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 March 31, 2002 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 1-9341 HOWTEK, INC. (Exact name of registrant as specified in its charter) Delaware 02-0377419 (State or other jurisdiction (I.R.S. Employer Identification No.) of incorporation or organization) 21 Park Avenue, Hudson, New Hampshire 03051 (Address of principal executive offices) (Zip Code) (603) 882-5200 (Registrant's telephone number, including area code) NotApplicable (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 such filing requirement for the past 90 days. YES |X| NO |_|. As of the close of business on May 8, 2002 there were 15,544,844 shares outstanding of the issuer's Common Stock, $.01 par value.
HOWTEK, INC. INDEX PAGE PART I FINANCIAL INFORMATION Item 1 Financial Statements Balance Sheets as of March 31, 2002 (unaudited) and December 31, 2001 3 Statements of Operations for the three month periods ended March 31, 2002 and 2001 (unaudited) 4 Statements of Cash Flows for the three month periods ended March 31, 2002 and 2001 (unaudited) 5 Notes to Financial Statements (unaudited) 6 Item 2 Management's Discussion and Analysis of Financial Condition and Results of Operations 7-9 Item 3 Quantitative and Qualitative Disclosures about Market Risk 10 PART II OTHER INFORMATION Item 1 Legal Proceedings 10 Item 2 Changes in Securities and Use of Proceeds 10 Item 6 Exhibits and Reports on Form 8-K 10 Signatures 11 2
HOWTEK, INC. Balance Sheets <TABLE> <CAPTION> March 31, 2002 December 31, 2001 -------------- ----------------- Assets (unaudited) (audited) <S> <C> <C> Current assets: Cash and equivalents $ 436,849 $ 495,360 Trade accounts receivable, net of allowance for doubtful accounts of $165,000 in 2002 and 2001 311,193 691,415 Inventory 2,489,579 2,363,237 Prepaid and other 55,641 36,590 ------------ ------------ Total current assets 3,293,262 3,586,602 ------------ ------------ Property and equipment: Equipment 1,446,167 1,408,347 Leasehold improvements 41,721 41,721 ------------ ------------ 1,487,888 1,450,068 Less accumulated depreciation and amortization 1,159,204 1,118,685 ------------ ------------ Net property and equipment 328,684 331,383 ------------ ------------ Other assets: Deferred merger costs 95,466 Software development costs, net 230,264 230,247 Patents, net 11,490 12,893 ------------ ------------ Total other assets 337,220 243,140 ------------ ------------ Total assets $ 3,959,166 $ 4,161,125 ============ ============ Liabilities and Stockholders' Equity Current liabilities: Accounts payable $ 1,215,247 $ 1,026,335 Accrued interest 218,299 203,299 Accrued expenses 322,687 203,064 Loans payable to related party -- 500,000 Convertible subordinated debentures 10,000 10,000 Current maurities of note payable 62,184 61,109 ------------ ------------ Total current liabilities 1,828,417 2,003,807 Note payable, less current maturities 101,806 117,761 ------------ ------------ Total liabilities 1,930,223 2,121,568 ------------ ------------ Stockholders' equity: Convertible preferred stock, $.01 par value: authorized 1,000,000 shares; issued and outstanding 8,550 in 2002 and 9,550 in 2001, with the aggregated liquidation value of $2,115,000 in 2002 and $2,215,000 in 2001, plus 7% annual dividend 86 96 Common stock, $ .01 par value: authorized 25,000,000 shares; issued 15,597,720 in 2002 and 15,241,833 shares in 2001; outstanding 15,529,844 in 2002 and 15,173,957 shares in 2001 155,977 152,418 Additional paid-in capital 57,614,186 57,107,227 Accumulated deficit (54,791,042) (54,269,920) Treasury stock, at cost (67,876 shares) (950,264) (950,264) ------------ ------------ Total stockholders' equity 2,028,943 2,039,557 ------------ ------------ Total liabilities and stockholders' equity $ 3,959,166 $ 4,161,125 ============ ============ </TABLE> See accompanying notes to financial statements. 3
HOWTEK, INC. Statements of Operations Three Months Three Months March 31, 2002 March 31, 2001 -------------- -------------- (unaudited) (unaudited) Sales $ 775,633 $ 1,513,604 Cost of sales 595,412 1,121,463 ------------ ------------ Gross margin 180,221 392,141 ------------ ------------ Operating expenses: Engineering and product development 189,756 163,976 General and administrative 225,355 306,311 Marketing and sales 267,080 538,065 ------------ ------------ Total operating expenses 682,191 1,008,352 ------------ ------------ Loss from operations (501,970) (616,211) Interest expense - net 19,152 23,380 ------------ ------------ Net loss (521,122) (639,591) Preferred dividend 36,505 38,762 ------------ ------------ Net loss available to common stockholders $ (557,627) $ (678,353) ============ ============ Net loss per share Basic and diluted $ (0.04) $ (0.05) Weighted average number of shares used in computing earnings per share Basic and diluted 15,251,426 13,564,355 See accompanying notes to financial statements. 4
