nanophase technologies corporation
2007 ANNUAL REPORT
anti-microbial
architectural coatings
industrial coatings
personal care
plastics
semiconductor – cmp
nanophase technologies corporation
LETTER TO SHAREHOLDERS JOSEPH CROSS – President & CEO
2007 was a solid year of revenue growth, gross margin expansion and
technical progress for Nanophase—each measure is a key focal point
for the Company.
We have made consistent material improvement
over the last three years. Beginning in 2005,
revenue has grown over 30% each year and gross
margins have now almost doubled in the last
24 months. As our business model predicts, and
growth has demonstrated, increasing volume with
a relatively fixed overhead cost results in higher
gross product margins.
Nanophase’s 2007 revenue increased by 36%
compared to 2006. Gross margin on sales increased
to 26% versus 22% due to increased volume. For
2007, cash used for operations totaled $1.6
million—a 50% reduction or improvement from
2006. Nanophase’s cash and equivalents amounted
to $16.7 million by year end, which management
deems to be more than adequate to fund the
Company over its planning horizon.
In 2007 Nanophase introduced innovative
nanoengineered products for water-based
formulations, including printed electronics, anti-
microbials and architectural coatings. An example
is in architectural coatings; nanoengineered
products typically improve the scratch and mar
resistance of the coating by more than 300%
while retaining high gloss.
Nanophase received two US patents during 2007,
now owning or licensing 18 US and 49 foreign
patents and patent applications. Additionally,
Nanophase has accumulated considerable
proprietary process and application knowledge
that the Company believes will provide significant
market advantages.
From an operational perspective, Nanophase
continues to improve manufacturing cost and
product quality. The company’s facilities and
processes were re-certified to ISO9001:2000,
the internationally recognized standard of
manufacturing and quality excellence as well as
ISO14001:2004, the international environmental
management standard. We achieved 99.1%
customer satisfaction levels on product shipments
and again, had no customer quality returns. We
reached a new safety record with 850,000
continuous working hours without a lost time
accident—an exemplary record for a company
of our size.
Entering 2008, Nanophase expects continuing
revenue growth and financial performance.
We believe that the combination of our
technology, product quality and application
expertise places Nanophase in a leading
nanomaterials position globally.
Joseph Cross
President & CEO
June 1, 2008
anti-microbial
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IN THE NEWS
Nanophase was issued a new patent entitled
“Nanostructured Compositions”. The patent
describes nanostructured polymeric compositions,
containing micron-sized and nano-sized particulate
materials, which display synergistic improvements
in mechanical properties with significantly
enhanced optical properties. Nanophase continues
its leadership in nanomaterials and applications
of nanomaterials technologies, including the
development of intermediate products which
enable high-value coating products. Substantially
transparent, abrasion and wear-resistant
nanoparticle coatings have numerous potential
applications in many commercial markets.
Nanophase Technologies announced the
Company has been issued US Patent
entitled “Surface Treatment of Nanoparticles
to Control Interfacial Properties and Method
of Manufacture”. The technology described in
this patent overcomes a number of problems
long associated with the use of nanoparticles
in product formulations, such as component
reactivity, nanoparticle compatibility, and the
formation of stable dispersions, suspensions,
and emulsions.
NANOPHASE PRESS RELEASE
January 8, 2008
anti-microbial
architectural coatings
NANOPHASE PRESS RELEASE
March 26, 2007
LSS helps advance nanomaterials . . . Nanophase’s
commitment to lean six sigma (LSS) practices is
foundational to the way it operates and drives
improvement at its two manufacturing plants in
suburban Chicago. “For us it is not a program or
a philosophy that we just dust off and use when
we need to solve a problem, it is fundamental
to the way we run our business every day,” says
Robert Haines, vice president of operations. “Our
definition of six sigma is rather basic and simplistic.
Lean is our relentless pursuit of non-value added
waste elimination and six sigma is the methodology
and language for continuous improvement.”
SOCIETY OF MANUFACTURING ENGINEERS
December, 2007
industrial coatings
personal care
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semiconductor – cmp
nanophase technologies corporation
Nanophase Technologies is a nanotechnology company—a technology
that the US Government says is “likely to change the way almost
everything ... is designed and made.”
Founded in 1989, Nanophase has traded on the Nasdaq Stock Exchange
under the symbol NANX since 1997.
nanophase technologies corporation
Creating nanomaterials involves altering metal oxides and other
compounds at a molecular level, resulting in compounds with
enhanced or entirely new characteristics and capabilities. Nanophase’s
proprietary formulations are used in a variety of applications including
Anti-microbial, Architectural and Industrial Coatings, Textiles, Personal
Care, Plastics and Semiconductor polishing.
PRODUCTS
anti-microbial
industrial coatings
plastics
Products from Nanophase Technologies can be
useful in anti-microbial products in applications
including wood preservation, marine antifouling
systems, various textile fibers, thermoplastics,
surface cleaners and permanent coatings.
The small particle size of our products results
in little influence on the final formulation in
terms of clarity, rheology, surface texture, and
gloss or physical/mechanical properties.
Long term anti-microbial activity can be
imparted in many coating formulations
through the incorporation of nanomaterials.
The desire for permanent coatings to impart
long-term antimicrobial or bacteria-stat
properties to coated products can be useful
in industrial applications such as healthcare,
industrial and institutional cleaning, food
processing and food service.
Long-term antimicrobial needs in various plastic,
rubber and composite materials have been
increasing in recent years. Nanomaterials can
provide cost-effective longevity of activity even
in harsh environments and after significant
thermal history, separating them from the
more unstable organic biocides. Applications
for antimicrobial plastic parts include children’s
toys, refrigerator liners and other appliance parts,
interior and exterior wall coverings, adhesives,
caulks and sealants and food processing and
food service equipment.
architectural coatings
personal care
semiconductor – cmp
The need for scratch, mar and abrasion
resistance is well established in various markets,
including paints, fingernail polishes, flooring,
plastic glazing, headlamp covers and other
automotive parts, transportation windows and
optical lenses, where clear scratch-resistant
coatings are used. Our products can also be
surface treated through proprietary technology
to ensure compatibility with a variety of
coating systems.
The personal care industry is addressing
heightened concerns regarding protection from
ultra-violet light and providing anti-microbial
functionality, while maintaining products that
are mild and non-irritating. Our products are
produced according to cGMP standards in
an ISO 9001:2000 certified facility and are
FDA approved for use as active ingredients
in personal care products. Current personal
care applications where uv-attenuation,
anti-microbial activity, odor control, and/or
anti-irritating functionality are sought include
sunscreen formulations, foot powder,
shaving cream, oral care and deodorants/
antiperspirants.
As the semiconductor industry continues to
move forward to smaller chip architecture, the
need for advanced CMP slurries becomes a
requirement that cannot be met by the slurries
provided in the past. Nanophase’s dispersions
are on the forefront of providing high planarity
surfaces and efficient removal rates. These high
purity dispersions feature particles less than 100
nanometers in size with uniform morphology
for critical electronic polishing applications. The
unique surface chemistry of these nanomaterials
allows formulation of highly concentrated
dispersions at a variety of pH.
OFFICERS
JOSEPh E. CrOSS
President & Chief Executive Officer
Mr. Cross joined Nanophase as President and
Chief Operating Officer in November 1998.
He was promoted to Chief Executive Officer in
December 1998. From 1993–1998, Mr. Cross
served as President and CEO of APTECH, Inc.,
an original equipment manufacturer of metering
and control devices for the utility industry, and as
President of Aegis Technologies, an interactive
telecommunications company. He holds a B.S.
in chemistry and attended the M.B.A. program
at Southwest Missouri University. He brings a
background of successfully directing several
high-technology start-ups, rapid growth and
turnaround operations.
KEviN J. WENTA
Executive vice President—Sales & Marketing
Mr. Wenta joined the Company in January 2007.
He brings twenty years of business development,
sales, marketing, finance and operations experience
to Nanophase. Prior to joining the Company,
Mr. Wenta was a Partner at Accenture, a global
consultancy. Previous to that he was a General
Manager at Eastman Chemical Company,
successfully leading a turnaround of their $520
million resins, monomers and textiles businesses.
In addition, he held the position of Director of
Corporate Strategy for the $5.5 billion parent
company. Previous experience includes VP of
Business Development at ChemConnect
(formerly CheMatch), a global electronic chemical
exchange, financial positions at ARCO and he
began his career at Shell Chemical in sales. Mr.
Wenta holds a B.S. degree in Chemical Engineering
from the University of Texas at Austin and a M.B.A.
degree from the University of Chicago.
Dr. riChArD W. BrOTzMAN
vice President—research & Development
Dr. Brotzman joined Nanophase in 1994 as a
Senior Scientist and was promoted to his present
position in 1996. He has more than 15 years of
experience in the research and development of
advanced materials leading to new products—
and is the inventor of the Company’s coating
technology. From 1991–1994, Dr. Brotzman
served as Director of Research at TPL, Inc., an
advanced materials company. He earned his B.S.
in chemical engineering from Lafayette College, an
M.S. in engineering and applied science from the
University of California at Davis, and a Ph.D. in
chemistry from the University of Washington.
rOBErT hAiNES
vice President—Operations
Mr. Haines joined Nanophase Technologies in
January 2001 as Vice President–Operations.
Beginning in 1996 and prior to joining Nanophase,
he served as Corporate Director of Quality at
Legrand North America. Previous experience
includes two years as Vice President of Operations
for Aegis Technologies and eight years with
Digital Equipment Corporation. Mr. Haines has a
B.S. in Chemistry/Engineering Physics from East
Tennessee State University.
OFFICERS
nanophase technologies corporation
JESS A. JANKOWSKi,
Chief Financial Officer
Mr. Jankowski has served as Controller of the
Company since joining in 1995. He was elected
Secretary and Treasurer in November 1999,
Acting Chief Financial Officer in January 2000,
Vice President in April 2002 and Vice President of
Finance and Chief Financial Officer in April 2004.
From 1990–1995 he served as Controller for
two building contractors in the Chicago area, also
serving in the business development function. From
1986 to 1990 he worked for Kemper Financial
Services in their accounting control corporate
compliance unit, serving as unit supervisor during
his last two years. He holds a B.S. in accountancy
from Northern Illinois University, an M.B.A. from
Loyola University of Chicago and received his
certified public accountant certificate from the
State of Illinois.
