SECURITIES & EXCHANGE COMMISSION EDGAR FILING
Form: 10-K
Date Filed: 2009-03-31
Corporate Issuer CIK: 771999
© Copyright 2014, Issuer Direct Corporation. All Right Reserved. Distribution of this document is strictly prohibited, subject to the
terms of use.
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
☑Annual Report under Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the fiscal year ended December 31, 2008
or
❑Transitional Report under Section 13 or 15(d) of the
Securities Exchange Act of 1934
1-32146
Commission file number
DOCUMENT SECURITY SYSTEMS, INC.
(Exact name of Registrant as specified in its charter)
New York
(State of incorporation)
16-1229730
(IRS Employer Identification Number)
First Federal Plaza
28 East Main Street, Suite 1525
Rochester, New York 14614
(Address of principal executive office)
(585) 325-3610
(Registrant’s telephone number)
Securities registered under Section 12(b) of the Act:
Title of each class
Common Stock (Par Value - $0.02)
Name of each exchange on which registered
NYSE Amex Equities
Securities registered under to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer as defined in Rule 405 of the Securities Act
YES ❑ NO ☑
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Exchange Act.
YES ❑ NO ☑
INDICATE BY CHECK MARK WHETHER THE REGISTRANT:
(1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12
months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days. YES ☑ NO ❑
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this Chapter) is not
contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ❑
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer filer.
Large Accelerated Filer ❑ Accelerated Filer ❑ Non-Accelerated Filer ❑ Smaller Reporting Company ☑
Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2 of the Act).Yes ❑ No☑
The aggregate market value of the stock held by non-affiliates (7,416,786 shares) computed by reference to the closing price of such
stock ($4.90), as of June 30, 2008, was $36,342,251.
As of March 26, 2009, there were 14,697,556 shares of Common Stock of Document Security Systems, Inc. issued.
DOCUMENTS INCORPORATED BY REFERENCE
The definitive proxy statement relating to the registrant’s Annual Meeting of Stockholders, to be held on May 28, 2009, is
incorporated by reference into Part III of this Form 10-K to the extent described therein.
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DOCUMENT SECURITY SYSTEMS, INC. & SUBSIDIARIES
Table of Contents
PART I
ITEM 1.
ITEM 1A.
ITEM 2.
ITEM 3.
ITEM 4.
BUSINESS
RISK FACTORS
PROPERTIES
LEGAL PROCEEDINGS
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
PART II
ITEM 5.
MARKET FOR THE REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES
ITEM 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
ITEM 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE
ITEM 9A(T).
CONTROLS AND PROCEDURES
PART III
ITEM 10.
ITEM 11.
ITEM 12.
ITEM 13.
ITEM 14.
ITEM 15.
DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
EXECUTIVE COMPENSATION
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
STOCKHOLDER MATTERS
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
PRINCIPAL ACCOUNTANT FEES AND SERVICES
EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
SIGNATURES
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ITEM 1 - DESCRIPTION OF BUSINESS
Overview
Document Security Systems, Inc. (referred to in this report as “Document Security,” “we,” “us,” “our” or “Company”) markets,
produces and sells products designed to protect valuable information from unauthorized scanning, copying, and digital imaging. We
have developed security technologies that are applied during the normal printing process and by all printing methods including
traditional offset, gravure, flexo, digital or via the internet on paper, plastic, or packaging. We hold patents and patent pendings that
protect our technology. Our technologies and products are used by federal, state and local governments, law enforcement agencies
and are also applied to a broad variety of industries as well, including financial institutions, high technology and consumer goods,
entertainment and gaming, healthcare/pharmaceutical, defense and genuine parts industries. Our customers use our technologies
where there is a need for enhanced security for protecting and verification of critical financial instruments and vital records, or where
there are concerns of counterfeiting, fraud, identity theft, brand protection and liability.
We were organized as a New York corporation in 1984, and in 2002, chose to strategically focus on becoming a developer
and marketer of secure technologies for all forms of print media. To accomplish this, we acquired Lester Levin, Inc, an operator of a
small printing company, an Internet-based business called Legalstore.com, and Thomas M. Wicker Enterprises, Inc. and Document
Security Consultants, Inc., two privately owned companies engaged in the document security technology business with rights to
certain patents developed by certain members of the Wicker Family. As a result of these acquisitions, we compiled the basis of our
document security business by combining basic print capabilities necessary for research and development with the knowledge and
expertise of our team of printing professionals and a foundation of patented technologies and trade secrets from which to launch our
product offerings. Since this early stage, we have focused our efforts on developing and in some cases patenting new technologies
and products, building our corporate, operational, marketing and sales staff to accommodate our expected growth, and developing
and implementing our patent and intellectual property protection strategy.
In 2006, we acquired San Francisco-based Plastic Printing Professionals, Inc. (“P3”), a privately held security printer
specializing in plastic cards containing state of the art multiple or singular security technologies. P3’s primary focus is manufacturing
long-life composite, laminated and surface printed cards which can include magnetic stripes, bar codes, holograms, signature panels,
invisible ink, micro fine printing, guilloche patterns, Biometric, RFID and a patent-pending watermark technology. P3’s products are
marketed through an extensive broker network that covers much of North America, Europe and South America. P3’s product and
client list includes the Grammy Awards, the Country Music Association awards, sporting event media cards, ID cards for major
airports and Latin American and African driver’s licenses. Our acquisition of P3 marked the initial execution of our strategy to expand
our manufacturing capabilities through acquisitions in order to expand our custom security printing business. In addition, the plastic
products of P3 marked the first time that we were able to apply our technologies to a medium other than paper. During 2007, we sold
our retail copying and quick-printing business as this operation no longer supported our core industry focus.
In December 2008, we acquired substantially all of the assets of DPI of Rochester, LLC, a privately held commercial printer
located in Rochester, NY with approximately $7.6 million in sales in 2007. We formed a new subsidiary called DPI Secuprint, Inc. to
house this new company. As a result of this acquisition, we have significantly improved our ability to meet our current and expected
future demand of our security paper products as well as improving our sales cycle and competitiveness in the market for custom
security printing, especially in the areas of vital records, coupons, transcripts, and prescription paper. In addition, as a result of the
acquisition, we believe we can offer our customers a wider range of commercial printing offerings.
We generated revenue from continuing operations of $6.6 million in 2008, which equaled a 11% increase compared to 2007.
The increase was primarily due to increases in royalty revenue from the licensing of the Company’s technology, and from increases
in sales of security and commercial printing.. Specifically, during 2008, the Company saw increased demand for its safety paper,
especially in the first half of 2008 due in part to new legislation that required hospitals, physicians and pharmacies to use tamperproof
paper to fill all Medicaid prescriptions. Initially, the requirement, which was part 7002(b) of the “U.S. Troop Readiness, Veterans’
Care, Katrina Recovery and Iraq Accountability Appropriations Act of 2007” was to become effective on October 1, 2007, but a six-
month grace period pushed the deadline to April 1, 2008. The Company, primarily through its customer Boise Cascade, saw an
increase in demand to meet the initial October 1, 2007 deadline, which positively impacted the Company’s revenue during the first
half of 2008. In addition, we experienced increased sales of our plastic printed products which was helped by the investments we
made during the latter half of 2007 and early 2008 that expanded the production capacity of our plastics group. Through the first
three quarters of 2008, our combined revenue growth was 23%. However, during the fourth quarter of 2008, sales of all our products
experienced declines that dampened our full year results, which we believe reflected the impact of the significant downturn in the
overall world economic climate that occurred during that period.
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During 2008, gross profit from continuing operations increased by 16%, a greater pace than the 11% increase in revenue
because a large portion of the increased revenue during 2008 was from royalty revenue, the Company’s highest margin product
category. Operating expenses from continuing operations for 2008 were $10.6 million compared with $10.1 million in 2007, an
increase of 5%. A significant portion of our operating expenses (44% in 2008, 32% in 2007) are comprised of depreciation and
amortization, stock based compensation, and asset impairment costs. During 2008, we initiated efforts to reduce our costs structure,
and significantly reduced certain sales and marketing costs, consulting and professional fees, which as a group decreased by 14%
during 2008. In addition, we spent approximately 6.5% (7.0% - 2007) of our revenue on research and development costs. These
costs savings were offset by increases in non-cash operating expenses of stock based compensation, intangibles amortization, and
impairments of intangible assets, which as a group increased 35%.
We recorded a net loss during 2008 of $8.3 million, or $0.59 per basic and diluted share, compared with a net loss of $7.0
million in 2007 or $0.51 per basic and diluted share.
Our Core Products, Technology and Services
Our core business is counterfeit prevention, brand protection and validation of authentic print media, including government-issued
documents, currency, private corporate records, securities and more. We are a leader in the research and development of optical
deterrent technologies and have commercialized these technologies with a suite of products that offer our customers an array of
document security solutions. We provide document security technology to security printers, corporations and governments
worldwide and for currency, identifications, certifications, travel documents, prescription and medical forms, consumer product and
pharmaceutical packaging, and school transcripts.
Our products can be delivered on paper, plastic, or digitally via our AuthentiGuard® DX product suite. We believe that our
continued efforts in the field of digital security and technology greatly expands the reach and potential market for our AuthentiGuard®
DX digital products and enterprise solutions. We believe that our AuthentiGuard® DX solution significantly changes the economics of
document security for many customers as it eliminates the requirement to utilize pre-printed forms while allowing customers to
leverage existing investments in their information technology infrastructure.
Technologies
We have developed or acquired over 30 technologies that provide to our customers a wide spectrum of solutions. Our primary anti-
counterfeiting products and technologies are marketed under the following trade names:
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AuthentiGuard™ DX is a networked appliance that allows the author of any Microsoft Office document (Outlook,
Word, Excel, or PowerPoint) to secure nearly any of its alphanumeric content when it is printed or digitally stored.
AuthentiGuard® DX prints selected content using DMC’S patented technology so that it cannot be read by the naked
eye. Reading the hidden content, or authenticating the document is performed with a proprietary viewing device or
software.
Like AuthentiGuard™ DX - AuthentiGuard™ Demand™ is a customized software or a web-based application that
incorporates the verification feature of AuthentiGuard® Prism™ and the anti-copy anti-scan features of
AuthentiGuard® Pantograph 4000™ in a manner that makes those technologies printable from desktop printers and
digital presses worldwide. On-Demand™ provides the ability to produce highly secure documents virtually “any-time,
anywhere”, and is highly effective in variable data applications.
AuthentiGuard® Laser Moiré™, a counterfeit deterrent technology, prevents counterfeit reproductions by creating
gross distortions and unmistakable moiré interference patterns throughout the image. Verification of original
documents or images is fast and easy with The Authenticator – our proprietary lens that reveals the moiré
pattern. The technology is embedded into an image that requires protection from duplication and theft, such as
photographs, portraits, currency, driver’s licenses, postage stamps, tickets, labels, brand packaging, or documents.
AuthentiGuard® Prism™, a verification technology, embeds hidden words, images, or logos using 2-color or 4-color
processes that are only visible using a special, non-public proprietary Prism™ lens that reveals hidden Prism™
images. We believe that the hidden words, images or logos embedding with the Prism™ technology cannot be
reproduced with even the most sophisticated digital copiers or scanners. As a result, the absence of the hidden
words, images or logos alerts the end-user that the document is counterfeit. The PrismTM technology protects
verification forms such as spare parts, packing slips, checks, currency, licenses, travelers’ checks, postage stamps,
legal documents, tickets, labels, and brand packaging.
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
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AuthentiGuard® Pantograph 4000™, a counterfeit deterrent technology, provides what we believe is the most
powerful, patented pantograph technology ever created. Hidden words such as “VOID” or “COPY”, company logos,
or designs appear when a document utilizing the technology is photocopied or scanned, preventing unauthorized
duplication. Although there are other versions of this technology being sold by competitors, we believe that no
version other then our Pantograph 4000™ defeats high and low resolution scanners and produces crisp clear and
readable warning words. We believe that virtually any printable surface can utilize the technology, including paper,
Teslin, PVC, Tyvek and cardboard packaging. This technology has been used for gift certificates, school transcripts,
coupons, tickets, checks, packing slips, receipts, schematic drawings, plans, music, scripts, training manuals,
business plans, internal memos, letterhead, legal forms and prescription pads.
AuthentiGuard® Phantom™, a verification technology, uses “tilt-to-reveal” hidden images or words that can be
easily viewed without special equipment. Viewed straight on, the hidden images are virtually invisible to the naked
eye, but when the package or document is viewed at an angle, the hidden images are clearly revealed. For added
security, we believe that our patented Phantom™ technology cannot be reproduced with even the best copiers or
scanners.
AuthentiGuard® VeriGlow™, a verification technology, is a two-tiered, customized document security system that
utilizes unique photosensitive inks and incorporates embedded hidden messages or images that are only viewable
with a special light source and our special non-public proprietary Veri-Glow reading device. This patent pending
technology can be applied during the printing process or it can be applied to pre-printed items and is useful in the
protection of vital records such as passports, documents, brand protection, packaging and currency.
AuthentiGuard® Survivor 21™, a counterfeit deterrent technology, protects printed checks from duplication via
digital copiers and scanners while providing a patent-pending security feature that survives the background dropout
that results from bank’s archival scan. Survivor 21™ was created to meet new government banking regulations that
require documents to be archive-scan friendly, without compromising security.
AuthentiGuard® Obscurascan™, a counterfeit deterrent technology, sometimes called “Color Separation Multiplier”,
protects against the counterfeiting of any process color document, package, image or label. A hidden technology is
embedded into the document that severely alters images so that printing plates or digital color separations for the
four-color process are distorted by substantially increasing the density of the primary colors - making it nearly
impossible to recreate a useable color image. When a counterfeit is attempted on a document using this technology,
the output is a muddy, dark unusable blend of colors. This technology also produces chattering wavy lines, causing
additional distortion of the image.
AuthentiGuard® Block-Out™, a counterfeit deterrent technology, also called the “anti-color reproduction system”,
makes it very difficult to reproduce protected documents on digital color copiers. Certain copiers recognize Block-
Out’s embedded graphics on the original document, and print out solid black sheets or highly distorted
images. Block-Out™ is our own unique proprietary graphic design that is recognized and triggers a mechanism
developed by Omron Corporation in some copiers. We developed it to prevent color copiers and photo processors
from replicating any image or document that contains our custom Block-Out™ graphics. This technology can be
integrated into highly sensitive government documents such as currency, car titles, passports and licenses as well as
checks, travelers’ checks, postage stamps, photographs, original art and brand packaging.
AuthentiGuard® MicroPerf™, a verification technology, creates a verifier mark that is invisible to the naked eye
when viewed under normal circumstances and unnoticeable to the touch, but can be viewed by simply holding the
document up to a normal light for fast and easy authentication. MicroPerf™ uses a laser to insert fine perforations
into the document, and can be placed on vital records, documents, packaging or currency and is a micro-sized
perforation in the shape of a word or image that cannot be removed or altered in any way.
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Products and Services
Generic Security Paper: Our primary product for the retail end-user market is AuthentiGuard® Security Paper.
AuthentiGuard® Security Paper is blank paper that contains our Pantograph 4000TM technology. The paper reveals hidden warning
words, logos or images using The Authenticator- our proprietary viewing lens – or when the paper is faxed, copied or scanned. The
hidden words appear on the duplicate or the computer digital file and essentially prevent documents, including forms, coupons and
tickets, from being counterfeited. We market and sell our AuthentiGuard® Security Paper primarily through one major paper
distributors: Boise. Since 2005, Boise has marketed our AuthentiGuard® Security Paper under its Boise Beware brand name in North
America, primarily through its commercial paper sales group. We retain the rights to sell the AuthentiGuard® Security Paper directly to
end-users anywhere in the world.
Secruity and non-security printing: Our technology portfolio allows us to create unique custom secure paper, plastic,
packaging and Internet-based and software enterprise solutions. We market and sell to end-users that require anti-counterfeiting and
authentication features in a wide range of printed materials such as documents, vital records, prescription paper, driver’s licenses,
birth certificates, receipts, manuals, identification materials, entertainment tickets, coupons, parts tracking forms, as well as product
packaging including pharmaceutical and a wide range of consumer goods. In addition, we provide a full range of digital and large
offset commercial printing capabilities to our customers.
Since our inception, we have primarily outsourced the production of the majority of our custom security print orders to
strategic printing vendors. In December 2008, we acquired a commercial printer with long-run offset and short run digital printing
capabilities that will allow us to produce the majority of our security print orders in-house. We produce our plastic printed documents
such as ID cards, event badges, and driver licenses at our manufacturing facility in Brisbane, California under the name Plastic
Printing Professionals. In late 2007, we moved our P3 manufacturing facility to a 25,000 square foot facility in order to increase our
plastic manufacturing capacity, and during 2008, we upgraded their production capabilities by adding equipment that will improve its
productivity, along with equipment for high speed data encoding and equipment that for productions of high-volume precision RFID
cards. .
Digital Security Solutions: Using software that we have developed, we can electronically render several of our
technologies digitally to extend the use of optical security to the end-user of sensitive information. With our AuthentiGuard™ DX
we market a networked appliance that allows the author of any Microsoft Office document (Outlook, Word, Excel, or PowerPoint) to
secure nearly any of its alphanumeric content when it is printed or digitally stored. AuthentiGuard® DX prints selected content using
DMC’S patented technology so that it cannot be read by the naked eye. Reading the hidden content, or authenticating the document
is performed with a proprietary viewing device or software
Technology Licensing: We license our anti-counterfeiting technology and trade secrets to security printers through
licensing arrangements. We seek licensees that have a broad customer base that can benefit from our technologies or have unique
and strategic capabilities that expand the capabilities that we can offer our potential customers Licenses can be for a single
technology or for a package of technologies. We offer licensees a variety of pricing models, including:
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Pay us one price per year;
Pay us a percentage of gross sales price of the product containing the technology during the term; or
Joint venture or profit sharing arrangement.
Legal Products: We also own and operate Legalstore.com, an Internet company which sells legal supplies and documents,
including security paper and products for the users of legal documents and supplies in the legal, medical and educational fields.
Intellectual Property
Patents
Our ability to compete effectively depends in part on our ability to maintain the proprietary nature of our technology, products
and manufacturing processes. We principally rely upon patent, trademark, trade secrets and contract law to establish and protect our
proprietary rights. During our development, we have expended a significant percentage of our resources on the research and
development to ensure that we are a market leader the ability to provide our customers effective solutions against a never changing
array of counterfeit risks.
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Based largely on these efforts, we currently own eight patents and have over a dozen patent applications pending, including
provisional and PCT patent applications and applications that have entered the National Phase in various countries including the
United States, Canada, Europe, Japan, Brazil, Israel, Mexico, Indonesia and South Africa. These applications cover our
technologies, including our AuthentiGuard® On-Demand, AuthentiGuard® Prism™ AuthentiGuard® ObscuraScan™, AuthentiGuard®
Survivor 21™, AuthentiGuard® VeriGlow™ products, and several other anti-counterfeiting and authentication technologies in
development.
We also jointly have the rights to Patent No. 5,707,083 with R.R. Donnelly. Under the terms of our agreement with R.R.
Donnelly, it has no rights in any revenue generated by us through the technology represented by the patent. R.R. Donnelly may
license the technology but is required to split any revenue with us after costs associated with any licensing.
In addition to our current patent activities, we own several patents that we acquired in 2002 when we acquired companies
owned by various members of the Wicker Family and The Estate of Ralph Wicker, including US Patents 5,018,767, European Patent
0455750, Canadian Patent 2,045,580, and a 50% ownership of US Patent No 5,735,547 (collectively, the “Wicker
Patents”). However, due to previous contractual agreements associated with the Wicker Patents, we did not obtain certain economic
rights to these patents, including certain economic rights to benefits derived from settlements, licenses or other subsequent business
arrangements from any person or entity that had been proven to infringe these patents. Therefore, to consolidate our ownership and
economic rights to the Wicker Patents, we entered into the following transactions. In 2004, we entered into an agreement with The
Estate of Ralph Wicker and its assigns to purchase from them the right to 70% of the future economic benefit derived from
settlements, licenses or subsequent business arrangements from any infringer of the Wicker Patents that we choose to pursue, with
The Estate of Ralph Wicker receiving the remaining 30% of such economic benefit.
In February 2005, we further consolidated our ownership of the Wicker Patents by purchasing the economic interests and
ownership from 45 persons and entities that had purchased various rights in Wicker Family technologies, including the Wicker
Patents. As a result of this transaction, we increased our ownership of US Patent 5,735,547 to 100%, and increased to our right to
future economic benefits to the Wicker Patents to approximately 86% of all settlements or license royalties derived from, among other
things, infringement suits related to the foreign Wicker Patents, including European Patent 0455750. Pursuant to these transactions,
we issued an aggregate of 541,460 shares to of our Common Stock, valued at approximately $3.9 million.
On August 20, 2008, the Company entered into an agreement with Trebuchet Capital Partners, LLC (“Trebuchet”) under
which Trebuchet has agreed to pay substantially all of the litigation costs associated with pending validity proceedings initiated by the
European Central Bank (“ECB”) in eight European countries relating to the Company’s European Patent 0 455 750B1 that the
Company has claimed the ECB infringed in printing of the Euro currency (the “Patent”). Trebuchet also agreed to pay substantially all
of the litigation costs associated with future validity challenges filed by the ECB or other parties, provided that Trebuchet elects to
assume the defense of any such challenges, in its sole discretion, and patent infringement suits filed against the ECB and certain
other alleged infringers of the Patent, all of which suits may be brought at the sole discretion of Trebuchet and may be in the name of
the Company, Trebuchet or both. The Company provided Trebuchet with the sole and exclusive right to manage infringement
litigation relating to the Patent in Europe, including the right to initiate litigation in the name of the Company, Trebuchet or both and to
choose whom and where to sue, subject to certain limitations set forth in the agreement. Under the terms of the Agreement, the
Company and Trebuchet have agreed to equally share all proceeds generated from litigation relating to the Patent, including
judgments and licenses or other arrangements entered into in settlement of any such litigation. Trebuchet is also entitled to recoup
any litigation expenses specifically awarded to the Company in such actions.
By aggressively defending our intellectual property rights, we believe that we may be able to secure a potentially significant
amount of additional and ongoing revenue by securing proceeds from lawsuits, settlements, or licensing agreements with those
persons, companies or governments that we believe are infringing our patents. We intend to use the appropriate legal means that
are economically feasible to protect our ownership of these technologies. We cannot be assured, however, that our efforts to prevent
the misappropriation of the intellectual property used in our business will be successful, or that we will be successful in obtaining
monetary proceeds from entities that we believe are infringing our patents. Further, we cannot be assured that any patents will be
issued for our U.S. or foreign applications or that, if issued, they will provide protection against competitive technologies or will be
held valid and enforceable if challenged. We also cannot be assured that competitors would not be able to design around any such
proprietary right or obtain rights that we would need to license or design around in order to practice under these patents.
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Trademarks
We have registered our “AuthentiGuard” mark, as well as our “Survivor 21” electronic check icon with the U.S. Patent and
Trademark Office. A trademark application is pending in Canada for “AuthentiGuard.” AuthentiGuard® is registered in several
European countries including the United Kingdom.
Research and Development
During the fiscal years ended December 31 2008 and 2007, we spent $432,550 and $420,063 on research and development
activities, respectively.
Major Customers
During 2008, two customers accounted for 11% and 10% of the Company’s total revenue from continuing operations,
respectively. As of December 31, 2008, one customer account receivable balance that was acquired as part of the Company’s
acquisition of the assets of a commercial printer in December 2008, accounted for 42% of the Company’s trade accounts receivable
balance. During 2007, one customer accounted for 13% of the Company’s total revenue from continuing operations. As of
December 31, 2007, one customer accounted for 16% of the Company’s trade accounts receivable balance.
Websites
We maintain the website, www.documentsecurity.com, which describes our patented document security solutions, our
targeted vertical markets, company history, and offers our security consulting services. We also maintain
www.plasticprintingprofessionals.com, which describes our ID card and other plastic and vinyl printing services. In addition, we
maintain the websites www.safetypaper.com and www.protectedpaper.com, which are e-commerce sites that market and sell our
patented blank Security Paper, hand-held security verifiers and custom security documents to end users worldwide. We also utilize
www.authenticate-360.com, a website which is hosted and owned by our licensee, The Ergonomic Group; this website is a source for
counterfeiting information and promotion of our On-Demand™ products. We also own and operate Legalstore.com, an Internet
company which sells legal supplies and documents, including security paper and products for the users of legal documents and
supplies in the legal, medical and educational fields. In addition, in December 2008, we acquired substantially all of the assets of DPI
of Rochester, a commercial printer which maintains the website www.dpirochester.com, which describes its pre-press and production
capabilities.
Competition
Currently, the security print market is comprised of a few very large companies and an increasing number of small companies
with specific technology niches. The expansion of this market is the result of increasing requirements for national security, as well as
the proliferation of brand and identity theft. Counterfeiting has expanded significantly as advancing technologies in digital duplication
and scanning combined with increasingly sophisticated design software has enabled easier reproduction of originals.
Our industry is highly fragmented and characterized by rapid technological change and product innovations and evolving
standards. We feel a consolidation of the industry may transpire in the near future as larger, well financed companies acquire smaller
technology companies to position themselves in the industry and access their intellectual property and access to client lists. Many of
our current competitors have longer operating histories, more established products, greater name recognition, larger customer bases,
and greater financial, technical and marketing resources. As a result, our competitors may be able to adapt more quickly to new or
emerging technologies and changes in customer requirements, and devote greater resources to the promotion and sale of their
products. Competition may also force us to decrease the price of our products and services. There is no assurance that we will be
successful in developing and introducing new technology on a timely basis, new products with enhanced features, or that these
products, if introduced, will enable us to establish selling prices and gross margins at profitable levels.
Although our technology is effective primarily on analog and digital copiers and scanners, our competition covers a wide
array of document security and anti-counterfeiting solutions. We conduct research and development to improve our technology,
including the development of new patents and trade secrets. We will rely primarily upon our patents and trade secrets to attempt to
thwart competition, although there can be no assurance that we will be successful.
Our competitors include Standard Register Company, which specializes in printing security technologies for the check and
forms and medical industries; De La Rue Plc, that specializes in printing secure currency, tickets, labels, lottery tickets and vital
records for governments and Fortune 500 companies; Xerox, an industry leader in copying and scanning that has made recent
entries into the anti-counterfeiting business and has a competing Safety Paper product called “X Void.” Our P3 ID card
manufacturing operation competes with Arthur Blank and Company, Inc. which supplies advanced ID technology to the U.S. federal
government and other government programs worldwide, with a range of products and solutions that includes secure ID technologies.
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EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
In addition, other competing hidden word technologies are being marketed by competitors such as Nocopi Technologies
which sells and markets secure paper products, and Graphic Security Systems Corporation, which markets scrambled indicia.
Digital watermarks, RFID and biometric technologies are also being introduced into the marketplace by Digimarc Corporation,
IBM and L-1 Identity Solutions. These digital protection systems require software and hardware such as scanners and computers to
implement and utilize the technology and, consequently, this technology must be utilized in a controlled environment with the
necessary equipment to create the verification process. Therefore, versions of our optical security technologies do not require
hardware and software to operate and therefore, provide a power outage fail-safe when combined or layered with RFID, digital
watermarks or biometric systems.