HOWTEK, INC. Statements of Cash Flows <TABLE> <CAPTION> Three Months Three Months March 31, 2002 March 31, 2001 -------------- -------------- (unaudited) (unaudited) <S> <C> <C> Cash flows from operating activities: Net loss $(521,122) $ (639,591) --------- ----------- Adjustments to reconcile net loss to net cash used for operating activities: Depreciation 40,519 53,392 Amortization 31,426 62,367 Changes in operating assets and liabilities: Accounts receivable 380,222 (266,626) Inventory (126,342) (251,728) Other current assets (19,051) 58,434 Accounts payable 188,912 589,743 Accrued expenses 2,652 80,218 --------- ----------- Total adjustments 498,338 325,800 --------- ----------- Net cash used for operating activities (22,784) (313,791) --------- ----------- Cash flows from investing activities: Additions to patents, software development and other (30,040) (32,975) Additions to property and equipment (37,820) (33,203) --------- ----------- Net cash used for investing activities (67,860) (66,178) --------- ----------- Cash flows from financing activities: Issuance of common stock for cash 47,013 137,068 Proceeds of convertible note payable to principal stockholders 500,000 -- Payment of demand note payable to principal stockholders (500,000) Payment of note payable (14,880) -- --------- ----------- Net cash provided by financing activities 32,133 137,068 --------- ----------- Decrease in cash and equivalents (58,511) (242,901) Cash and equivalents, beginning of period 495,360 1,444,771 --------- ----------- Cash and equivalents, end of period $ 436,849 $ 1,201,870 ========= =========== Non-cash items from investing and financing activities: Conversion of loan to related party into Common Stock $ 500,000 $ -- ========= =========== Accrued dividends on convertible preferred stock $ 36,505 $ -- ========= =========== Accrual of deferred merger costs $ 95,466 $ -- ========= =========== </TABLE> See accompanying notes to financial statements. 5
HOWTEK, INC. Notes to Financial Statements (Unaudited) March 31, 2002 (1) Accounting Policies In the opinion of management all adjustments and accruals (consisting only of normal recurring adjustments), which are necessary for a fair presentation of operating results are reflected in the accompanying financial statements. Reference should be made to Howtek, Inc.'s Annual Report on Form 10-K for the year ended December 31, 2001 for a summary of significant accounting policies. Interim period amounts are not necessarily indicative of the results of operations for the full fiscal year. (2) Loan Payable to Related Party The Company has a Revolving Loan and Security Agreement (the "Loan Agreement") with Mr. Robert Howard, Chairman of the Board of Directors of the Company, under which Mr. Howard has agreed to advance funds, or to provide guarantees of advances made by third parties in an amount up to $3,000,000. Outstanding advances are collateralized by substantially all of the assets of the Company and bear interest at prime interest rate plus 2%. Mr. Howard is entitled to convert outstanding advances into shares of the Company's common stock at any time based on the outstanding closing market price of the Company's common stock at the time each advance is made. In the first quarter of 2002, Mr. Howard advanced $500,000 to the Company under the Loan Agreement. In March 2002, Mr. Howard converted $500,000 of advances made under the Loan Agreement into 215,517 shares of restricted common stock of the Company. As of March 31, 2002 no moneys were owed and the Company had $3,000,000 available for future borrowings under the Loan Agreement. The Company had Secured Demand Notes and Security Agreements (the "Notes") owed to Mr. Robert Howard. The principal of these Notes was due and payable in full, together with interest accrued and any penalties provided for, on demand. Under the terms of the Notes the Company agreed to pay interest at the lower rate of (a) 12% per annum, compounded monthly or (b) the maximum rate permitted by applicable law. Payment of the Notes was secured by a security interest in certain assets of the Company. In March 2002, the Company repaid the principal balance due in the amount of $500,000 and the Notes were discharged. 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations "Safe Harbor" Statement under the Private Securities Litigation Reform Act of 1995: Certain information included in this Item 2 and elsewhere in this Form 10-Q that are not historical facts contain forward looking statements that involve a number of known and unknown risks, uncertainties and other factors that could cause the actual results, performance or achievements of the Company to be materially different from any future results, performance or achievement expressed or implied by such forward looking statements. These risks and uncertainties include, but are not limited to, uncertainty of future sales levels, protection of patents and other proprietary rights, the impact of supply and manufacturing constraints or difficulties, product market acceptance, possible technological obsolescence of products, increased competition, litigation, the uncertainty of stockholder and other approvals necessary to consummate the proposed merger with Intelligent Systems Software, Inc. ("ISSI"), the effects of a decline in the economy in markets served by the Company and other risks detailed in the Company's other filings with the Securities and Exchange Commission. The words "believe", "demonstrate", "intend", "expect", "estimate", "anticipate", "likely", and similar expressions identify forward-looking statements. Readers are cautioned not to place undue reliance on those forward-looking