Mr. Jankowski has served on the advisory board of
WESTEC, an Illinois Technology Enterprise Center
focusing on the com-mercialization of advanced
manufacturing technologies, since 2003. He was
also recently elected to the Romeoville Economic
Development Commission, an organization focused
on fostering new business growth in Romeoville,
Illinois which resides in Will County, the twelfth
fastest growing county in the U.S.
nanophase technologies corporation
BOARD OF DIRECTORS
DONALD S. PErKiNS
Chairman of the Board
Donald S. Perkins is the former Chairman of Jewel
Companies, Inc., a food and drug store chain. Mr.
Perkins graduated from Yale University and the
Harvard Business School. He served in the U.S.
Merchant Marine in the mid 1940s and the Air
Force in the early 1950s. Starting as a trainee with
the then Jewel Tea Company in 1953, he was
elected Vice President in 1960, Executive Vice
President three years later, President in 1965 and
Chairman and Chief Executive Officer in 1970.
He retired from Jewel Companies, Inc. in 1983. Mr.
Perkins currently serves as a Director of Cantilever
Technologies LLC, LaSalle Hotel Properties, LaSalle
U.S. Realty Income and Growth Funds I, II and III and
Nanophase Technologies Corporation, where he is
Chairman. For more than 30 years, he has served on
Corporate Boards including AT&T, Aon, Corning,
Cummins Engine, Eastman Kodak, Firestone, Inland
Steel Industries, Kmart, Lucent Technologies, The
Putnam Funds, Springs Industries and Time Warner.
He is a Life Trustee and was Vice Chairman of
Northwestern University. He co-chaired Campaign
Northwestern, a university-wide effort which has
raised more than $1.5 billion. He is Honorary
Chairman of The Illinois Coalition and Protector of
the Thyssen-Bornemisza Continuity Trust. He has
served as a Trustee of The Ford Foundation and
The Brookings Institution and as a member of The
Business Council. He is also a member of the Civic
Committee of The Commercial Club of Chicago, a
Director of Leadership for Quality Education, and
a member of the Advisory Boards of RoundTable
Heathcare Partners L.P., Northwestern University’s
School of Communication and its School of
Education and Social Policy.
anti-microbial
architectural coatings
industrial coatings
personal care
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semiconductor – cmp
nanophase technologies corporation
BOARD OF DIRECTORS
JOSEPh E. CrOSS
(See biography under Officers)
JAMES A. hENDErSON
Director
Mr. Henderson has served as a director of the
Company since July 2001. He retired as Chairman
and Chief Executive Officer of Cummins Engine
Company in December 1999, after joining the
company in 1964. Mr. Henderson became President
and Chief Operating Officer of Cummins, Inc.
in 1977, was promoted to President and Chief
Executive Officer in 1994 and served as Chairman
and Chief Executive Officer from 1995 until his
retirement in 1999. Mr. Henderson attended
Culver Military Academy, holds an A.B. in public
and international affairs from Princeton University
and an M.B.A. from Harvard Business School.
Mr. Henderson currently serves as Chairman of
the Board of The Culver Education Foundation,
member of the Board of Directors of International
Paper, Ryerson Tull, Inc., SBC Communications,
Inc., and is a member of the Washington, D.C.
Business Council.
GEOrGE A. viNCENT iii
Director
Mr. Vincent has served as a Director of the
Company since November 2007. He is currently
Chairman and Commercial Development Officer
of The HallStar Company, where he served as
CEO for twenty years. HallStar is a chemical
manufacturer and innovator specializing in material
science, marketing its products worldwide, primarily
into the polymer and personal care industries.
BOARD OF DIRECTORS
Japan American Society, Chicago Council
of Foreign Relations and the Economic Club
of Chicago. He serves as a board director at
Thunderbird: The Garvin School of International
Management, and the College of Wooster (Ohio).
Mr. McClung earned a Bachelor’s degree from
the College of Wooster, a Master’s degree from
the University of Kansas, and a Doctorate from
Michigan State University.
JErry K. PEArLMAN
Mr. Pearlman has served as a director of the
Company since April 1999. Mr. Pearlman retired
as Chairman of Zenith Electronics Corporation in
November 1995. He joined Zenith as Controller
in 1971 and served as Chief Executive Officer from
1983 through April 1995. Mr. Pearlman is a director
of Smurfit-Stone Container Corporation and
Ryerson-Tull, Inc. He is a trustee of Northwestern
University and a director and past Chairman of
the Board of Evanston Northwestern Healthcare.
Mr. Pearlman graduated from Princeton with
honors from the Woodrow Wilson School and
from Harvard Business School with highest honors.
Prior to HallStar, Mr. Vincent held positions
in purchasing, sales, commercial development
and strategic planning with FMC Corporation
(chemicals) and General Electric Company
(chemicals and plastics).
Mr. Vincent has served as Chairman of the
Illinois Manufacturers’ Association (IMA) and the
Chemical Industry Council of Illinois (CICI), as well
as Director of the American Chemistry Council
(ACC). Mr. Vincent serves on the Boards of
several closely-held companies in the chemicals
and materials industry sector. Mr. Vincent holds
a Bachelor of Science degree in Chemistry from
Dartmouth College and an MBA degree from
Harvard Business School.
JAMES A. McCLUNG
Mr. McClung has served as a director of the
Company since February 2000. He is currently
Vice Chairman of Charter Consulting and former
Senior Vice President and executive officer
for FMC Corporation, a leading producer of a
diversified portfolio of chemicals and machinery.
He has over 30 years of international business
development in over 75 countries, having managed
and developed new technologies and production
processes for diversified global businesses, including
specialized chemicals and machinery, while living in
the United States, Europe and Africa.
Mr. McClung currently serves as Corporate
Director of Alticor (Amway), Beaulieu of America
Corporation, NCCI Holdings, Turtle Wax and
Hu-Friedy. He was a founding member of the
U.S. Russia Business Council and is active in other
international business organizations, such as the
BOARD OF DIRECTORS
anti-microbial
architectural coatings
industrial coatings
personal care
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semiconductor – cmp
He chaired the World Technology Evaluation
Center worldwide study of nanostructure science
and technology for the U.S. government, has served
on the Council of the Materials Research Society
and as Chairman of the International Committee
on Nanostructured Materials. He also served on
the Committee on Materials with Sub-Micron Sized
Microstructures of the National Materials Advisory
Board and was the co-chairman of the Study Panel
on Clusters and Cluster-Assembled Materials for
the U.S. Department of Energy. He currently serves
on the Nanotechnology Technical Advisory Group
to the U.S. President’s Council of Advisors on
Science and Technology. Dr. Siegel holds an A.B.
degree in physics from Williams College and an
M.S. degree and Ph.D. from the University of Illinois
at Urbana-Champaign.
Dr. riChArD W. SiEGEL
Dr. Siegel is a co-founder of the Company and
has served as a director of the Company since
1989. Dr. Siegel also served as a consultant to
the Company from 1990 to 2002 with regard
to the application and commercialization
of nanocrystalline materials. Dr. Siegel is an
internationally recognized scientist in the field
of nanocrystalline materials. During his tenure
on the research staff at Argonne National
Laboratory from July 1974 to May 1995, he
was the principal scientist engaged in research
with the laboratory-scale synthesis process that
was the progenitor of the Company’s physical-
vapor-synthesis production system.
Dr. Siegel has been the Robert W. Hunt Professor
in Materials Science and Engineering at Rensselaer
Polytechnic Institute since June 1995, and served
as Department Head from 1995 to 2000. In April
2001, Dr. Siegel became the founding Director
of the newly created Rensselaer Nanotechnology
Center at the Institute. During 1995–1998, he was
also a visiting professor at the Max Planck Institute
for Microstructure Physics in Germany on an
Alexander von Humboldt Research Prize received in
1994. During 2003–2004 he was a visiting professor
in Japan on a RIKEN Eminent Scientist Award.
Janet Whitmore
Ms. Whitmore joined the board in November,
2003. She is currently a director for Silverleaf
Resorts, Inc., where she serves as Chairman of the
Compensation Committee and as a member of
the Audit and Finance Committee. Ms. Whitmore
is Founder of Benton Consulting, LLC, which
specializes in business development and processes.
From 1976 through 1999, Ms. Whitmore held
numerous engineering and finance positions
at Mobil Corporation, including Mobil’s Chief
Financial Analyst and Controller of Mobil’s Global
Petrochemicals Division. Ms. Whitmore holds
a Bachelor of Science degree in Chemical
Engineering from Purdue University and an
M.B.A. from Lewis University.
nanophase technologies corporation
independent Auditors
MCGLADrEy & PULLEN LLP
20 North Martingale Rd., Suite 500
Schaumburg, Illinois 60173
Transfer Agent
LASALLE NATiONAL ASSOCiATiON
Corporate Trust Department
135 South LaSalle Street, Room 1960
Chicago, Illinois 60603
800-246-5761
Stock Listing
Nanophase Technologies Corporation’s
common stock is traded on the Nasdaq
National Market under the symbol NANX.
Annual Meeting
JULy 24, 2008
at Nanophase Technologies Corporation
1319 Marquette Drive
Romeoville, Illinois 60446
Form 10-K
Nanophase Technologies Corporation
will send a copy of its Form 10-K report
for fiscal 2007 as filed with the Securities
and Exchange Commission upon written
request to Investor Relations at the
corporate office.
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2007
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 0-22333NANOPHASE
TECHNOLOGIES CORPORATION
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction
of incorporation or organization)
36-3687863
(I.R.S. Employer Identification No.)