Large Office Equipment Manufacturers, called OEMs, such as Sharp, Canon, Ricoh, Hewlett Packard and Eastman Kodak are
developing “smart copier” technology that recognizes particular graphical images and produces warning words or distorted
copies. Some of the OEMs are also developing user assigned and variable pantograph “hidden word” technologies in which users
can assign a particular hidden work in copy, such as “void” that is displayed when copy of such document is made.
Optical Deterrent features such as ours are utilized mainly by the large worldwide security printers for the protection of
currency. Many of these features such as micro-printing were developed pre-1980 as they were designed to be effective on the
imaging devices of the day which were mainly photography mechanisms. With the advent of modern day scanners, digital copiers,
digital cameras and easy to use imaging software such as Adobe Photoshop many of the pre-1980 optical deterrents such as micro-
printing are no longer or much less effective in the prevention of counterfeiting.
Unlike some of our competitors, our technologies are developed to defeat today’s modern imaging systems. Almost all of our
products and processes are built to thwart scanners and digital copiers and we believe that our products are the most effective in
doing so in the market today. In addition, our technologies do not require expensive hardware or software add-ons to authenticate a
document, but instead require simple, inexpensive hand-held readers which can be calibrated to particular hidden design
features. Our technologies are literally ink on paper that is printed with a particular method to hide selected things from a scanner’s
“eye” or distort what a scanner “sees.” These attributes make our anti-scanning technologies very cost effective versus other current
offerings on the market since our technologies are imbedded during the normal printing process, thereby significantly reducing the
costs to implement the technologies.
In December 2008, we acquired the assets of a commercial printer. The general commercial printing segment generates in the
U.S. over $50 billion in annual sales based on available industry data. The general commercial printing industry in the U.S. is highly
fragmented and most customers procure print services from local sources. Therefore, we compete primarily with locally-based
printing companies in the Rochester and Western New York markets. Most of our competitors are privately-held, single location
operations; however, some competitors are large corporations, both publicly and privately owned.
In general, changes in prevailing U.S. economic conditions significantly impact the general commercial printing industry
(approximately 96% of our fiscal 2008 revenues were U.S.-based). To the extent weakness in the U.S. economy causes local and
national corporations to reduce their spending on advertising and marketing materials, the demand for commercial printing services
may be adversely affected.
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Segment Information
We operate through two segments:
·
·
Security and commercial printing. This segment consists of the license, manufacture and sale of document
security technologies, including digital security print solutions and secure printed products at Document Security
Systems and P3 divisions, along with commercial printing provided by P3 and DPI Secuprint, our newly acquired
commercial print operation In September 2007, we sold the assets of our retail printing and copying division, a
former component of the Document Security and Production segment, to an unrelated third party as this operation
was not critical to our core operations. The results of this division are reported as discontinued operations and are
not a component of this segment’s results.
Legal Supplies. This segment consists of the sale of specialty legal supplies, primarily to lawyers and law firms
located throughout the United States, via the Legalstore.com website.
Financial information regarding these segments is provided in Note 15 to our consolidated financial statements included in
this Annual Report on Form 10-K.
Employees
As of December 31, 2008, we had 85 full and part-time employees, which includes 39 employees from our newly acquired
company DPI Secuprint. It is important that we continue to retain and attract qualified management and technical personnel. Our
employees are not covered by any collective bargaining agreement, and we believe that our relations with our employees are good.
Government Regulation
In light of the events of September 11, 2001 and the subsequent war on terrorism, governments, private entities and
individuals have become more aware of, and concerned with, the problems related with counterfeit documents. Homeland Security
remains a high priority in the United States. This new heightened awareness may result in new laws or regulations which could
impact our business. We believe, however, that any such laws or regulations would be aimed at requiring or promoting anti-
counterfeiting, and therefore would likely have a positive impact on our business plans.
Document Security Systems plays an active role with the Document Security Alliance group, as it sits on various committees
and has been involved in design recommendations for important U.S. documents. This group of security industry specialists was
formed by the U.S. Secret Service to evaluate and recommend security solutions to the Federal government for the protection of
credentials and vital records.
As counterfeiting continues to increase worldwide, various new laws and mandates are occurring to address the growing
security problem which we believe will increase our ability to generate revenue. For example, in 2007 Federal legislation was
enacted that required hospitals, physicians and pharmacies to use tamperproof paper to fill all Medicaid prescriptions. Initially, the
requirement, which was part 7002(b) of the “U.S. Troop Readiness, Veterans’ Care, Katrina Recovery and Iraq Accountability
Appropriations Act of 2007”, was effective April 1, 2008. Since the effective date of this legislation, we realized an increase in the
sales of our AuthentiGuard® Security Paper used for Medicaid prescription paper.
ITEM 1A – RISK FACTORS
An investment in our securities is subject to numerous risks, including the Risk Factors described below. Our business,
operating results or financial condition could be materially adversely affected by any of the following risks. The risks described below
are not the only ones we face. Additional risks we are not presently aware of or that we currently believe are immaterial may also
materially affect our business. The trading price of our Common Stock could decline due to any of these risks. In assessing these
risks, you should also refer to the other information contained or incorporated by reference in this Form 10-K, including our financial
statements and related notes, competition and intellectual property.
We have a limited operating history with our business model, which limits the information available to you to evaluate our
business.
Since our inception in 1984, we have accumulated deficits from historical operations of approximately $32,500,000 at
December 31, 2008. In 2002, we changed our business model and chose to strategically focus on becoming a developer and
marketer of secure technologies for all forms of print media. We have continued to incur losses since we began our new business
model. Also, we have limited operating and financial information relating to this new business to evaluate our performance and future
prospects. Due to the change in our business model, we do not view our historical financials as being a good indication of our future.
We face the risks and difficulties of a company going into a new business including the uncertainties of market acceptance,
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competition, cost increases and delays in achieving business objectives. There can be no assurance that we will succeed in
addressing any or all of these risks, and the failure to do so could have a material adverse effect on our business, financial condition
and operating results.
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We have three secured credit facilities that have large principal payments due in December 2009 and January 2010, and if
we are unable to repay them with cash we may be forced to repay, in whole or in part, with each credit facility's applicable
collateral, which would have a material adverse effect on our financial position.
On January 4, 2008, we entered into two credit facilities with an aggregate borrowing capacity of $3.6 million that is repayable in full
on January 4, 2010. One of these credit facilities has a borrowing limit of $3.0 million and is secured by our stock in our Plastic
Printing Professionals, Inc. subsidiary, and the other credit facility has a borrowing limit of $600,000 and is secured by our accounts
receivable, excluding the accounts receivable of our subsidiary Plastic Printing Professionals, Inc. As of December 31, 2008, we were
in default of both agreements due to a failure to pay interest when due. Both Fagenson & Co., Inc. and Patrick White have agreed to
waive the defaults through January 1, 2010.
On December 18, 2008, our wholly owned subsidiary, Secuprint, Inc., (dba DPI Secuprint, Inc.) entered a secured loan of up
to $900,000 to pay for most of the cash portion of the purchase price of our acquisition of the assets of DPI of Rochester, LLC. The
loan is due in December 2009 and is secured by all of the assets of DPI Secuprint.
If we cannot generate sufficient cash from operations or raise cash from other sources, including without limitation, fund-
raising through sales of equity, and if we cannot refinance the credit facilities, we may have to repay, in whole or in part, one or all of
the credit facilities with each credit facility's applicable collateral, which would have a material adverse effect on our financial position.
Due to our low cash balance and limited financing currently available to us, we may in the near future have a number of
obligations that we will be unable to meet without generating additional income or raising additional capital. If we cannot
generate additional income or raise additional capital in the near future, we may become insolvent, fail to obtain appropriate
relief from bankruptcy, be made bankrupt and/or our stock may become illiquid or worthless.
As of December 31, 2008, our cash balance was approximately $88,000, and our current liabilities totaled approximately
$3,486,000. In addition, we have long term debt of $2.5 million. If we a reach a point where we need additional funding and do not
receive sufficient financing or sufficient funds from our operations we may (i) liquidate assets, (ii) seek or be forced into bankruptcy
and/or obtain appropriate relief from bankruptcy and/or, (iii) continue operations, but incur material harm to our business, operations
or financial condition. These measures could have a material adverse effect on our ability to continue as a going
concern. Additionally, because of our financial condition, our Board of Directors has a duty to our creditors that may conflict with the
interests of our stockholders. Our Board of Directors may be required to make decisions that favor the interests of creditors at the
expense of our stockholders to fulfill its fiduciary duty. For instance, we may be required to preserve our assets to maximize the
repayment of debts versus employing the assets to further grow our business and increase shareholder value. If we cannot generate
enough income from our operations or are unable to locate additional funds through financing, we may not have sufficient resources
to continue operations.
Due to our low cash balance and negative cash flow, we may have to further reduce our costs by curtailing future
operations to continue as a business.
We have incurred significant net losses in previous years. Our ability to fund our capital requirements out of our available
cash and cash generated from our operations depends on a number of factors. Some of these factors include our ability to (i)
increase paper and plastic card sales and (ii) increase sales of our digital products. While we have approximately $700,000 as of
March 31, 2009, of funds available to us under our various credit facilities, we may need to raise additional funds in the future in order
to fund our working capital needs. These measures could include selling or consolidating certain operations or assets, and delaying,
canceling or scaling back product development and marketing programs. These measures could materially and adversely affect our
ability to operate profitably.
Our ability to effect a financing transaction to fund our operations could adversely affect the value of your stock.
If we seek additional financing through raising additional capital through public or private equity offerings or debt financing,
such additional capital financing may not be available to us on favorable terms and our stockholders will likely experience substantial
dilution. Material shortage of capital will require us to take steps such as reducing our level of operations, disposing of selected
assets, effecting financings on less than favorable terms or seeking protection under federal bankruptcy laws.
Our limited cash resources may not be sufficient to fund continuing losses from operations and the expenses of the current
patent validity and patent infringement litigations.
The cost to defend current and future litigation may be significant. We cannot assure you that the ultimate cost of current
known or future unknown litigation and claims will not exceed our current expectations and/or our ability to pay such costs and it is
possible that such litigation costs could have a material adverse effect on our business, financial condition and operating results. In
addition, litigation is time consuming and could divert management attention and resources away from our business, which could
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
adversely affect our business, financial condition and operating results.
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EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
If we lose our current litigation, we may lose certain of our technology rights, which may affect our business plan.
We are subject to litigation and alleged litigation, including without limitation our litigation with the European Central Bank, in
which parties allege, among other things, that certain of our patents are invalid. For more information regarding this litigation, see
Item 3- Legal Proceedings. If the ECB or other parties are successful in invalidating any or all of our patents, it may materially affect
us, our financial condition, and our ability to market and sell certain of our products based on any patent that is
invalidated. Furthermore, we have granted nearly all control over our ECB Litigation to a third party, Trebuchet Capital Partners,
LLC., who may or may not have the resources or capabilities to successfully defend our patent rights.
If we are unable to adequately protect our intellectual property, our competitive advantage may disappear.
Our success will be determined in part by our ability to obtain United States and foreign patent protection for our technology
and to preserve our trade secrets. Because of the substantial length of time and expense associated with developing new document
security technology, we place considerable importance on patent and trade secret protection. We intend to continue to rely primarily
on a combination of patent protection, trade secrets, technical measures, copyright protection and nondisclosure agreements with our
employees and customers to establish and protect the ideas, concepts and documentation of software and trade secrets developed
by us. Our ability to compete and the ability of our business to grow could suffer if these intellectual property rights are not
adequately protected. There can be no assurance that our patent applications will result in patents being issued or that current or
additional patents will afford protection against competitors. We rely on a combination of patents, copyrights, trademarks and trade
secret protection and contractual rights to establish and protect our intellectual property. Failure of our patents, copyrights,
trademarks and trade secret protection, non-disclosure agreements and other measures to provide protection of our technology and
our intellectual property rights could enable our competitors to more effectively compete with us and have an adverse effect on our
business, financial condition and results of operations. In addition, our trade secrets and proprietary know-how may otherwise
become known or be independently discovered by others. No guarantee can be given that others will not independently develop
substantially equivalent proprietary information or techniques, or otherwise gain access to our proprietary technology.
In addition, we may be required to litigate in the future to enforce our intellectual property rights, to protect our trade secrets,
to determine the validity and scope of the proprietary rights of others, or to defend against claims of infringement or invalidity. Any
such litigation could result in substantial costs and diversion of resources and could have a material adverse effect on our business,
financial condition or results of operations, and there can be no assurances of the success of any such litigation.
We may face intellectual property infringement or other claims against us, our customers or our intellectual property that
could be costly to defend and result in our loss of significant rights.
Although we have received U.S. Patents and a European Patent with respect to certain technologies of ours, there can be no
assurance that these patents will afford us any meaningful protection. Although we believe that our use of the technology and
products we developed and other trade secrets used in our operations do not infringe upon the rights of others, our use of the
technology and trade secrets we developed may infringe upon the patents or intellectual property rights of others. In the event of
infringement, we could, under certain circumstances, be required to obtain a license or modify aspects of the technology and trade
secrets we developed or refrain from using same. We may not have the necessary financial resources to defend an infringement
claim made against us or be able to successfully terminate any infringement in a timely manner, upon acceptable terms and
conditions or at all. Failure to do any of the foregoing could have a material adverse effect on us and our financial
condition. Moreover, if the patents, technology or trade secrets we developed or use in our business are deemed to infringe upon
the rights of others, we could, under certain circumstances, become liable for damages, which could have a material adverse effect
on us and our financial condition. As we continue to market our products, we could encounter patent barriers that are not known
today. A patent search will not disclose applications that are currently pending in the United States Patent Office, and there may be
one or more such pending applications that would take precedence over any or all of our applications.
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EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Furthermore, third parties may assert that our intellectual property rights are invalid, which could result in significant
expenditures by us to refute such assertions. If we become involved in litigation, we could lose our proprietary rights, be subject to
damages and incur substantial unexpected operating expenses. Intellectual property litigation is expensive and time-consuming, even
if the claims are subsequently proven unfounded, and could divert management’s attention from our business. If there is a successful
claim of infringement, we may not be able to develop non-infringing technology or enter into royalty or license agreements on
acceptable terms, if at all. If we are unsuccessful in defending claims that our intellectual property rights are invalid, we may not be
able to enter into royalty or license agreements on acceptable terms, if at all. This could prohibit us from providing our products and
services to customers, which could have a material adverse effect on us and our financial condition.
If our products and services do not achieve market acceptance, we may not achieve our revenue and net income goals in
the time prescribed or at all.
We are at the early stage of introducing our document security technology and products to the market. If we are unable to
operate our business as contemplated by our business model or if the assumptions underlying our business model prove to be
unfounded, we could fail to achieve our revenue and net income goals within the time we have projected, or at all, which could have a
material adverse effect on our business. As a result, the value of your investment could be significantly reduced or completely lost.
We cannot assure you that a sufficient number of such companies will demand our products or services or other document
security products. In addition, we cannot predict the rate of market’s acceptance of our document security solutions. Failure to
maintain a significant customer base may have a material adverse effect on our business.
Certain of our recently developed products are not yet commercially accepted and there can be no assurance that those
products will be accepted, which would adversely affect our financial results.
Over the past one to two years, we have spent significant funds and time to create new products by applying our
technologies onto media other than paper, including plastic and cardboard packaging, and delivered our technologies digitally. We
have had limited success in selling our products that are on cardboard packaging and those that are delivered digitally. Our business
plan for 2009 and beyond includes plans to incur significant marketing and sales costs for these newer products, particularly the
digitally delivered products. If we are not able to sell these new products, our financial results will be adversely affected.
The results of our research and development efforts are uncertain and there can be no assurance of the commercial
success of our products.
We believe that we will need to continue to incur research and development expenditures to remain competitive. The products
we currently are developing or may develop in the future may not be technologically successful. In addition, the length of our product
development cycle may be greater than we originally expect and we may experience delays in future product development. If our
resulting products are not technologically successful, they may not achieve market acceptance or compete effectively with our
competitors’ products.
Changes in document security technology and standards could render our applications and services obsolete.
The market for document security products, applications, and services is fast moving and evolving. Identification and
authentication technology is constantly changing as we and our competitors introduce new products, applications, and services, and
retire old ones as customer requirements quickly develop and change. In addition, the standards for document security are continuing
to evolve. If any segments of our market adopt technologies or standards that are inconsistent with our applications and technology,
sales to those market segments could decline, which could have a material adverse effect on us and our financial condition.
The market in which we operate is highly competitive, and we may not be able to compete effectively, especially against
established industry competitors with greater market presence and financial resources.
Our market is highly competitive and characterized by rapid technological change and product innovations. Our competitors
may have advantages over us because of their longer operating histories, more established products, greater name recognition,
larger customer bases, and greater financial, technical and marketing resources. As a result, they may be able to adapt more quickly
to new or emerging technologies and changes in customer requirements, and devote greater resources to the promotion and sale of
their products. Competition may also force us to decrease the price of our products and services. We cannot assure you that we will
be successful in developing and introducing new technology on a timely basis, new products with enhanced features, or that these
products, if introduced, will enable us to establish selling prices and gross margins at profitable levels.
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Our growth strategy depends, in part, on our acquiring complementary businesses and assets and expanding our existing
operations to include manufacturing capabilities, which we may be unable to do.
Our growth strategy is based, in part, on our ability to acquire businesses and assets that are complimentary to our existing
operations and expanding our operations to include manufacturing capabilities. We may also seek to acquire other businesses. The
success of this acquisition strategy will depend, in part, on our ability to accomplish the following:
·
·
·
·
identify suitable businesses or assets to buy;
complete the purchase of those businesses on terms acceptable to us;
complete the acquisition in the time frame we expect; and
improve the results of operations of the businesses that we buy and successfully integrate their operations into our
own.
Although we were able to successfully acquire our Plastic Printing Professionals, Inc. subsidiary in February 2006, there can
be no assurance that we will be successful in pursuing any or all of these steps on future transactions. Our failure to implement our
acquisition strategy could have an adverse effect on other aspects of our business strategy and our business in general. We may not
be able to find appropriate acquisition candidates, acquire those candidates that we find or integrate acquired businesses effectively
or profitably.
Our acquisition program and strategy may lead us to contemplate acquisitions of companies in bankruptcy such as our recent
DPI acquisition, which entail additional risks and uncertainties. Such risks and uncertainties include, without limitation, that, before
assets may be acquired, customers may leave in search of more stable providers and vendors may terminate key relationships. Also,
assets are generally acquired on an “as is” basis, with no recourse to the seller if the assets are not as valuable as may be
represented. Finally, while bankrupt companies may be acquired for comparatively little money, the cost of continuing the operations
may significantly exceed expectations.
We have in the past used, and may continue to use, our Common Stock as payment for all or a portion of the purchase price
for acquisitions. If we issue significant amounts of our Common Stock for such acquisitions, this could result in substantial dilution of
the equity interests of our stockholders.
If we fail to retain our key personnel and attract and retain additional qualified personnel, we might not be able to pursue
our growth strategy.
Our future success depends upon the continued service of our executive officers and other key sales and research personnel
who possess longstanding industry relationships and technical knowledge of our products and operations. The loss of any of our key
employees, in particular, Patrick White, our Chief Executive Officer and David Wicker, our Vice-President of Operations, could
negatively impact our ability to pursue our growth strategy and conduct operations. Although we believe that our relationship with
these individuals is positive, there can be no assurance that the services of these individuals will continue to be available to us in the
future. We have extended our employment agreements with Patrick White to June 2010. Our employment agreement with David
Wicker expires in June 2011. There can be no assurance that these persons will continue to agree to be employed by us after such
dates.
If we do not successfully expand our sales force, we may be unable to increase our revenues.
We must expand the size of our marketing activities and sales force to increase revenues. We continue to evaluate various
methods of expanding our marketing activities, including the use of outside marketing consultants and representatives and expanding
our in-house marketing capabilities. Going forward, we anticipate an increasing percentage of our revenues to come from the
licensing of our newer technologies, where profit margins are significantly higher than those provided by Security Paper. If we are
unable to hire or retain qualified sales personnel, if newly hired personnel fail to develop the necessary skills to be productive, or if
they reach productivity more slowly than anticipated, our ability to increase our revenues and grow could be compromised. The
challenge of attracting, training and retaining qualified candidates may make it difficult to meet our sales growth targets. Further, we
may not generate sufficient sales to offset the increased expense resulting from expanding our sales force or we may be unable to
manage a larger sales force.
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EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Future growth in our business could make it difficult to manage our resources.
Our anticipated business expansion could place a significant strain on our management, administrative and financial
resources. Significant growth in our business may require us to implement additional operating, product development and financial
controls, improve coordination among marketing, product development and finance functions, increase capital expenditures and hire
additional personnel. There can be no assurance that we will be able to successfully manage any substantial expansion of our
business, including attracting and retaining qualified personnel. Any failure to properly manage our future growth could negatively
impact our business and operating results.
We cannot predict our future capital needs and we may not be able to secure additional financing.
We may need to raise additional funds in the future to fund more aggressive expansion of our business, complete the
development, testing and marketing of our products, or make strategic acquisitions or investments. We may require additional equity
or debt financings, collaborative arrangements with corporate partners or funds from other sources for these purposes. No assurance
can be given that these funds will be available for us to finance our development on acceptable terms, if at all. Such additional
financings may involve substantial dilution of our stockholders or may require that we relinquish rights to certain of our technologies
or products. In addition, we may experience operational difficulties and delays due to working capital restrictions. If adequate funds
are not available from operations or additional sources of financing, we may have to delay or scale back our growth plans. In June
2008, we sold 350,000 shares for an aggregate purchase price of $1.4 million, with $100,000 paid at closing and the remaining $1.3
million payable in six-month installments over two years. If the Purchaser of such 350,000 does not pay some or all of such
remaining $1.3 million purchase price, we will have limited, if any, recourse against the purchaser other than recouping a pro-rata
amount of the 350,000 shares. As of March 31, 2009, the share subscription was not current and the Company is reviewing its
options under the agreement, which may include termination of the agreement. While we have approximately $700,000 as March 31,
2008 of funds available to us under our various credit facilities, we may need to raise additional funds in the future in order to fund
our working capital needs.
Risks Related to Our Stock
Provisions of our certificate of incorporation and agreements could delay or prevent a change in control of our company.
Certain provisions of our certificate of incorporation may discourage, delay, or prevent a merger or acquisition that a
stockholder may consider favorable. These provisions include:
·
·
the authority of the Board of Directors to issue preferred stock; and
a prohibition on cumulative voting in the election of directors.
We have a large number of authorized but unissued shares of common stock, which our management may issue without
further stockholder approval, thereby causing dilution of your holdings of our common stock.
As of December 31, 2008, there were approximately 185 million shares of authorized but unissued shares of our common
stock. Our management will continue to have broad discretion to issue shares of our common stock in a range of transactions,
including capital-raising transactions, mergers, acquisitions, for anti-takeover purposes, and in other transactions, without obtaining
stockholder approval, unless stockholder approval is required for a particular transaction under the rules of the NYSE Amex, New
York law, or other applicable laws. We currently have no specific plans to issue shares of our common stock for any purpose.
However, if our management determines to issue shares of our common stock from the large pool of such authorized but unissued
shares for any purpose in the future without obtaining stockholder approval, your ownership position would be diluted without your
further ability to vote on that transaction.
The exercise of our outstanding options and warrants and vesting of restricted stock awards may depress our stock price.
As of December 31, 2008, there were outstanding stock options and warrants to purchase an aggregate of 1,424,532 shares
of our Common Stock at exercise prices ranging from $1.60 to $12.65 per share. To the extent that these securities are exercised,
dilution to our stockholders will occur. In addition, as of December 31, 2008, there were 327,781 restricted shares of our common
stock that are subject to various vesting terms. To the extent that these securities vest, dilution to our stockholders will
occur. Moreover, the terms upon which we will be able to obtain additional equity capital may be adversely affected, since the
holders of these securities can be expected to exercise or convert them at a time when we would, in all likelihood, be able to obtain
any needed capital on terms more favorable to us than the exercise and conversion terms provided by those securities.
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16
Sales of these shares in the public market, or the perception that future sales of these shares could occur, could have the
effect of lowering the market price of our common stock below current levels and make it more difficult for us and our stockholders to
sell our equity securities in the future.
Sale or the availability for sale of shares of common stock by stockholders could cause the market price of our common stock
to decline and could impair our ability to raise capital through an offering of additional equity securities.
We do not intend to pay cash dividends.
We do not intend to declare or pay cash dividends on our common stock in the foreseeable future. We anticipate that we will
retain any earnings and other cash resources for investment in our business. The payment of dividends on our common stock is
subject to the discretion of our Board of Directors and will depend on our operations, financial position, financial requirements, general
business conditions, restrictions imposed by financing arrangements, if any, legal restrictions on the payment of dividends and other
factors that our Board of Directors deems relevant.
We may not meet the continued listing standards of the NYSE AMEX
The Company received notice from the NYSE Amex (formerly NYSE Alternext US) on December 2, 2008 that based on a
review of our Form 10-Q for the period ended September 30, 2008, the Company did not meet certain of the Exchange’s continued
listing standards related to stockholders’ equity as set forth in Part 10 of the NYSE Amex Company Guide. The Company was
afforded the opportunity to submit a plan of compliance to the Exchange and on January 9, 2009 presented its plan to the Exchange.
On January 29, 2009, the Exchange notified the Company that it accepted the Company’s plan of compliance and granted the
Company an extension until June 2, 2010 to regain compliance with the continued listing standards and that its listing is being
continued pursuant to this extension. The Company will be subject to periodic review by Exchange Staff during the extension period.
Failure to make progress consistent with the plan or to regain compliance with the continued listing standards by the end of the
extension period could result in the Company being delisted from the Exchange. There is no guarantee that the Company will be
able to regain compliance to the listing standards and therefore, the Company’s common shares may no longer be able to be traded,
which could cause the market price of our common stock to decline and could impair our ability to raise capital through an offering of
additional equity securities.
ITEM 2 - PROPERTIES
Our administrative offices are approximately 4,700 square feet and are located in the First Federal Plaza Building, 28 East
Main Street, Rochester, New York 14614 which we occupy under a lease that will expire in 2011, Our plastic printing division leases
approximately 25,000 square feet in Brisbane, CA in a lease that will expire in July 2014. Our Legal Supplies group rents
approximately 5,000 square feet in Rochester, NY under a leases expiring in 2010. DPI Secuprint, our commercial printing group
leases an approximately 20,000 square foot facility in Rochester, NY under a lease expiring in 2013. We believe that our facilities
are adequate for our current operations. The Company also believes that it can negotiate renewals or similar lease arrangements on
acceptable terms when our current leases expire.