statements, which speak only as of the date the statement was made. Results of Operations Proposed Merger with ISSI The Company has entered into a plan and agreement of merger with ISSI, a privately held company based in Boca Raton, Florida, pursuant to which ISSI would merge with and into a subsidiary of Howtek. If the merger is consummated a total of 8,400,000 shares of Howtek common stock will be issued in the merger in exchange for all of the issued and outstanding capital stock of ISSI. In January 2002, ISSI received approval from the U.S. Food and Drug Administration (FDA) to market and sell ISSI's new MammoReader(TM) Computer Aided Detection (CAD) system, which incorporates the Howtek digitizer, in the United States. The Company's plan is to concentrate the sales efforts of the combined company on products relating to the computer-aided detection of breast cancer market, and on complementary markets for its medical film digitizers. In this regard, the Company has already taken certain steps to shift its business focus which has in part been responsible for the reductions during the first quarter of 2002 of sales of products relating to the Company's historic graphic arts business and FotoFunnel(TM) product. Subsequent to completion of the contemplated merger, Howtek's existing film and photo digitizer operations, including engineering, manufacturing management, marketing and support, will be conducted through a wholly-owned subsidiary corporation, based at the Company's current headquarters in Hudson, NH. The Company's objective is to continue to grow its medical business, providing industry-leading digitizers to customers. 7
Consistent with the shift in Howtek's business focus, if the merger is consummated the combined company will cease sales of Howtek's prepress and graphics arts products, which will result in a write-off of approximately $2 million in current assets attributable to that business against a current inventory reserve of approximately $700,000. The completion of the merger is subject to the registration of the shares of Howtek common stock to be issued in the merger under the Securities Act of 1933, as amended, and other customary conditions, including approval of the merger by stockholders of both Howtek and ISSI. It is currently expected that if stockholder approval is obtained the merger will be consummated by June 30, 2002. Quarter Ended March 31, 2002 compared to Quarter Ended March 31, 2001 Sales. Sales for the three months ended March 31, 2002 were $775,633, compared with sales of $1,513,604 for the quarter ended March 31, 2001. As expected, as a result of the Company's shift in the focus of its business, sales of the Company's prepress and graphic arts products, including related maintenance and repair services, decreased by $400,656, from $580,626 in 2001 to $179,970. Sales of the Company's medical imaging products decreased from $540,905 in the quarter ended March 31, 2001 to $425,899 in the quarter ended March 31, 2002. Howtek's medical product sales are made primarily to the Company's respective "integration partners" or resellers, which add software and other components to Howtek's products to provide full medical imaging solutions to their customers. The Company believes that there has been a softening in the telemedicine and Picture Archiving and Communications Systems (PACS) segments of the medical market place, as customer purchases are being deferred or reconsidered as a result of what is perceived to be an overall softness in the economy. Additionally, the Company's announcement of its intention to merge with ISSI, an OEM customer competing in the market for systems providing computer-aided detection of breast cancer, led to delays in anticipated orders from other such OEMs which compete with ISSI. The Company believes that subsequent orders from the CAD market will increase in future quarters. The Company's FotoFunnel(TM) batch photographic print scanner contributed sales of $169,764 in the first quarter of 2002 compared to sales of $392,073 during the comparable period in 2001. The Company has established distribution channels, including Noritsu America Corporation, which offers and promotes the FotoFunnel scanner as an accessory with certain of its minilab and photo-finishing products. The Company is currently participating in FotoFunnel field evaluation and testing programs with a variety of retail and photo chains and mass merchants which precede purchase decisions by such buyers. Gross Margins. Gross margins for the three month period ended March 31, 2002 decreased to 23% from 26% in the comparable period in 2001. Gross margins decreased as a result of reduced sales without a corresponding reduction in production overhead and indirect production expenses. 8
