note shall be provided . . .," is hereby deleted in its entirety and is replaced and superseded by the following sentence: 2 Notices to the Holder required in the terms of this Note shall be provided to the Holder at 3450 Burnsville Parkway, Burnsville, Minnesota 55337. 11. Exhibit A and Exhibit C to the Hughes Note are hereby deleted in their entirety. 12. To the extent of any conflict between the paragraph numbers of the Hughes Note, or what were the paragraph numbers of the Hughes Note, and the portions of the Hughes Note quoted herein, the quoted portions of the Hughes Note shall govern. 13. Except as expressly amended hereby, the Hughes Note shall remain in full force and effect in accordance with its original terms. IN WITNESS WHEREOF, the parties have caused this Amendment No. 1 to Promissory Note to be executed as of the date and year first above written. MAKER: Destron Fearing Corporation By: /s/ Randolph K. Geissler -------------------------------------- Randolph K. Geissler Its: President and Chief Executive Officer HOLDER: Data Sales Co., Inc. By: /s/ R. C. Breckner -------------------------------------- Ronald Breckner Its: President -------------------------------------- Title Typed or Printed 3 EX-10.3 3 EXHIBIT 10.3 DESTRON FEARING CORPORATION WARRANT AGREEMENT THIS WARRANT HAS NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED, OR ANY STATE SECURITIES LAWS. THIS WARRANT MAY NOT BE TRANSFERRED IN THE ABSENCE OF SUCH REGISTRATION OR UNLESS AN EXEMPTION THEREFROM IS AVAILABLE. This Warrant Agreement (this "Agreement") is entered into as of March 15, 1999 by and between Destron Fearing Corporation, a Delaware corporation (the "Company"), and Data Sales Co., Inc., a Minnesota corporation, or its assignees (the "Holder"). RECITALS WHEREAS, the Company has agreed to grant to Holder warrants to purchase shares of Company Common Stock in exchange and in consideration of certain financing. NOW, THEREFORE, BE IT RESOLVED, the parties agree hereto as follows: 1. DESCRIPTION; EXECUTION. (a) The Company agrees to issue to the Holder and the Holder agrees to accept the Warrant Certificate evidencing the right to purchase up to two hundred seventy-five thousand (275,000) shares (the "Warrant Shares") of the Company's $0.01 per share par value common stock ("Common Stock") at the "Exercise Price" (as defined below). The Warrant Certificate shall be substantially in the form annexed hereto as Exhibit A. (b) This Agreement shall be executed on behalf of the Company by its President. Upon delivery of this Warrant to the Holder, this Agreement shall be binding upon the Company, and the Holder shall be entitled to all the benefits set forth herein. 2. TERM OF WARRANT. The Warrant shall become exercisable at any time after the date hereof, and remain exercisable, subject to the conditions set forth in Section 3, until the close of business on March 15, 2004 (the "Expiration Date"). 3. EXERCISE OF WARRANT. (a) Subject to subsection 3(b) below, at any time until the Expiration Date, the Holder shall have the right to purchase from the Company (and the Company shall promptly issue to the Holder) up to two hundred seventy-five thousand (275,000) fully-paid and nonassessable shares of Company Common Stock at the Exercise Price (as defined below), by surrendering the appropriate Warrant Certificate and the Subscription Form attached hereto to the Company at its executive offices and paying the aggregate Exercise Price for the shares to be purchased, in cash or by check or shares of Company Common Stock. (b) The Warrant may be exercised in whole and in part but not in increments of less than 100 shares. In case of a partial exercise, the Warrant Certificate shall be surrendered and a new Warrant Certificate of the same tenor and for the purchase of the number of shares not purchased upon such partial exercise shall be issued by the Company to the Holder hereof. The Warrants shall be deemed to have been exercised immediately prior to the close of business on the date of their surrender for exercise as provided above, and the person or entity entitled to receive the shares of Common Stock issuable upon the exercise shall be treated for all purposes as the holder of such shares of record as of the close of business on such date. Prior to any such exercise, neither the Holder nor any person entitled to receive shares issuable upon exercise shall be, or have any of the rights of, a shareholder of the Company. Except as provided in Section 5.1, no adjustment shall be made for dividends or other stockholder rights for which the record date is prior to the date of exercise. As soon as practicable on or after such date, the Company shall issue in the name of, and deliver to the person or persons entitled to receive, a certificate or certificates for the full number of shares of Common Stock issuable upon such exercise. 