1319 Marquette Drive, Romeoville, Illinois 60446
(Address of principal executive offices) (zip code)
Registrant's telephone number, including area code: (630) 771-6708
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.01 per share
Preferred Stock Purchase Rights
Indicate by check mark whether the registrant is a well-known seasoned issuer, as defined in Rule
405 of the Securities Act. Yes (cid:134) No (cid:59)
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or
Section 15(d) of the Act. Yes (cid:134) No (cid:59)
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 (cid:59) No (cid:134)
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K
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. Yes (cid:59) No (cid:134)
1
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer,”
“accelerated filer” and “smaller reporting company” in Rule 12B-2 of the Exchange Act. (Check one):
Large accelerated filer (cid:134)
Accelerated filer (cid:59)
Non-accelerated filer (cid:134)
Smaller reporting company (cid:134)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act). Yes (cid:134) No (cid:59)
The aggregate market value of the registrant's voting stock held by non-affiliates of the registrant
based upon the last reported sale price of the registrant's common stock on June 30, 2007 was
$76,261,099 as of such date.
The number of shares outstanding of the registrant's common stock, par value $.01, as of
March 12, 2008 was 21,116,369.
DOCUMENTS INCORPORATED BY REFERENCE
None.
2
PART I
Item 1. Business
General
Nanophase Technologies Corporation (“Nanophase” or the “Company”) is a nanomaterials
developer and commercial manufacturer and produces engineered nanomaterial products for diverse
markets – sunscreens, personal care, architectural coatings, industrial coating ingredients, plastic
additives, water filtration, DNA bio-sensors, semiconductor polishing, optics polishing and other markets.
Additionally, new markets and applications are constantly emerging and being developed on a global
scale. Nanophase markets its products globally – U.S, Europe and Asia. The Company was incorporated
in Illinois on November 25, 1989, and became a Delaware corporation on November 30, 1997. The
Company’s common stock trades on the NASDAQ Global Market under the symbol NANX.
Nanophase has created a leading commercial platform of integrated nanomaterials technologies
that are designed to deliver an optimal engineered nanomaterial ‘solution’ for a target market or specific
customer application. The Company has complete capability from application development and
laboratory samples through pilot production and, finally, commercial production in metric ton(s) capacity.
Nanophase has development and application laboratories and manufacturing capacity in two locations in
the Chicago area. The Company’s manufacturing is based on Lean Six Sigma discipline and is certified
to ISO 9001, American National Standard, Quality Management System Requirements; ISO 14001,
American National Standard, Environmental Management System Requirements; and is compliant with
cGMP for products under FDA regulation.
Most of the raw materials used in the Company’s various processes are commercially available.
In some cases, Nanophase relies on sole-source processors of materials who utilize an array of worldwide
sources for the materials that they process to the Company’s specifications.
Nanomaterials
Nanomaterials are generally comprised of particles (nanoparticles) that are less than 100
nanometers in diameter, which have a wide range of unique properties owing to their very small size. A
nanometer is one-billionth of a meter, or about 100,000 times smaller in size than the width of a human
hair. To give another perspective, a six-foot tall person is around two-billion nanometers in height.
Nanotechnology involves manipulating the properties of materials, made up of basic elements or
combinations thereof, at the 100-nanometer level or below. At this scale, the relatively small number of
constituent atoms, the large proportion of these atoms on surfaces, and their confined dimensions lead
materials to exhibit unique properties that can be used in many applications.
Nanomaterials are an important and enabling part of the diverse field of nanotechnology. The
properties of nanomaterials, and hence their ultimate application performance and value, depend on the
composition, size, shape, structure and surface chemistry of their constituent nanoparticles, as well as the
production process and parameters. The Company's technologies for engineering and manufacturing
nanomaterials control these critical parameters resulting in nanomaterials that Nanophase believes
demonstrably offer superior performance in many applications.
Nanomaterials have applications in diverse global markets where they are incorporated into a
process, such as semiconductor polishing, or a product, such as an industrial coating to prevent
degradation from ultra-violet radiation (“UV”) or significantly improve wear resistance. Multiple
markets exist for Nanophase’s products since nanomaterials offer advantages in many applications, such
as improved performance, longer wear or product life, lower overall product cost, or in the development
of new products or processes.
3
The Company's Technologies
Nanophase has created an integrated platform of commercial nanomaterial technologies that are
patented, patent-pending, or proprietary and designed to deliver a nanomaterial solution for a targeted
market or a specific customer application. The Company’s platform provides flexibility and capability to
engineer nanomaterials that meet a customer’s performance requirements and deliver its nanomaterial
solutions in a readily usable format. Nanophase’s technologies have been demonstrably scalable and
robust, having produced over 500 metric tons annually.
The Company’s nanomaterials platform begins with two distinct manufacturing processes (PVS
and NanoArc® Synthesis) to make nanomaterials or nanoparticles. These technologies allow Nanophase
to control critical nanomaterial properties (composition, size, shape, structure, surface chemistry) and
engineer those to meet specific application performance. Compared to other major known global
nanoparticle processes, the Company’s plasma-produced particles are produced as nonporous, dense,
discrete single crystals, which the Company believes have a unique set of bulk and surface properties.
Nanophase currently has the capacity to produce over a million pounds of nanomaterials annually
Nanophase has developed patented and proprietary technology to coat or surface treat
nanoparticles to further engineer surface chemistry by two main processes. For performance in many
applications, such as sunscreens, this technology is vital to ensure formulation compatibility and, in some
cases, optimal application performance. The Company has the capacity to coat or surface treat
nanoparticles at a rate of about a ton every eight hours and delivers over 300 tons of surface engineered
nanoparticles to its customers annually. As an example, Nanophase sells coated nanomaterials that are
used by major global consumer products companies for sunscreens and personal care products.
Nanophase also has developed proprietary technology to disperse nanoparticles in both aqueous
and several organic solvent systems. These dispersions are highly stable at high weight loading (18-50%
by weight), attributes which both provide market advantages. Dispersed nanomaterials are desired by
many customers for use in their processes or products due to the ease of handling. As examples,
dispersed nanomaterials are used in architectural coatings, industrial coatings, plastic additives and
semiconductor polishing.
As markets continue to develop and grow, the Company believes that customers’ preferred
delivery formats will likely be coated and/or dispersed nanomaterials. Nanophase believes it is well
positioned with its platform of integrated commercial nanomaterial technologies. The Company plans to
maintain and evolve its intellectual property and technologies to remain at the forefront of nanomaterials
development.
Nanophase has steadily expanded both its patented technologies in the U.S. and internationally,
and its ability to commercially utilize these technologies. Through large-scale manufacturing of
nanomaterials utilized in the manufacture of consumer sunscreen and personal care products, and
architectural coatings, the Company has developed production expertise that has allowed it to improve
processes relating to those nanomaterials, as well as processes relating to other nanomaterials. This
experience has translated into additional patents, pending patents and improvement of the Company’s
technologies and manufacturing processes to reduce variable manufacturing cost and improve gross
margins.
Marketing
Nanophase sells its products to markets using a dual strategy of market partners and customers.
Markets are selected based on the Company’s assessment of the amount of market-pull and the product
value proposition for its nanomaterial products to avoid situations that are actually a technology-push
with an accompanying unacceptable probability of market success.
4
Nanophase’s market partners currently include BASF Corporation (“BASF”), a $50+billion
global chemical company; Rohm & Haas Electronic Materials CMP Technologies, part of an $8 billion
global chemical company; Altana Chemie, a $1+billion chemical company who is a leader in coating and
plastic additives; and Alfa Aesar, a division of Johnson Matthey. Each market partner is viewed as a
leader in its respective markets with recognized brands, significant revenues and global sales reach.
Nanophase has long-term exclusive relationships with each of its market partners. Market partners
incorporate the Company’s nanomaterial products into their own products and/or sell Nanophase’s
nanomaterial products into specific markets.
Market partners offer Nanophase several advantages. Nanophase is able to leverage its sales and
distribution capabilities by using those of its market partners to sell its products globally and reach
markets that would be difficult or unattainable for the Company alone. The Company is also able to
leverage its new nanomaterial product development capabilities by collaborating with market partners’
application development scientists and engineers. Nanophase has current products with each market
partner, in some cases multiple products, and has focused new nanomaterial product development based
on the market partners’ knowledge and expertise in each market and product application. Nanophase
anticipates that revenue generation from current products will continue growing while new revenue
streams will be generated through focused new product development and market introduction through its
market partners.
BASF markets and distributes Nanophase’s nanomaterials for sunscreens (beach wear and daily
wear products) and personal care under the Z-Cote brand to consumer products companies globally. The
Company’s revenues from these nanomaterial products grew 23% in 2005, 13% in 2006 and 18% in 2007
and continuing growth is expected long-term. Nanophase has manufactured and shipped over 1,500
metric tons of Z-Cote products.
During 2005, BASF and Nanophase launched a second line of sunscreen and personal care
nanomaterials under the Z-Cote MAX brand specifically targeted for European and Asian markets.
During 2006, BASF and Nanophase launched a new product, T-Lite MAX, for the sunscreen market.
During 2000, BASF loaned Nanophase $1.3 million to purchase and install production equipment
to produce nanomaterial products for the Z-Cote brand. As part of Nanophase’s business model, the
Company expects its market partners to fund equipment that is primarily dedicated to produce their
products. Nanophase typically repays such loans through a sales discount on product over time. The
BASF note was retired in 2006.
Rohm & Haas Electronic Materials CMP Inc. (“RHEM”) uses the Company’s nanomaterial
products to manufacture slurry to polish semiconductors for the STI, SON, and ILD0 technology nodes.
RHEM’s slurry products are marketed and used globally by semiconductor manufacturers. RHEM
awarded Nanophase its “Excellence in Partnership” award in 2005 and during 2006 made a $5 million
equity investment in the Company for its exclusive use of nanomaterial products for semiconductor
slurries.
Altana Chemie, and its subsidiary BYK-Chemie, use Nanophase’s nanomaterial products as
ingredients and additives for paints, coatings, polymers, plastics, inks and sealants under its NanoBYK
brand. Altana Chemie made a $10 million equity investment in Nanophase during 2004. Altana Chemie
also lent Nanophase $1.6 million to purchase and install nanomaterials production equipment during 2006
to support capacity requirements related to volume growth.
Alfa Aesar is a global distributor of Nanophase-branded nanomaterials and nanomaterial
dispersions to the research and development community. Through catalogs, websites, and a dedicated
nanomaterials brochure, Alfa Aesar markets approximately 33 Nanophase nanomaterial products to the
global development community. Nanophase anticipates that as new products or processes are developed
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using the Company’s nanomaterial products, increasing demand may have a positive impact on revenue
growth.