ITEM 3 - LEGAL PROCEEDINGS
On August 1, 2005, we commenced a suit against the European Central Bank (“ECB”) alleging patent infringement by the
ECB and claimed unspecified damages. We brought the suit in the European Court of First Instance in Luxembourg. We alleged that
all Euro banknotes in circulation infringe the Company European Patent 0 455 750B1 (the “Patent”), which covers a method of
incorporating an anti-counterfeiting feature into banknotes or similar security documents to protect against forgeries by digital
scanning and copying devices. The Court of First Instance ruled on September 5, 2007 that it does not have jurisdiction to rule on the
patent infringement claim, and also ruled that we will be required to pay attorneys and court fees of the ECB. The ECB formally
requested the Company to pay attorneys and court fees in the amount of Euro 93,752 ($132,000 as of December 31, 2008), which,
unless the amount is settled will be subject to an assessment procedure that will not likely be concluded until approximately the
middle of 2009, which the Company will accrue as soon as the assessed amount, if any, is reasonably estimatable.
17
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
On March 24, 2006, we received notice that the ECB has filed a separate claim in the United Kingdom and Luxembourg
courts seeking the invalidation of the Patent. Proceedings were commenced before the national courts seeking revocation and
declarations of invalidity of the Patent in each of the Netherlands, Belgium, Italy, France, Spain, Germany and Austria. On March 26,
2007, the High Court of Justice, Chancery Division, Patents Court in London, England (the “English Court”) ruled that the Patent was
deemed invalid in the United Kingdom, and on March 19, 2008 this decision was upheld on appeal. The English Court rejected the
ECB’s allegations of invalidity based on lack of novelty, lack of inventive step and insufficiency, but held that the patent was invalid for
added subject matter. The English Court’s decision does not affect the validity of the Patent in other European countries. On March
30, 2007, the English Court awarded the ECB 30% of their costs (including legal fees) of the initial trial, of which the Company paid
90,000 British pounds ($182,000 based on the applicable exchange rate on that date) on April 19, 2007. We expect that an
additional 90,000 pounds ($130,500 at December 31, 2008) will become payable by the Company for the costs of the initial trial,
which is included in accrued expenses as of December 31, 2008 in the amount of $182,250. In July 2007, the Company posted a
bond of 87,500 British pounds ($131,000 at December 31, 2008), as collateral for the appeal costs which is recorded as restricted
cash at December 31, 2008. On June 19, 2008, the Company paid an additional 87,500 British pounds ($177,000 based on the
applicable exchange rate on that date) towards the ECB’s costs of the English appeal. In January 2009, the Company received a
formal request for fee reimbursement from the ECB for a total of $420,000, in addition to amounts already paid by the Company. The
Company hired an independent firm to assist the Company in reducing or eliminating the ECB’s fees request, however, the
Company recorded $145,000 as an impairment loss and as additional accrued expenses as of December 31, 2008. The Company
expects that the UK fee issue will be resolved in second half of 2009.
On March 27, 2007 the Bundespatentgericht of the Federal Republic of Germany ruled that the German part of the Patent
was valid, having considered the English Court’s decision. As a result of this ruling, the Company expects to be awarded
reimbursements for its costs associated with the German validity case, which is Euro 44,692 ($65,000 at December 31, 2008), which
the Company will record when the amount, if any, is received. The ECB has filed an appeal against that decision, which is not
expected to be decided before 2010. On January 9, 2008 the French Court held that the Patent was invalid in France for the same
reasons given by the English Court. The Company is required to pay de minimus attorneys’ fees of the ECB as a result of the French
decision. The Company filed an appeal against the French decision on May 7, 2008. On March 12, 2008 the Dutch Court, having
considered the English, German and French decisions, ruled that the Patent is valid in the Netherlands. The ECB filed an appeal
against the Dutch decision on March 27, 2008. A trial was also held in Madrid, Spain on June 3 and 5, 2008 and oral and written
closing submissions were made on July 19, 2008. A judgment is expected in the first half of 2009.
The Patent has thus been confirmed to be valid and enforceable in two jurisdictions (Germany and the Netherlands) that use
the Euro as its national currency allowing us to proceed with infringement cases in these countries if we choose to do so. Additional
trials on the validity of the Patent are expected in other European jurisdictions in 2009.
On August 20, 2008, the Company entered into an agreement with Trebuchet Capital Partners, LLC (“Trebuchet”) under
which Trebuchet has agreed to pay substantially all of the litigation costs associated with pending validity proceedings initiated by the
European Central Bank (“ECB”) in eight European countries relating to the Company’s European Patent 0 455 750B1 that the
Company has claimed the ECB infringed in printing of the Euro currency (the “Patent”). Trebuchet also agreed to pay substantially all
of the litigation costs associated with future validity challenges filed by the ECB or other parties, provided that Trebuchet elects to
assume the defense of any such challenges, in its sole discretion, and patent infringement suits filed against the ECB and certain
other alleged infringers of the Patent, all of which suits may be brought at the sole discretion of Trebuchet and may be in the name of
the Company, Trebuchet or both. The Company provided Trebuchet with the sole and exclusive right to manage infringement
litigation relating to the Patent in Europe, including the right to initiate litigation in the name of the Company, Trebuchet or both and to
choose whom and where to sue, subject to certain limitations set forth in the agreement. In addition, the Company and Trebuchet
have agreed to equally share all proceeds generated from litigation relating to the Patent, Under the terms of the Agreement, and in
consideration for the Trebuchet's funding obligations, the Company assigned and transferred a 49% interest of the Company's rights,
title and interest in the Patent to Trebuchet which allows Trebuchet to have a separate and distinct interest in and share of the Patent,
along with the right to sue and recover in litigation, settlement or otherwise to collect royalties or other payments under or on account
of the Patent including judgments and licenses or other arrangements entered into in settlement of any such litigation. Trebuchet is
also entitled to recoup any litigation expenses specifically awarded to the Company in such actions.
On January 31, 2003, the Company commenced an action, unrelated to the above ECB litigation, entitled New Sky
Communications, Inc., As Successor-In-Interest To Thomas M. Wicker, Thomas M.Wicker Enterprises, Inc. and Document Security
Consultants V. Adler Technologies, Inc. N/K/A Adlertech International, Inc. and Andrew McTaggert (United States District Court,
Western District Of New York Case No.03-Cv-6044t(F)) regarding certain intellectual property in which the Company has an interest.
The Company commenced this action alleging various causes of action against Adler Technologies, Inc. and Andrew McTaggert for
breach of contract, breach of the duty of good faith and fair dealing, various business torts, including unfair competition and
declaratory relief. Adler distributes and supplies anti-counterfeit document products and Mr. McTaggert is a principal of Adler. Adler
had entered into several purported agreements with Thomas M. Wicker Enterprises and Document Security Consultants, both of
which the Company acquired in 2002. These alleged agreements, generally, would have authorized Adler to manufacture in Canada
the Company’s “Checkmate®” patented system for verifying the authenticity of currency and documents. Other purported agreements
were signed between these parties and Thomas Wicker regarding other technology claimed to have been owned by Wicker and
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
assigned to the Company. Among other things, the Company contends that certain of the purported agreements are not binding
and/or enforceable. To the extent any of them are binding and enforceable, the Company claims that Adler has breached these
purported agreements, failed to make an appropriate accounting and payments under them, and may have exceeded the scope of its
license. Adler has denied the material allegations of the complaint and has counterclaimed against the Company, claiming Adler
owns or co-owns or has a license to use certain of the Company’s technologies. In May 2005, the Company filed a first amended and
supplemental complaint adding Blanks/USA and Raymond Maxon as additional defendants. In February 2007, the Company filed a
second amended and supplemental complaint adding Judith Wu (McTaggert’s wife) and Arcis Digital Security, Inc. (a company in
which Ms. Wu is involved) as additional defendants. Maxon has asserted a counterclaim against the Company contending that the
Company’s purported acquisition of a certain patent from Thomas Wicker in 2002 gave rise to an alleged right on the part of Maxon to
receive a portion of Thomas Wicker’s proceeds from such acquisition. The Company has denied the material allegations of all of the
counterclaims. If Adler or Maxon is successful, it may materially affect the Company, the Company’s financial condition, and the
Company’s ability to market and sell certain of the Company technology and related products. This case is in discovery phase, and it
is too soon to determine how the various issues raised by the lawsuit will be determined.
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EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
In addition to the foregoing, we are subject to other legal proceedings that have arisen in the ordinary course of business and
have not been finally adjudicated. Although there can be no assurance in this regard, in the opinion of management, none of the
legal proceedings to which we are a party, whether discussed herein or otherwise, will have a material adverse effect on our results
of operations, cash flows or our financial condition.
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders in the fourth quarter of 2008.
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EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
PART II
ITEM 5 - MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES
OF EQUITY SECURITIES
Our Common Stock is listed on the American Stock Exchange, where it trades under the symbol “DMC.”
The following table sets forth the high and low closing prices for the shares of our Common Stock, for the periods indicated.
QUARTER ENDING
March 31, 2008
June 30, 2008
September 30, 2008
December 31, 2008
QUARTER ENDING
March 31, 2007
June 30, 2007
September 30, 2007
December 31, 2007
$
$
HIGH
6.85 $
6.87
5.25
4.40
HIGH
11.95 $
13.79
14.65
11.20
LOW
4.20
4.68
4.83
1.40
LOW
8.60
10.85
10.34
5.32
On March 27, 2009, our Common Stock had a high of $1.70 and a low of $1.65 and a closing price of $1.65.
Issued and Outstanding
Our certificate of incorporation authorizes 200,000,000 shares of Common Stock, par value $0.02. As of March 26, 2009, we
had 14,697,556 shares of Common Stock, issued of which 14,375,060 were outstanding.
Recent Issuances of Unregistered Securities
On December 18, 2008, the Company issued a warrant to purchase up to a total of 250,000 shares of the Company's
common stock to Baum Capital Investments Inc. ("Baum") in connection with the financing of the Company's acquisition of DPI of
Rochester, LLC. As part of the financing, the Company entered a Secured Promissory Note in the principal amount of up to $900,000
with Baum and concurrently issued Baum the warrant. The note has a one-year term, is secured by all of the assets of DPI Secuprint
and has an annual interest rate of 15%, with a reduction to 12%, depending on whether certain conditions are met after three months.
The warrants have an average exercise price of $2.00 per share, are exercisable from February 16, 2009 and expire on December
17, 2013. The fair value of the warrants of approximately $256,000 was determined using the Black Scholes option pricing model, and
was recorded as discount on debt and will be amortized over the term of the Note. The note and warrant were issued in a transaction
not involving a public offering and exempt from registration pursuant to Section 4(2) of the Securities Act of 1933. Baum was
knowledgeable about the Company's operations and financial condition and had access to such information. The transaction did not
involve any form of general solicitation. The note, warrant and the underlying warrant shares issued are restricted from resale.
Stockholders
As of March 26, 2009, we had approximately 1,462 record holders of our Common Stock. This number does not include the number
of persons whose shares are in nominee or in “street name” accounts through brokers.
Dividends
We did not pay dividends during 2008 or 2007. We presently intend to retain our cash for use in the operation and expansion
of our business and, therefore, do not anticipate paying any cash dividends in the foreseeable future.
Stock Transfer Agent and Warrant Agent
Our stock transfer agent is American Stock Transfer & Trust Co., 6201 15th Avenue, Brooklyn, NY 11219. We act as our own
warrant agent for our outstanding warrants.
Share Repurchased by the Registrant
We did not purchase or repurchase any of our securities in the fiscal year ended December 31, 2008, including the fourth
quarter.
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
The information required by Item 201(d) of Regulation S-K will be contained in our Proxy Statement for our Annual Stockholders
Meeting, which we will file with the Securities and Exchange Commission within 120 days after December 31, 2008, and which is
incorporated by reference herein.
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EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
ITEM 7 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Forward-Looking Statements
This Annual Report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934, including statements that contain the words “believes,” “anticipates,” “expects,”
“plans,” “intends” and similar words and phrases. These forward-looking statements are subject to risks and uncertainties that could
cause actual results to differ materially from the results projected in any forward-looking statement. In addition to the factors
specifically noted in the forward-looking statements, other important factors, risks and uncertainties that could result in those
differences include, but are not limited to, those discussed under Part I, Item 1A “Risk Factors” in this Annual Report. The forward-
looking statements are made as of the date of this Annual Report, and we assume no obligation to update the forward-looking
statements, or to update the reasons why actual results could differ from those projected in the forward-looking statements. Investors
should consult all of the information set forth in this report and the other information set forth from time to time in our reports filed with
the Securities and Exchange Commission pursuant to the Securities Exchange Act of 1934, including our reports on Forms 10-Q and
8-K.
The following discussion should be read in conjunction with the Consolidated Financial Statements and Notes thereto
included in Item 8 of this Annual Report.
Overview
Document Security Systems, Inc., markets and sells products designed to protect valuable information from unauthorized
scanning, copying, and digital imaging. We have developed security technologies that are applied during the normal printing process
and by all printing methods including traditional offset, gravure, flexo, digital or via the internet on paper, plastic, or packaging. We
hold eight patents that protect our technology and have over a dozen patents in process or pending. Our technologies and products
are used by federal, state and local governments, law enforcement agencies and are also applied to a broad variety of industries as
well, including financial institutions, high technology and consumer goods, entertainment and gaming, healthcare/pharmaceutical,
defense and genuine parts industries. Our customers use our technologies where there is a need for enhanced security for protecting
and verification of critical financial instruments and vital records, or where there are concerns of counterfeiting, fraud, identity theft,
brand protection and liability.
We have developed or acquired over 30 technologies that provide to our customers a wide spectrum of solutions. We sell
our products under the AuthentiGuard® name generally in the following ways: (a) as generic products, including safety paper and
plastic cards geared for the end user market for printed security products; (b) as custom printed products; (c) as technology licenses;
or (d) as customized digital implementations.
In 2006, we acquired San Francisco-based Plastic Printing Professionals, Inc. (“P3”), a privately held security printer
specializing in plastic cards containing state of the art multiple or singular security technologies. P3’s primary focus is manufacturing
long-life composite, laminated and surface printed cards which can include magnetic stripes, bar codes, holograms, signature panels,
invisible ink, micro fine printing, guilloche patterns, Biometric, RFID and a patent-pending watermark technology. P3’s products are
marketed through an extensive broker network that covers much of North America, Europe and South America. P3’s product and
client list includes the Grammy Awards, the Country Music Association awards, sporting event media cards, ID cards for major
airports and Latin American and African driver’s licenses. Our acquisition of P3 marked the initial execution of our strategy to expand
our manufacturing capabilities through acquisitions in order to expand our custom security printing business. During 2007, we moved
P3’s operation to a 25,000 square foot facility and upgraded some of its equipment, most notably with a significant investment in a
new state of the art laminator. These actions were taken in order to significantly increase the capacity and efficiency of the operation
to meet expected future demand requirements. During 2007, we sold the assets of our retail printing and copying division, called
Patrick Printing, to an unrelated third party to further improve our focus and efficiency.
On August 20, 2008, we entered into an agreement with Trebuchet Capital Partners, LLC in which Trebuchet agreed to pay
substantially all of the litigation costs associated with pending litigation proceedings initiated by the European Central Bank in eight
European countries relating to the Company’s European Patent 0 455 750B1 that the Company has claimed the ECB infringed in
printing of the Euros currency in exchange for a 50% share of any proceeds generated from the litigation. Under the terms of the
agreement, and in consideration for Trebuchet’s funding obligations, the Company assigned and transferred a 49% interest of the
Company’s rights, title and interest in the Patent to Trebuchet which allows Trebuchet to have as a separate and exclusive interest
including a separate and distinct right to exploit the Patent.
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EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
In December 2008, we acquired substantially all of the assets of DPI of Rochester, LLC, a million privately held commercial
printer with approximately $7.6 million in sales in 2007 located in Rochester, NY. We formed a new subsidiary called DPI Secuprint
to house this new company. As a result of this acquisition, we have significantly improved our ability to meet our current and
expected future demand of our security paper products as well as improving our competitiveness in the market for custom security
printing, especially in the areas of vital records, coupons, transcripts, and prescription paper. In addition, as a result of the
acquisition, we believe we can offer our customers a wider range of commercial printing offerings.
During 2008, we placed approximately $600,000 of leased equipment into service at our plastic printing division to
significantly increase the production capability and expand its services in the variable data card and RFID markets. These leases
were accounted for as operating leases.
RESULTS OF OPERATIONS FOR THE FISCAL YEARS ENDED DECEMBER 31, 2008 AND 2007
The following discussion and analysis provides information that our management believes is relevant to an assessment and
understanding of our results of operations and financial condition. All amounts have been adjusted to reflect the Company’s results
after effect of the discontinued operations. On September 25, 2007, the Company sold its copying and quick-printing business to a
private investor. In accordance with FASB 144, the Company accounts for the revenue and expenses of this operation, which is a
component of its security and commercial printing segment, as a discontinued operation. In December 2008, we acquired
substantially all of the assets of DPI of Rochester, LLC, a $7.6 million privately held commercial printer located in Rochester, NY with
approximately $7.6 million in sales in 2007. We formed a new subsidiary called DPI Secuprint to house this new company. DPI
Secuprint’s results for the period from December 19, 2008 to December 31, 2008 are included in 2008 amounts. The discussion
should be read in conjunction with the financial statements and footnotes that appear elsewhere in this report.
Revenue
Revenue
Security and commercial printing
Technology license royalties
Digital solutions
Legal products
Total Revenue
Year Ended
December 31, 2008
Year Ended
December 31,
2007
% change vs.
2007
$
4,387,000 $
1,614,000
33,000
610,000
6,644,000
3,913,000
1,195,000
201,000
682,000
5,991,000
12%
35%
-84%
-11%
11%
Revenue - 2008 vs 2007: The increase in total revenue in 2008 compared to 2007 resulted primarily from increases in royalty
revenue from the licensing of the Company’s technology, and from increases in sales of security and commercial printing. These
increases were offset by a decrease in digital solutions revenue as the Company did not have any one significant sale of its digital
solutions product line as it had in 2007. Through the first nine months of 2008, revenue had increased 23% compared to the first nine
months of 2007 primarily as a the result of the significant impact of royalty revenue recognized in the second quarter of 2008 along
with a 24% growth in the company’s sales of its security and commercial printing. However, during the fourth quarter of 2008,
revenue decreased 21% as compared to 2007 as the Company experienced declines in all of its major revenue categories. The
Company believes its fourth quarter results reflected the negative impact of the significant downturn in the overall world economic
climate that occurred during the fourth quarter of 2008.
During the second quarter of 2008, the Company recognized approximately $542,000 of previously deferred royalty revenue
as the result of a new agreement with the Ergonomic Group in April 2008. Under a previous agreement with the Ergonomic Group,
the Company received $1,000,000 in non-refundable license and royalty fees, of which $500,000 was recognized as royalty revenue
pro-ratably over a two year license period and the remaining $500,000 was considered a prepaid royalty, to be recognized as
revenue when sales of products using the licensed technology were made. This agreement was cancelled and a new agreement
with the Ergonomic Group that covers the Company’s newest digital technologies was established. As a result, the non refundable
license and royalty payment no longer met the criteria for deferral and was recognized in the second quarter of 2008.
22
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Legalstore.com saw an approximately 11% decline in revenue during 2008, which we believe was due to slowing conditions
in the general economy along with the effects of an issue with its adwords on one of the major search engine sites that caused it to
lose some of its prominent placement for certain keywords during the latter half of 2008 The Company believes that it has
addressed this issue with its new website which went live on January 2, 2009.
Gross profit
Costs of revenue
Security and commercial printing
Digital Solutions
Legal products
Total cost of revenue
Gross profit
Security and commercial printing
Technology license royalties
Digital solutions
Legal products
Total gross profit
Gross profit percentage:
Gross profit percentage:
Gross Profit - 2008 vs 2007
Year Ended
December 31, 2008
Year Ended
December 31,
2007
% change vs.
2007
$
$
2,663,000
14,000
352,000
3,029,000
2,466,000
44,000
354,000
2,864,000
1,724,000
1,614,000
19,000
258,000
3,615,000
1,447,000
1,195,000
157,000
328,000
3,127,000
8%
-68%
-1%
6%
19%
35%
-88%
-21%
16%
Year Ended
December 31, 2008
Year Ended
December 31,
2007
% change vs.
2007
54%
52%
4%
Gross profit increased 16% to $3,615,000 during 2008 as compared to 2007. The percentage increase in gross profit
surpassed the percentage increase in revenue during the same period primarily the result of increase in royalty revenue, which has
the highest gross profit margin, along with the ability of the Company to increase its margins through operating efficiencies and
material cost savings that the Company was able to generate at its plastics division’s new facility. There are no direct costs
associated with the Company’s license royalty revenue, as any related costs, such as sales commissions, legal fees, and travel fees,
are classified in their respective operating expense categories. Legalstore.com experienced a significant decline in margins as that
division was impacted by a decline in sales against certain fixed costs of sales, along with a change in sales mix to items that sell at
lower markups. The Legalstore division went live with a new e-commerce website that we believe will provide it with improved sales
analytic capabilities that the Company expects help it improve its margins in 2009.
23
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Operating Expenses
Year Ended
December 31, 2008
Year Ended
December 31,
2007
% change vs.
2007
Selling, general and administrative
General and administrative compensation
Professional Fees
Sales and marketing
Research and development
Other
Other Operating Expenses
Depreciation and amortization
Stock based payments
Impairment of patent defense costs and other intangible assets
Amortization of intangibles
$
$
2,196,000
896,000
1,089,000
432,000
1,337,000
5,950,000
167,000
1,747,000
797,000
1,972,000
4,683,000
2,023,000
1,404,000
1,974,000
420,000
1,129,000
6,950,000
89,000
1,355,000
-
1,754,000
3,198,000
Total Operating Expenses
10,633,000
10,148,000
Selling, General and Administrative – 2008 vs 2007
9%
-36%
-45%
3%
18%
-14%
88%
29%
12%
46%
5%
General and administrative compensation costs were 9% higher in 2008 as compared to 2007 which primarily reflects an
increase in the cash compensation of the non-employee members of the Company’s board of directors, a full year of the Company’s
legal counsel, who was hired during 2007, increases in health insurance costs, and the impact of the addition of general
administrative personnel from the Company’s acquisition which occurred on December 18, 2008.
Professional Fees
Professional Fees Detail
Accounting and auditing
Consulting
Legal
Stock Transfer, SEC and Investor Relations
Year Ended
December 31, 2008
Year Ended
December 31,
2007
% change vs.
2007
$
$
259,000
384,000
94,000
159,000
896,000
$
$
326,000
447,000
347,000
284,000
1,404,000
-21%
-14%
-73%
-44%
-36%
The decrease in professional fees during 2008 reflect significant decreases in non-patent related legal fees, accounting fees,
and the impact of the fact that the Company utilized in-house counsel, who’s salary is classified as administrative compensation, for
all of 2008, as compared to partially in 2007. In addition, stock transfer and investor relations fees reduced as the Company reduced
its annual report and meeting fees during 2008. Accounting fee reductions reflect reduced SEC compliance costs. Legal costs do
not include approximately $700,000 of legal and related costs incurred during 2008 ($2,033,000 -2007) associated with the
application and defense of our patents, which the Company capitalizes and amortizes over the expected life of the patent.
Sales and marketing expenses, including sales and marketing personnel costs, decreased during 2008 as the Company reduced
sales and marketing headcount by four, reduced public relations and marketing costs and significantly reduced the amount spent on
travel and entertainment. The Company reduced these costs as it realigned its sales process in order to maximize the results of its
sales and marketing efforts with the goal of focusing of near term revenue opportunities.
24
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Other expenses are primarily rent and utilities, office supplies, IT support, bad debt expense and insurance costs. Increases
in 2008 reflect costs increases associated with an increase in rent costs and one time costs associated with the move of the
Company’s plastic printing division to a larger facility, higher utility costs, an increase in insurance costs, and the addition of rent,
insurance and office costs from the Company’s acquisition which occurred on December 18, 2008.
Stock Based Payments
Stock-based compensation includes expense charges for all stock-based awards to employees, directors and
consultants. Such awards include option grants, warrant grants, and restricted stock awards. Stock-based compensation increases
in year ended December 31, 2008 reflect equity-based payments made to employees, directors, and third-party consultants, including
approximately $194,000 of expense as the result of the acceleration of vesting of restricted shares and $18,000 due to the
modification of options to the Company’s former President as the result of his separation from the Company in May 2008. In
addition, on August 13, 2008, the Company cancelled 330,500 employee stock options with exercise prices ranging from $6.24 to
$12.50, and replaced the cancelled options with 330,500 employee stock options with an exercise price of $6.00. No other terms of
the options were modified. On the date of grant, the fair market value of the Company’s Common Stock was $5.15. The repricing
was treated as a modification under FAS123R, and resulted additional aggregate fair value expense determined using the Black-
Scholes option pricing model of approximately $225,000, of which approximately $170,000 was expensed as of the grant date for
fully vested options. The remaining fair value of the modified options will be expense proratably during the expected vesting period of
the options thru 2010.
In addition, on May 3, 2007, the Company granted a total of 445,000 restricted shares to certain members of senior
management, of which 250,000 were retired unvested in 2008. These shares only vest upon the occurrence of certain events over
the next 5 years, which include a change of control or other merger or acquisition of the Company, the achievement of certain
financial goals, including among other things, a successful result of the Company’s patent infringement suit against the European
Central Bank. Of the remaining 195,000 restricted shares remaining under this grants, these shares, if vested, would result in the
recording of stock based compensation expense of approximately $2,438,000 in the period in which any of the contingent vesting
events is deemed to be probable. As of December 31, 2008 and 2007, vesting was not considered probable and no compensation
expense has been recognized for these grants.
Amortization of intangibles
Amortization of intangibles expense increased 12% in 2008 as compared to 2007 due to the increase in the patent defense
costs capitalized by the Company during the latter half of 2007 and the first half of 2008. We amortize the costs associated with
patent rights that we acquired in 2005 and legal costs associated with the registration and defense of our patents, including the costs
associated with our lawsuit against the ECB for patent infringement and the related ECB countersuits for patent validity. The
Company considers patent related amortization expense as an operating expense. The company believes that the decision to incur
patent costs is discretionary as the associated products or services can be sold prior to or during the application process. A significant
portion of these assets were acquired by the issuance of equity-based instruments. On August 20, 2008, the Company entered into
an agreement with Trebuchet Capital Partners, LLC, which agreed to pay substantially all of the litigation costs associated with its
ECB litigation. Under the terms of the Agreement, and in consideration for Trebuchet’s funding agreement, the Company assigned
and transferred a 49% interest of all the Company’s right, title and interest in the Patent to Trebuchet which allows Trebuchet to have
a separate and exclusive interest including a separate and distinct right to exploit the Patent. In addition, the two parties agreed to
equally share all proceeds generated from litigation relating to the Patent, including judgments and licenses or other arrangements
entered into in settlement of any such litigation. The Company considered this a triggering event and reviewed its remaining
capitalized patent costs related to the Patent for impairment as of September 30, 2008. The Company also reviewed its capitalized
patent costs for impairment at December 31, 2008 at which time, the Company determined that the expected eventual outcome of the
legal action and recoverability of proceeds or added economic value of the patent was still in excess of the current carrying amount.