4. EXERCISE PRICE. The initial exercise price for each share of Common Stock issuable pursuant to the Warrant shall be One and 00/100 Dollars ($1.00) per Warrant Share, adjusted as provided below (the "Exercise Price"). The Exercise Price may be paid, at the election of the Holder, in cash, cashier's check and/or by delivering shares of Common Stock having a "Current Fair Market Value" (as defined below) equal to the Exercise Price, including shares which would be deliverable upon exercise of the Warrants (a "cashless exercise"). The Holder may elect to effectuate a cashless exercise by delivering to the Company a written notice of its exercise, stating the number of Warrants to be exercised and that the Exercise Price shall be paid by cancelling Warrants representing the right to purchase a number of Warrant Shares having a value equal to such Exercise Price. The value of such cancelled Warrants shall be the Current Fair Market Value of the Company Common Stock on the date such notice is first sent or given less the Exercise Price therefor. 5. EXERCISE PRICE ADJUSTMENTS FOR CERTAIN SPLITS AND COMBINATIONS. The Exercise Price of the Warrants shall be subject to adjustment from time to time as follows. (a) In the event the Company should at any time or from time to time after the date of this Warrant Agreement ("Grant Date") fix a record date for the effectuation of a split or subdivision of the outstanding shares of Common Stock or a dividend or other distribution payable in additional shares of Common Stock or other securities or rights convertible into, or entitling 2 the holder thereof to receive directly or indirectly, additional shares of Common Stock (hereinafter referred to as "Common Stock Equivalents") without payment of any consideration by such holder for the additional shares of Common Stock or the Common Stock Equivalents (including the additional shares of Common Stock issuable upon exercise or exercise thereof), then, as of such record date (or the date of such dividend distribution, split or subdivision, if no record date is fixed), the Exercise Price of the Warrants shall be proportionately decreased and the number of shares of Common Stock issuable on exercise of each share of such series shall be increased in proportion to such increase of the aggregate of shares of Common Stock outstanding and those issuable with respect to such Common Stock Equivalents. (b) If the number of shares of Common Stock outstanding at any time after the Grant Date is decreased by a combination of the outstanding shares of Common Stock, then, following the record date of such combination, the Exercise Price for the Warrants shall be proportionately increased and the number of shares of Common Stock issuable on exercise of each share of such series shall be decreased in proportion to such decrease in outstanding shares. 5.2 OTHER DISTRIBUTIONS. In the event this Company shall declare a distribution payable in securities of other persons, evidences of indebtedness issued by the Company or other persons, assets (excluding cash dividends) or options or rights not referred to in subsection 5.1(a), then, in each such case for the purpose of this Section 5.2, the Holders of the Warrants shall be entitled to a proportionate share of any such distribution as though they were the holders of the number of shares of Common Stock of the Company into which their shares of Warrants are convertible as of the record date fixed for the determination of the holders of Common Stock of the Company entitled to receive such distribution. 5.3 RECAPITALIZATIONS. If at any time or from time to time there shall be a recapitalization of the Common Stock (other than a subdivision, combination or merger or sale of assets transaction provided for elsewhere in this Section 5), provision shall be made so that the Holders of the Warrants shall thereafter be entitled to receive upon exercise of the Warrants the number of shares of stock or other securities or property of the Company or otherwise, to which a holder of Common Stock deliverable upon exercise would have been entitled on such recapitalization. In any such case, appropriate adjustment shall be made in the application of the provisions of this Section 5 with respect to the rights of the Holders of the Warrants after the recapitalization to the end that the provisions of this Section 5 (including adjustment of the Exercise Price then in effect and the number of shares purchasable upon exercise of the Warrants) shall be applicable after that event as nearly equivalent as may be practicable. 5.4 NO IMPAIRMENT. This Company will not, by amendment of its Certificate of Incorporation or through any reorganization, recapitalization, transfer or assets, 3 consolidation, merger, dissolution, issue or sale of securities or any other voluntary action, avoid or seek to avoid the observance or performance of any of the terms to be observed or performed hereunder by this Company, but it will at all times in good faith assist in the carrying out of all the provisions of this Section 5 and in the taking of all such action as may be necessary or appropriate in order to protect the exercise rights of the Holders of the Warrants against impairment. 5.5 CERTIFICATE AS TO ADJUSTMENTS. Upon the occurrence of each adjustment or readjustment of the Exercise Price of Warrants pursuant to this Section 5, the Company, at its expense, shall promptly compute such adjustment or readjustment in accordance with the terms hereof and prepare and furnish to each Holder of Warrants a certificate setting forth such adjustment or readjustment and showing in detail the facts upon which such adjustment or readjustment is based. This Company shall, upon the written request at any time of any Holder of Warrants, furnish or cause to be furnished to such Holder a like certificate setting forth (a) such adjustment and readjustment, (b) the Exercise Price for such warrants at the time in effect, and (c) the number of shares of Common Stock and the amount, if any, of other property which at the time would be received upon the exercise of the then outstanding Warrants. 