Nanophase also utilizes market-focused business development and sales to drive new product
applications and customers. Business development includes evaluation and qualification of potential
markets, identification of potential lead customers, and developing a strategy for successful market
penetration.
Nanophase collaborates with potential customers to develop a nanomaterials solution for their
specific application. This approach increases the probability of application success, allows the Company
to use its integrated platform of nanomaterial technologies to optimize a nanomaterial solution for the
product application, and reduces the time-to-market. Nanophase’s application scientists work along with
the business development and sales team and the customer’s new product developers to develop a
nanomaterial solution to meet performance demands.
In addition to the applications with market partners, Nanophase’s end-use manufacturing
customers are using its nanomaterial products for DNA Bio-Sensors, water filtration, textile coatings,
architectural coatings, optics polishing, LCD screen polishing and other applications.
Technology and Engineering
Consisting of research and development, process engineering and advanced engineering groups,
the Company’s focus is in three major areas: 1) application development for its nanomaterial products; 2)
creating or obtaining additional core nanomaterial technologies, or nanomaterials, that have the capability
to serve multiple markets; 3) continuing to improve the Company’s core technologies to improve
operations and reduce costs.
Most of the research and development at Nanophase is directly related to product development
for applications. The Company endeavors to either meet specific customer needs or to develop
applications solutions to unmet needs in a particular market where its materials may offer a distinct
performance advantage. The Company believes that aggressively pursuing applications, inventions and
patents generally will help Nanophase maintain its position as a technical and commercial innovator in
nanomaterials.
Nanophase's total research and development expense, which includes all expenses relating to the
technology and advanced engineering groups, during the years ended December 31, 2007, 2006 and 2005
was $1,773,565, $2,127,862 and $1,934,528, respectively. This represents the Company’s share of these
expenses only and does not take into account amounts spent by our largest customers in support of our
partnerships. The Company's future success will depend in large part upon its ability to keep pace with
evolving advanced materials technologies and industry standards. Through the five-year period ended
December 31, 2007, the Company has had cumulative research and development expenses of
approximately $9.7 million and cumulative expenditures on equipment and leasehold improvements of
approximately $4.3 million. These investments in technology and production capacity and capability
have helped to take Nanophase from a development stage company to full commercialization.
Manufacturing Operations
The Company has manufacturing capacity based in two locations in the Chicago area. At each of
these facilities, Nanophase is able to develop and supply nanomaterials in quantities ranging from grams
to metric tons. Nanophase’s facilities are certified to ISO 9001:2000 international standards and are
current Good Manufacturing Practices (cGMP) compliant for applicable bulk pharmaceutical
manufacturing. The Company’s facilities are also certified to the international standard for environmental
management, ISO 14001:2004.
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Lean Six-Sigma discipline is part of all of our manufacturing processes and supports the
capability to manufacture precisely to application requirements. Unlike traditional quality control
systems, Lean Six Sigma provides methods to re-engineer processes to eliminate non-value added steps
and create a system that minimizes errors and defects. The Company’s Director of Quality is a certified
Six Sigma Master Black Belt. Nanophase requires that its manufacturing supervisors, engineers and
technicians are trained and become, at minimum, certified Green Belts.
Nanophase’s operations employ a cellular, team-based manufacturing approach, where workers
operate in work “cells,” under a Lean Manufacturing environment to continuously advance and improve
production capabilities. The Company’s manufacturing approach and targeted engineering actions have
resulted in continuing process innovations and improvements that have reduced the variable
manufacturing cost significantly over the past four years. Using Lean Six Sigma discipline, Nanophase
has been able to achieve 99% customer service levels with no customer returns over the last five years.
Management is committed to a Lean Manufacturing approach, to the extent possible given a
certain measure of irregular demand, where the Company is able to reduce excess labor and manage the
lowest practical inventory and supply levels in order to minimize working capital demands. This
approach complements two of the Company’s major operational goals which are to increase
nanomaterials output without adding to existing equipment and to continually reduce production costs.
Intellectual Property and Proprietary Rights
Nanophase relies primarily on a combination of patent, trademark, copyright, trade secret and
other intellectual property law, nondisclosure agreements and other protective measures to protect its
intellectual property. In addition to obtaining patent and trademarks based on the Company’s inventions
and products, Nanophase also licenses certain third-party patents from time-to-time to expand its
technology base.
As of the date of this report, Nanophase owns or licenses 18 US patents and patent applications
consisting of 10 issued or allowed US patents, 7 pending US patent applications, and 1 licensed US
patent. The 10 owned US patents consist of 3 for its nanoparticle synthesis process, equipment and
products by process, 3 for its surface treatment technologies and 4 for its nanoparticle applications. The
Company’s pending US patents consist of 3 for its nanoparticle synthesis process, equipment and
products by process, 1 in nanoparticle surface treatments, and 3 in nanoparticle applications.
Correspondingly, the Company owns 49 foreign patents and patent applications consisting of 24 issued or
allowed foreign patents and 25 pending foreign patents applications. All of the pending and owned
foreign patents are counterparts to domestic filings covering its platform of nanotechnologies. The
Company’s oldest issued patents will begin to expire in 2009.
Nanophase has licensed its PVS technology for certain specific markets and certain geographies
to C.I. Kasei, a division of Itochu Corporation (“CIK”). Under this agreement, the Company earns
royalties on net sales of manufactured products containing nanocrystalline materials. The agreement
provides for minimum royalty payments to maintain exclusivity. The agreement expires on March 31,
2013 unless earlier terminated as provided therein. Upon the expiration, the license will become non-
exclusive.
See “Item 1A. Risk Factors” for a discussion of risks related to our intellectual property and
proprietary rights.
Competition
Within each of its targeted markets and product applications, Nanophase faces potential
competition from advanced materials and chemical companies and suppliers of traditional materials. In
many markets, the Company’s potential competitors are larger and more diversified than the Company;
7
although management believes its materials and related technologies are superior to those of its
competitors in terms of Nanophase’s ability to produce highly engineered products to meet specific
performance requirements.
With respect to traditional suppliers, the Company may compete against lower priced traditional
materials for certain customer applications. In some product or process applications the benefits of using
nanomaterials do not always outweigh their typically higher costs.
With respect to larger producers of nanomaterials, while many of these producers do not currently
offer directly competitive products, these companies have greater financial and technical resources, larger
research and development staffs and greater manufacturing and marketing capabilities and could begin to
compete directly against Nanophase. In addition, the number of development-stage companies involved
in nanocrystalline materials continues to grow on a global basis, posing increasing competitive risks.
Many of these companies are associated with university or national laboratories and use chemical and
physical methods to produce nanocrystalline materials. Management believes that most of these
companies are engaged primarily in funded research and is not aware that any of them currently have
commercial production capabilities; however, they may represent competitive risks in the future. Some
development stage companies, especially in other countries, receive significant government assistance.
Management anticipates that foreign competition may play a greater role in the nanomaterials arena in the
future.
Nanophase believes that its nanomaterial technology and manufacturing platforms are currently at
the forefront of nanomaterials production. Relative to potential competition, Nanophase believes it is
well positioned with its platform of integrated commercial nanomaterial technologies and its current plans
for continual technology improvement and evolution.
Governmental Regulations
The manufacture and use of certain of the products that contain the Company's nanocrystalline
materials are subject to governmental regulations. As a result, the Company is required to adhere to the
current Good Manufacturing Practices (cGMP) requirements of the U.S. Food and Drug Administration
("FDA") and similar regulations that include testing, control and documentation requirements enforced by
periodic inspections.
Nanophase is committed to environmental health and safety (“EH&S”). We comply with all
permissible exposure limits standards issued by OSHA. Because nanotechnology remains an emerging
and evolving science, there are no currently accepted standards, measurements or personal protective
equipment available that are specific to nanoparticle safety. Accordingly, Nanophase relies on nuisance
dust standards and general chemical safety practices to identify safe personal protective equipment and
appropriate handling protocols. The Company believes that it has taken a leadership position on EH&S in
its operations and fugitive emissions, and has internal and external review and monitoring of its practices.
In addition, the Company's facilities and all of its operations are subject to the plant and
laboratory safety requirements of various environmental and occupational safety and health laws. We
believe we are in compliance with all such laws and regulations and to date, those regulations have not
materially restricted or impeded operations.
Nanophase has taken a responsible, proactive approach to Environmental Health and Safety by
implementing appropriate procedures and processes to have its facilities certified to ISO 14001, American
National Standard, Environmental Management System Requirements. The Company is also involved
with leading industry groups that are defining nanomaterial standards and protocols. These currently
include the ASTM International Committee on Nanotechnology, the National Pollution Prevention and
Toxics Advisory Committee – TSCA Voluntary Program, the American National Standards Institute
(ANSI), and participate in FDA reviews relative to cosmetic applications. The Company has a full-time,
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advanced degreed professional to manage government regulation compliance and EH&S. Management
believes that the Company has an exemplary safety record.
Employees
On January 8, 2007, the Company hired Kevin J. Wenta as its Executive Vice President of Sales
and Marketing. He brings twenty years of business development, sales, marketing, finance and operations
experience to Nanophase. Prior to joining the company, Mr. Wenta was a Partner at Accenture, a global
consultancy. Previous to that he was a General Manager at Eastman Chemical Company and held the
position of Director of Corporate Strategy. Previous experience also includes positions at ChemConnect
(formerly CheMatch), ARCO and Shell Chemical. Mr. Wenta holds a B.S. degree in Chemical
Engineering from the University of Texas at Austin and an M.B.A. from the University of Chicago.
On April 9, 2007, the Company hired David Nelson joined as its Vice President of Sales. He
brings over 15 years of business development experience to Nanophase. Immediately prior to joining the
Company, Mr. Nelson started and managed the LCD business for Eastman Chemical Company. Prior to
that, he was a consultant with Mercer Management Consulting working on corporate strategy
development and implementation. Mr. Nelson has also started two consumer goods manufacturing
companies and has served as National Sales Manager for Pelouze Scale Company. He holds a B.S. in
Marketing from Miami University and an M.B.A. from the Kellogg Graduate School of Management at
Northwestern University.