In addition, the Company has approximately $261,000 of net other intangible assets as of December 31, 2008 that consist of
a royalty right and well as acquired intangibles including customer lists and a trade name. These assets will generate approximately
$130,000 of annual amortization expense during the next 2 years. We account for this amortization as an operating expense, unless
the underlying asset is directly associated with the production or delivery of a product. To date, the amount of related amortization
expense for other intangible assets directly attributable to revenue recognized is not material. In addition, the Company has
approximately $1,397,000 in goodwill derived from acquisitions. Goodwill is not amortized, but could become a component of
expense if an impairment is determined.
25
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Impairment of Patent Defense Costs and Other Intangible Assets
On March 19, 2008, the Company received notification that its appeal of the invalidation of its European Patent 455750B1 in
the UK was not successful. As result of the adverse court decision, the Company recognized an impairment loss of $292,000
associated with costs directly related to the U.K appeal as of March 31, 2008. The impairment loss includes a judgment for
reimbursement of estimated counterpart legal fees. In January, 2009, the Company received a formal request for fee reimbursement
from the ECB for a total of $420,000 in additon to amounts already paid by the Company. The Company hired an independent firm to
assist the Company in reducing or eliminating the ECB’s fees request, however, the Company recorded $145,000 as additional
accrued expenses and an impairment loss as of December 31, 2008. The Company expect that the UK fee issue will be resolved in
second half of 2009. In addition, the Company recorded an impairment of $361,000 for a license agreement the Company had
acquired in 2006 for RSS Barcodes for which the Company assessed that the probable future cash flows derived from the license did
not support the net carrying value of the license as of December 31, 2008.
Other Income and expense
On May 31, 2008, the Company was awarded a judgment of approximately $126,000 pursuant to a counterclaim by the
Company in the matter “Frank LaLoggia v. Document Security Systems, Inc”, which the Company won in June 2006. The Company
expects to collect the full amount of the judgment.
On August 20, 2008, the Company entered into an agreement with Trebuchet Capital Partners, LLC Pursuant to the
Agreement, Trebuchet has agreed to pay substantially all of the litigation costs associated with pending validity proceedings initiated
by the European Central Bank in eight European countries relating to the Company’s European Patent 0 455 750B1 that the
Company has claimed the ECB infringed in printing of the Euros currency. Under the terms of the Agreement, and in consideration for
Trebuchet’s funding agreement, the Company assigned and transferred a 49% interest of all the Company’s right, title and interest in
the Patent to Trebuchet which allows Trebuchet to have a separate and exclusive interest including a separate and distinct right to
exploit the Patent. Pursuant to this transaction, the Company recognized a loss on the sale of patent assets for its assignment and
transfer of 49% of its ownership rights in the patent, which had a net book value of approximately $1,670,000, for $500,000. As a
result, the Company recognized a loss on sale of patent assets of $1,170,000.
During 2008, the Company had significant increase in interest expense as a result of the Company’s borrowings it made
during 2008 against its various credit facilities, along with interest associated with several capital leases the Company entered into in
late 2007. As of December 31, 2008, the Company had $3.2 million of total debt at interest rates ranging from prime plus 2% to 15%.
Discontinued operations
On September 25, 2007, the Company sold certain assets and the operations of its retail copying and quick-printing operations
to an unrelated third party for $80,000 and the assumption of ongoing operating leases. The sale included fixed assets with a net
book value of approximately $37,000. The Company recognized a gain on the sale of approximately $43,000. In accordance with
SFAS 144, the disposal of assets constitutes a component of the entity and has been accounted for as discontinued operations.
Net loss and loss per share
Years Ended December 31,
2008
2007
% change vs.
2007
Net loss
(8,285,000) (6,987,000)
Net loss per share, basic and diluted
(0.59)
(0.51)
19%
16%
Weighted average common shares outstanding, basic
and diluted
14,002,034 13,629,877
3%
Net loss and loss per share - 2008 vs 2007
During 2008, the Company experienced a net loss of $8.3 million, a 19% increase from the net loss of 2007. The increase in
net loss during 2008 was primarily the result of the Company’s recognition of a non-recurring loss on the sale of patent assets of $1.2
million and impairment of assets of $797,000. Otherwise, net loss for 2008 without the impact of these non-recurring items would
have been approximately $6.3 million, a decrease of approximately 10% from 2007. The improvement in net loss, other than the
effect of the one-time loss on sale of patent, was due to the Company’s ability to increase its sales and gross profits while reducing its
selling and general operating expenses.
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
26
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Our basic and diluted loss per share has increased due to the increased dollar value of our loss partially offset by an increase
in the weighted average common shares outstanding in 2008 compared to 2007. Our shares have increased as we have issued
shares pursuant to the private placements of our common stock, including subscribed shares, that occurred during 2008.
Acquisition
On December 18, 2008, we acquired through a wholly owned subsidiary, Secuprint Inc. (dba DPI Secuprint, Inc.) acquired
substantially all of the assets of DPI of Rochester, LLC (“DPI”) for approximately $938,000 in cash and $145,000 of transaction
expenses, the right to assume certain leases, including its lease to its building, and a contingent payment of up to $50,000 within five
years of the acquisition. The acquisition has been accounted for as a business combination. Under business combination
accounting, the total preliminary purchase price was allocated to DPI’s assets acquired based on their estimated fair values as of
December 18, 2008 as determined by management.
Liquidity and Capital Resources
The Company’s cash flows and other key indicators of liquidity are summarized as follows:
Cash flows from:
Operating activities
Investing activities
Financing activities
Working capital
Current ratio
Cash and cash equivalents
Revolving credit notes
Funds Available from Open Credit Facilities
Year Ended
December 31,
2008
Year Ended
December 31,
2007
% change vs. 2007
$
(2,391,000) $
(2,266,000)
4,002,000
(3,219,000)
(1,941,000)
100,000
(1,481,000)
0.58☑
(1,198,000)
0.65☑
$
$
$
88,000
$
742,000
2,283,000
1,317,000
$
$
300,000
3,300,000
26%
-17%
-3902%
24%
-25%
-88%
661%
-60%
As of December 31, 2008, we had cash and cash equivalents of $88,000, representing an 88% decrease over our December
31, 2007 cash position. As discussed below, the decrease in the Company’s cash position was primarily due to the use of cash from
operations and the use of cash for the expansion of its operations, the purchase of fixed assets, and the defense of its patent
portfolio.
Operating Cash Flow – During 2008, the Company used approximately $2.4 million of cash for operations. The 26%
decrease in its use of cash for operations during 2008 as compared to 2007 generally reflected the Company’s increase in sales and
a decrease in operating costs that the Company achieved during the year. Specifically, the Company realized the benefits of
significant cost reductions that it initiated in early 2008. Furthermore, during the fourth quarter of 2008, the Company used $283,000
for operations, as it aggressively managed its cash costs and continued to realized the benefits of its lower cost structure. As of
December 31, 2008, the Company believes that it will need to reach an annual revenue level in the ranged of approximately $12.0 to
$15.0 million based on its current expense levels and its projected mix of revenue in order to maintain positive operating cash flow
27
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Investing Cash Flow - During 2008, the Company used approximately $2.3 million for investing activities. Specifically, the
Company used $335,000 for equipment additions and leasehold investments for its plastic printing division. In addition, the Company
used approximately $1.1 million in 2008 for the acquisition of a commercial printer in December 2008. Finally, the Company used
$1.3 million towards the payment of patent defense costs and patent application costs. In 2008, the Company entered into an
agreement with Trebuchet Capital Partners regarding its patent defense litigation that will virtually eliminate the Company’s future
patent defense costs related to this litigation The Company does not have any material commitments for capital expenditures as of
December 31, 2008, other than leases for certain equipment for its newly acquired commercial printing operation. These leases are
expected to be recorded as operating leases.
Financing Cash Flows –On June 25, 2008 the Company entered into two Share Purchase Agreements pursuant to which the
Company agreed to sell a total of 500,000 shares of the Company’s common stock for an aggregate purchase price of
$2,000,000. Pursuant to the terms of the first Agreement, the Company sold 150,000 shares of Common Stock to the Purchaser for
$600,000 payable on June 25, 2008. Pursuant to the terms of the second Agreement, the Company sold 350,000 shares of Common
Stock for $1,400,000, with $100,000 paid on June 25, 2008 and the remaining $1,300,000 payable in six-month installments over a
two-year period. As of March 31, 2009, the share subscription was not current and the Company is reviewing its options under the
Agreement, which may include termination of the agreement.
On December 18, 2008, the Company’s wholly owned subsidiary, Secuprint, Inc. (dba DPI Secuprint, Inc.) entered a Secured
Promissory Note in the principal amount of up to $900,000 to pay for most of the cash portion of the purchase price of the Company’s
acquisition of substantially all of the assets of DPI of Rochester, LLC. The Secured Promissory Note has a one-year term, is secured
by all of the assets of DPI Secuprint and has an annual interest rate of between 12% and 15%. The note is subject to pre-payments if
among other provisions, if DPI Secuprint’s cash receipts do not exceed its cash expenditures for two consecutive months during the
term. As of March 31, 2009, DPI Secuprint was in compliance with the terms of the note.
On August 20, 2008, the Company entered into an agreement with Trebuchet Capital Partners, LLC who agreed to pay
substantially all of the litigation costs associated with pending validity proceedings initiated by the ECB in eight European countries
relating to the Company’s European Patent 0 455 750B1 that the Company has claimed the ECB infringed in printing of the Euro
currency. Trebuchet has also purchased 100,000 shares of the Company’s common stock for an aggregate purchase price of
$400,000, the proceeds of which were used by the Company to pay existing litigation cost.
In January 2008, the Company entered into two credit agreements to enhance its capital resources. The first is the Credit
Facility Agreement with Fagenson and Co., Inc., as agent for other unrelated lenders, or the Fagenson Credit Agreement, for
borrowings of up to a maximum of $3,000,000 until January 4, 2010. Fagenson & Co, is a related party to Robert B. Fagenson, the
Chairman of the Company's Board of Directors. The advances are generally limited to $400,000 unless otherwise mutually agreed
upon by both parties per fiscal quarter, with the exception of $600,000 that can be advanced at any time for patent litigation related
bills. The loans have an annual interest rate of 2% above LIBOR and are secured by the common stock of our wholly owned
subsidiary P3. Interest is payable quarterly in arrears and the principal is payable in full at the end of the term under the Fagenson
Credit Agreement. The second is a Credit Facility Agreement with Patrick White, the Company's Chief Executive Officer and a
director. The Company can borrow up to $600,000 until January 4, 2010. The loans bear an annual interest rate of 2% above LIBOR
and are secured by the accounts receivable of the Company, excluding the accounts receivable of P3. Interest is payable quarterly in
arrears and the principal is payable in full at the end of the term under the White Credit Agreement. Mr. White can accept common
stock as repayment of the loan upon a default. Under the terms of the agreement the Company is required to comply with various
covenants. As of December 31, 2008, the Company was in default of both agreements due to a failure to pay interest when
due. Both Fagenson and Co., Inc. and Mr. White have waived these defaults through January 1, 2010. As of December 31, 2008,
the Company had outstanding $450,000 under the White Credit Agreement, $1,833,000 under the Fagenson Credit
Agreement. Interest expense amounted to $82,000 for the year ending December 31, 2008, of which $54,000 is included in accrued
expenses as of December 31, 2008.
28
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Future Capital Needs – The Company expects to use its working capital to support its growth efforts in order to achieve
consistent positive cash flow from operations. At its current revenue levels, the Company expects to continue to use cash for
operations during 2009 at the pace experienced during the second half of 2008. The Company estimates that it requires a revenue
level of approximately $12.0 million to $15.0 million to breakeven on operating cash flow basis. This revenue level is consistent with
the 2008 pro-forma revenue level of the Company on a consolidated basis with its newly acquired commercial printing business, DPI
Secuprint. The Company believes that it can achieve this revenue level by the end of 2009, if general economic conditions
stabilize. Based on this expectation, the Company has committed to focus its expenditures during 2009 on areas of research and
development, and sales and marketing that support near-term revenue opportunities. To address its cash requirements to the extent
not provided from operations, the Company will seek to continue to reduce costs to a level commensurate to its revenue levels in
order to reduce the operating cash requirements, to obtain additional equity financing, most likely though private placements, borrow
funds from its two secured credit facilities, and seek certain refundable tax credits for which the Company may be eligible. As of
December 31, 2008, the Company has up to $1.3 million available to it under its secured credit facilities, which the Company believes
will be sufficient along with cash from operations to fund its operations for the next twelve months. In December 2008, the Company
borrowed $900,000 of short term debt in conjunction with its acquisition of substantially all of the assets of DPI, a commercial
printer. The Company expects that existing working capital at DPI will be sufficient to satisfy the payment of the $900,000 when due,
in December 2009.
Furthermore, the Company has two credit facilities with related parties that will be due in January 2010. The total amount
due may by up to $3,600,000 if the Company cannot generate sufficient cash from operations to pay these credit facilities down prior
to their due dates. In the event that the Company cannot pay these credit facilities when due, the Company believes that it will be
able to extend the terms of these notes, or negotiate with the lenders other means of satisfying these credit facilities, including the
payment of amounts due in the form of the Company’s equity. However, there is no assurance that the Company will be able to do
so.
Key Indicators of Future Results
We believe that cash flow from operations is a significant key indicator for the Company. Our ability to reduce our use of
cash will depend on our ability to grow revenue to a level sufficient to meet our operating expense requirements. To grow revenue,
we may merge with or acquire manufacturing or related companies. Our ability to successfully complete these transactions on
favorable terms will be a significant key indicator of our future results. These acquisitions may require additional funds that the
Company does not currently have. To obtain additional investments in the future may require us to issue shares of our Common
Stock. Our ability to sell our Common Stock on favorable terms will also be a significant key indicator of our future results. In
addition, we believe that our ability to successfully enforce our patent rights, including our current litigation against the European
Central Bank, is a significant key indicator for the Company.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements that have, or are reasonably likely to have, an effect on our financial
condition, financial statements, revenues or expenses.
Inflation
Although our operations are influenced by general economic conditions, we do not believe that inflation had a material effect
on our results of operations during 2008 or 2007 as we are generally able to pass the increase in our material and labor costs to our
customers, or absorb them as we improve the efficiency of our operations.
Critical Accounting Policies
The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in
the United States requires management to make judgments, assumptions and estimates that affect the amounts reported in our
consolidated financial statements and accompanying notes. The consolidated financial statements for the fiscal year ended
December 31, 2008 describe the significant accounting policies and methods used in the preparation of the consolidated financial
statements. Estimates are used for, but not limited to, the accounting for the allowance for doubtful accounts and sales returns,
goodwill and long-lived asset impairments, inventory allowances, revenue recognition, stock based compensation valuations, the
valuation of intangible assets, and allocation of assets in business combinations. Actual results could differ from these
estimates. The following critical accounting policies are impacted significantly by judgments, assumptions and estimates used in the
preparation of our consolidated financial statements:
Long Lived Assets
The Company accounts for long-lived assets in accordance with the provisions of SFAS No. 144, Accounting for the
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Impairment or Disposal of Long-Lived Assets. This statement requires that long-lived assets and certain identifiable intangibles be
reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future
net undiscounted cash flows expected to be generate by the asset. If such assets are considered to be impaired, the impairment to
be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. Fair value
is determined based on discounted cash flows or appraised values, depending on the nature of the assets.
29
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Fixed assets are carried at cost. Depreciation is computed over the estimated useful life of five to seven years using the
straight-line depreciation method. Leasehold improvements are amortized over the shorter of their useful life or the lease term.
Intangible assets consist primarily of royalty rights, contractual rights, customer list, and patent acquisition, application and defense
costs. Amortization is computed over the estimated useful life of five to twenty years using the straight-line depreciation method. For
patent related assets, the remaining legal life of the patent is used as the estimated useful life unless circumstances determine that
the useful life will be less than the legal life. Long-lived assets to be held and used by the Company are reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We periodically
evaluate the recoverability of our long-lived assets based on estimated future cash flows from and the estimated fair value of such
long-lived assets, and provide for impairment if such undiscounted cash flows are insufficient to recover the carrying amount of the
long-lived asset.
Goodwill
Goodwill is the excess of cost of an acquired entity over the fair value of amounts assigned to assets acquired and liabilities
assumed in a business combination. With the adoption of SFAS No. 142, “Goodwill and Other Intangible Assets,” goodwill is not
amortized, rather it is tested for impairment annually, and will be tested for impairment between annual tests if an event occurs or
circumstances change that would indicate the carrying amount may be impaired. Impairment testing for goodwill is done at a
reporting unit level. Reporting units are one level below the business segment level, but are combined when reporting units within
the same segment have similar economic characteristics. Under the criteria set forth by SFAS No. 142, the Company has four
reporting units based on the current structure. An impairment loss generally would be recognized when the carrying amount of the
reporting unit’s net assets exceeds the estimated fair value of the reporting unit. The Company completed its assessment of any
potential impairment upon adoption of this standard and performs annual assessments.
Other Intangible Assets and Patent Defense Costs
Other intangible assets consists of costs associated with the application, acquisition and defense of the Company’s patents,
contractual rights to patents and trade secrets associated with the Company’s technologies, a non-exclusive licensing agreement,
and customer lists obtained as a result of acquisitions. The Company’s patents and trade secrets are for document anti-counterfeiting
and anti-scanning technologies and processes that form the basis of the Company’s document security business. External legal
costs incurred to defend the Company’s patents are capitalized to the extent of an evident increase in the value of the patents and an
expected successful outcome, in accordance to guidance provided by FASB Concept Statement No. 6 and related guidance in
AICPA Technical Questions and Answers, Section 2260, Other Assets, paragraph .03, “Legal Expenses Incurred to Defend Patent
Infringement Suit”. Patent defense costs are expensed at the point when it is determined that the outcome is expected to be
unsuccessful. The Company capitalizes the cost of an appeal until it is determined that the appeal will be unsuccessful. The
Company’s capitalized patent defense costs expenses are analyzed for impairment based on the expected eventual outcome of the
legal action and recoverability of proceeds or added economic value of the patent in excess of the costs. Legal actions related to
the same patent defense case are unified into one asset group for the purposes on the impairment analysis. The Company
amortizes its other intangible assets over their estimated useful lives. Patents are amortized over the remaining legal life, up to 20
years. The Company considers patent related amortization expense as an operating expense. The Company believes that the
decision to incur patent costs is discretionary as the associated products or services can be sold prior to or during the application
process. We account for other intangible amortization as an operating expense, unless the underlyings asset in directly associated
with the production or delivery of a product. To date, the amount of related amortization expense for other intangible assets directly
attributable to revenue recognized is not material.
In December 2008, the Company recorded an impairment $361,000 for this license agreement the Company had acquired
for which the Company assessed that the probable future cash flows derived from the license did not support the net carrying value of
the license as of December 31, 2008.
On March 19, 2008, the Company received notification that its appeal of the invalidation of its European Patent 455750B1 in
the UK was not successful. As result of the adverse court decision, the Company recognized an impairment loss of $292,000
associated with costs directly related to the U.K appeal. The impairment loss includes a judgment for reimbursement of estimated
counterpart legal fees. In January, 2009, the Company received a formal request for fee reimbursement from the ECB for a total of
$420,000 in additon to amounts already paid by the Company. The Company hired an independent firm to assist the Company in
reducing or eliminating the ECB’s fees request, however, the Company recorded $145,000 as additional accrued expenses and an
impairment loss as of December 31, 2008. The Company expect that the UK fee issue will be resolved in second half of 2009.
On August 20, 2008, the Company entered into an agreement with Trebuchet Capital Partners, LLC Pursuant to the
Agreement, Trebuchet has agreed to pay substantially all of the litigation costs associated with pending validity proceedings initiated
by the European Central Bank in eight European countries relating to the Company’s European Patent 0 455 750B1 that the
Company has claimed the ECB infringed in printing of the Euros currency. Under the terms of the Agreement, and in consideration for
Trebuchet’s funding obligations, the Company assigned and transferred a 49% interest of all the Company’s right, title and interest in
the Patent to Trebuchet which allows Trebuchet to have a separate and distinct interest in and share of the Patent, along with the
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
right to sue and recover in litigation, settlement or otherwise to collect royalties or other payments under or on account of the Patent.
Pursuant to this transaction, the Company recognized a loss on the sale of patent assets for its assignment and transfer of 49% of its
ownership rights in the patents, which had a net book value of approximately $1,670,000, for $500,000. As a result, the Company
recognized a loss on sale of patent assets of $1,170,000.
Revenue Recognition
Sales of security and other printing products, and legal products are recognized when a product or service is delivered,
shipped or provided to the customer and all material conditions relating to the sale have been substantially performed.
For digital solutions sales, revenue is recognized in accordance with the American Institute of Certified Public Accountant's
Statement of Position (SOP) No. 97-2, "Software Revenue Recognition," as modified by SOP No. 98-9, "Modification of SOP No. 97-
2, Software Revenue Recognition with Respect to Certain Transactions" and Staff Accounting Bulletin (SAB) No. 104, "Revenue
Recognition." Accordingly, revenue is recognized when all of the following conditions are satisfied: (1) there is persuasive evidence
of an arrangement; (2) the service or product has been provided to the customer; (3) the amount of fees to be paid by the customer is
fixed or determinable (4) the collection of our fees is reasonably assured.
30
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
The Company also enters into arrangements under which hosted software applications are provided. Revenue is recognized
for these arrangements based on the provisions of EITF No. 00-3, Application of AICPA SOP 97-2 to Arrangements That Include the
Right to Use Software Stored on Another Entity’s Hardware (“EITF 00-3”), and the provisions of Staff Accounting Bulletin No. 104,
“Revenue Recognition in Financial Statements”, when there is persuasive evidence of an arrangement, collection of the resulting
receivable is probable, the fee is fixed or determinable and acceptance has occurred. Revenues related to these arrangements
consist of system implementation service fees and software subscription fees. System implementation services represent set-up
services that do not qualify as separate units of accounting from the software subscriptions as the customer would not purchase
these services without the purchase of the software subscription. As a result, revenue is recognized on system implementation fees
ratably over a period of time from when the core system implementation services are completed and accepted by the customer over
the remaining customer relationship life, which is the contractual life of the customer’s subscription agreement. Software subscription
fees, which typically commence upon completion of the related system implementation, are recognized ratably over the applicable
subscription period. Amounts billed and/or collected prior to satisfying our revenue recognition policy are reflected as deferred
revenue.
The Company recognizes revenue from technology licenses once all the following criteria for revenue recognition have been
met: (1) persuasive evidence of an agreement exists; (2) the right and ability to use the product or technology has been rendered; (3)
the fee is fixed and determinable and not subject to refund or adjustment; and (4) collection of the amounts due is reasonably
assured.
Share-Based Payments
The Company accounts for stock option awards granted under the Company’s Stock Incentive Plans in accordance
Statement of Financial Accounting Standard No. 123 (revised 2004), “Share-Based Payment”, (“SFAS 123(R)”) using the modified
prospective transition method. Under this method, the Company is required to record compensation expense for all stock based
awards granted after the date of adoption and for the unvested portion of previously granted awards that remain outstanding as of the
beginning of the adoption and prior periods have not been restated. Under SFAS 123R, compensation expense related to stock
based payments are recorded over the requisite service period based on the grant date fair value of the awards. The Company uses
the Black-Scholes option pricing model as the most appropriate method for determining the estimated fair value for stock-based
awards. The Black-Scholes model requires the use of highly subjective and complex assumptions which determine the fair value of
stock-based awards, including the option’s expected term and the price volatility of the underlying stock. The fair value of each option
award is estimated on the date of grant utilizing the Black Scholes Option Pricing Model that uses the assumptions noted in the
following table.
Volatility
Expected option term
Risk-free interest rate
Expected forfeiture rate
Expected dividend yield
2008
2007
53.6%
54.2%
3.3 years
3.6 years
3.09%
0.0%
0.0%
4.2%
0.0%
0.0%
The Company’s accounting policy for equity instruments issued to consultants and vendors in exchange for goods and
services follows the provisions of EITF 96-18, “Accounting for Equity Instruments That are Issued to Other Than Employees for
Acquiring, or in Conjunction with Selling, Goods or Services” and EITF 00-18, “Accounting Recognition for Certain Transactions
Involving Equity Instruments Granted to Other Than Employees.” The measurement date for the fair value of the equity instruments
issued is determined at the earlier of (i) the date at which a commitment for performance by the consultant or vendor is reached or
(ii) the date at which the consultant or vendor’s performance is complete. In the case of equity instruments issued to consultants, the
fair value of the equity instrument is recognized over the term of the consulting agreement
31
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Income Taxes
Deferred tax assets and liabilities are determined based on temporary differences between income and expenses reported for
financial reporting and tax reporting. Statement of Financial Accounting Standards (“SFAS”) No. 109, “Accounting for Income Taxes”
(“SFAS 109”) requires that a valuation allowance be established when management determines that it is more likely than not that all
or a portion of a deferred tax asset will not be realized. The Company evaluates the realizability of its net deferred tax assets on an
annual basis and any additional valuation allowances are provided or released, as necessary. Since the Company has had
cumulative losses in recent years, the accounting guidance suggest that we should not look to future earnings to support the
realizability of the net deferred tax asset. As a result, as of the years ended December 31, 2008 and 2007, the Company has
recorded a valuation allowance to reduce its net deferred tax assets to zero in accordance with SFAS 109. See Footnote 11 for
further analysis.
The Company believes that the accounting estimates related to deferred tax valuation allowances are “critical accounting estimates”
because: (1) the need for valuation allowance is highly susceptible to change from period to period due to changes in deferred tax
asset and deferred tax liability balances, (2) the need for valuation allowance is susceptible to actual operating results and (3)
changes in the tax valuation allowance can have a material impact on the tax provisions/benefit in the consolidated statements of
operations and on deferred income taxes in the consolidated balance sheets.
32
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Our audited financial statements for the fiscal years ended December 31, 2008 and 2007 follow Item 14, beginning at page
F-1.
ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None
ITEM 9A(T) - CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Management is responsible for establishing and maintaining effective disclosure controls and procedures. As of December 31, 2008,
our Chief Executive Officer and Chief Financial Officer participated with our management in evaluating the effectiveness of our
disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as
amended (the “Exchange Act”)). Our disclosure controls and procedures are designed to ensure that information required to be
disclosed in the Securities and Exchange Commission (“SEC”) reports we file or submit under the Exchange Act is recorded,
processed, summarized and reported within the time period specified by the SEC’s rules and forms and that such information is
accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, to allow timely
decisions regarding required disclosure. In light of the discussion of material weaknesses set forth below, these officers have
concluded that our disclosure controls and procedures were not effective as of December 31, 2008. To address the material
weaknesses described below, we performed additional analyses and other post-closing procedures to ensure our consolidated
financial statements were prepared in accordance with accounting principles generally accepted in the United States of America (U.S.
GAAP). Accordingly, management believes that the financial statements included in this Annual Report on Form 10-K fairly present,
in all material respects, our financial condition, result of operations and cash flows for the periods presented.