5.6 NOTICES OF RECORD DATE. In the event of any taking by this Company of a record of the Holder of any class of securities for the purpose of determining the holders thereof who are entitled to receive any dividend (other than a cash dividend) or other distribution, any right to subscribe for, purchase or otherwise acquire any shares of stock of any class or any other securities or property, or to receive any other right, this Company shall mail to each Holder of Warrants, at least twenty (20) days prior to the date specified therein, a notice specifying the date on which any such record is to be taken for the purpose of such dividend, distribution or right, and the amount and character of such dividend, distribution or right. 5.7 RESERVATION OF STOCK ISSUABLE UPON EXERCISE. This Company shall at all times reserve and keep available out of its authorized but unissued shares of Common Stock, solely for the purpose of effecting the exercise of the Warrants, such number of its shares of Common Stock as shall from time to time be sufficient to effect the exercise of all outstanding Warrants to purchase all shares of Common Stock underlying the Warrants; and if at any time the number of authorized but unissued shares of Common Stock shall not be sufficient to effect the exercise of all outstanding Warrants to purchase all shares of Common Stock underlying the Warrants, in addition to such other remedies as shall be available to the Holder of such Warrants, this Company will take such corporate action as may, in the opinion of its counsel, be necessary to increase its authorized but unissued shares of Common Stock to such number of shares as shall be sufficient for such purposes, including, without limitation, engaging in its best efforts to obtain the requisite shareholder approval of any necessary amendment to its Certificate of Incorporation. 4 5.8 NOTICES. Any notice required by the provisions of this Section 5 to be given to the Holders of Warrants shall be given as provided in Section 9.1. 6. REGISTRATION RIGHTS. 6.1 DEFINITIONS. (a) "Commission" shall mean the Securities and Exchange Commission or any other federal agency at the time administering the Securities Act of 1933, as amended (the "Securities Act"). (b) "Registrable Securities" shall mean (x) shares of Common Stock issuable upon exercise of the Warrants and (y) any Common Stock issued as a dividend or other distribution with respect to or in exchange for or in replacement of the shares referenced in (x) above; provided, however, that Registrable Securities shall not include any shares of Common Stock which have previously been registered or which have been sold to the public. (c) The terms "register," "registered" and "registration" shall refer to a registration effected by preparing and filing with the Commission a registration statement in compliance with the Securities Act and applicable rules and regulations thereunder, and the declaration or ordering of the effectiveness of such registration statement by the Commission. (d) "Registration Expenses" shall mean all expenses incurred in effecting any registration pursuant to this Agreement, including, without limitation, all registration, qualification, and filing fees, printing expenses, escrow fees, fees and disbursements of counsel for the Company, blue sky fees and expenses of any regular or special audits incident to or required by any such registration, but shall not include selling expenses and fees and disbursements of counsel for the Holder. (e) "Rule 144" shall mean Rule 144 as promulgated by the Commission under the Securities Act, as such Rule may be amended from time to time, or any similar successor rule that may be promulgated by the Commission. (f) "Rule 145" shall mean Rule 145 as promulgated by the Commission under the Securities Act, as such Rule may be amended from time to time, or any similar successor rule that may be promulgated by the Commission. 6.2 "PIGGYBACK" REGISTRATION. During the period beginning with the Grant Date and ending 5:00 p.m., Central Time, on March 15, 2004, if the Company shall determine to register any of its shares of Common Stock in a firm commitment public offering for its own account, other than a registration relating solely to a Rule 145 transaction on Form S-4 or any successor registration statement, a registration on Form S-8 or any successor registration statement, or a registration on any registration form that does not permit secondary sales, the Company will: 5 (a) promptly give to Holder written notice thereof; (b) use its best efforts to include in such registration (and any related qualification under the blue sky laws or other compliance), except as set forth in Sections 6.4 and 6.5 below, and in any underwriting involved therein, all the Registrable Securities specified in a written request or requests, made by Holder within twenty (20) days after the written notice from the Company described in clause 6.2(a) above is given, which written request may specify all or a part of Holder's Registrable Securities; and (c) pay all Registration Expenses, other than the selling expenses of Holder's Registrable Securities. 