On April 26, 2007, the Company announced that Mr. Daniel S. Bilicki, its then-current Vice
President of Sales and Marketing, had left the Company.
On December 31, 2007, the Company had a total of 55 full-time employees, 10 of whom hold
advanced degrees. Nanophase has no collective bargaining agreements or relationships.
Backlog
Nanophase does not believe that a backlog as of any particular date is indicative of future results.
The Company’s sales are made primarily pursuant to purchase orders for delivery of nanomaterials.
Nanophase has some agreements that give customers the right to purchase a specific quantity of
nanomaterials during a specified time period. These agreements, however, do not obligate the customers
either to purchase any particular quantity of such nanomaterials at all, or in the case where an obligation
exists, the risk to the customer for not purchasing nanomaterials is the loss of exclusivity. The quantities
actually purchased by the customer, as well as the shipment schedules, are frequently revised during the
agreement term to reflect changes in the customer’s needs. The Company does not believe that such
agreements are meaningful for determining backlog amounts.
Business Segment and Geographical Information
See Note 16 to the Financial Statements for additional information.
Key Customers
A limited number of key customers account for a substantial portion of the Company's
commercial revenue. In particular, revenue from three customers; BASF, the Company’s customer in
architectural coatings and BYK-Chemie, constituted approximately 48.7%, 25.2% and 12.4%,
respectively, of the Company's 2007 total revenue. The Company's customers are significantly larger
than the Company and are able to exert a high degree of influence over the Company. While the
Company’s agreements with two customers are long-term agreements, they may be terminated by the
customer under certain circumstances with reasonable notice and do not provide any guarantees that these
customers will continue to buy the Company’s products. The loss of one of these key customers or the
9
failure to attract new customers could have a material adverse effect on the Company's business, results of
operations and financial condition. See Item 1A. Risk factors for additional discussion.
Forward-Looking Statements
Nanophase wants to provide investors with more meaningful and useful information. As a result,
this Annual Report on Form 10-K (the "Form 10-K") contains and incorporates by reference certain
"forward-looking statements", as defined in Section 21E of the Securities Exchange Act of 1934, as
amended. These statements reflect the Company's current expectations of the future results of its
operations, performance and achievements. Forward-looking statements are covered under the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995. The Company has tried, wherever
possible, to identify these statements by using words such as "anticipates", "believes", "estimates",
"expects", "plans", "intends" and similar expressions. These statements reflect management's current
beliefs and are based on information now available to it. Accordingly, these statements are subject to
certain risks, uncertainties and contingencies that could cause the Company's actual results, performance
or achievements in 2008 and beyond to differ materially from those expressed in, or implied by, such
statements. These risks, uncertainties and factors include, without limitation: a decision by a customer to
cancel a purchase order or supply agreement in light of the Company's dependence on a limited number
of key customers; uncertain demand for, and acceptance of, the Company's nanocrystalline materials; the
Company's manufacturing capacity and product mix flexibility in light of customer demand; the
Company's limited marketing experience; changes in development and distribution relationships; the
impact of competitive products and technologies; the Company's dependence on patents and protection of
proprietary information; the resolution of litigation in which the Company may become involved; and
other risks set forth under the caption ”Risk Factors” below. Readers of this Annual Report on Form 10-K
should not place undue reliance on any forward-looking statements. Except as required by federal
securities laws, the Company undertakes no obligation to update or revise these forward-looking
statements to reflect new events or uncertainties.
Investor Information
The Company is subject to the informational requirements of the Securities Exchange Act of
1934 (the Exchange Act) and, accordingly, files periodic reports, proxy statements and other information
with the Securities and Exchange Commission (the SEC). Such reports, proxy statements and other
information may be obtained by visiting the Public Reference Room of the SEC at 450 Fifth Street, NW,
Washington, DC 20549 or by calling the SEC at 1-800-SEC-0330. In addition, the SEC maintains an
Internet site (http://www.sec.gov) that contains reports, proxy and information statements and other
information regarding issuers that file electronically.
Financial and other information may also be accessed at the Company's web site. The address is
www.nanophase.com. The Company makes available, free of charge, copies of its annual report on Form
10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed
or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act as soon as reasonably practicable
after filing such material electronically with, or otherwise furnishing it to, the SEC, and intends to make
all such reports and amendments to reports available free of charge on its web site.
Item 1A. Risk Factors
The following risks, uncertainties, and other factors could have a material adverse effect on our
business, financial condition, operating results and growth prospects.
We may not be able to address difficulties encountered by companies in new and rapidly evolving
markets.
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We were formed in November 1989 and began our commercial nanomaterials operations in
January 1997. We have only recently begun to generate a significant amount of revenue from our
nanomaterials operations. Because of the early stage of development of our rapidly evolving market, we
have limited insight into trends that may emerge and adversely affect our business and cannot be certain
that our business strategy will be successful or that it will successfully address these risks. In addition, our
efforts to address any of these risks may distract personnel or divert resources from other more important
initiatives, such as attracting and retaining customers and responding to competitive market conditions.
We have a history of losses that may continue in the future.
We have incurred net losses in each year since our inception with net losses of $5.38 million in
2005, $5.18 million in 2006 and $3.59 million in 2007. As of December 31, 2007, we had an accumulated
deficit of approximately $66.34 million and could expect to continue to incur losses on an annual basis
through at least the end of 2008. We believe that our business depends, among other things, on our ability
to significantly increase revenue. If revenue fails to grow at anticipated rates or if operating expenses
increase without a commensurate increase in revenue, or if we fail to adjust operating expense levels
accordingly, then the imbalance between revenue and operating expenses will negatively impact our cash
balances and our ability to achieve profitability in future periods.
We depend on a small number of customers for a high percentage of our sales, and the loss of orders
from a significant customer could cause a decline in revenue and/or increases in the level of losses
incurred.
Sales to our customers are executed pursuant to purchase orders and long-term supply contracts;
however, customers can cease doing business with us at any time with limited advance notice. We expect
a significant portion of our future sales to remain concentrated within a limited number of strategic
customers. We may not be able to retain our strategic customers, such customers may cancel or
reschedule orders, or in the event of canceled orders, such orders may not be replaced by other sales or by
sales that are on as favorable terms. In addition, sales to any particular customer may fluctuate
significantly from quarter to quarter, which could affect our ability to achieve anticipated revenues on a
quarterly basis.
Revenue from BASF Corporation, the Company’s significant customer in architectural coatings
and BYK-Chemie, accounted for approximately 86% of total revenue for the year ended December 31,
2007, and revenue from the same three customers accounted for approximately 81% of total revenue in
2006. For the years ended December 31, 2007 and 2006, BASF accounted for 49% and 56% of our total
revenue, respectively. If we were to lose, or receive significantly decreased orders from, any of these
three customers, then our results of operations could be materially harmed. While our agreements with
two of our customers are long-term agreements, they may be terminated by the customer under certain
circumstances with reasonable notice and do not provide any guarantees that these customers will
continue to buy our products. In addition, while our agreements with BASF contain certain order
requirements, the only repercussion under the agreements for missing the order requirements is that we
would be freed from the exclusivity obligations under the BASF contracts.
We have been consistently expanding both our marketing and business development efforts and
our production efficiency in order to address the issues of our dependence upon a limited amount of
customers, enhancement of gross profit and operating cash flows, and the achievement of profitability.
We currently have customers that may grow to the point where they generate significant revenues and
margins as relationships expand. Given the special nature of our products, and the fact that markets for
them are not yet fully developed, it is difficult to accurately predict when additional large customers will
materialize. Going forward, the Company’s margins, as a percentage of revenue, will be dependent upon
revenue mix, revenue volume, raw materials pricing, and the Company’s ability to continue to cut costs.
The extent of the growth in revenue volume and the related gross profit that this revenue generates, will
be the main drivers in generating positive operating cash flows and, ultimately, net income.
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Any downturn in the markets served by us would harm our business.
A majority of our products are incorporated into products such as sunscreens, architectural
coatings, polishing slurries, personal care, and to a lesser extent, medical diagnostics, abrasion-resistant
coatings for flooring, and other products. These markets have from time to time experienced cyclical,
depressed business conditions, often in connection with, or in anticipation of a decline in general
economic conditions. These industry downturns have resulted in reduced product demand and declining
average selling prices. Our business would be harmed by any future downturns in the markets that we
serve.
Our products often have long adoption cycles, which could make it difficult to achieve market acceptance
and makes it difficult to forecast revenues.
Due to their often novel characteristics and the unfamiliarity with them that exists in the
marketplace, our nanomaterials often require longer adoption cycles than existing materials technologies.
Our nanomaterials have to receive appropriate attention within any potential customer's organization, then
they must be tested to prove a performance advantage over existing materials, typically on a systems-cost
basis. Once we have proven initial commercial viability, pilot scale production runs must be completed by
the customer, followed by further testing. Once production-level commercial viability is established, then
our nanomaterials can be introduced, often to a downstream marketplace that needs to be familiarized
with them. If we are unable to demonstrate to our potential customers the performance advantages and
economic value of our nanomaterials over existing and competing materials and technologies, we will be
unable to generate significant sales. Our long adoption cycle makes it difficult to predict when sales will
occur.
We frequently depend on collaborative development relationships with our customers and do not have a
substantial direct sales force or an established distribution network apart from the distribution networks
of our strategic partners. If we are unable to initiate or sustain such collaborative relationships or if the
terms of these relationships limit the distribution of our products or if our strategic partners are unable to
distribute our products efficiently, then we may be unable to independently develop, manufacture or
market our current and future nanomaterials or applications.
We have established, and will continue to pursue, strategic relationships with many of our
customers and do not have a substantial direct sales force or an established distribution network (other
than distribution arrangements for research samples). Through these relationships, we seek to develop
new applications for our nanomaterials and share development and manufacturing resources. We also
seek to coordinate the development, manufacture and marketing of our nanomaterials products. Future
success will depend, in part, on our continued relationships with these customers and our ability to enter
into similar strategic relationships with other customers. Our customers may not continue in these
collaborative development relationships, may not devote sufficient resources to the development or sale
of our materials or may enter into strategic development relationships with our competitors. These
customers may also require a share of control of these collaborative programs. Some of our agreements
with these customers limit our ability to license our technology to others and/or limit our ability to engage
in certain product development or marketing activities with others. These relationships generally can be
terminated unilaterally by customers.