Management’s Annual Report on Internal Control Over Financial Reporting
A company’s internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f) and 15d-15(f) is a
process designed by, or under the supervision of, a public company’s principal executive and principal financial officers, or persons
performing similar functions, and effected by the board of directors, management and other personnel, to provide reasonable
assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles (“GAAP”) including those policies and procedures that: (i) pertain to the
maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of the
company, (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements
in accordance with GAAP, and that receipts and expenditures are being made only in accordance with authorizations of management
and directors of the company, and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements.
33
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Management is responsible for establishing and maintaining adequate internal control over financial reporting. Our
management, with the participation of our Chief Executive Officer and Chief Financial Officer, has assessed the effectiveness of our
internal control over financial reporting as of December 31, 2008. In making this assessment, our management used the criteria
established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO).
A material weakness is a control deficiency, or combination of control deficiencies, such that there is a reasonable possibility
that a material misstatement of the annual or interim financial statements will not be prevented or detected on a timely basis. In
connection with management’s assessment of our internal control over financial reporting described above, management has
identified the following material weaknesses in the Company’s internal control over financial reporting as of December 31, 2008:
We did not maintain a sufficient complement of qualified accounting personnel and controls associated with segregation of duties
were ineffective. Due to unanticipated turnover, during 2008 we had one person on staff that performs nearly all aspects of our
financial reporting process, including but not limited to access to the underlying accounting records and systems, the ability to
post and record journal entries and responsibility for the preparation of the financial statements. This creates certain
incompatible duties and a lack of review over the financial reporting process that would likely fail to detect errors in spreadsheets,
calculations, or assumptions used to compile the financial statements and related disclosures as filed with the SEC. Specifically,
we determined that our controls over the preparation, review and monitoring of the financial statements were ineffective to provide
reasonable assurance that financial disclosures agreed to appropriate supporting detail, calculations or other documentation. In
addition, during the preparation of our annual consolidated financial statements, we determined that certain key assumptions and
calculations used in the future cash flow analysis supporting our asset impairment tests required editing after submission to our
auditors. These edits did not result in audit adjustments to our December 31, 2008 consolidated financial statements. These
control deficiencies could result in a material misstatement to our interim or annual consolidated financial statements that would
not be prevented or detected.
Controls associated with identifying and accounting for complex and non-routine transactions in accordance with U.S. generally
accepted accounting principles were ineffective. Specifically, during the course of the quarterly interim reviews and the annual
audit, audit adjustments were made to adjust the recorded amounts for certain equity based transactions, including the resulting
impact on our income tax provision and disclosures based on the misapplication of GAAP by the Company that would have
resulted in a material misstatement of our financial statements.
As a result of the material weaknesses described above, our management concluded that as of December 31, 2008, we did not
maintain effective internal control over financial reporting based on the criteria established in Internal Control—Integrated Framework
issued by the COSO.
This annual report does not include an attestation report of the Company’s registered public accounting firm regarding internal
control over financial reporting. Management’s report was not subject to attestation by the Company’s registered public accounting
firm pursuant to temporary rules of the Securities and Exchange Commission that permit the Company to provide only Management’s
report in this annual report.
Plan for Remediation of Material Weaknesses
In response to the identified material weaknesses, management, with oversight from the Company’s audit committee, plans to
improve our control environment and to remedy the identified material weaknesses by expanding the resources available to the
financial reporting process. The Company expects to be able to address several of deficiencies as a result of its acquisition of a
commercial printing company in December 2008, which will increase the size of the Company’s accounting department, and allow for
the segregation of duties of certain financial reporting functions. In addition, the Company’s remediation efforts will include consulting
with third party accounting firms with the appropriate level of expertise to determine the proper application of GAAP for complex and
non-routine transactions.
Notwithstanding the material weaknesses discussed above, management believes that the financial statements included in this
report present fairly, in all material respects, our financial position, results of operations, and cash flows for the periods presented in
accordance with U.S. generally accepted accounting principles.
34
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Changes in Internal Control over Financial Reporting
There have been a number of changes made to our internal control over financial reporting (as such term is defined in Rules 13a-
15(e) and 15d-15(e) under the Securities Exchange Act) during the three months ended December 31, 2008 that have materially
affected, or are reasonably likely to materially affect, our internal control over financial reporting. Specifically, the Company added
three persons to its accounting staff in December 2008 as the result of the Company’s acquisition of the assets of a commercial
printing company. The Company began to make procedural and system based changes to its financial reporting process based on
this change designed to improve its areas of deficiency in the financial reporting process.
35
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
PART III
ITEM 10 - DIRECTORS, EXECUTIVE OFFICERS, CORPORATE GOVERNANCE
The information required by this Item will be contained in the Company’s Proxy Statement for its Annual Stockholders
Meeting, which will be filed with the Securities and Exchange Commission within 120 days after December 31, 2008, and which is
incorporated by reference herein.
We make available free of charge through the investor relations page of our Web site (www.documentsecurity.com) our
annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports, and
all beneficial ownership reports on Forms 3, 4 and 5 filed by directors, officers and beneficial owners of more than 10% of our equity,
as soon as reasonably practicable after such reports are electronically filed with the Securities and Exchange Commission. We have
adopted codes of business conduct and ethics for all of our employees, including our principal executive officer, principal financial
officer and principal accounting officer. Copies of the codes of business conduct and ethics are available on our Web site.
Our Web sites and the information contained therein or incorporated therein are not intended to be incorporated into this
Annual Report on Form 10-K or our other filings with the SEC.
ITEM 11 - EXECUTIVE COMPENSATION
The information required by this Item will be contained in the Company’s Proxy Statement for its Annual Stockholders
Meeting, which will be filed with the Securities and Exchange Commission within 120 days after December 31, 2008, and which is
incorporated by reference herein.
ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
STOCKHOLDER MATTERS
The information required by this Item will be contained in the Company’s Proxy Statement for its Annual Stockholders
Meeting, which will be filed with the Securities and Exchange Commission within 120 days after December 31, 2008, and which is
incorporated by reference herein.
ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information required by this Item will be contained in the Company’s Proxy Statement for its Annual Stockholders
Meeting, which will be filed with the Securities and Exchange Commission within 120 days after December 31, 2008, and which is
incorporated by reference herein.
ITEM 14 - PRINCIPAL ACCOUNTING FEES AND SERVICES
The information required by this Item will be contained in the Company’s Proxy Statement for its Annual Stockholders
Meeting, which will be filed with the Securities and Exchange Commission within 120 days after December 31, 2008, and which is
incorporated by reference herein.
ITEM 15 - EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) Exhibits
The Exhibits listed below designated by an * are incorporated by reference to the filings by Document Security Systems, Inc.
under the Securities Act of 1933 or the Securities and Exchange Act of 1934, as indicated. All other exhibits are filed herewith.
3.1
3.2
3.3
4.1
10.1
10.2
Certificate of Incorporation, as amended (incorporated by reference to exhibit 3.1 to the Company’s Registration
Statements No. 2-98684-NY on Form S-18).*
By-laws, as amended (incorporation by reference to exhibit 3.2 to the Company’s Registration Statement No. 2-
98684-NY on Form S-18).*
Certificate of Incorporation, as amended (filed as Exhibit 3.1.1 to Form 8-A12B dated April 19, 2004)*
Warrant, dated December 18, 2008, of Document Security Systems, Inc. issued to Baum Capital Investments Inc.
(filed as exhibit 4.1 to Form 8-K dated December 22, 2008)*
Agreement dated November 7, 1996 with Charles M. LaLoggia (incorporated by reference from Company’s Form 10-
Q for March 31, 1997).*
Agreement dated July 2, 1996 with Frank LaLoggia (incorporated by reference from Company’s Form 10-Q for June
30, 1996).*
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
10.3
Agreement dated July 31, 2002 between New Sky Communications, Inc. and Patrick White (incorporated by
reference from Company’s Form 8-K filed on August 8, 2002).*
36
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
10.4
10.5
10.6
10.7
10.8
10.9
10.10
10.11
10.12
10.13
Agreement dated July 31, 2002 between New Sky Communications, Inc. and Thomas M. Wicker (incorporated by
reference from Company’s Form 8-K filed on August 8, 2002).*
Agreement dated November 1, 2002 between New Sky Communications, Inc. and David Thomas M. Wicker,
Christine Wicker, Kenneth Wicker and Michael Caton (incorporated by reference to the Registrant’s Form 10-KSB for
the fiscal year ended December 31, 2002). *
Employment Agreement dated November 1, 2002 between New Sky Communications, Inc. and David Wicker
(incorporated by reference to the Registrant’s Form 10-KSB for the fiscal year ended December 31, 2002). *
Form of Warrant Agreement between the Registrant and Fordham Financial Management, Inc.(incorporated by
reference on Company’s registration statement on Form S-3 filed on January 20, 2004).*
Form of Warrant Agreement between the Registrant and W.A.B. Capital (incorporated by reference on Company’s
registration statement on Form S-3 filed on January 20, 2004).*
Form of Warrant Agreement between the Registrant and Howard Safir (incorporated by reference on Company’s
registration statement on Form S-3 filed on January 20, 2004).*
Form of Series A Warrant Agreement issued by the Registrant to participants in its private placement offering
completed on December 29, 2003. (incorporated by reference on Company’s registration statement on Form S-3 filed
on January 20, 2004).*
Form of Registration Rights Agreement issued by the Registrant to participants in its private placement offering
completed on December 29, 2003. (incorporated by reference on Company’s registration statement on Form S-3 filed
on January 20, 2004)*
Form of Warrant issued to IDT Venture Capital Corporation dated October 31, 2003.(incorporated by reference on
Schedule 13D filed by IDT Venture Capital Corporation dated December 2, 2003)*
Form of Securities Purchase Agreement between Registrant and IDT Venture Capital Corporation dated as of
October 31, 2003. (incorporated by reference on Schedule 13D filed by IDT Venture Capital Corporation dated
December 2, 2003).*
10.14 (1) Form of Licensing and Marketing Agreement between Registrant and Boise White Paper LLC dated January 19,
10.15
10.16
10.17
10.18
10.19
10.20
10.21
10.22
10.23
10.24
10.25
10.26
10.27
10.28
10.29
2005. (redacted version)
Form of Surrender and Assignment Agreement dated as of February 25, 2005 between Registrant and the Net
Interest Holders. (filed as Exhibit 10.1 to form 8-K dated February 25, 2005)*
Form of Surrender and Assignment Agreement dated as of February 25, 2005 between Registrant and the Gross
Interest Holders (filed as Exhibit 10.2 to Form 8-K dated February 25, 2005)*
Agreement of Sublease dated May 2004 for the Premises Located at 28 E. Main Street, Rochester, New York (filed
as Exhibit 10.1 to Form 10-QSB for the Quarter ended June 30, 2004)*
Form of Employment Agreement dated as of June 10, 2004 between Registrant and Patrick White (filed as Exhibit
10.2 to Form 10-QSB for the Quarter ended June 30, 2005)*
Form of Employment Agreement dated as of June 11, 2004 between Registrant and Thomas Wicker (filed as Exhibit
10.26 of 10-KSB for the fiscal year ended December 31, 2004)*
Form of 2004 Employee Stock Option Plan (filed as Appendix D to Proxy Statement for the Meeting of Stockholders
held on December 17, 2004)*
Form of Non Executive Director Stock Option Plan (filed as Appendix E to Proxy Statement for the Meeting of
Stockholders held on December 17, 2004)*
Asset Purchase Agreement, dated February 7, 2006 by and between the Registrant and Plastic Printing
Professionals, Inc. . (filed as exhibit 10.30 to Form 10-KSB for the fiscal year ended December 31, 2005)*
Stock Option Agreement pursuant to the Registrant’s 2004 Employee Stock Option Plan (filed as exhibit 10.31 to
Form S-8 filed May 12, 2006)*
Warrant and Amendment to Warrant dated June 16, 2006, granted to International Barcode Corporation (filed as
exhibit 10.33 and 10.34 respectively to Form 10-Q for the quarter ended June 30, 2007)*
License and Distribution Agreement dated November 8, 2006 by and between the Registrant and PT Sekur Grafika
(filed as exhibit 10.30 to Form 10-Q for the quarter ended June 30, 2007)*
Form of Subscription Agreement by and between the Registrant and investors in a Private Placement (filed as Exhibit
10.1 to Form 8-K/A dated December 27, 2006)*
Registration Rights Agreement dated December 12, 2006 between the Registrant and Perrin, Holden &Davenport
Capital Corp. as agent for those investing in a Private Placement (filed as Exhibit 10.2 to Form 8-K/A dated December
27, 2006)*
Form of Common Stock Purchase Warrant granted pursuant to a Private Placement (filed as Exhibit 4.1 to Form 8-
K/A dated December 27, 2006)*
Limited Exclusive Patent License Agreement dated December 29, 2006 between the Registrant and Ergonomic
Group, Inc. (filed as exhibit 10.31 to Form 10-Q for the quarter ended June 30, 2007)*
37
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
10.30
10.31
10.32
10.33
10.34
10.35
10.36
10.37
10.38
10.39
10.40
10.41
10.42
10.43
10.44
10.45
10.46
10.47
21
23.1
31.1
31.2
32.1
32.2
Letter Agreement dated June 11, 2007 between the Registrant and International Barcode Corporation (BTI) (filed as
exhibit 10.35 to Form 10-Q for the quarter ended June 30, 2007)*
License and Distribution Agreement dated June 27, 2007 by and between the Registrant and Cultura Interactiva S.A.
de C.V. (filed as exhibit 10.32 to Form 10-Q for the quarter ended June 30, 2007)*
Credit Facility Agreement, dated January 4, 2008, between the Registrant and Fagenson & Co., Inc., as Agent
Security Agreement, dated January 4, 2008, between the Registrant and Fagenson & Co., Inc., as Agent
Form of Secured Promissory Note between the Registrant and Fagenson & Co., Inc., as Agent
Credit Facility Agreement, dated January 4, 2008, between the Registrant and Patrick White
Security Agreement, dated January 4, 2008, between the Registrant and Patrick White
Form of Secured Promissory Note between the Registrant and Patrick White
Agreement, dated April 11, 2008, between the Registrant and Ergonomic Group (filed as exhibit 10.1 to Form 8-K
dated April 11, 2008)*
Credit Facility Note, dated May 7, 2008, between the Registrant and Taiko III Corp. (filed as exhibit 10.1 to Form 8-K
dated May 7, 2008)*
Confidential Separation Agreement and General Release, dated May 10, 2008, between Peter Ettinger and the
Company (filed as exhibit 10.1 to Form 8-K dated May 10, 2008)*
Consulting Agreement, dated May 12, 2008, between Peter Ettinger and the Company (filed as exhibit 10.2 to Form
8-K dated May 10, 2008)*
Share Purchase Agreement, dated as of June 25, 2008, between the Registrant and Walton Invesco Inc. (filed as
exhibit 10.1 to Form 10-Q for the quarter ended June 30, 2008)*
Share Purchase Agreement, dated as of June 25, 2008, between the Registrant and Walton Invesco Inc. (filed as
exhibit 10.2 to Form 10-Q for the quarter ended June 30, 2008)*
Asset Purchase Agreement, dated as of November 6, 2008, among Secuprint Inc., DPI of Rochester, LLC, James
Stanley and Matthew Kellman (filed as exhibit 10.1 to Form 8-K dated November 6, 2008)*
Agreement, dated August 20, 2008, between Document Security Systems, Inc. and Trebuchet Capital Partners, LLC
(filed as exhibit 10.1 to Form 10-Q for the quarter ending September 30, 2008)*
Secured Promissory Note, dated December 18, 2008, between Document Security Systems, Inc. , Secuprint Inc. and
Baum Capital Investments Inc. (filed as exhibit 10.2 to Form 8-K dated December 22, 2008)*
Security Agreement, dated December 18, 2008, between Secuprint Inc. and Baum Capital Investments Inc. (filed as
exhibit 10.3 to Form 8-K dated December 22, 2008)*
Subsidiaries of Registrant
Consent of Freed Maxick & Battaglia, CPAs, PC
Certification of Chief Executive Officer Pursuant to 18 USC 1350 Section 302
Certification Principal Accounting Officer Pursuant to 18 USC 1350 Section 302
Certification of Chief Executive Officer Pursuant to 18 USC 1350 Section 906
Certification Principal Accounting Officer Pursuant to 18 USC 1350 Section 906
(1) This exhibit contains a redacted copy of the agreement. We have filed a confidentiality request with the Commission with
respect to certain portions of the agreement.
38
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
DOCUMENT SECURITY SYSTEMS, INC. AND SUBSIDIARIES
CONTENTS
Report of Independent Registered Public Accounting Firm
Consolidated Financial Statements:
Balance Sheets
Statements of Operations
Statements of Cash Flows
Statements of Changes in Stockholders’ Equity
Notes to the Consolidated Financial Statements
39
Page
F-1
F-2
F-3
F-4
F-5
F6 - F27
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders
Document Security Systems, Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheets of Document Security Systems, Inc. and Subsidiaries as of
December 31, 2008 and 2007, and the related consolidated statements of operations, cash flows, and changes in stockholders’
equity, for the years then ended. These financial statements are the responsibility of the Company's management. Our responsibility
is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United
States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. The Company is not required to have, nor have we been engaged to perform, an audit
of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis
for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the
effectiveness of the Company’s internal control over financial reporting. Accordingly we express no such opinion. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of
Document Security Systems, Inc. and Subsidiaries as of December 31, 2008 and 2007, and the results of its operations and its cash
flows for the years then ended, in conformity with U.S. generally accepted accounting principles.
/s/ FREED MAXICK & BATTAGLIA, CPAs, PC
Buffalo, New York
March 31, 2009
F-1
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
DOCUMENT SECURITY SYSTEMS, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
As of December 31,
ASSETS
Current assets:
Cash and cash equivalents
Restricted cash
Accounts receivable, net of allowance of $50,000 ($82,000- 2007)
Inventory
Loans to employees
Prepaid expenses and other current assets
Total current assets
Restricted cash
Fixed assets, net
Other assets
Goodwill
Other intangible assets, net
Total assets
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable
Accrued expenses & other current liabilities
Deferred revenue & customer deposits
Short-term debt, net of discount of $247,000
Current portion of capital lease obligations
Total current liabilities
Revolving notes from related parties
Capital lease obligations
Deferred revenue
Deferred tax liability
Commitments and contingencies (see Note 13)
Stockholders' equity
Common stock, $.02 par value; 200,000,000 shares authorized, 14,369,764 shares issued and
outstanding (13,654,364 in 2007) (325,000 subscribed in 2008)
Additional paid-in capital
Subscriptions receivable
Accumulated deficit
Total stockholders' equity
Total liabilities and stockholders' equity
See accompanying notes.
F-2
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
2008
2007
$
87,820 $
131,004
1,284,208
359,034
67,781
75,066
2,004,913
742,468
-
617,320
259,442
120,732
487,715
2,227,677
-
1,517,357
264,529
1,396,734
2,873,789
177,345
1,494,540
147,958
1,396,734
6,149,530
$ 8,057,322 $ 11,593,784
$ 1,411,942 $ 1,795,085
818,606
732,355
-
79,948
3,425,994
1,312,745
30,193
652,511
78,367
3,485,758
2,283,000
300,000
210,365
294,821
-
15,938
51,878
200,000
287,395
(1,300,000)
273,087
35,538,695 31,298,571
-
(32,499,769) (24,214,627)
7,357,031
$ 8,057,322 $ 11,593,784
2,026,321
Consolidated Statements of Operations
For the Years Ended December 31,
Revenue
Security and commercial printing
Technology license royalties
Digital solutions
Legal products
Total Revenue
Costs of revenue
Security and commercial printing
Digital solutions
Legal products
Total costs of revenue
Gross profit
Operating expenses:
Selling, general and administrative
Research and development
Impairment of patent defense costs and other intangible assets
Amortization of intangibles
Operating expenses
Operating loss
Other income (expense):
Interest income
Loss on foreign currency transactions
Interest expense and amortization of note discount
Loss on sale of patent assets
Other Income
Loss from continuing operations before income taxes
Income tax expense
Loss from continuing operations
Loss from discontinued operations (Note 9)
Gain on sale of discontinued assets
Loss from discontinued operations
Loss on discontinued operations
2008
2007
$ 4,386,552 $ 3,912,789
1,195,146
201,210
682,051
5,991,196
1,613,768
32,880
609,807
6,643,007
2,663,309
14,028
351,769
3,029,106
3,613,901
2,465,898
44,028
353,914
2,863,840
3,127,356
7,431,313
432,550
797,143
1,972,233
7,974,312
420,063
-
1,754,017
10,633,239 10,148,392
(7,019,338)
(7,021,036)
658
(59,094)
(144,533)
(1,169,947)
126,073
93,397
(23,519)
(5,108)
-
-
(8,266,181)
18,961
(6,956,266)
19,003
(8,285,142)
(6,975,269)
-
-
-
42,906
(54,467)
(11,561)
Net loss
$ (8,285,142) $ (6,986,830)
Net loss per share -basic and diluted:
Continuing operations
Discontinued operations
Net Loss
Weighted average common shares outstanding, basic and diluted
$
$
(0.59) $
(0.00)
(0.59) $
(0.51)
0.00
(0.51)
14,002,034 13,629,877
See accompanying notes.
F-3
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
DOCUMENT SECURITY SYSTEMS, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
For The Years Ended December 31,
Cash flows from operating activities:
Net loss
Adjustments to reconcile net loss to net cash used by operating activities:
Depreciation and amortization
Stock based compensation
Impairment of patent defense costs and other intangible assets
Amortization of note discount
Net gain on disposal of discontinued operations
Loss on sale of patent assets
Decrease in restricted cash for foreign currency loss
(Increase) decrease in assets:
Accounts receivable
Inventory
Prepaid expenses and other assets
Increase (decrease) in liabilities:
Accounts payable
Accrued expenses and other liabilities
Deferred revenue
Net cash used by operating activities
Cash flows from investing activities:
Purchase of fixed assets
Proceeds from the sale of discontinued operations
Restricted cash -patent litigation guarantee
Acquisition of business
Proceeds from the sale of patent assets
Purchase of other intangible assets
Net cash used by investing activities
Cash flows from financing activities:
Borrowing on short-term credit facility
Repayment on short-term credit facility
Borrowing on revolving note- related parties
Borrowings on short term debt
Repayments of capital lease obligations
Payment of stock issuance costs
Issuance of common stock
Net cash provided by financing activities
Net decrease in cash and cash equivalents
Cash and cash equivalents beginning of year
Cash and cash equivalents end of year
See accompanying notes.
F-4
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
2008
2007
$ (8,285,142) $ (6,986,830)
2,288,061
1,747,368
797,143
8,227
-
1,169,947
46,341
1,945,119
1,354,742
-
-
(42,906)
-
-
209,399
(32,342)
(36,653)
1,302
(20,026)
(65,291)
31,096
383,884
(718,100)
629,792
247,797
(283,021)
(2,390,771)
(3,219,322)
(334,800)
-
-
(1,082,537)
500,000
(1,348,666)
(2,266,003)
(759,538)
80,000
(177,345)
-
-
(1,083,619)
(1,940,502)
500,000
(500,000)
1,983,000
900,000
(86,037)
-
1,205,163
4,002,126
-
-
300,000
-
(35,929)
(519,619)
355,225
99,677
(654,648)
742,468
87,820 $
(5,060,147)
5,802,615
742,468
$
Consolidated Statements of Changes in Stockholders' Equity
For the Years Ended December 31, 2008 and 2007
Common Stock
Shares
Amount
Additional Paid-
in Capital
Subscriptions
Receivable Accumulated Deficit
Total
13,544,724 $
270,894 $
28,145,793 $
-
(17,227,797) $ 11,188,890
12,125
243
54,983
60,866
1,217
744,858
35,280
706
272,294
1,369
-
27
-
2,080,643
-
-
-
-
-
-
-
55,226
-
746,075
-
273,000
(6,986,830)
- 2,080,670
(6,986,830)
13,654,364 $
273,087 $
31,298,571 $
-
(24,214,627) $ 7,357,031
50,000
1,000
99,000
65,400
-
1,308
-
1,497,407
255,717
-
-
-
-
100,000
- 1,498,715
255,717
-
600,000
-
12,000
-
2,388,000
-
(1,300,000)
-
(8,285,142)
- 1,100,000
(8,285,142)
14,369,764 $
287,395 $
35,538,695 $
(1,300,000)
(32,499,769) $ 2,026,321
Balance, December 31,
2006
Shares issued upon the
exercise of warrants and
options
Stock issued for patent
defense costs
Issuance of common stock
and warrants through
private placement, net
Stock based payments, net
of tax effect
Net loss
Balance, December 31,
2007
Stock Issued upon the
exercise of warrants and
options
Stock based payments, net
of tax effect
Warrants issued with debt
Issuance of common stock,
net
Net Loss
Balance, December 31,
2008
See accompanying notes.
F-5
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
DOCUMENT SECURITY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. - DESCRIPTION OF BUSINESS
Document Security Systems, Inc. (the “Company”), a New York corporation, and its subsidiaries, primarily operates in the
security and commercial printing markets. The Company develops, patents, markets produces and licenses technology that prevents
documents from unauthorized copying, scanning and counterfeiting. The Company’s customers include governments, law
enforcement agencies, security printers, check and forms printers and corporations. In addition, the Company, through its
consolidated subsidiary, Lester Levin, Inc., sells supplies to the legal industry.
NOTE 2. - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation - The consolidated financial statements include the accounts of Document Security Systems,
Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.
Use of Estimates - The preparation of consolidated financial statements in conformity with accounting principles generally
accepted in the United States requires us to make estimates and assumptions that affect the amounts reported and disclosed in the
financial statements and the accompanying notes. Actual results could differ materially from these estimates. On an ongoing basis,
we evaluate our estimates, including those related to the accounts receivable, fair values of intangible assets and goodwill, useful
lives of intangible assets and property and equipment, fair values of options and warrants to purchase our common stock, deferred
revenue and income taxes, among others. We base our estimates on historical experience and on various other assumptions that are
believed to be reasonable, the results of which form the basis for making judgments about the carrying values of assets and liabilities.
We engage third-party valuation consultants to assist management in the allocation of the purchase price of significant acquisitions.
Reclassifications - Certain prior year amounts have been reclassified to conform to the current year presentation.
Cash and Cash Equivalents – The Company maintains its cash in bank deposit accounts and, from time to time, short term
Certificates of Deposits with original maturities of three months or less. For financial statement presentation purposes, the Company
considers those short-term, highly liquid investments with original maturities of three months or less to be cash or cash equivalents.