Engineering and Product Development. Engineering and product development costs for the three month period ended March 31, 2002 increased 16% from $163,976 in 2001 to $189,756 in 2002. The increase in engineering and product development costs resulted primarily from increases in the Company's utilization of outside and contract engineering resources required in its new product development. The Company expects engineering and product development costs to increase over the remainder of 2002. General and Administrative. General and administrative expenses in the three month period ended March 31, 2002 decreased 26% from $306,311 in 2001 to $225,355 in 2002. This change results primarily from a reduction in salaries and a decrease in provision for doubtful accounts. Marketing and Sales Expenses. Marketing and sales expenses in the three month period ended March 31, 2002 decreased 50% from $538,065 in 2001 to $267,080 in 2002. This decrease is due primarily to a significant reduction in expenses related to the Company's traditional graphic art business, and a decrease in personnel and promotional expenses in its FotoFunnel area, where there is an increasing reliance on marketing through selected OEM customers. Interest Expense. Net interest expense for the three month period ended March 31, 2002 decreased to $19,152 from $23,380 in 2001. This decrease is due primarily to a decrease in loan balances and interest rates. As a result of the foregoing, the Company recorded a net loss of $521,122 or $0.04 per share for the three month period ended March 31, 2002 on sales of $775,633 compared to a net loss of $639,591 or $0.05 per share from the same period in 2001 on sales of $1,513,604. Liquidity and Capital Resources The Company's ability to generate cash adequate to meet its requirements depends primarily on operating cash flow and the availability of a $3,000,000 credit line under the Loan Agreement with its Chairman, Mr. Robert Howard, of which $3,000,000 was available at March 31, 2002. At March 31, 2002 the Company had current assets of $3,293,262, current liabilities of $1,732,951 and working capital of $1,560,311. The ratio of current assets to current liabilities was 1.9:1 The Company had Secured Demand Notes and Security Agreements (the "Notes") owed to Mr. Robert Howard. The principal of these Notes was due and payable in full, together with interest accrued and any penalties provided for, on demand. Under the terms of the Notes the Company agreed to pay interest at the lower rate of (a) 12% per annum, compounded monthly or (b) the maximum rate permitted by applicable law. Payment of the Notes was secured by a security interest in certain assets of the Company. In March 2002, the Company repaid the principal balance due in the amount of $500,000 and the Notes were discharged. 9
Legal Proceedings A complaint was filed against the Company and 213 other defendants in the United States District Court for the Eastern District of Texas, entitled The Massachusetts Institute of Technology and Electronics for Imaging, Inc. v. Abacus Software Inc. et al., Case No. 501CV344. The plaintiff claims the Company and other defendants have infringed a United States patent alleged to cover color reproduction system technology. With respect to the Company, the alleged infringement involves certain of the Company scanners and other products sold to customers in the graphic arts/prepress and photographic markets. The case seeks unspecified damages together with interest, injunctive relief and recovery of reasonable attorney's fees. The Company disputes these claims and intends to defend vigorously this matter. However, the outcome of any litigation is uncertain and an unfavorable outcome could have a material adverse effect on the Company. Item 3. Quantitative and Qualitative Disclosures about Market Risk Not applicable. PART II OTHER INFORMATION Item 1. Legal Proceedings A complaint was filed against the Company and 213 other defendants in the United States District Court for the Eastern District of Texas, entitled The Massachusetts Institute of Technology and Electronics for Imaging, Inc. v. Abacus Software Inc. et al., Case No. 501CV344. The plaintiff claims the Company and other defendants have infringed a United States patent alleged to cover color reproduction system technology. With respect to the Company, the alleged infringement involves certain of the Company scanners and other products sold to customers in the graphic arts/prepress and photographic markets. The case seeks unspecified damages together with interest, injunctive relief and recovery of reasonable attorney's fees. The Company disputes these claims and intends to defend vigorously this matter. Item 2. Changes in Securities and Use of Proceeds In March 2002, Mr. Robert Howard converted $500,000 of advances made under the Loan Agreement and represented by a convertible note into 215,517 shares of restricted common stock of the Company. The convertible note and shares of common stock were issued pursuant to the exemption from registration provided by Sections 4(2) and 3(a)(9) of the Securities Act of 1933. Item 6. Exhibits and Reports on Form 8-K (a) Exhibits None (b) A report on Form 8-K was filed during the quarter for which this report is filed under items 5 and 7 to report the Company's execution of a definitive agreement to acquire ISSI. 10
Signatures Pursuant to the requirements of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Howtek, Inc. (Company) Date: May 13, 2002 By: /s/ W. Scott Parr ------------------------- ----------------------------------- W. Scott Parr President, Chief Executive Officer, Director Date: May 13, 2002 By: /s/ Annette L. Heroux ------------------------- ----------------------------------- Annette L. Heroux Vice President Finance, Chief Financial Officer 11