Additionally, except for our research quantities distribution agreement with Alfa Aesar, these
customers generally require exclusive distribution arrangements within the field of application covered by
our agreements. The very nature of these strategic relationships limits the distribution of our products to
the distribution networks available to and selected by our strategic relationship partners. In addition, the
development agreements with some of our larger customers contain provisions that require us to license
our intellectual property to these customers on disadvantaged terms and/or sell equipment to these
customers in the event that we materially breach these agreements or fail to satisfy certain financial
covenants. For example, see “Risk Factors—We may need to raise additional capital in the future.”
12
If we are unable to initiate or sustain such collaborative relationships or if the terms of these
relationships materially limit our access to distribution channels for our products, then we may be unable
to independently develop, manufacture or market our current and future nanomaterials or applications.
If commodity metal prices increased at such a rate that we are unable to recover lost margins on a timely
basis or that our products became uncompetitive in their current marketplaces, our financial and liquidity
position and results of operations would be substantially harmed.
Many of our significant raw materials come from commodity metal markets that may be subject
to rapid price increases. While we generally pass a significant portion of commodity “price-related”
increases on to our customers, it is possible that, given our limited customer base and the limited control
we have over it, commodity metal prices could increase at such a rate that could hinder our ability to
recover lost margins from our customers. It is also possible that such drastic cost increases could render
some of our materials uncompetitive in their current marketplaces when considered relative to other
materials on a cost benefit basis. If either of these potential results occurred, our financial and liquidity
position and results of operations would be substantially harmed.
If a catastrophe strikes either of our manufacturing facilities or if we were to lose our lease for either
facility due to non-renewal or other unforeseen events, we may be unable to manufacture our materials to
meet customers’ demands.
Our manufacturing facilities are located in Romeoville and Burr Ridge, Illinois. These facilities
and some of our manufacturing and testing equipment would be difficult to replace in a timely manner.
Therefore, any material disruption at one of our facilities due to a natural or man-made disaster or a loss
of lease due to non-renewal or other unforeseen events could have a material adverse effect on our ability
to manufacture products to meet customers' demands. While we maintain property insurance, this
insurance may not adequately compensate us for all losses that we may incur and would not compensate
us for any interruption in our business.
If we are unable to expand our production capabilities to meet unexpected demand, we may be unable to
manage our growth and our business would suffer.
Our success will depend, in part, on our ability to manufacture nanomaterials in significant
quantities, with consistent quality and in an efficient and timely manner. We expect to continue to
expand our current facilities or obtain additional facilities in the future in order to respond to unexpected
demand for existing materials or for new materials that we do not currently make in quantity. Such
unplanned demand, if it resulted in rapid expansion, could create a situation where growth could become
difficult to manage, which could cause us to lose potential revenue.
Protection of our intellectual property is limited and uncertain
Our intellectual property is important to our business. We seek to protect our intellectual property
through patent, trademark, trade secret protection and confidentiality or license agreements with our
employees, customers, suppliers and others. Our means of protecting our intellectual property rights in the
United States or abroad may not be adequate and others, including our competitors, may use our
proprietary technology without our consent. We may not receive the necessary patent protection for any
applications pending with the U.S. Patent and Trademark Office (“USPTO”) and any of the patents that
we currently own or license may not be sufficient to keep competitors from using our materials or
processes. In addition, patents that we currently own or license may not be held valid if subsequently
challenged by others and others may claim rights in the patents and other proprietary technology that we
own or license. Additionally, others may have already developed or may subsequently develop similar
products or technologies without violating any of our proprietary rights. If we fail to obtain or maintain
patent protection or preserve our trade secrets, we may be unable to effectively compete against others
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offering similar products and services. In addition, if we fail to operate without infringing the proprietary
rights of others or lose any license to technology that we currently have or will acquire in the future, we
may be unable to continue making the products that we currently make.
Moreover, at times, attempts may be made to challenge the prior issuance of our patents. For
example, the USPTO granted multiple third-party requests for re-examination with respect to one patent
relating to one of our nanoparticle manufacturing processes. After substantial prosecution of the re-
examination, the USPTO on February 5, 2008 issued an Ex Parte Reexamination Certificate wherein the
USPTO cancelled all the claims in the one patent that was under reexamination. As a result, our ability to
assert infringement claims and suits against others using the same or sufficiently similar technology now
has been limited. We currently have pending applications for a continuation patent and a divisional
patent reflecting what we believe to be the most critical attributes of this patent. Management believes
that these two patent applications have a high likelihood of being granted, given our assessment of
feedback from the USPTO. Regardless of the status of this patent and the pending continuation and
divisional applications, we will still be able to conduct our business as currently conducted, including our
use of the technology that was the subject of the reexamined patent claims. Thus, while we do not agree
with the USPTO’s reasons for canceling the claims of the patent, we do not believe that the cancellation
of the claims protected by the Company’s patent in question materially alters the competitive environment
in which the Company operates or results in a material loss.
Furthermore, litigation may be necessary 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. Such litigation could result in substantial costs and diversion of
resources and could harm our business, operating results and financial condition. In addition, if others
assert that our technology infringes their intellectual property rights, resolving the dispute could divert our
management team and financial resources.
In the future, we may license certain of our intellectual property, such as trademarks, to third
parties. While we would attempt to ensure that any licensees maintain the quality and value of our brand,
these licenses might diminish this quality and value.
Our industry is experiencing rapid changes in technology. If we are unable to keep pace with these
changes, our business will not grow.
Rapid changes have occurred, and are likely to continue to occur, in the development of advanced
materials and processes. Our success will depend, in large part, upon our ability to keep pace with
advanced materials technologies, industry standards and market trends and to develop and introduce new
and improved products on a timely basis. We expect to commit substantial resources to develop our
technologies and product applications and, in the future, to expand our commercial manufacturing
capacity as volume grows. Our development efforts may be rendered obsolete by the research efforts and
technological advances of others and other advanced materials may prove more advantageous than those
we produce.
The markets we serve are highly competitive, and if we are unable to compete effectively, then our
business will not grow.
The advanced materials industry is new, rapidly evolving and intensely competitive, and we
expect competition to intensify in the future. The market for materials having the characteristics and
potential uses of our nanomaterials is the subject of intensive research and development efforts by both
governmental entities and private enterprises around the world. We believe that the level of competition
will increase further as more product applications with significant commercial potential are developed.
The nanomaterials product applications that we are developing will compete directly with products
incorporating both conventional and advanced materials and technologies. While we are not currently
14
aware of the existence of commercially available competitive products with the same attributes as those
we offer, other companies may develop and introduce new or competitive products. Our competitors may
succeed in developing or marketing materials, technologies and better or less expensive products than the
ones we offer. In addition, many of our potential competitors have substantially greater financial and
technical resources, and greater manufacturing and marketing capabilities than we do. If we fail to
improve our current and potential nanomaterials product applications at an acceptable price, or otherwise
compete with producers of conventional materials, we will lose market share and revenue to our
competitors.
We may need to raise additional capital in the future. If we are unable to obtain adequate funds, we may
be required to delay, scale-back or eliminate some of our manufacturing and marketing operations or we
may need to obtain funds through arrangements on less favorable terms or we may be required to sell
equipment to our largest customer.
We expect to expend significant resources on research, development and product testing, and in
expanding current capacity or capability for new business. In addition, we may incur significant costs in
preparing, filing, prosecuting, maintaining and enforcing our patents and other proprietary rights. If
necessary, we may seek funding through public or private financing and through contracts with
government or other companies. Additional financing may not be available on acceptable terms or at all.
If we are unable to obtain adequate funds, we may be required to delay, scale-back or eliminate some of
our manufacturing and marketing operations or we may need to obtain funds through arrangements on
less favorable terms. If we obtain funding on unfavorable terms, we may be required to relinquish rights
to some of our intellectual property.
To raise additional funds in the future, we would likely sell our equity or debt securities or enter
into loan agreements. To the extent that we issue debt securities or enter into loan agreements, we may
become subject to financial, operational and other covenants that we must observe. In the event that we
were to breach any of these covenants, then the amounts due under such loans or debt securities could
become immediately payable by us, which could significantly harm us. To the extent that we sell
additional shares of our equity securities, our stockholders may face economic dilution and dilution of
their percentage of ownership.
We currently have supply agreements with BASF and RHEM, and a technology development
agreement with Altana Chemie, that contain provisions which could potentially result in a mandatory
license of technology and sale of production equipment to the customer providing capacity sufficient to
meet its production needs. Under our supply agreement with BASF, a “triggering event” also would occur
if:
•
•
our earnings for a twelve month period ending with our most recently
published quarterly financial statements are less than zero and our cash, cash
equivalents and investments are less than $2,000,000, or
the acceleration of any debt maturity having a principal amount of more than
$10,000,000, or we become insolvent as defined in the supply agreement.
In the event of a triggering event where we are required to sell to BASF production equipment
providing capacity sufficient to meet BASF's production needs, the equipment would be sold at 115% of
the equipment's net book value.
If we were determined to have materially breached certain other provisions of our supply
agreement with BASF ,our supply agreement with RHEM or our technology development agreement with
Altana Chemie, we similarly could be subject to a "triggering event" that potentially could result in a
mandatory license of technology and a sale of certain production equipment to the customer.
15
We believe that we have sufficient cash balances to avoid the first triggering event under the
BASF supply agreement for the foreseeable future. If a triggering event were to occur and BASF, RHEM
or Altana Chemie elected to proceed with the license and related sale mentioned above, we would lose
both significant revenue and the ability to generate significant revenue to replace that which was lost in
the near term. Replacement of necessary equipment that would be purchased and removed by the
customer pursuant to this triggering event could take six months to a year. Any additional capital outlays
required to rebuild capacity would probably be greater than the proceeds from the purchase of the assets
pursuant to our respective agreements with BASF, RHEM and Altana Chemie. This shortfall might put us
in a position where it would be difficult to secure additional funding given what would then be an already
tenuous cash position. Such an event would also result in the loss of many of our key staff and line
employees due to economic realities. We believe that our employees are a critical component of our
success and would be difficult to quickly replace and train. Given the occurrence of such an event, we
might not be able to hire and retrain skilled employees given the stigma relating to such an event and its
impact on us. We might elect to effectively reduce our size and staffing to a point where we could remain
a going concern in the near term.