6.3 DEMAND REGISTRATION. (a) In the event that the Company has not registered the Registrable Securities on or before March 15, 2001, then for the period from March 15, 2001 until 5:00 p.m., Central Time, on March 15, 2004, the Holder shall be entitled to one demand registration of the Registrable Securities on the following terms and conditions: (i) The Company shall have received a written request of the Holders requesting registration of all Registrable Securities (a "Demand"); and (ii) Such demand registration rights may not be exercised (A) after the Company has initiated any previous demand registration or (B) in any particular jurisdiction in which the Company would be required to execute a general consent to service of process in effecting such registration. Within twenty (20) days after delivery of such written notice, the Company shall file with the Commission the registration including all Registrable Securities. 6.4 UNDERWRITING. If the registration of which the Company gives notice is for a registered public offering involving an underwriting, the Company shall so advise the Holder as a part of the written notice. In such event, the right of the Holder to registration pursuant to this Section 6 shall be conditioned upon Holder's participation in such underwriting and the inclusion of the Holder's Registrable Securities in the underwriting to the extent provided herein. The Holder shall (together with the Company) enter into an underwriting agreement in customary form with the representative of the underwriter or underwriters selected by the Company. 6.5 EXCLUSION OF REGISTRABLE SECURITIES. Notwithstanding any other provisions of this Section 6, if the representative of the underwriters advises the Company in writing that marketing factors require a limitation on the number of shares to be 6 underwritten, the representative may (subject to the limitations set forth below) exclude all Registrable Securities from, or limit the number of Registrable Securities to be included in, the registration and underwriting. The Company shall so advise the Holder, and the number of shares that are entitled to be included in the registration and underwriting shall be allocated first to the Company for securities being sold for its own account and thereafter to the Holder, pro rata with any other holders of Common Stock having registration rights. If a Holder does not agree to the terms of any such underwriting, such Holder shall be excluded therefrom by written notice from the Company or the underwriter. Any Registrable Securities or other securities excluded or withdrawn from such underwriting shall be withdrawn from such registration. If shares of the Holder are so withdrawn from the registration or if the number of shares of Registrable Securities of the Holder to be included in such registration was previously reduced as a result of marketing factors, in any subsequent registration in which the Holder is permitted to participate under this Section 6, the Company shall then offer to the Holder the right to include additional securities in the registration in an aggregate amount equal to the number of shares so withdrawn, with such shares to be allocated among the persons requesting additional inclusion pro rata amongst those persons requesting inclusion. 6.6 REGISTRATION PROCEDURES. In the case of each registration effected by the Company pursuant to Section 6, the Company will keep Holder advised in writing as to the initiation of each registration and as to the completion thereof, at its expense, and the Company will use its best efforts to: (a) Keep such registration effective for a period of one hundred twenty (120) days or until the Holder has completed the distribution described in the registration statement relating thereto, whichever first occurs; provided, however, that (x) such 120-day period shall be extended for a period of time equal to the period the Holder refrains from selling any securities included in such registration at the request of an underwriter of Common Stock (or other securities) of the Company; and (y) in the case of any registration of Registrable Securities on Form S-3 which are intended to be offered on a continuous or delayed basis, such 120-day period shall be extended, if necessary, to keep the registration statement effective until all such Registrable Securities are sold, but only if Rule 415 under the Securities Act, or any successor rule under the Securities Act, permits an offering on a continuous or delayed basis, and provided further that applicable rules under the Securities Act governing the obligation to file a post-effective amendment permit, in lieu of filing a post-effective amendment that (I) includes any prospectus required by Section 10(a)(3) of the Securities Act or (II) reflects facts or events representing a material or fundamental change in the information set forth in the registration statement, the incorporation by reference of information required to be included in (I) and (II) above to be contained in periodic