Restricted Cash - In July 2007, the Company established a restricted cash balance of 87,500 British pounds, (approximately
$131,000 as of December 31, 2008), as collateral for a deed of guarantee that was required by the English Court of Appeals in order
for the Company to pursue an appeal in that court. On March 19, 2008, the Company was notified that its appeal was denied and that
the Company owed the European Central Bank, the successful party in the appeal, the 87,500 British pounds. On May 14, 2008, the
Company made a payment of 87,500 British pounds to the European Central Bank as an interim payment of the appeal costs pending
final assessment by the Court which is expected in the latter half of 2009. The Company will use the restricted funds to pay
additional fees due upon final assessment of the costs by the Court, if any. (See Note 13 Commitments and Contingencies)
Accounts Receivable - The Company carries its trade accounts receivable at invoice amount less an allowance for doubtful
accounts. On a periodic basis, the Company evaluates its accounts receivable and establishes an allowance for doubtful accounts
based upon management’s estimates that include a review of the history of past write-offs and collections and an analysis of current
credit conditions. At December 31, 2008 the Company established a reserve for doubtful accounts of approximately $50,000
($82,000 – 2007). The Company does not accrue interest on past due accounts receivable.
Inventory - Inventories consist primarily of paper, plastic materials and cards, pre-printed security paper, and legal supplies
held for resale and are stated at the lower of cost or market on the first-in, first-out (“FIFO”) method.
F-6
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Fixed Assets - Fixed assets are recorded at cost. Depreciation is computed using the straight-line method over the
estimated useful lives or lease period of the assets whichever is shorter. Expenditures for renewals and betterments are capitalized.
Expenditures for minor items, repairs and maintenance are charged to operations as incurred. Any gain or loss upon sale or
retirement due to obsolescence is reflected in the operating results in the period the event takes place.
Goodwill - Goodwill is the excess of cost of an acquired entity over the fair value of amounts assigned to assets acquired and
liabilities assumed in a business combination. With the adoption of SFAS No. 142, “Goodwill and Other Intangible Assets,” goodwill is
not amortized, rather it is tested for impairment annually, and will be tested for impairment between annual tests if an event occurs or
circumstances change that would indicate the carrying amount may be impaired. Impairment testing for goodwill is done at a
reporting unit level. Reporting units are one level below the business segment level, but are combined when reporting units within the
same segment have similar economic characteristics. Under the criteria set forth by SFAS No. 142, the Company has three reporting
units based on the current structure. An impairment loss generally would be recognized when the carrying amount of the reporting
unit’s net assets exceeds the estimated fair value of the reporting unit. The Company performs annual assessments and has
determined that no impairment is necessary.
Other Intangible Assets, Patent Defense Costs and Patent Application Costs– Intangible assets consists of costs
associated with the application, acquisition and defense of the Company’s patents, contractual rights to patents and trade secrets
associated with the Company’s technologies, a non-exclusive licensing agreement, and customer lists obtained as a result of
acquisitions. The Company’s patents and trade secrets are for document anti-counterfeiting and anti-scanning technologies and
processes that form the basis of the Company’s document security business. Patent application costs are capitalized and amortized
over the estimated useful life of the patent, which generally approximates its legal life. External legal costs incurred to defend the
Company’s patents are capitalized to the extent of an evident increase in the value of the patents and an expected successful
outcome, in accordance to guidance provided by FASB Concept Statement No. 6 and related guidance in AICPA Technical
Questions and Answers, Section 2260, Other Assets, paragraph .03, “Legal Expenses Incurred to Defend Patent Infringement
Suit”. Patent defense costs are expensed at the point when it is determined that the outcome is expected to be unsuccessful. The
Company capitalizes the cost of an appeal until it is determined that the appeal will be unsuccessful. The Company’s capitalized
patent defense costs expenses are analyzed for impairment based on the expected eventual outcome of the legal action and
recoverability of proceeds or added economic value of the patent in excess of the costs. Legal actions related to the same patent
defense case are unified into one asset group for the purposes on the impairment analysis. The Company considers patent related
amortization expense as an operating expense. The Company believes that the decision to incur patent costs is discretionary as the
associated products or services can be sold prior to or during the application process. The Company accounts for other intangible
amortization as an operating expense, unless the underlying asset in directly associated with the production or delivery of a product.
To date, the amount of related amortization expense for other intangible assets directly attributable to revenue recognized is not
material.
Impairment of Long-Lived Assets - The Company accounts for long-lived assets in accordance with the provisions of
SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. This statement requires that long-lived assets and
certain identifiable intangibles be reviewed for impairment whenever events or changes in circumstances indicate that the carrying
amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the
carrying amount of an asset to future net undiscounted cash flows expected to be generated by the asset including its ultimate
disposition. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the
carrying amount of the assets exceeds the fair value of the assets. Fair value is determined based on discounted cash flows or
appraised values, depending on the nature of the assets. In December 2008, the Company recorded an impairment $361,000 for a
license agreement the Company had acquired in 2006 for which the Company assessed that the probable future cash flows expected
to be derived from the license did not support the net carrying value of the license as of December 31, 2008. On March 19, 2008, the
Company received notification that its appeal of the invalidation of its European Patent 455750B1 in the UK was not successful. As
result of the adverse court decision, the Company recognized an impairment loss of $292,000 associated with costs directly related to
the U.K appeal as of March 31, 2008. The impairment loss includes a judgment for reimbursement of estimated counterpart legal
fees. In January, 2009, the Company received a formal request for fee reimbursement from the ECB for a total of $420,000 in
additon to amounts already paid by the Company. The Company hired an independent firm to assist the Company in reducing or
eliminating the ECB’s fees request, however, the Company recorded $145,000 as additional accrued expenses and an impairment
loss as of December 31, 2008. The Company expect that the UK fee issue will be resolved in second half of 2009.
Fair Value of Financial Instruments - Statements of Financial Accounting Standards No. 107, “Disclosures about Fair Value
of Financial Instruments,” requires disclosure of fair value information about financial instruments. Fair value estimates discussed
herein are based upon certain market assumptions and pertinent information available to management as of December 31, 2008.
These financial instruments include cash and cash equivalents, accounts receivable, accounts payable and accrued
expenses, revolving note payable and capital leases. Fair values were assumed to approximate carrying values for these financial
instruments since they are short-term in nature and their carrying amounts approximate fair values or they are receivable or payable
on demand. The fair value of the Company’s capitalized lease obligations and revolving note payable is estimated based upon the
quoted market prices for the same or similar issues or on the current rates offered to the Company for debt of the same remaining
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
maturities. The carrying value approximates the fair value of these debt instruments in 2008 and 2007.
F-7
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Share-Based Payments - The Company accounts for stock option awards granted under the Company’s Stock Incentive
Plans in accordance with Statement of Financial Accounting Standard No. 123 (revised 2004), “Share-Based Payment”, (“SFAS
123(R)”). Under SFAS 123R, compensation expense related to stock based payments are recorded over the requisite service period
based on the grant date fair value of the awards. The Company uses the Black-Scholes option pricing model for determining the
estimated fair value for stock-based awards. The Black-Scholes model requires the use of assumptions which determine the fair
value of stock-based awards, including the option’s expected term and the price volatility of the underlying stock.
The Company’s accounting policy for equity instruments issued to consultants and vendors in exchange for goods and
services follows the provisions of EITF 96-18, “Accounting for Equity Instruments That are Issued to Other Than Employees for
Acquiring, or in Conjunction with Selling, Goods or Services” and EITF 00-18, “Accounting Recognition for Certain Transactions
Involving Equity Instruments Granted to Other Than Employees.” The measurement date for the fair value of the equity instruments
issued is determined at the earlier of (i) the date at which a commitment for performance by the consultant or vendor is reached or
(ii) the date at which the consultant or vendor’s performance is complete. In the case of equity instruments issued to consultants, the
fair value of the equity instrument is recognized over the term of the consulting agreement
Revenue Recognition - Sales of security and commercial printing products, and legal products are recognized when a
product or service is delivered, shipped or provided to the customer and all material conditions relating to the sale have been
substantially performed.
For digital solutions sales, revenue is recognized in accordance with the American Institute of Certified Public Accountant's
Statement of Position (SOP) No. 97-2, "Software Revenue Recognition," as modified by SOP No. 98-9, "Modification of SOP No. 97-
2, Software Revenue Recognition with Respect to Certain Transactions" and Staff Accounting Bulletin (SAB) No. 104, "Revenue
Recognition." Accordingly, revenue is recognized when all of the following conditions are satisfied: (1) there is persuasive evidence
of an arrangement; (2) the service or product has been provided to the customer; (3) the amount of fees to be paid by the customer is
fixed or determinable (4) the collection of our fees is reasonably assured.
The Company also enters into arrangements under which hosted software applications are provided. Revenue is recognized
for these arrangements based on the provisions of EITF No. 00-3, Application of AICPA SOP 97-2 to Arrangements That Include the
Right to Use Software Stored on Another Entity’s Hardware (“EITF 00-3”), and the provisions of Staff Accounting Bulletin No. 104,
“Revenue Recognition in Financial Statements”, when there is persuasive evidence of an arrangement, collection of the resulting
receivable is probable, the fee is fixed or determinable and acceptance has occurred. Revenues related to these arrangements
consist of system implementation service fees and software subscription fees. System implementation services represent set-up
services that do not qualify as separate units of accounting from the software subscriptions as the customer would not purchase
these services without the purchase of the software subscription. As a result, revenue is recognized on system implementation fees
ratably over a period of time from when the core system implementation services are completed and accepted by the customer over
the remaining customer relationship life, which is the contractual life of the customer’s subscription agreement. Software subscription
fees, which typically commence upon completion of the related system implementation, are recognized ratably over the applicable
subscription period. Amounts billed and/or collected prior to satisfying our revenue recognition policy are reflected as deferred
revenue.
The Company recognizes revenue from technology licenses once all the following criteria for revenue recognition have been
met: (1) persuasive evidence of an agreement exists; (2) the right and ability to use the product or technology has been rendered; (3)
the fee is fixed and determinable and not subject to refund or adjustment; and (4) collection of the amounts due is reasonably
assured.
Advertising Costs– Generally consist of online, keyword advertising with Google with additional amounts spent on certain
print media in targeted industry publications. Advertising costs were $42,000 in 2008 ($93,000 – 2007).
Research and Development– Research and development costs are expensed as incurred as defined in SFAS No. 2,
Accounting for Research and Development Costs.
Foreign Currency-. Net gains and losses resulting from transactions denominated in foreign currency are recorded as other
income or loss.
Income Taxes - The Company accounts for income taxes in accordance with Statement of Financial Accounting Standards
No. 109, “Accounting for Income Taxes,” (“SFAS 109”), which requires recognition of estimated income taxes payable or refundable
on income tax returns for the current year and for the estimated future tax effect attributable to temporary differences and carry-
forwards. Measurement of deferred income items is based on enacted tax laws including tax rates, with the measurement of deferred
income tax assets being reduced by available tax benefits not expected to be realized. We recognize penalties and accrued interest
related to unrecognized tax benefits in income tax expense.
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
F-8
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Earnings Per Common Share - The Company has adopted the provisions of Statement of Financial Accounting Standards
No. 128 “Earnings per Share” (“SFAS 128”), which requires the presentation of basic and diluted earnings per share. Basic earnings
per share reflects the actual weighted average of shares issued and outstanding during the period. Diluted earnings per share are
computed including the number of additional shares that would have been outstanding if dilutive potential shares had been issued. In
a loss year, the calculation for basic and diluted earnings per share is considered to be the same, as the impact of potential common
shares is anti-dilutive.
If the Company had generated earnings during the year ended December 31, 2008, 376,239 (674,050 – 2007) common
equivalent shares would have been added to the weighted average shares outstanding to compute the diluted weighted average
shares outstanding.
Concentration of Credit Risk - The Company maintains its cash and cash equivalents in bank deposit accounts, which at
times may exceed federally insured limits. The Company believes it is not exposed to any significant credit risk as a result of any
non-performance by the financial institutions.
During 2008, two customers accounted for 11% and 10% of the Company’s total revenue from continuing operations,
respectively. As of December 31, 2008, one customer account receivable balance that was acquired as part of the Company’s
acquisition of the assets of a commercial printer in December 2008, accounted for 42% of the Company’s trade accounts receivable
balance. During 2007, one customer accounted for 13% of the Company’s total revenue from continuing operations. As of December
31, 2007, one customer accounted for 16% of the Company’s trade accounts receivable balance. The risk with respect to trade
receivables is mitigated by credit evaluations we perform on our customers, the short duration of our payment terms for the
significant majority of our customer contracts and by the diversification of our customer base.
Recent Accounting Pronouncements – In September 2006, the FASB issued SFAS No.157, Fair Value Measurements.
SFAS No. 157, as amended, defines fair value, establishes a framework for measuring fair value in accordance with accounting
principles generally accepted in the United States of America, and expands disclosures about fair value measurements. With respect
to financial assets and liabilities, SFAS No. 157 is effective for financial statements issued for fiscal years beginning after
November 15, 2007. However, in February 2008, the FASB determined that an entity need not apply this standard to nonfinancial
assets and liabilities that are recognized or disclosed at fair value in the financial statements on a nonrecurring basis until 2009.
Accordingly, the Company’s adoption of this standard on January 1, 2008, is limited to financial assets and liabilities and did not have
a material effect on the Company’s financial condition or results of operations. The Company is still in the process of evaluating the
impact of this standard with respect to its effect on nonfinancial assets and liabilities and has not yet determined the impact that it will
have on the consolidated financial statements upon full adoption.
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities, which
permits entities to choose to measure certain financial assets and liabilities at fair value. SFAS No. 159 is effective for years beginning
after November 15, 2007. The Company has not adopted the fair value option method permitted by SFAS No. 159.
In December 2007, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 141
(revised 2007), “Business Combinations” (“SFAS 141R”), which replaces SFAS 141. SFAS 141R establishes principles and
requirements for how an acquirer in a business combination recognizes and measures in its financial statements the identifiable
assets acquired, the liabilities assumed, and any controlling interest; recognizes and measures the goodwill acquired in the business
combination or a gain from a bargain purchase; and determines what information to disclose to enable users of the financial
statements to evaluate the nature and financial effects of the business combination. SFAS 141R is to be applied prospectively to
business combinations for which the acquisition date is on or after an entity’s fiscal year that begins after December 15, 2008. The
Company is currently evaluating the potential impact of the adoption of SFAS 141R on the consolidated financial position, results of
operations and cash flows.
In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements-on
Amendment of ARB No. 51. SFAS No. 160 establishes accounting and reporting standards for the noncontrolling interest in a
subsidiary. SFAS No. 160 is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim
statements within those fiscal years. Among other things, SFAS No. 160 requires noncontrolling interest to be included as a
component of shareholders’ equity. The Company does not currently have any noncontrolling interests.
F-9
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
On December 21, 2007, the SEC issued Staff Accounting Bulletin No. 110, “Share-Based Payment”. SAB No. 110 addresses
the use of a “simplified” method in developing an estimate of expected term of “plain vanilla” share options in accordance SFAS
No. 123(R), “Share-Based Payment”. SAB No. 110 allows the use of the “simplified” method of estimating expected term where a
company may not have sufficient historical exercise data. SAB No. 110 is effective January 1, 2008 and the Company plans to
continue to use the simplified method to estimate the expected term of its plain vanilla employee options.
On December 12, 2007, the Financial Accounting Standards Board (FASB) ratified the Emerging Issues Task Force (“EITF”)
opinion related to EITF Issue 07-1, “Accounting for Collaborative Arrangements.” The Task Force reached a consensus that a
collaborative arrangement is a contractual arrangement that involves two or more parties, all of which are both (a) involved as active
participants in a joint operating activity that is not conducted primarily through a separate legal entity and (b) exposed to significant
risks and rewards that depend on the commercial success of the joint operating activity. This Issue also addresses (i) the income
statement classification by participants in a collaborative arrangement for transactions with third parties and transactions between the
participants and (ii) financial statement disclosures. The consensus on EITF Issue 07-1 is effective for fiscal years beginning after
December 15, 2008, and for interim periods within those fiscal years. Entities should apply the consensus retrospectively to all
periods presented for only those collaborative arrangements existing as of the effective date, unless it is impractical to do so. The
Company will adopt this new accounting pronouncement effective January 1, 2009, and does not anticipate any material impact on its
financial condition or results of operations.
In April 2008, the FASB issued FSP FAS 142-3, “Determination of Useful Life of Intangible Assets” (“FSP FAS 142-3”). FSP
FAS 142-3 amends the factors that should be considered in developing the renewal or extension assumptions used to determine the
useful life of a recognized intangible asset under FAS 142, “Goodwill and Other Intangible Assets.” FSP FAS 142-3 also requires
expanded disclosure related to the determination of intangible asset useful lives. FSP FAS 142-3 is effective for fiscal years
beginning after December 15, 2008. The Company is currently evaluating the potential impact the adoption of FAS FSP 142-3 will
have on its financial statements.
In May 2008, the FASB issued FASB Staff Position (“FSP”) APB 14-1, “Accounting for Convertible Debt Instruments That
May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)” (“FSP APB 14-1”), which clarifies the accounting for
convertible debt instruments that may be settled in cash upon conversion, including partial cash settlement. FSP APB 14-1 specifies
that an issuer of such instruments should separately account for the liability and equity components of the instruments in a manner
that reflect the issuer’s non-convertible debt borrowing rate when interest costs are recognized in subsequent periods. FSP APB 14-1
is effective for fiscal years beginning after December 15, 2008, and retrospective application is required for all periods presented. The
Company believes that the adoption of this standard on its effective date will not have a material effect on the consolidated financial
statements
In May 2008, the FASB issued SFAS No. 162, The Hierarchy of Generally Accepted Accounting Principles. The purpose of
this statement is to improve financial reporting by providing a consistent framework for determining applicable accounting principles to
be used in the preparation of financial statements presented in conformity with accounting principles generally accepted in the United
States of America. SFAS No. 162 will become effective 60 days after the SEC’s approval. The Company believes that the adoption of
this standard on its effective date will not have a material effect on the consolidated financial statements
In June 2008, the FASB issued FSP EITF 03-6-1 to address whether instruments granted in share-based payment
transactions are participating securities prior to their vesting and therefore need to be included in the earnings per share calculation
under the two-class method described in SFAS No. 128, “Earnings per Share.” This FSP requires companies to treat unvested
share-based payment awards that have non-forfeitable rights to dividends or dividend equivalents as participating securities and thus,
include them in calculation of basic earnings per share. FSP EITF 03-6-1 is effective for fiscal years beginning after December 15,
2008. The Company does not anticipate a material impact on its financial statements or its computation of basic earnings per share
upon adoption.
In June 2008, the FASB ratified EITF" Issue No. 07-05, Determining Whether an Instrument (or Embedded Feature) Is
Indexed to an Entity's Own Stock. EITF No. 07-05 clarifies the determination of whether an instrument (or an embedded feature) is
indexed to an entity's own stock, which would qualify as a scope exception under SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities. EITF No. 07-05 is effective for financial statements issued for fiscal years beginning after
December 15, 2008. Early adoption for an existing instrument is not permitted. The Company believes that the adoption of this
standard on its effective date will not have a material effect on the consolidated financial statements
During the quarter ended June 30 2008, the Company adopted FSP 00-19-2, Accounting for Registration Payment
Arrangements. This FSP specifies that the contingent obligation to make future payments or otherwise transfer consideration under
a registration payment arrangement, whether issued as a separate agreement or included as a provision of a financial instrument or
other agreement, should be separately recognized and measured in accordance with FASB Statement No. 5, Accounting for
Contingencies. The Company has determined it to be remote, that it will be required to remit payments to the investors for failing to
obtain an effective registration statement on or before the required time frame.
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
F-10
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
NOTE 3. – INVENTORY
Inventory consisted of the following:
Finished Goods
Work in process
Raw Materials
December 31, December 31,
2008
2007
$
137,972 $
120,713
100,349
161,978
6,086
91,378
$
359,034 $
259,442
NOTE 4. - FIXED ASSETS
Fixed assets consisted of the following at December 31:
Machinery & equipment
Leasehold improvements
Furniture & fixtures
Software & websites
Total cost
Less accumulated depreciation
2008
2007
Estimated
Useful Life
Purchased
Under Capital
Leases
Purchased
Under
Capital
Leases
5-7 years $
up to 13 years (1)
7 years
3 years
770,672 $
727,339
90,952
258,744
484,936 $
-
-
-
602,817 $
574,938
87,721
243,586
484,936
-
-
-
$ 1,847,707 $
610,267
484,936 $ 1,509,062 $
387,204
205,019
484,936
112,254
Net
$ 1,237,440 $
279,917 $ 1,121,858 $
372,682
(1) Expiration of lease term
On September 25, 2007, the Company sold certain assets and the operations of its retail copying and quickprinting operations
to an unrelated third party. The sale included fixed assets with a net book value of approximately $37,000. The Company
recognized a gain on the sale of approximately $43,000 (See Note 9). Depreciation expense for assets under capital leases was
approximately $93,000 for the year ended December 31, 2008 ($34,000 – 2007).
NOTE 5. - INTANGIBLE ASSETS
Goodwill - In accordance with the provisions of SFAS No. 142, “Goodwill and Other Intangible Assets” (SFAS 142), the
Company performs an annual fair value test of its recorded goodwill for its reporting units using a discounted cash flow and
capitalization of earnings approach. As of December 31, 2008, the Company’s goodwill of approximately $1,397,000 consists of
approximately $81,000 attributable to the legal segment and approximately $1,316,000 attributable to the document security products
and printing segment. There was no goodwill recorded by the Company as a result of the acquisition of substantially all of the assets
of DPI of Rochester, LLC in December 2008.
Other Intangible Assets - Other intangible assets consists of costs associated with the application, acquisition and defense
of our patents, contractual rights to patents and trade secrets associated with our technologies, a non-exclusive licensing agreement,
and customer lists obtained as a result of acquisitions. Our patents and trade secrets are for document anti-counterfeiting and anti-
scanning technologies and processes that form the basis of our document security business.
F-11
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
In February 2006, the Company acquired intangible assets associated with its acquisitions of the assets of Plastic Printing
Professional. These intangible assets were valued at $625,000 by an independent valuation firm and consist of customer lists, trade
name and brand, and a non-compete agreement.
In June, 2007, the Company entered into an agreement with International Barcode Technologies, also known as BTI, to
extend the expiration date of warrants to purchase 500,000 shares of common stock of the Company at a purchase price of $10.00
per share from June 16, 2007 to December 31, 2007. In exchange, BTI has agreed to provide the Company with a non-exclusive
license to market and produce BTI’s advanced barcode technologies in the United States for five years. The value of the extension
of the warrant was determined to be approximately $521,000 using the Black-Scholes option pricing model. This amount was
recorded as an other intangible asset and was being amortized over the expected useful life of the license agreement of five
years. In December 2008, the Company recorded an impairment of $361,000 for the carrying value of this license agreement for
which the Company assessed that the probable future cash flows expected to be derived from the license did not support the net
carrying value of the license as of December 31, 2008.
Patent Acquisition and Defense Costs-
Included in its capitalized patent defense costs are costs associated with the acquisition of certain rights associated with
patents that the Company is defending. In December 2004, the Company entered into an agreement with the Wicker Family, in
which Document Security Systems obtained the legal ownership of technology (including patent ownership rights) previously held by
the Wicker Family. At that time, the agreement with the Wicker Family provided that the Company would retain 70% of the future
economic benefit derived from settlements, licenses or subsequent business arrangements from any infringer of the Wicker patents
that Document Security Systems chooses to pursue. The Wicker Family was to receive the remaining 30% of such economic
benefit. In February 2005, the Company further consolidated its ownership of the Wicker Family based patents and its rights to the
economic benefit of infringement settlements when the Company purchased economic interests and legal ownership from
approximately 45 persons and entities that had purchased various rights in Wicker Family technologies prior to 2002. The Company
issued an aggregate of 541,460 shares of its Common Stock for the rights of the interest holders and secured 100% ownership of a
US Patent and approximately 16% of additional economic rights to settlements with infringers of the Wicker Family’s foreign
patents. The value of the shares of Common Stock was determined based upon the closing price of the shares of the Company’s
Common Stock on the American Stock Exchange on February 15, 2005 of $7.25 per share. The total aggregate fair value of the
acquisition, net of expenses, of the interests from the interest holders was $3,905,672.
Patent defense costs are comprised of legal cost associated with our patent infringement suit against the European Central
Bank (“ECB Litigation”). We based our decision to defer the costs associated with this case on the principal that successful patent
defense costs are capitalizable. First, the Company’s case is based on the relationship of the inventor of the Company’s patent with
various representatives of European currency printers, consultants, and other participants during the late 1990’s in regard to the
industry’s attempts to defeat new advanced levels of copier and scanning technologies that were then emerging in the
marketplace. The inventor of the DSS’s patent had a proven history of success in anti-counterfeiting technology, and was seen as a
source for these industry participants to help solve these challenges. The Company believes that it can establish a direct link
between these communications and the use of the technology by these industry participants in the design and production of the Euro,
which was designed in the late 1990’s and was initially released for circulation in 2002. In addition, prior to filing the ECB litigation,
the Company consulted extensively with legal counsel and performed extensive due diligence with our legal counsel for
approximately one year to analyze the merits of our patent infringement case, and only after these efforts did we take our legal
counsel’s recommendation to proceed with the European Central Bank (ECB) Litigation. Based on the cumulative evidence available
to the Company at the time of filing the suit, the Company has believed from the outset of the case that it will be able to prove in court
that the ECB infringed the Company’s patent on its Euro notes by using the Company’s technology in the design of the notes for the
specific purpose of making the notes difficult to copy, and therefore the Company’s infringement case would be successful. Since
the case was filed, the Company has not seen any evidence from the ECB which specifically addresses the Company’s infringement
assertions.
The most significant events in the case since it was filed have been the challenges of patent validity by the ECB. The
Company believes that the ECB’s challenge of patent validity represents the biggest hurdle to a successful outcome. To date, there
have been two adverse rulings and two positive rulings in regard to the patent’s validity. The Company believes that the European
court system for patent disputes is unique as it separates jurisdiction to its member states despite having a unified patent application
and approval system. As a case in point, on March 26, 2007, the Company’s patent was deemed invalid in the United Kingdom and
then on the immediately following day, on March 27, 2007, the Company’s patent was ruled as valid in Germany. In addition, on
January 9, 2008 the French Court held that the patent was invalid in France for the same reasons given by the English Court. On
March 12, 2008 the Dutch Court, having considered the English, German and French decisions, ruled that the Patent is valid in the
Netherlands.
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
F-12
When we assess the impact of these decisions, the Company understands that the adverse rulings on validity mean that the
Company will not be able to file infringement lawsuits in those jurisdictions, and assesses these material changes in its analysis of the
potential proceeds of its case. The win in Germany, which has the largest volume of circulation of the European banknotes, had a
significant positive impact on the Company’s probability analysis of cash flows associated with the case. Furthermore, the Company
understands that a successful infringement ruling in any one of the jurisdictions of the European Union will have a similar impact as if
the Company was successful in all of the jurisdictions of the case, since the ECB would have to either remove the technology from its
banknotes, produce different banknotes depending on the jurisdiction in which the banknote is circulated, or pay a licensing fee to
continue to use the Company’s patented technology. The Company believes that the ECB would address the going-forward use of
the Company’s technology in its banknotes, either through a license or settlement, regardless if the Company wins in one jurisdiction
or all nine. Furthermore, regardless of the ECB’s decision on how to address a going-forward usage of the Company’s technology, if
the Company is successful in its litigation against the ECB, it is expected that a court would impose damages on the ECB for prior,
unauthorized usage of the Company’s patent.