Future broad illiquidity expansion in the market for financial instruments could make it difficult to access
invested funds.
The Company has made investments in several auction rate securities, representing a significant,
although minority portion, of its invested funds. Due to the level of liquidity risk associated with such
investments, and the potential level of uncertainty related to changes in the value of such investments if
sold under market conditions where supply exceeds demand, it is possible that the Company’s ability to
access these funds on short notice without incurring trading losses will be affected. It As of this filing,
the Company holds approximately $9 million in short-term Treasury Bills which pose minimal liquidity
risk. Given that cash used in operations is expected to improve, or remain relatively stable, in 2008 and
beyond, it is management’s view that this potential liquidity risk does not represent a significant
limitation to the Company’s ability to continue operations for the foreseeable future. The Company’s
invested portfolio is also, in management’s view, not at significant valuation risk due to credit ratings risk
concerns.
We depend on key personnel, and their unplanned departure could harm our business.
Our success will depend, in large part, upon our ability to attract and retain highly qualified
research and development, management, manufacturing, marketing and sales personnel on favorable
terms. Due to the specialized nature of our business, we may have difficulty locating, hiring and retaining
qualified personnel on favorable terms. If we were to lose the services of any of our key executive
officers or other key personnel, or if we are unable to attract and retain other skilled and experienced
personnel on acceptable terms in the future, or if we are unable to implement a succession plan to prepare
qualified individuals to assume key roles upon any loss of our key personnel, then our business, results of
operations and financial condition would be materially harmed. In addition, we do not currently have
“key-man” life insurance policies covering all of our executive officers or key employees, nor do we
presently have any plans to purchase such policies.
We face potential product liability risks which could result in significant costs that exceed our insurance
coverage, damage our reputation and harm our business.
We may be subject to product liability claims in the event that any of our nanomaterials product
applications are alleged to be defective or cause harmful effects to humans or physical environments.
Because our nanomaterials are used in other companies’ products, to the extent our customers become
subject to suits relating to their products, such as cosmetic, skin-care, architectural coatings and personal-
care products, these claims may also be asserted against us. We may incur significant costs including
payment of significant damages, in defending or settling product liability claims. We currently maintain
16
insurance coverage in the amount of $10 million for product liability claims, which may prove not to be
sufficient. Even if a suit is without merit and regardless of the outcome, claims can divert management
time and attention, injure our reputation and adversely affect demand for our nanomaterials.
We are subject to governmental regulations. The costs of compliance and liability for noncompliance with
governmental regulations could have a material adverse effect on our business, results of operations and
financial condition.
Current and future laws and regulations may require us to make substantial expenditures for
preventive or remedial action. Our operations, business or assets may be materially and adversely affected
by governmental interpretation and enforcement of current or future environmental, health and safety
laws and regulations. In addition, our coating and dispersion operations pose a risk of accidental
contamination or injury. The damages in the event of an accident or the costs to prevent or remediate a
related event could exceed both the amount of our liability insurance and our resources or otherwise have
a material adverse effect on our business, results of operations and financial condition.
In addition, both of our facilities and all of our operations are subject to the plant and laboratory
safety requirements of various occupational safety and health laws. We believe we have complied in all
material respects with governmental regulations applicable to us. However, we may have to incur
significant costs in defending or settling future claims of alleged violations of governmental regulations
and these regulations may materially restrict or impede our operations in the future. In addition, our
efforts to comply with or contest any regulatory actions may distract personnel or divert resources from
other important initiatives.
The manufacture and use of certain products that contain our nanomaterials are subject to
extensive governmental regulation, including regulations promulgated by the U.S. Food and Drug
Administration, the U.S. Environmental Protection Agency and the U.S. Occupational Safety and Health
Administration. As a result, we are required to adhere to the requirements of the regulations of
governmental authorities in the United States and other countries. These regulations could increase our
cost of doing business and may render some potential markets prohibitively expensive.
We have implemented anti-takeover provisions which could discourage or prevent a takeover, even if an
acquisition could be beneficial to our stockholders.
In October 1998, we entered into a Rights Agreement, commonly referred to as a "poison pill."
The provisions of this agreement and some of the provisions of our certificate of incorporation, our
bylaws and Delaware law could, together or separately:
•
•
•
discourage potential acquisition proposals;
delay or prevent a change in control; and
limit the price that investors might be willing to pay in the future for shares
of our common stock.
In particular, our board of directors is authorized to issue up to 24,088 shares of preferred stock
(less any outstanding shares of preferred stock) with rights and privileges that might be senior to our
common stock, without the consent of the holders of the common stock, including up to 2,500 shares of
Series A Junior Participating Preferred Stock issuable under the 1998 Rights Agreement.
In addition, Section 203 of the Delaware General Corporations Law relating to business
combinations with related stockholders and the terms of our stock option plans relating to changes of
control may discourage, delay or prevent a change in control of our company.
17
Future sales of our common stock by existing stockholders could negatively affect the market price of our
stock and make it more difficult for us to sell stock in the future.
Sales of our common stock in the public market, or the perception that such sales could occur,
could result in a decline in the market price of our common stock and make it more difficult for us to
complete future equity financings. A substantial number of shares of our common stock and shares of
common stock subject to options may be resold pursuant to currently effective registration statements. As
of March 3, 2008, there are:
•
•
•
•
•
18,106,168 shares of common stock that have been issued in registered
offerings, upon the exercise of options under our equity incentive plan or
in private placements and are freely tradable in the public markets,
1,224,683 shares of common stock that may be issued on the exercise of
stock options outstanding and exercisable under our current equity
incentive plan;
906,002 shares of common stock that were issued pursuant to our
September 8, 2003 private placement and the related warrant which was
exercised on September 2, 2004. The resale of these shares has been
registered pursuant to a Registration Statement on Form S-3 which was
declared effective by the Securities and Exchange Commission on August
13, 2004; and
1,256,281 shares of common stock that were issued pursuant to our March
23, 2004 private placement and may be registered for resale after March
23, 2006 pursuant to a Registration Statement on Form S-3 which was
declared effective by the Securities and Exchange Commission on May
18, 2007.
847,918 shares of common stock that were issued pursuant to our August
25, 2006 private placement and may be registered for resale after August
25, 2008 pursuant the terms of the Registration Rights Agreement
executed in connection with this private placement.
We cannot estimate the number of shares of common stock that may actually be resold in the
public market because this will depend on the market price for our common stock, the individual
circumstances of the sellers, and other factors. If stockholders sell large portions of their holdings in a
relatively short time, for liquidity or other reasons, the market price of our common stock could decline
significantly.
Bradford T. Whitmore has significant influence on all matters requiring stockholder approval because he
beneficially owns a large percentage of our common stock, and he may vote the common stock in ways
with which our other stockholders disagree.
As of March 5, 2008, Bradford T. Whitmore, together with his affiliates, Grace Brothers, Ltd. and
Grace Investments, Ltd., beneficially owned approximately 19% of the outstanding shares of our common
stock. As a result, he has significant influence on matters submitted to our stockholders for approval,
including proposals regarding:
•
any merger, consolidation or sale of all or substantially all of our assets;
18
•
•
the election of members of our board of directors; and
any amendment to our certificate of incorporation.
The ownership position of Mr. Whitmore could delay, deter or prevent a change of control or
adversely affect the price that investors might be willing to pay in the future for shares of our common
stock. Mr. Whitmore's interests may be significantly different from the interests of our other stockholders
and he may vote the common stock he beneficially owns in ways with which our other stockholders
disagree. Investors in the Company should also note that R. Janet Whitmore, one of our directors, is the
sister of Mr. Whitmore.
We have been involved in litigation. If we are involved in similar litigation in the future, the expense of
defending such litigation and the potential costs of judgments against us and the costs of maintaining
insurance coverage could have a material adverse effect on our financial performance.
We have been involved in three securities class action lawsuits, one of which was a consolidation
of several related lawsuits. While all of these lawsuits have been settled and dismissed with all
settlements funded by our directors and officers liability insurance, we may be the target of additional
securities lawsuits in the future. If we are involved in similar litigation in the future, the expense of
defending such litigation, the potential costs of judgments against us, the costs of maintaining insurance
coverage and the diversion of management's attention could have a material adverse effect on our
financial performance.
Our stock price is volatile.
The stock markets in general, and the stock prices of technology-based companies in particular,
have experienced extreme volatility that often has been unrelated to the operating performance of any
specific public company. The market price of our common stock has fluctuated in the past and is likely to
fluctuate in the future as well. Our future financial performance and stock price may be subject to
significant volatility, particularly on a quarterly basis. Shortfalls in our revenues in any given period
relative to the levels expected by investors could immediately, significantly and adversely affect the
trading price of our common stock.
Dilutive Effect of Private Placements
On September 8, 2003 we sold 453,001 shares of our common stock to Grace Brothers, Ltd. at a
purchase price of $4.415 per share together with a warrant to purchase a like number of shares of
common stock during the next twelve months also at a price of $4.415 per share. This warrant was
exercised on September 2, 2004 to acquire 453,001 newly issued shares of common stock. The share
price for the common stock was determined based on the fifteen-day market closing average for our stock
ending September 5, 2003. On September 8, 2003 and September 2, 2004 the closing sale price of our
common stock as reported on NASDAQ, was $5.50 and $5.49 respectively, per share. On March 23, 2004
we sold 1,256,281 shares of our common stock to Altana Chemie at a purchase price of $7.96 per share.