reports filed 7 pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 in the registration statement; (b) Prepare and file with the Commission such amendments and supplements to such registration statement and the prospectus used in connection with such registration statement as may be necessary to comply with the provisions of the Securities Act with respect to the disposition of all securities covered by such registration statement; (c) Furnish such number of prospectuses and other documents incident thereto, including any amendment of or supplement to the prospectus, as the Holder from time to time may reasonably request; (d) Notify the Holder at any time when a prospectus relating thereto is required to be delivered under the Securities Act of the happening of any event as a result of which the prospectus included in such registration statement, as then in effect, includes an untrue statement of a material fact or omits to state a material fact required to be stated therein or necessary to make the statements therein not misleading or incomplete in the light of the circumstances then existing, and at the request of Holder, prepare and furnish to the Holder a reasonable number of copies of a supplement to or an amendment of such prospectus as may be necessary so that, as thereafter delivered to the purchasers of such shares, such prospectus shall not include an untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein not misleading or incomplete in the light of the circumstances then existing; (e) Cause all such Registrable Securities registered pursuant hereunder to be listed on each securities exchange on which similar securities issued by the Company are then listed; (f) Provide a transfer agent and registrar for all Registrable Securities registered pursuant to such registration statement and a CUSIP number for all such Registrable Securities, in each case not later than the effective date of such registration; and (g) Otherwise use its best efforts to comply with all applicable rules and regulations of the Commission, and make available to its security holders, as soon as reasonably practicable, an earnings statement covering the period of at least twelve months, but not more than eighteen months, beginning with the first month after the effective date of the Registration Statement, which earnings statement shall satisfy the provisions of Section 11(a) of the Securities Act. 8 7. FRACTIONAL SHARES; ISSUANCE OF SHARES; LEGENDS. 7.1 FRACTIONAL SHARES. The Company shall not be required to issue fractional shares of Company Common Stock on the exercise of a Warrant. If any fraction of a share of Common Stock would, except for the provisions of this Section 7, be issuable on the exercise of a Warrant (or specified portion thereof), the Company shall in lieu thereof pay an amount in cash equal to the then Current Fair Market Value, multiplied by such fraction. For purposes of this Agreement, the term "Current Fair Market Value" shall mean (i) if the Common Stock is traded in the over-the-counter market and not quoted on The Nasdaq SmallCap Market or The Nasdaq National Market or on any national securities exchange, the average of the per share closing bid prices of the Common Stock on the 10 consecutive trading days immediately preceding the date in question, as reported by Nasdaq or an equivalent generally accepted reporting service, or (ii) if the Common Stock is quoted on The Nasdaq SmallCap Market or The Nasdaq National Market or on a national securities exchange, the average for the 10 consecutive trading days immediately preceding the date in question of the daily per share closing prices of the Common Stock as quoted on The Nasdaq SmallCap Market or The Nasdaq National Market or on the principal stock exchange on which it is listed, as the case may be, or (iii) if the Common Stock is not publicly traded or quoted on The Nasdaq SmallCap Market or The Nasdaq National Market, the fair market value as determined by the Board of Directors of the Company based on (with appropriate adjustments) the most recent purchases of the Company's Common Stock and/or other relevant factors, including the Company's income and assets or evaluation reports received by the Company. 7.2 ISSUANCE OF SHARES. All shares of Common Stock issued upon exercise of a Warrant will be duly authorized, validly issued, fully paid and nonassessable. 7.3 LEGENDS. If the Common Stock to be issued upon exercise of this Warrant has not been registered under the Securities Act of 1933, as amended, then the stock certificates representing such shares of Common Stock shall bear a legend substantially in the following form: THE SHARES OF STOCK REPRESENTED BY THIS CERTIFICATE HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933 (THE "ACT") OR APPLICABLE STATE SECURITIES LAWS AND ARE RESTRICTED SECURITIES. SUCH SECURITIES MAY NOT BE SOLD OR TRANSFERRED IN THE ABSENCE OF SUCH REGISTRATION OR AN EXEMPTION THEREFROM UNDER THE ACT AND STATE SECURITIES LAWS. 8. TRANSFERABILITY. The Warrant or the Shares of Company Common Stock underlying the Warrant may be transferred and the Company shall be required to register any transfer on the books of the Company; provided, however, the Company may request an opinion of 9 counsel satisfactory to it prior to such transfer that registration under the Securities Act and applicable state securities laws is not required in connection with the transaction resulting in such transfer. Each new Warrant or Company Common Stock certificate issued upon any transfer as above provided shall bear an appropriate investment legend, except that such Warrant or Company Common Stock certificate shall not bear such restrictive legend if the opinion of counsel referred to above is to further effect that such legend is not required in order to establish compliance with the provisions of the Securities Act or if such transfer is made in accordance with the provisions of Rule 144(k) promulgated under the Securities Act. The Warrant may also be transferred by will or by devise and by the laws of descent. 