The Company will seek a lump-sum payment for all past uses of the infringed patented technology, and then will seek an on-
going license fee for the continued use of the patented technology. The Company expects that the ECB will choose to pay the
ongoing license fees rather than redesign the Euro bank notes to not include the patented technology. The Company’s basis for this
expectation is based on its understanding of the security printing business. The Company has a long history of licensing its other
patented technology to commercial security printers for use in commercial and governmental documents in the same manner (% of
sales) that it expects the ECB to pay, either via court decision or a license fee settlement.
In its analysis of the recoverability of its capitalized patent defense costs, the Company uses the potential proceeds from its
ECB Litigation as the primary source of future cash flows. In addition, the Company believes that there are additional infringers of the
technology that it may pursue in the future, depending on the outcomes of its suit with the ECB. Specifically, the Company uses
assumptions of banknote production volumes during the alleged infringement period and estimated banknote production costs from
third party sources to determine the estimated total costs of the production of the Euro banknotes in each year of infringement. The
Company then applies a royalty rate that the Company generally charges international licensees and that the Company believes is
consistent with industry standards to determine the amount that would be due to the Company if the ECB had licensed the technology
from the Company on the Company’s standard licensing terms. The Company uses this amount as an estimate of the gross
proceeds it could receive from a successful outcome of the litigation in all jurisdictions. The Company then allocates these potential
proceeds by the percent of circulation of each jurisdiction in which the Company has ongoing litigation to determine the potential
proceeds of a successful outcome in the jurisdictions where the patent has been held as valid or where the patent validity has not yet
been determined. Finally, the Company uses a probability factor in its analysis that discounts these potential future proceeds that
takes into account the different status levels of each jurisdiction. Thus, the Company determines a probability based cash flow which
is compared to the net patent defense costs balance to determine whether an impairment of these costs has occurred.
If a patent is determined to be invalid in a jurisdiction, as has occurred in the United Kingdom and France, then all appeal
costs and other costs associated with the loss such as court and opposition fees awarded are expensed as incurred in the period in
which the amount is determined.
F-13
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
On March 19, 2008, the Company received notification that its appeal of the invalidation of its European Patent 455750B1 in
the UK was not successful. As result of the adverse court decision, the Company recognized an impairment loss of $292,000
associated with costs directly related to the U.K appeal. The impairment loss includes a judgment for reimbursement of estimated
counterpart legal fees. In January, 2009, the Company received a formal request for fee reimbursement from the ECB for a total of
$420,000 in additon to amounts already paid by the Company. The Company hired an independent firm to assist the Company in
reducing or eliminating the ECB’s fees request, however, the Company recorded $145,000 as additional accrued expenses and an
impairment loss as of December 31, 2008. The Company expect that the UK fee issue will be resolved in second half of 2009. (See
Note 13)
On August 20, 2008, the Company entered into an agreement with Trebuchet Capital Partners, LLC (“Trebuchet”) under
which Trebuchet has agreed to pay substantially all of the litigation costs associated with pending validity proceedings initiated by the
European Central Bank (“ECB”) in eight European countries relating to the Company’s European Patent 0 455 750B1 that the
Company has claimed the ECB infringed in printing of the Euro currency (the “Patent”). Trebuchet also agreed to pay substantially all
of the litigation costs associated with future validity challenges filed by the ECB or other parties, provided that Trebuchet elects to
assume the defense of any such challenges, in its sole discretion, and patent infringement suits filed against the ECB and certain
other alleged infringers of the Patent, all of which suits may be brought at the sole discretion of Trebuchet and may be in the name of
the Company, Trebuchet or both. The Company provided Trebuchet with the sole and exclusive right to manage infringement
litigation relating to the Patent in Europe, including the right to initiate litigation in the name of the Company, Trebuchet or both and to
choose whom and where to sue, subject to certain limitations set forth in the agreement. Under the terms of the Agreement, the
Company and Trebuchet have agreed to equally share all proceeds generated from litigation relating to the Patent, including
judgments and licenses or other arrangements entered into in settlement of any such litigation. Trebuchet is also entitled to recoup
any litigation expenses specifically awarded to the Company in such actions. Under the terms of the Agreement, and in consideration
for Trebuchet’s funding obligations, the Company assigned and transferred a 49% interest of the Company’s rights, title and interest
in the Patent to Trebuchet which allows Trebuchet to have a separate and distinct interest in and share of the Patent, along with the
right to sue and recover in litigation, settlement or otherwise to collect royalties or other payments under or on account of the
Patent. Pursuant to this transaction, the Company recognized a loss on the sale of patent assets for its assignment and transfer of
49% of its ownership rights in the patent, which had a net book value of approximately $1,670,000, for proceeds of $500,000, As a
result, the Company recognized a loss on sale of patent assets of $1,170,000.
Patent Application Costs - On an ongoing basis, the Company submits formal and provisional patent applications with the
United States, Canada and countries included in the Patent Cooperation Treaty (PCT). The Company capitalizes these costs and
amortizes them over the patents’ estimated useful life.
Other intangible assets are comprised of the following at December 31:
2008
2007
Useful Life
Gross Carrying
Amount
5 years $
5 years
90,000
666,300
Accumulated
Amortizaton
$
90,000
405,424
Net Carrying
Amount
Gross
Carrying
Amount
$
-
260,876
$
90,000
1,187,595
Accumulated
Amortizaton
$
72,000
335,304
Net Carrying
Amount
$
18,000
852,291
Varied (1)
4,729,889
2,732,422
1,997,467
7,622,602
2,864,303
4,758,299
Varied (2)
718,875
103,429
615,446
582,738
61,798
520,940
Royalty rights
Other intangibles
Patent acquisition
and defense costs
Patent application
costs
$
6,205,064
$
3,331,275
$ 2,873,789
$ 9,482,935
$
3,333,405
$ 6,149,530
(1)- patent rights are amortized over their expected useful life which is generally the legal life of the patent. As of December 31,
2008 the weighted average remaining useful life of these assets in service was 2.1 years.
(2)- patent rights are amortized over their expected useful life which is generally the legal life of the patent. As of December 31,
2008 the weighted average remaining useful life of these assets in service was 15 years.
F-14
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Actual amortization for 2008 and 2007 and expected amortization for each of the next five years is as follows:
2007 Actual
2008 Actual
Expected
$1,754,000
1,972,000
2009 1,341,000
607,000
2010
454,000
2011
36,000
2012
36,000
2013
Thereafter
400,000
$2,874,000
NOTE 6. – SHORT TERM AND LONG TERM DEBT
Long Term Revolving Note- Related Parties On January 4, 2008, the Company entered into a Credit Facility Agreement
with Fagenson and Co., Inc., as agent, a related party to Robert B. Fagenson, the Chairman of the Company's Board of Directors.
Under the Fagenson Credit Agreement, the Company can borrow up to a maximum of $3,000,000 from time to time up to and until
January 4, 2010. The advances are generally limited to $400,000 unless otherwise mutually agreed upon by both parties per fiscal
quarter, with the exception of $600,000 that can be advanced at any time for patent litigation related bills. Any amount borrowed by
the Company pursuant to the Fagenson Credit Agreement will have an annual interest rate of 2% above LIBOR and will be secured
by the Common Stock of Plastic Printing Professionals, Inc., (“P3”) the Company's wholly owned subsidiary. Interest is payable
quarterly in arrears and the principal is payable in full at the end of the term under the Fagenson Credit Agreement. In addition, on
January 4, 2008, the Company also entered into a Credit Facility Agreement with Patrick White, the Company's Chief Executive
Officer and a member of the Board of Directors. Under the White Credit Agreement, the Company can borrow up to $600,000 from
time to time up to and until January 4, 2010. Any amount borrowed by the Company pursuant to the White Credit Agreement will
have an annual interest rate of 2% above LIBOR and will be secured by the accounts receivable of the Company, excluding the
accounts receivable of P3. Interest is payable quarterly in arrears and the principal is payable in full at the end of the term under the
White Credit Agreement. Mr. White can accept common stock as repayment of the loan upon a default. Under the terms of the
agreement the Company is required to comply with various covenants. As of December 31, 2008, the Company was in default of
both agreements due to a failure to pay interest when due. Both Fagenson and Co., Inc. and Patrick White have waived the defaults
through January 1, 2010.
As of December 31, 2008, the Company had outstanding $450,000 under the White Credit Agreement, $1,833,000 under the
Fagenson Credit Agreement. Interest expense amounted to $82,000 for the year ended December 31, 2008, of which $54,000 is
included in accrued expenses as of December 31, 2008.
Short-Term Notes- On May 7, 2008 the Company entered into a $500,000 unsecured credit facility with Taiko III Corp to
fund the Company’s ongoing patent infringement and related lawsuits against the European Central Bank. Interest accrued on the
unpaid principal amount at a 6% annual rate. On August 20, 2008, the Company entered into an agreement with Trebuchet Capital
Partners, LLC, which, among other things, called for Trebuchet to pay the Company $500,000, which the Company used to pay in full
the Company’s existing obligation owed to Taiko III Corp.
On December 18, 2008, the Company’s wholly owned subsidiary, Secuprint, Inc. (dba DPI Secuprint, Inc.) entered a
Secured Promissory Note with Baum Capital Investments Inc. (“Baum”) in the principal amount of up to $900,000 to pay for most of
the cash portion of the purchase price of the Company’s acquisition of substantially all of the assets of DPI of Rochester, LLC. The
Secured Promissory Note has a one-year term, is secured by all of the assets of DPI Secuprint and has an annual interest rate of
15%, with a reduction to 12%, depending on whether certain conditions are met after three months. The note is subject to pre-
payments if among other provisions, if DPI Secuprint’s cash receipts do not exceed its cash expenditures for two consecutive months
during the term. In conjunction with the Note, the Company issued warrants to purchase up to a total of 250,000 shares of the
Company’s common stock at an average price of $2.00 per share. The warrants are exercisable on February 16, 2009 and expire on
December 17, 2013. The fair value of the warrants of approximately $256,000 was determined using the Black Scholes option pricing
model, and was recorded as discount on debt and will be amortized over the term of the Note.
F-15
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
NOTE 7. - STOCKHOLDERS’ EQUITY
Stock Issued for Services - On November 14, 2006, the Company entered into an agreement with McDermott Will Emery
LLP (“MWE”), its former lead counsel on its European Central Bank (“ECB Litigation”) patent infringement and related cases. The
agreement with MWE allowed the Company to use its common stock with a value not to exceed $1.2 million to eliminate the
Company’s cash requirements for MWE’s legal fees related to the ECB Litigation. During 2007, 60,866 restricted common shares
were issued to MWE to pay for approximately $746,000 of legal fees incurred the through December 31, 2007. There were no
shares issued under the agreement during 2008. In total, 107,881 shares valued at $1,203,000 were issued to MWE under the
agreement.
Stock Issued in Private Placement - On January 22, 2007, the Company sold 6 units at a price of $50,000 per unit
consisting of 35,280 unregistered shares of its common stock and five-year warrants to purchase up to an aggregate of 17,640 shares
of its common stock at an exercise price of $11.75 per share. The fair market value of these warrants of $107,000 was determined
using the Black Scholes option pricing model. The Company incurred private placement fees associated with the offering equal to
9% commissions, or $27,000. In addition, in January 2007, the Company paid $492,000 of private placement fees and legal fees
relating to an offering that occurred during 2006.
On June 25, 2008 the Company entered into two Share Purchase Agreements pursuant to which the Company agreed to sell
a total of 500,000 shares of the Company’s common stock for an aggregate purchase price of $2,000,000. Pursuant to the terms of
the first Agreement, the Company sold 150,000 shares of Common Stock to the purchaser for $600,000 payable on June 25, 2008.
Pursuant to the terms of the second Agreement, the Company sold 350,000 shares of Common Stock for $1,400,000, with $100,000
payable on June 25, 2008 and the remaining $1,300,000 payable in six-month installments over a two-year period. As of March 31,
2009, the share subscription was not current and the Company is reviewing its options under the Agreement, which may include
termination of the agreement. Pursuant to the terms of the first Agreement, the purchaser may not sell the 150,000 shares of
Common Stock purchased thereunder earlier than June 25, 2009. Pursuant to the terms of the second Agreement, the purchaser
may not sell the 350,000 shares of Common Stock purchased thereunder until the earlier of (i) one year after the Purchase Price
being paid in full to the Company, or (ii) the one-year anniversary of a Payment Failure Termination Event (as defined in the second
Agreement). (See Note 13 Commitments and Contingencies)
On August 20, 2008, the Company entered into an agreement with Trebuchet Capital Partners, LLC who agreed to pay
substantially all of the litigation costs associated with pending validity proceedings initiated by the ECB in eight European countries
relating to the Company’s European Patent 0 455 750B1 that the Company has claimed the ECB infringed in printing of the Euro
currency. Trebuchet has also purchased 100,000 shares of the Company’s common stock for an aggregate purchase price of
$400,000, the proceeds of which were used by the Company to pay existing litigation cost.
Stock Warrants - During year ended December 31, 2008, the Company received $100,000 in proceeds from the exercise of
warrants to purchase 50,000 shares of its common stock. During year ended December 31, 2007, the Company received
approximately $55,000 in proceeds from the exercise of warrants to purchase 12,125 shares of its common stock.
On June 16, 2006, the Company issued to International Barcode Corporation (d/b/a Barcode Technology)(“BTI”), a warrant to
purchase 500,000 shares of the Company’s common stock, $0.02 par value per share, at a price of $10.00 per share vesting over
approximately one year and with an expiration date of June 16, 2007. The fair value of the warrants amounted to $890,000 utilizing
Black Scholes option pricing model. This value was recognized over the vesting period. During the year ended December 31, 2007,
the Company recognized approximately $223,000 of expense related to these warrants. The warrants were issued in conjunction
with an agreement that provides BTI with the exclusive right to market, sell and manufacture DSS technologies, products and
processes for all security-related applications for government and commercial use in China. In June 2007, the Company entered
into an agreement with BTI to extend the expiration date of the warrants from June 16, 2007 to December 31, 2007. In exchange,
BTI agreed to provide the Company with a non-exclusive license to market and produce BTI’s advanced barcode technologies in the
United States for five years. This extension was treated as a modification of the award in accordance with FAS 123R. The value of
the modification of approximately $521,000 was recorded as an other intangible asset. In December 2008, the Company recorded
an impairment of $361,000 for the BTI license agreement as the Company assessed that the probable future cash flows derived from
the license did not support its carrying value.
On December 18, 2008, the Company issued warrants to purchase up to a total of 250,000 shares of the Company’s
common stock at an average price of $2.00 per share in conjunction with a secured promissory note. (See Note 6- Short Term and
Long-Term Debt) The warrants are exercisable on February 16, 2009 and expire on December 17, 2013. The fair value of the
warrants of approximately $256,000 was determined using the Black Scholes option pricing model, and was recorded as discount on
debt and will be amortized over the term of the note.
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
F-16
During 2007, the Company issued 25,000 fully vested warrants to purchase the Company’s shares with an exercise price of
$12.59 per share with a three-year term to a unrelated third party consultant. Additionally, during 2007, the Company issued 136,760
warrants to purchase the Company’s shares with an exercise price of $12.63 per share with a five-year term to another unrelated third
party consultant of which 50% of the warrants vested upon issuance with the remaining warrants to vest six months from the date of
grant, subject to certain vesting acceleration provisions.
The following is a summary with respect to warrants outstanding and exercisable at December 31, 2008 and 2007 and
activity during the years then ended:
2008
2007
Weighted
Average
Exercise
Price
Weighted
Average
Exercise
Warrants
Warrants Price
Outstanding and exercisable at January 1
591,093 $
10.82 923,818 $
9.96
Granted during the year
Exercised
Lapsed
250,000 $
(50,000) $
(30,061) $
2.00 179,400 $
(2.00)
(12,125) $
(5.00) (500,000) $
12.54
(4.55)
(10.00)
Outstanding and exercisable at December 31
761,032 $
8.73 591,093 $
10.82
Weighted average months remaining
44.7
43.8
The following table summarizes the warrants outstanding and exercisable as of December 31, 2008:
Range of Exercise Prices
$1.60-$4.99
$11.00-$12.63
Warrants Outstanding & Exercisable
Weighted
Average
Remaining
Contractual
Life (in years)
Weighted
Average
Exercise
Price
Number of
Shares
250,000
511,032
761,032
5.0 $
3.1 $
2.00
12.03
Stock Options - The Company has two stock-based compensation plans. The 2004 Employees’ Stock Option Plan (the
“2004 Plan”) provides for the issuance of up to a total of 1,700,000 shares of common stock authorized to be issued for grants of
options, restricted stock and other forms of equity to employees and consultants. Under the terms of the 2004 Plan, options granted
thereunder may be designated as options which qualify for incentive stock option treatment (“ISOs”) under Section 422A of the
Internal Revenue Code, or options which do not qualify (“NQSOs”). The exercise price for options granted under the Director Plan is
100% of the fair market value of the Common Stock on the date of grant. The Non-Executive Director Stock Option Plan (the “Director
Plan”) provides for the issuance of up to a total of 100,000 shares of common stock authorized to be issued for options grants for non-
executive directors and advisors. Under the terms of the Director Plan, an option to purchase (a) 5,000 shares of our common stock
shall be granted to each non-executive director upon joining the Board of Directors and (b) 5,000 shares of our common stock plus an
additional 1,000 shares of our common stock for each year that the applicable director has served on the Board of Directors, up to a
maximum of 10,000 shares per year shall be granted to each non-executive director thereafter on January 2nd of each year; provided
that any non-executive director who has not served as a director for the entire year immediately prior to January 2nd shall receive a
pro rata number of options based on the time the director has served in such capacity during the previous year. Both Plans were
adopted by the Company’s shareholders.
F-17
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
The following is a summary with respect to options outstanding at December 31, 2008 and 2007 and activity during the years
then ended:
2004 Employee Plan
Non-Executive Director Plan
Number of
Options
Weighted
Average
Exercise Price
Weighted
Average
Life
Remaining
(in years)
Number of
Options
Weighted
Average
Exercise Price
Weighted
Average Life
Remaining
(in years)
296,000
326,500
(5,000)
-
617,500
83,000
-
(37,000)
663,500
381,917
8.17
11.36
(8.38)
-
9.70
5.01
-
(8.87)
7.27
6.98
58,750 $
20,000
-
-
78,750
37,000
-
-
115,750
78,750
8.02
11.10
-
-
8.78
6.31
-
-
7.99
8.78
Outstanding at December 31, 2006
Granted
Exercised
Forfeited
Outstanding at December 31, 2007:
Granted
Exercised
Forfeited
Outstanding at December 31, 2008:
Exercisable at December 31, 2008:
Aggregate Intrinsic Value of outstanding options at
December 31, 2008 $
Aggregate Intrinsic Value of exercisable options at
December 31, 2008 $
-
-
2.5 $
1.9 $
-
-
2.4
1.6
Range of
Exercise
Prices
$2.20-$5.00
$5.01-$9.00
$9.01-$12.91
Options Outstanding
Options Exercisable
Weighted
Average
Remaining
Contractual
Life (in years)
Weighted
Average
Exercise
Price
Number of
Shares
Weighted
Average
Remaining
Contractual
Life (in years)
Weighted
Average
Exercise
Price
Number of
Shares
46,750
502,500
230,000
779,250
3.4
2.5
2.0
$
$
$
3.87
6.07
10.94
13,750
329,417
117,500
460,667
0.1
1.9
1.9
$
$
$
3.57
6.12
10.99
The weighted-average grant date fair value of options granted during the year ended December 31, 2008 was $2.03 ($5.11 -
2007). There were no options exercised during the year ended December 31, 2008. There were 5,000 options exercised in a
cashless exercise during the year ended December 31, 2007 with a weighted average grant date fair value of $3.12 per share.
F-18
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
The fair value of each option award is estimated on the date of grant utilizing the Black Scholes Option Pricing Model that
uses the assumptions noted in the following table.
Volatility
Expected option term
Risk-free interest rate
Expected forfeiture rate
Expected dividend yield
2008
2007
53.6%
54.2%
3.3 years
3.61 years
3.09%
0.0%
0.0%
4.2%
0.0%
0.0%
Restricted Stock Issued to Employees – Restricted common stock is issued under the 2004 Plan for services to be
rendered and may not be sold, transferred or pledged for such period as determined by our Compensation Committee. Restricted
stock compensation cost is measured as the stock’s fair value based on the quoted market price at the date of grant. The restricted
shares issued reduce the amount available under the employee stock option plans. Compensation cost is recognized only on
restricted shares that will ultimately vest. The Company estimates the number of shares that will ultimately vest at each grant date
based on historical experience and adjust compensation cost and the carrying amount of unearned compensation based on changes
in those estimates over time. Restricted stock compensation cost is recognized ratably over the requisite service period which
approximates the vesting period. An employee may not sell or otherwise transfer unvested shares and, in the event that employment
is terminated prior to the end of the vesting period, any unvested shares are surrendered to the Company. The Company has no
obligation to repurchase restricted stock.
The following is a summary of activity of restricted stock during the years ended at December 31, 2008 and 2007:
Restricted shares outstanding, December 31, 2006
Restricted shares granted
Restricted shares vested
Restricted shares forfeited
Restricted shares outstanding, December 31, 2007
Restricted shares granted
Restricted shares vested
Restricted shares forfeited
Weighted- average
Grant Date Fair
Value
Shares
375,000 $
220,000
(21,677)
(60,000)
513,323 $
110,592
(46,134)
(250,000)
10.29
12.50
(10.77)
(10.19)
12.35
2.31
(10.49)
(12.50)
Restricted shares outstanding, December 31, 2008
327,781 $
9.05
F-19
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
On December 18, 2008, the Company issued under the 2004 Plan 50,000 restricted shares of the Company’s common stock
each to two former employees of DPI of Rochester, LLC, as part of their employment agreements for future services to the
Company. The restricted shares had a aggregated grant date fair value of $210,000 and will vest proratably over five years. During
2007, the Company granted restricted shares of 25,000 shares of the Company’s common stock with a fair value of $312,500 to a
member of the Company’s management that vests proratably over a two year period. Also in 2007, the Company granted 195,000
performance based restricted stock to certain members of the Company’s senior management, all of which immediately vest upon the
occurrence of certain events over a 5 year period, which include, among other things a change of control of the Company or other
merger or acquisition of the Company, and the achievement of certain financial goals, including among other things a successful
result of the Company’s patent infringement lawsuit against the European Central Bank.
As of December 31, 2008, there are 132,781 unvested restricted shares granted to employees and consultants that vest
through December 2014. In addition, there are 195,000 restricted shares that will vest only upon the occurrence of certain events
over the next 4 years, which include, among other things a change of control of the Company or other merger or acquisition of the
Company, the achievement of certain financial goals, including among other things a successful result of the Company’s patent
infringement lawsuit against the European Central Bank. These 195,000 shares, if vested, would result in the recording of stock
based compensation expense of approximately $2,438,000, the grant date fair value, over the period beginning when any of the
contingent vesting events is deemed to be probable over the expected requisite service period. As of December 31, 2008, vesting is
not considered probable and no compensation expense has been recognized related to the performance grants. On May 10, 2008,
the Company accelerated the vesting of 33,333 restricted shares and retired 250,000 of unvested restricted stock as the result of a
separation agreement with the Company’s former President. The 33,333 shares of restricted stock, formerly set to vest pro-ratably
through June 2009, were accelerated to vest pro-ratably on a monthly basis over a ten-month vesting period ending in March
2009. As a result of the acceleration of the 33,333 shares of restricted stock, the Company recognized approximately $194,000 of
stock based compensation during the year ended December 31, 2008. (See Note 13)
Stock-Based Compensation -On August 13, 2008, the Company cancelled 330,500 employee stock options with exercise
prices ranging from $6.24 to $12.50, and replaced the cancelled options with 330,500 employee stock options with an exercise price
of $6.00. No other terms of the options were modified. On the date of grant, the fair market value of the Company’s Common Stock
was $5.15. The repricing was treated as a modification under FAS123R, and resulted in an additional aggregate fair value expense
determined using the Black- Scholes option pricing model of approximately $225,000, of which approximately $170,000 was
expensed as of the grant date for fully vested options. The remaining fair value of the modified options will be expensed proratably
during the expected vesting period of the options thru 2010.
The total compensation cost that has been charged against income for stock based awards granted was approximately
$1,747,000 for the year ended December 31, 2008. The impact of these expenses to the weighted average common shares
outstanding, basic and diluted earnings for the year ended December 31, 2008 was approximately $0.12. As of December 31, 2008,
there was approximately $434,000 of unrecognized compensation cost related to stock based compensation awards which costs are
expected to be recognized over a period of 5.0 years. There was no unrecognized compensation cost related to non-vested options
granted under the Non-Executive Director plan.
NOTE 8. –BUSINESS COMBINATIONS-
On December 18, 2008, the Company, through its wholly owned subsidiary, Secuprint, Inc. (dba DPI Secuprint, Inc.) acquired
substantially all of the assets of DPI of Rochester, LLC (“DPI”) for approximately $938,000 in cash and $145,000 of expenses, the
right to assume certain leases, including the lease on its building, and a contingent payment of up to $50,000 within five years of the
acquisition. The acquisition has been accounted for as a business combination. Under business combination accounting, the total
purchase price was allocated to DPI’s net tangible and identifiable intangible assets, if any, based on their estimated fair values as of
December 18, 2008 as determined by management. Based on management’s preliminary assumptions, no goodwill was recorded
as a result of the business combination. The contingent payment of up to $50,000 was considered remote, therefore, future
payments made, if any, will be considered additional purchase price when paid.
The allocation of the preliminary purchase price and the estimated useful lives associated with the acquired assets is as
follows:
Accounts receivable
Inventory and work in process
Machinery and equipment
Total assets acquired
Liabilities assumed
Total preliminary purchase price
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Amount
Estimated
Useful Life
$
876,287
67,250
139,000
1,082,537
—
$ 1,082,537
5 years
Set forth below is the unaudited pro forma revenue, operating loss, net loss and loss per share of the Company as if DPI had been
acquired by the Company as of January 1, 2007:
Revenue
Gross profit
Net Loss
Basic and diluted loss per share
NOTE 9. -DISCONTINUED OPERATIONS
Year Ended December 31,
(unaudited)
2008
2007
$ 14,119,500 $ 13,561,439
4,775,437
5,886,063
(7,467,102)
(8,717,790)
(0.55)
(0.62)
On September 25, 2007, the Company sold certain assets and the operations of its retail copying and quickprinting operations
to an unrelated third party for $80,000 and the assumption of ongoing operating leases. The sale included fixed assets with a net
book value of approximately $37,000. In accordance with SFAS 144, the disposal of assets constitutes a component of the entity and
has been accounted for as discontinued operations. The Company recognized a gain on the sale of approximately $43,000. The
operating results relating to these assets are segregated and reported as discontinued operations in the accompanying 2007
consolidated statement of operations. The results of operations directly attributed to the division’s operations that have been
reclassified from continuing operations are as follows:
Revenues
Cost of sales
Operating expenses
Loss from discontinued operations
NOTE 10. – OTHER INCOME
Year Ended December
2007
$
$
291,781
142,331
203,917
(54,467)
On May 31, 2008, the Company was awarded a judgment of approximately $126,000 pursuant to a positive judgement for the
Company in its counterclaim the matter “Frank LaLoggia v. Document Security Systems, Inc”, which the Company won in June
2006. The Company expects to collect the full amount of the judgment.
NOTE 11. - INCOME TAXES-
Following is a summary of the components giving rise to the income tax provision (benefit) for the years ended December 31:
F-20
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
The provision (benefit) for income taxes consists of the following:
Currently payable:
Federal
State
Total currently payable
Deferred:
Federal
State
Total deferred
Less increase in allowance
Net deferred
Total income tax provision (benefit)
Individual components of deferred taxes are as follows:
Deferred tax assets:
Net operating loss carry forwards
Depreciation and amortization
Equity issued for services
Other
Total
Less valuation allowance
Gross deferred tax assets
Deferred tax liabilities:
Goodwill
Modification of equity awards for licensing agreeement
Depreciation and amortization
Gross deferred tax liabilities
Net deferred tax liabilities
2008
2007
$
-
-
-
-
-
-
(2,583,341)
(616,339)
(3,199,680)
3,218,641
18,961
18,961
$
(2,062,311)
(492,039)
(2,554,350)
2,573,353
19,003
19,003
$
$
2008
$ 9,321,843
2007
$ 6,621,844
1,010,084
104,299
10,436,226
(10,342,023)
$
$
94,203
541,964
389,934
7,553,742
(7,501,679)
52,063
$
$
$
51,878
-
94,203
146,081
$
$
19,003
180,997
52,063
252,063
(51,878) $
(200,000)
The Company has approximately $25,263,000 in net operating loss carryforwards (“NOL’s”) available to reduce future
taxable income, of which approximately $1,412,000 is subject to change of control limitations that generally restricts the utilization of
the NOL per year and $3,100,000 of the NOL will be allocated to contributed capital when subsequently realized. Due to the
uncertainty as to the Company’s ability to generate sufficient taxable income in the future and utilize the NOL’s before they expire, the
Company has recorded a valuation allowance accordingly A portion of the net operating loss carryforward, amounting to
approximately $808,000, relates to tax deductions for stock awards, options and warrants exercised subsequent to the
implementation of SFAS 123(R), which are not included in the determination of the deferred tax asset above and will be recognized in
accordance with SFAS 123(R) and FIN48, when realized for tax purposes. These carryforwards expire at various dates from 2022
through 2028.
The differences between the United States statutory federal income tax rate and the effective income tax rate in the
accompanying consolidated statements of operations are as follows:
F-21
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Statutory United States federal rate
State income taxes net of federal benefit
Permanent differences
Change in valuation reserves
2008
2007
34%
5
(0.3)
(38.9)
34%
5
(2)
(37)
Effective tax rate
(0.2) %
(0.2) %
In July 2006, the FASB released Interpretation No. 48, “Accounting for Uncertainty in Income Taxes – an Interpretation of
FASB Statement 109” (“FIN48”). Effective for fiscal years beginning after December 15, 2006, FIN48 provides guidance on the
financial statement recognition and measurement for income tax positions that we have taken or expect to take in our income tax
returns. It also provides related guidance on derecognition, classification, interest and penalties, accounting in interim periods,
disclosure and transition. We adopted the provisions of FIN48 on January 1, 2007. The adoption did not have a material impact on the
Company’s consolidated results of operations and financial position, and therefore, the Company did not have any adjustment to the
January 1, 2007 beginning balance of retained earnings.
A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows:
Unrecognized tax benefits balance at January 1, 2008
Gross increase for tax positions of prior years
Gross decrease for tax positions of prior years
Gross increase for tax positions of current year
Gross decrease for tax positions of current year
Settlements
Lapse of statute of limitations
Unrecognized tax benefits balance at December 31, 2008
$
$
0
446,000
—
—
—
—
—
446,000
At December 31, 2008, the total unrecognized tax benefits of $446,000 have been netted against the related deferred tax
assets.
The Company recognizes interest accrued and penalties related to unrecognized tax benefits in tax expense. During the
years ended December 31, 2008 and 2007 the Company recognized no interest and penalties.
The Company files income tax returns in the U.S. federal jurisdiction and various states. The tax years 2005-2007 generally
remain open to examination by major taxing jurisdictions to which the Company is subject.
NOTE 12. - DEFINED CONTRIBUTION PENSION PLAN
The Company established an Employee savings plan (the “401(k) Plan”) in 2006 which qualifies as a deferred salary
arrangement under Section 401(k) of the Internal Revenue Code. Employees become eligible to participate in the Plan at the
beginning of the following quarter after the employee’s hire date. Employees may contribute up to 20% of their pay to the Plan,
subject to the limitations of the Internal Revenue Code. Company matching contributions are discretionary. Pursuant to the 401(k)
Plan, employees may elect to defer a portion of their salary on a pre-tax basis. For employees who participated in the plan, the
Company matched the employer’s contribution in 2007 pursuant to the Safe Harbor Provisions of Section 401(k) of the Internal
Revenue Code up to 4% of the employee’s annual compensation. During the year ended December 31, 2008, the Company did not
make any matching contributions. During the year ended December 31, 2007 the Company contributed approximately $71,000 to
the 401(k) plan.
NOTE 13. – COMMITMENTS AND CONTINGENCIES
Facilities - The Company leases a total of approximately 59,700 square feet of office space for its administrative offices, its
two printing facilities and legal supplies business at a monthly rental aggregating approximately $36,000. The leases expire through
July 2014, although renewal options exist to extend lease agreements for up to an additional 60 months.
Equipment Leases - The Company leases printing, copying, collating and stapling equipment for its printing operations. The
leases may be capital leases or operating leases and are generally for a term of 36 to 60 months. The leases expire through July
2011.
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
F-22
A summary of lease commitments at December 31, 2008 are as follows:
Capital Leases Equipment
Operating Leases
Facilities
Total
Payments made in 2008
$
79,948 $
42,193 $
349,490 $
391,683
Future minimum lease
commitments:
2009
2010
2011
2012
2013
Thereafter
Total future minimum lease
commitments
Less amount representing
interest
Present value of future
minimum lease commitments
Less current portion
109,744
88,207
88,207
75,607
-
-
198,560
192,164
145,539
3,588
1,196
-
440,575
450,996
467,639
355,540
365,366
153,898
639,135
643,160
613,178
359,128
366,562
153,898
$
361,765 $
541,047 $
2,234,014 $
2,775,061
(73,033)
288,732
(78,367)
Long term portion
$
210,365
During 2008, the Company entered into two leases for production equipment with an aggregate monthly cost of $13,218 to be
used at its plastic printing facility. The leases are with The Ergonomics Group, a licensee of the Company. The Ergonomics Group
is also related to Trebuchet Capital Partners, the Company’s ECB Litigation partner.
Employment agreements -The Company has employment agreements having terms in excess of one year with six of
members of its management team with terms ranging from three to five years through June 2013. The agreements provide for
severance payments of between 12 and 18 months of salary in the event of termination for certain causes. As of December 31, 2008,
the minimum annual severance payments under these employment agreements are, in aggregate, approximately $1,035,000.
In May 2008, the Company entered into a Separation Agreement with its former President that, among other things,
accelerated the vesting of 33,333 shares of restricted common stock of the Company that were previously awarded to the former
President pursuant to the Company’s 2004 Employee Stock Option Plan so that such shares vested in equal monthly installments
during the immediately following ten months. The Separation Agreement further provided that if the former President did not realize at
least $212,000 in gross proceeds from the sale of such 33,333 shares of restricted stock upon their vesting, then the Company would
pay the former President the amount that such proceeds is less than $212,000 in cash or additional shares of common stock of the
Company. As of December 31, 2008, 23,338 of such 33,333 shares had vested generating gross proceeds of approximately
$83,000.
Contingent Litigation Payment –In May 2005, the Company made an agreement with its legal counsel in charge of the
Company’s litigation with the European Central Bank which capped the fees for all matters associated with that litigation at $500,000
plus expenses, and a $150,000 contingent payment upon a successful ruling or settlement on the Company’s behalf in that
litigation. The Company will record the $150,000 in the period in which the Company has determined that a successful ruling or
settlement is probable.
F-23
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
In addition, pursuant to an agreement made in December 2004, the Company is required to share the economic benefit derived from
settlements, licenses or subsequent business arrangements that the Company obtains from any infringer of patents formerly owned
by the Wicker Family. For infringement matters involving certain U.S. patents, the Company will be required to disburse 30% of the
settlement proceeds. For infringement matters involving certain foreign patents, the Company will be required to disburse 14% of the
settlement proceeds. These payments do not apply to licenses or royalties to patents that the Company has developed or obtained
from persons other than the Wicker Family. As of December 31, 2008, there have been no settlement amounts related to these
agreements.
Legal Proceedings – On August 1, 2005, we commenced a suit against the European Central Bank (“ECB”) alleging patent
infringement by the ECB and claimed unspecified damages. We brought the suit in the European Court of First Instance in
Luxembourg. We alleged that all Euro banknotes in circulation infringe the Company European Patent 0 455 750B1 (the “Patent”),
which covers a method of incorporating an anti-counterfeiting feature into banknotes or similar security documents to protect against
forgeries by digital scanning and copying devices. The Court of First Instance ruled on September 5, 2007 that it does not have
jurisdiction to rule on the patent infringement claim, and also ruled that we will be required to pay attorneys and court fees of the
ECB. The ECB formally requested the Company to pay attorneys and court fees in the amount of Euro 93,752 ($132,000 as of
December 31, 2008), which, unless the amount is settled will be subject to an assessment procedure that will not likely be concluded
until approximately the middle of 2009, which the Company will accrue as soon as the assessed amount, if any, is reasonably
estimatable.
On March 24, 2006, we received notice that the ECB has filed a separate claim in the United Kingdom and Luxembourg
courts seeking the invalidation of the Patent. Proceedings were commenced before the national courts seeking revocation and
declarations of invalidity of the Patent in each of the Netherlands, Belgium, Italy, France, Spain, Germany and Austria. On March 26,
2007, the High Court of Justice, Chancery Division, Patents Court in London, England (the “English Court”) ruled that the Patent was
deemed invalid in the United Kingdom, and on March 19, 2008 this decision was upheld on appeal. The English Court rejected the
ECB’s allegations of invalidity based on lack of novelty, lack of inventive step and insufficiency, but held that the patent was invalid for
added subject matter. The English Court’s decision does not affect the validity of the Patent in other European countries. On March
30, 2007, the English Court awarded the ECB 30% of their costs (including legal fees) of the initial trial, of which the Company paid
90,000 British pounds ($182,000 based on the applicable exchange rate on that date) on April 19, 2007. We expect that an
additional 90,000 pounds ($130,500 at December 31, 2008) will become payable by the Company for the costs of the initial trial,
which is included in accrued expenses as of December 31, 2008 in the amount of $182,250. In July 2007, the Company posted a
bond of 87,500 British pounds ($131,000 at December 31, 2008), as collateral for the appeal costs which is recorded as restricted
cash at December 31, 2008. On June 19, 2008, the Company paid an additional 87,500 British pounds ($177,000 based on the
applicable exchange rate on that date) towards the ECB’s costs of the English appeal. In January 2009, the Company received a
formal request for fee reimbursement from the ECB for a total of $420,000, in addition to amounts already paid by the Company. The
Company hired an independent firm to assist the Company in reducing or eliminating the ECB’s fees request, however, the
Company recorded $145,000 as an impairment loss and as additional accrued expenses as of December 31, 2008. The Company
expects that the UK fee issue will be resolved in second half of 2009.
On March 27, 2007 the Bundespatentgericht of the Federal Republic of Germany ruled that the German part of the Patent
was valid, having considered the English Court’s decision. As a result of this ruling, the Company expects to be awarded
reimbursements for its costs associated with the German validity case, which is Euro 44,692 ($65,000 at December 31, 2008), which
the Company will record when the amount, if any, is received. The ECB has filed an appeal against that decision, which is not
expected to be decided before 2010. On January 9, 2008 the French Court held that the Patent was invalid in France for the same
reasons given by the English Court. The Company is required to pay de minimus attorneys’ fees of the ECB as a result of the French
decision. The Company filed an appeal against the French decision on May 7, 2008. On March 12, 2008 the Dutch Court, having
considered the English, German and French decisions, ruled that the Patent is valid in the Netherlands. The ECB filed an appeal
against the Dutch decision on March 27, 2008. A trial was also held in Madrid, Spain on June 3 and 5, 2008 and oral and written
closing submissions were made on July 19, 2008. A judgment is expected in the first half of 2009.
The Patent has thus been confirmed to be valid and enforceable in two jurisdictions (Germany and the Netherlands) that use
the Euro as its national currency allowing us to proceed with infringement cases in these countries if we choose to do so. Additional
trials on the validity of the Patent are expected in other European jurisdictions in 2009.
On August 20, 2008, the Company entered into an agreement with Trebuchet Capital Partners, LLC (“Trebuchet”) under
which Trebuchet has agreed to pay substantially all of the litigation costs associated with pending validity proceedings initiated by the
European Central Bank (“ECB”) in eight European countries relating to the Company’s European Patent 0 455 750B1 that the
Company has claimed the ECB infringed in printing of the Euro currency (the “Patent”). Trebuchet also agreed to pay substantially all
of the litigation costs associated with future validity challenges filed by the ECB or other parties, provided that Trebuchet elects to
assume the defense of any such challenges, in its sole discretion, and patent infringement suits filed against the ECB and certain
other alleged infringers of the Patent, all of which suits may be brought at the sole discretion of Trebuchet and may be in the name of
the Company, Trebuchet or both. The Company provided Trebuchet with the sole and exclusive right to manage infringement
litigation relating to the Patent in Europe, including the right to initiate litigation in the name of the Company, Trebuchet or both and to
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
choose whom and where to sue, subject to certain limitations set forth in the agreement under the terms of the Agreement, and in
consideration for the Trebuchet's funding obligations, the Company assigned and transferred a 49% interest of the Company's rights,
title and interest in the Patent to Trebuchet which allows Trebuchet to have a separate and distinct interest in and share of the Patent,
along with the right to sue and recover in litigation, settlement or otherwise to collect royalties or other payments under or on account
of the Patent. In addition, the Company and Trebuchet have agreed to equally share all proceeds generated from litigation relating to
the Patent, including judgments and licenses or other arrangements entered into in settlement of any such litigation. Trebuchet is
also entitled to recoup any litigation expenses specifically awarded to the Company in such actions.
F-24
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
On January 31, 2003, the Company commenced an action, unrelated to the above ECB litigation, entitled New Sky
Communications, Inc., As Successor-In-Interest To Thomas M. Wicker, Thomas M.Wicker Enterprises, Inc. and Document Security
Consultants V. Adler Technologies, Inc. N/K/A Adlertech International, Inc. and Andrew McTaggert (United States District Court,
Western District Of New York Case No.03-Cv-6044t(F)) regarding certain intellectual property in which the Company has an interest.
The Company commenced this action alleging various causes of action against Adler Technologies, Inc. and Andrew McTaggert for
breach of contract, breach of the duty of good faith and fair dealing, various business torts, including unfair competition and
declaratory relief. Adler distributes and supplies anti-counterfeit document products and Mr. McTaggert is a principal of Adler. Adler
had entered into several purported agreements with Thomas M. Wicker Enterprises and Document Security Consultants, both of
which the Company acquired in 2002. These alleged agreements, generally, would have authorized Adler to manufacture in Canada
the Company’s “Checkmate®” patented system for verifying the authenticity of currency and documents. Other purported agreements
were signed between these parties and Thomas Wicker regarding other technology claimed to have been owned by Wicker and
assigned to the Company. Among other things, the Company contends that certain of the purported agreements are not binding
and/or enforceable. To the extent any of them are binding and enforceable, the Company claims that Adler has breached these
purported agreements, failed to make an appropriate accounting and payments under them, and may have exceeded the scope of its
license. Adler has denied the material allegations of the complaint and has counterclaimed against the Company, claiming Adler
owns or co-owns or has a license to use certain of the Company’s technologies. In May 2005, the Company filed a first amended and
supplemental complaint adding Blanks/USA and Raymond Maxon as additional defendants. In February 2007, the Company filed a
second amended and supplemental complaint adding Judith Wu (McTaggert’s wife) and Arcis Digital Security, Inc. (a company in
which Ms. Wu is involved) as additional defendants. Maxon has asserted a counterclaim against the Company contending that the
Company’s purported acquisition of a certain patent from Thomas Wicker in 2002 gave rise to an alleged right on the part of Maxon to
receive a portion of Thomas Wicker’s proceeds from such acquisition. The Company has denied the material allegations of all of the
counterclaims. If Adler or Maxon is successful, it may materially affect the Company, the Company’s financial condition, and the
Company’s ability to market and sell certain of the Company technology and related products. This case is in discovery phase, and it
is too soon to determine how the various issues raised by the lawsuit will be determined.
In addition to the foregoing, we are subject to other legal proceedings that have arisen in the ordinary course of business and
have not been finally adjudicated. Although there can be no assurance in this regard, in the opinion of management, none of the
legal proceedings to which we are a party, whether discussed herein or otherwise, will have a material adverse effect on our results
of operations, cash flows or our financial condition.
Stock Subscription Agreements -In June 2008, the Company entered into two Stock Purchase Agreements in which it sold
500,000 shares of its common stock to Walton Invesco Inc. for an aggregate purchase price of $2.0 million (see Note 7). Pursuant to
the terms of such Stock Purchase Agreements, Walton Invesco Inc. may demand registration of such 500,000 shares with the
Securities and Exchange Commission on Form S-3 with such registration statement to take effect no later than (i) 120 days after
payment in full for such shares under the applicable agreement or, (ii) with respect to 350,000 shares, 270 days after a Payment
Failure Termination Event (as defined in the applicable Stock Purchase Agreement). As of March 31, 2009, the share subscription
was not current and the Company is reviewing its options under the Agreement, which may include termination of the agreement.
NOTE 14. - SUPPLEMENTAL CASH FLOW INFORMATION
F-25
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
Cash paid for interest
Non-cash investing and financing activities:
Equity issued for patent defense costs
Modificaton of equity awards for license agreement
Equity issued for severance agreements
Equity issued for prepaid services
Equity issued to satisfy an obligation
Equipment purchased via capital lease
Deferred tax liability offsetting additional paid in capital
Warrants issued with debt
NOTE 15. - SEGMENT INFORMATION
2008
2007
$
69,000 $
5,000
-
-
129,000
-
94,000
-
(156,000)
256,000
746,000
521,000
-
561,000
-
325,000
181,000
-
The Company's businesses are organized, managed and internally reported as four operating segments. Three of these
operating segments, Document Security Systems, Plastic Printing Professionals, and DPI Secuprint, are engaged in various aspects
of developing and applying printing technologies and procedures to produce, or allow others to produce, documents with a wide
range of features, including the Company’s patented technologies and trade secrets. For the purposes of providing segment
information, these three operating segments have been aggregated into one reportable segment in accordance with Financial
Accounting Standards Board (“FASB”) Statement No. 131- “Disclosures about Segments of an Enterprise and Related
Information”. A summary of the two segments is as follows:
Security and
Commercial
Printing
License, manufacture and sale of patented document security technologies, including digital security print
solutions, and general commercial printing, primarily on paper and plastic. Comprises the operations of
Document Security Systems, Plastic Printing Professionals, and DPI Secuprint, which the Company acquired
on December 18, 2008. In September 2007, the Company sold the assets of its retail printing and copying
division. The results of this division are reported as discontinued operations and are not a component of these
segment results .
Legal Supplies
Sale of specialty legal supplies, primarily to lawyers and law firms located throughout the United States as
Legalstore.com.
Approximate information concerning the Company’s operations by reportable segment as of and for the year ended
December 31, 2008 and 2007 is as follows. The Company relies on intersegment cooperation and management does not represent
that these segments, if operated independently, would report the results contained herein:
F-26
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
2008
Supplies
Printing Corporate
Total
Legal
Security and
Commercial
Revenues from external customers
Interest Expense and amortization of note discount
Stock based payments
Depreciation and amortization
Impairment of patent defense costs and other intangible assets
Loss on sale of patent
Operating (loss) profit
Capital Expenditures
Identifiable assets
2007
Revenues from external customers
Interest Income
Interest Expense
Stock based payments
Depreciation and amortization
Operating (loss) profit
Capital Expenditures
Identifiable assets
$
$
610,000
-
-
15,000
-
-
(6,000)
12,000
252,000
$
$ 6,033,000
-
1,148,000
2,269,000
797,000
(1,170,000)
(4,709,000)
1,669,000
7,705,000
-
145,000
599,000
4,000
-
-
3,000
100,000
$ 6,643,000
145,000
1,747,000
2,288,000
797,000
(1,170,000)
(7,019,000)
1,684,000
8,057,000
(2,304,000)
682,000
-
-
-
12,000
6,000
16,000
420,000
$
$ 5,309,000
-
-
1,180,000
1,896,000
(3,943,000)
2,898,000
10,561,000
-
93,000
5,000
175,000
37,000
(3,084,000)
-
613,000
$ 5,991,000
93,000
5,000
1,355,000
1,945,000
(7,021,000)
2,914,000
11,594,000
International revenue, which consists of sales to customers with operations in Western Europe, Latin America, Africa, Middle
East and Asia comprised 4% of total revenue for 2008, (13%- 2007). Revenue is allocated to individual countries by customer based
on where the product is shipped to, location of services performed or the location of equipment that is under an annual maintenance
agreement. The Company had no long-lived assets in any country other than the United States for any period presented.
Major Customers –
During 2008, two customers accounted for 11% and 10% of the Company’s total revenue from continuing operations,
respectively. As of December 31, 2008, one customer account receivable balance that was acquired as part of the Company’s
acquisition of the assets of a commercial printer in December 2008, accounted for 42% of the Company’s trade accounts receivable
balance. During 2007, one customer accounted for 13% of the Company’s total revenue from continuing operations. As of
December 31, 2007, one customer accounted for 16% of the Company’s trade accounts receivable balance.
NOTE 16. – SUBSEQUENT EVENTS
In March 2009, the Company entered into two operating lease agreements for production equipment for its DPI Secuprint
division. Total lease commitments associated with these leases are as follows:
2009
2010
2011
2012
2013
Thereafter
Total
275,871
422,131
440,348
394,419
274,175
545,921
$ 2,352,865
F-27
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
In accordance with Section 13 or 15(d) of the Exchange Act 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.
SIGNATURES
March 31, 2009
DOCUMENT SECURITY SYSTEMS, INC.
By:
/s/ Patrick White
Patrick White
Chief Executive Officer
In accordance with Section 13 or 15(d) of the Exchange Act 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.
March 31, 2009
March 31, 2009
March 31, 2009
March 31, 2009
March 31, 2009
March 31, 2009
March 31, 2009
/s/ Robert Fagenson
Robert Fagenson
Director
/s/ Patrick White
Patrick White
Chief Executive Officer and Director
(Principal Executive Officer)
/s/ David Wicker
David Wicker
Vice President and Director
/s/ Timothy Ashman
Timothy Ashman
Director
/s/ Alan E. Harrison
Alan E. Harrison
Director
/s/ Ira A. Greenstein
Ira A. Greenstein
Director
/s/ Philip Jones
Philip Jones
Vice President of Finance and Treasurer
(Principal Financial Officer and Principal Accounting Officer)
By:
By:
By:
By:
By:
By:
By:
40
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
EX-21 3 v144409_ex21-0.htm
SUBSIDIARIES OF REGISTRANT
Exhibit 21.0
Document Security Systems, Inc. acknowledges that the following corporations are subsidiaries of the Registrant:
Document Security Consultants, Inc. (New York) (100%)
Thomas M. Wicker Enterprises, Inc. (New York) (100%)
Lester Levin, Inc. (New York) (100%)
Secured Document Systems, Inc. (New York) (100%)
Plastic Printing Professionals, Inc. (New York) (100%)
Secuprint, Inc. (New York) (100%)
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
EX-23.1 4 v144409_ex23-1.htm
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We consent to the incorporation by reference in Registration Statement No. 333-134034 (Form S-8) and Registration Statement
No. 333-128437 (Form S-8) and Registration Statement No. 333-116317 (Form S-3) and Registration Statement No. 333-125373
(Form S-3) and Registration Statement number 333-141871 (Form S-3) of Document Security Systems, Inc and Subsidiaries of our
report, dated March 31, 2009, on the consolidated financial statements as of and for the year ended December 31, 2008, appearing
in this Annual Report on Form 10-K of Document Security Systems, Inc. and Subsidiaries for the year ended December 31, 2008.
Exhibit 23.1
FREED MAXICK & BATTAGLIA, CPAs, PC
Buffalo, New York
March 31, 2009
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
EX-31.1 5 v144409_ex31-1.htm
Exhibit 31.1
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, Patrick White, certify that:
1. I have reviewed this annual report on Form 10-K of Document Security Systems, Inc.
2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a
material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not
misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present
in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods
presented in this report;
4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and
procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in
Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during the period in which this report is being prepared;
b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be
designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the
preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this
report based on such evaluation; and
d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the
registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s
internal control over financial reporting; and
5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over
financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors:
a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting
which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial
information; and
b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the
registrant’s internal control over financial reporting.
Date: March 31, 2009
/s/ Patrick White
Patrick White
Chief Executive Officer
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
EX-31.2 6 v144409_ex31-2.htm
Exhibit 31.2
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, Philip Jones, certify that:
1. I have reviewed this annual report on Form 10-K of Document Security Systems, Inc.
2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material
fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading
with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present
in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods
presented in this report;
4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and
procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in
Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during the period in which this report is being prepared;
b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed
under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with generally accepted accounting principles;
c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions
about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on
such evaluation; and
d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the
registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s
internal control over financial reporting; and
5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over
financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors:
a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which
are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information;
and
b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the
registrant’s internal control over financial reporting.
Date: March 31, 2009
/s/ Philip Jones
Philip Jones
Acting Chief Financial Officer
(Vice President of Finance)
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
EX-32.1 7 v144409_ex32-1.htm
Exhibit 32.1
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Annual Report of Document Security Systems, Inc. (the “Company”) on Form 10-K for the year
ending December 31, 2008 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Patrick White,
Chief Executive Officer, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, that to my knowledge:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of
operations of the Company.
Date: March 31, 2009
/s/ Patrick White
Patrick White
Chief Executive Officer
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.
EX-32.2 8 v144409_ex32-2.htm
Exhibit 32.2
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Annual Report of Document Security Systems, Inc. (the “Company”) on Form 10-K for the year
ending December 31, 2008 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Philip Jones,
Controller and Principal Accounting Officer, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002, that to my knowledge:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of
operations of the Company.
Date: March 31, 2009
/s/ Philip Jones
Philip Jones
Acting Chief Financial Officer
(Vice President of Finance)
EDGAR Stream is a copyright of Issuer Direct Corporation, all rights reserved.