9. MISCELLANEOUS. 9.1 NOTICES. All notices, requests, demands and other communications required or permitted to be given hereunder shall be deemed to have been duly given if in writing and delivered personally, given by prepaid telegram, or mailed first class, postage prepaid, registered or certified mail, return receipt requested, to the following addresses: If to the Company: Destron Fearing Corporation 490 Villaume Avenue South St. Paul, Minnesota 55075 Attention: President With a copy to: Winthrop & Weinstine, P.A. 3000 Dain Rauscher Plaza 60 South Sixth Street Minneapolis, Minnesota 55402 Attention: Michele D. Vaillancourt, Esq. If to the Holder: Data Sales Co., Inc. 3450 West Burnsville Parkway Burnsville, MN 55337 Attention: President With a copy to: Gregory VanGompel, Esq. Data Sales Co., Inc. 3450 West Burnsville Parkway Burnsville, MN 55337 Any party may change the address to which such communications are to be directed to it by giving written notice to the other party pursuant to the terms of this Section. Except as otherwise provided in this Warrant, all notices shall be deemed to be given when delivered in person, or if placed in the mail as aforesaid, then two (2) days thereafter. 10 9.2 MODIFICATIONS. The parties may, by mutual consent, amend, modify, supplement and waive any right under this Warrant in any manner agreed by them in writing at any time. 9.3 ENTIRE AGREEMENT. This Agreement, and any documents, instruments or agreements specifically referred to herein, set forth the entire agreement and understanding of the parties with respect to the transactions contemplated hereby and supersede all prior agreements, arrangements and understandings relating to the subject matter hereof. 9.4 HEADINGS. The section and paragraph headings contained in this Agreement are for convenient reference only, and shall not in any way affect the meaning or interpretation hereof. 9.5 GOVERNING LAW; ARBITRATION. This Agreement shall be governed by and construed in accordance with the laws of the State of Minnesota, without any regard to the choice of law provisions thereof. Any dispute arising under this Agreement shall be resolved by binding arbitration under the rules of commercial arbitration of the American Arbitration Association in Ramsey County, Minnesota. 9.6 SEVERABILITY. If any provision of this Agreement shall be held to be invalid, illegal or unenforceable, it shall be deemed severable from the remaining provisions of this Agreement, which shall remain in full force and effect. 9.7 WAIVER. No waiver of any provision of this Agreement or any breach thereof shall be deemed or shall constitute a waiver of any other provision hereof (whether or not similar) or any other breach hereunder nor shall such waiver constitute a continuing waiver. Either party may waive performance of any provision of this Agreement, the non-performance of which would otherwise constitute a breach of this Agreement, including, but not limited to, the non-performance of any condition precedent to such party's performance, without affecting the enforceability of this Agreement or the provisions contained herein. 9.8 HEIRS, SUCCESSORS AND ASSIGNS. The terms and conditions of this Agreement shall inure to the benefit of and be binding upon the respective heirs, successors and assigns of the parties hereto. Holders may transfer and assign the Warrants only as provided in Section 8, and any assignment in violation of the foregoing shall be void. (The remainder of this page was left blank intentionally.) 11 9.9 ATTORNEYS' FEES. If any legal action is instituted to enforce or interpret the terms of this Agreement, the prevailing party in such action shall be entitled to actual attorneys' fees in addition to any other relief to which the party is entitled. IN WITNESS WHEREOF, the parties have executed this instrument as of the date first written above. Destron Fearing Corporation, a Delaware corporation By: /s/ Randolph K. Geissler ------------------------------------ Randolph K. Geissler, President and Chief Executive Officer "HOLDER" Data Sales Co., Inc., a Minnesota corporation By: /s/ R. C. Breckner ------------------------------------ Ronald Breckner Its: President ------------------------------------ Title Typed or Printed 12 EX-27 4 EXHIBIT 27
5 9-MOS SEP-30-1999 OCT-01-1998 JUN-30-1999 460 0 2,699 (144) 3,604 752 3,495 (1,607) 11,244 2,291 0 0 0 134 7,847 11,244 14,782 14,782 8,691 8,691 3,041 0 330 2,720 70 2,690 0 472 0 3,122 .23 .23
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