The share price for the common stock was determined based on the ten-day market closing average for
our stock ending March 18, 2004. On March 23, 2004 the closing sale price of our common stock, as
reported on NASDAQ, was $8.26 per share. On August 25, 2006 we sold 847,918 shares of our common
stock to Rohm and Haas Electronics Materials CMP Holdings, Inc. at a purchase price of $5.8968 per
share. The share price for the common stock was determined based on the twenty-five-day market
closing average for our stock ending August 21, 2006. On August 25, 2006 the closing price of our
common stock, as reported on NASDAQ, was $6.71 per share. On July 2, 2007 we sold 1,900,000 shares
of our common stock to certain institutional investors at a purchase price of $5.92 per share. The share
price for the common stock was determined based on the ten-day volume-weighted average price average
for our stock, discounted 4%, for the period ending June 28, 2007. On July 2, 2007 the closing price of
our common stock, as reported on NASDAQ, was $6.13 per share. Each of these averages was negotiated
19
with the respective investors in an effort to approximate a market price, given volatility. Each of these
issuances of stock, at their respective subsequent closing dates, represented below then-current market
pricing (looking only at that closing date for this measurement) and, in that context, had a dilutive effect
on existing common stockholders.
We have never paid dividends.
We currently intend to retain earnings, if any, to support our growth strategy. We do not
anticipate paying dividends on our stock in the foreseeable future.
Item 1B. Unresolved Staff Comments
None.
Item 2. Properties
Nanophase operates a 36,000 square-foot production, research and headquarters facility in
Romeoville, Illinois and a 20,000 square-foot production facility in Burr Ridge, Illinois. Both locations
are in Chicago suburbs. The Company also leases a 9,000 square-foot offsite warehouse in the same
vicinity.
The Company’s manufacturing operations in Burr Ridge are certified under ISO 9001:2000, and
the Company’s management believes that its manufacturing operations are within the current Good
Manufacturing Practices (cGMP) requirements of the FDA for products that require such compliance.
The Company’s facilities are also ISO 14001:2004 certified which is the international standard for
environmental management. The Burr Ridge facility has a quality control laboratory designed for the dual
purposes of validating operations to cGMP and ISO standards and production process control. This
laboratory is equipped to handle many routine analytical and in-process techniques the Company
currently requires.
facility houses
The Romeoville
the Company’s headquarters, advanced engineering,
manufacturing (nanoparticle coating, nanoparticle dispersion, and pilot-scale manufacturing) and three
research and development laboratories. All Romeoville manufacturing processes are certified to ISO
9001:2000 and ISO 14001:2004, and the Company’s management believes that the nanoparticle coating
used for sunscreens and personal care is in compliance with the cGMP requirements of the FDA.
Nanophase leases both its Romeoville and Burr Ridge facilities. On October 18, 2005 Nanophase
entered into a Lease Amendment amending its current lease for its facility in Romeoville, Illinois, which,
among other things, extended the term of such lease through December 31, 2015 (with the option to
extend the term for two additional five year periods) and granted Nanophase an option to purchase such
facility in certain instances. The Company renewed its Burr Ridge facility lease in September 2004 (with
the option to extend the term for three additional one-year periods). The initial term of the new lease
expired in September 2007. The Company exercised its option to extend the lease for one year, which
expires in September 2008.
Management believes that the Company’s leased facilities provide sufficient capacity to fulfill
current known customer demand as well as additional space to enable expansion of key production
processes. Management also believes that the Company’s capital expenditures made in 2007, and
budgeted for 2008, will support currently anticipated demand from existing customers. The Company’s
actual future capacity requirements will depend on many factors, including new and potential customer
acceptance of the Company’s current and potential nanomaterials and product applications, unknown and
currently unplanned growth from existing customers, continued progress in the Company’s research and
development activities and product testing programs and the magnitude of these activities and programs.
20
Item 3. Legal Proceedings
An unidentified party filed three Petitions to Request a Reexamination of US Patent No.
6,669,823 B1 in the U.S. Patent and Trademark Office, or USPTO. US Patent No. 6,669,823 B1 relates
to certain parts of one of the Company’s nanoparticle manufacturing processes, NanoArc® Synthesis.
After substantial prosecution of the reexaminations, the USPTO on February 5, 2008 issued an Ex Parte
Reexamination Certificate wherein the USPTO cancelled all of the claims in the patent. As a result, the
Company's legal protection of the invention that was subject to the reexamination now has been limited.
However, the Company will still be able to conduct its business as currently conducted, including its use
of the technology that was the subject of the reexamined patent claims. While the Company does not
agree with the USPTO’s reasons for canceling the claims of the patent, the Company does not believe that
the cancellation of the claims protected by the Company’s patent materially alters the competitive
environment in which the Company operates or results in a material loss.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of the Company’s security holders during the fourth quarter
of 2007.
21
PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities
The Company’s common stock is traded on the NASDAQ Global Market under the symbol
NANX. The following table sets forth, for the periods indicated, the range of high and low sale prices for
the common stock on the NASDAQ Global Market:
Fiscal year ended December 31, 2007:
First Quarter ..........................................................................
Second Quarter ......................................................................
Third Quarter.........................................................................
Fourth Quarter .......................................................................
Fiscal year ended December 31, 2006:
First Quarter ..........................................................................
Second Quarter ......................................................................
Third Quarter.........................................................................
Fourth Quarter .......................................................................
$
$
High
Low
6.64
7.46
7.25
7.18
8.31
8.42
7.15
7.35
$
$
5.25
5.70
5.59
3.05
5.46
5.10
5.50
5.90
On March 4, 2008, the last reported sale price of the common stock was $3.29 per share, and
there were approximately 159 holders of record of the common stock.
The Company has never declared or paid any cash dividends on its common stock and does not
currently anticipate paying any cash dividends or other distributions on its common stock in the
foreseeable future. The Company intends instead to retain any future earnings for reinvestment in its
business. Any future determination to pay cash dividends will be at the discretion of the Company’s
Board of Directors and will be dependent upon the Company’s financial condition, results of operations,
capital requirements and such other factors deemed relevant by the Board of Directors.
On July 2, 2007, the Company issued and sold 1,900,000 shares of common stock pursuant to a
registration statement filed on May 22, 2007 and declared effective by the SEC on May 31, 2007 to
certain institutional investors at a purchase price of $5.92 per share and received gross proceeds of $11.2
million. On August 25, 2006, the Company sold, in a private placement to Rohm and Haas Electronic
Materials CMP Holdings, Inc., 847,918 shares of common stock at $5.8968 per share and received gross
proceeds of $5.0 million. On March 23, 2004, the Company sold, in a private placement to Altana
Chemie AG (“Altana”), 1,256,281 shares of common stock at $7.96 per share and received gross
proceeds of $10.0 million. In accordance with the terms of such private placement, on February 5, 2007,
the Company filed a registration statement for such 1,256,281 shares of common stock and declared
effective by the SEC on May 18, 2007. On January 22, 2004, the Company filed a universal shelf
registration statement with the Securities and Exchange Commission to allow Nanophase to offer up to
$15.0 million of Nanophase securities, in the form of common stock or various types of debt securities, in
the future. In August 2004, the Company withdrew its universal shelf offering due to unfavorable market
conditions and the Company’s adequate cash position to cover expected growth through 2006.
On September 8, 2003, the Company secured equity funding through a private placement offering
with Grace Brothers, Ltd., its largest investor. The Company issued 453,001 shares of additional common
stock at $4.415 per share and received gross proceeds of $2.0 million. Grace Brothers, Ltd. also had the
right to purchase an additional 453,001 shares for an additional $2.0 million pursuant to the terms of a
warrant issued in such private placement. In accordance with the terms of such private placement, on June
7, 2004, the Company filed a registration statement for such 453,001 shares and the additional 453,001
shares issuable upon exercise of the warrant which registration statement was declared effective on
22
August 13, 2004. On September 2, 2004, Grace Brothers, Ltd. exercised its warrant rights to acquire
453,001 newly issued shares of common stock and the Company received $2.0 million in gross proceeds.
Equity Compensation Plan Information
The following table gives information about our common stock that may be issued upon the
exercise of options and rights under all of our existing compensation plans on December 31, 2007,
including the 1992 Amended and Restated Stock Option Plan and the 2001 and the Amended 2004 Equity
Compensation Plan and the 2005 Non-Employee Director Restricted Stock Plan.
(a) Number of Securities
to be Issued Upon
Exercise of Outstanding
Options and Rights
(b) Weighted Average
Exercise Price of
Outstanding Options
and Rights
(c) Number of Securities
Remaining Available
for Future Issuance
Under Equity
Compensation Plans
(Excluding Securities
Reflected in Column
(a))
(d) Total of Securities
Reflected in Columns
(a) and (c)
1,672,214(1) $
None
$
5.84
-
852,231 (2)
2,524,445
None
-
Plan Category
Plans Approved by
Shareholders
Plans Not Approved
by Shareholders
(1) Consists of the 1992 Amended and Restated Stock Option Plan, the 2001 and the Amended 2004
Equity Compensation Plans, and shares of authorized but unissued Preferred Stock
(2) Consists of shares available for future issuance under the Amended 2004 Equity Compensation Plan
and the 2005 Non-Employee Director Restricted Stock Plan.
PERFORMANCE GRAPH
The following graph shows a comparison of cumulative total returns for the Company, the
NASDAQ Market Composite Index and an index of peer companies selected by the Company during the
period commencing on January 1, 2003 and ending on December 31, 2007. The comparison assumes
$100 was invested on January 1, 2003 in the Common Stock, the NASDAQ Market Composite Index and
the peer companies selected by the Company and assumes the reinvestment of all dividends, if any.
Comparison of Cumulative Total Returns
Measurement Date
1/1/03
12/31/03
12/31/04
12/31/05
12/31/06
12/31/07
Nanophase Technologies
Corporation
NASDAQ
Peer Group
$100.00
$100.00
$100.00
286.88
150.01
262.95
314.54
162.89
277.31
200.35
165.13
358.61
211.70
180.85
410.89
134.75
198.60
597.16
The companies in this peer grouping, both of which are advanced materials or advanced
technologies companies, are Landec Corporation and WSI Industries, Inc. The Company believes these
companies are generally compatible to Nanophase with respect to their businesses, stages of development
and market capitalization. As Nanophase has developed, management believes that a broader selection of
companies, specifically involved in nanotechnology and advanced materials marketing, will assist in
presenting comparative data for investor evaluation. Unfortunately, many of the existing indices have not
existed long enough to provide five years worth of comparative data as required in the table and chart
23
above. Management has provided supplementary information in the table below in adoption of new
comparative metrics as more substantial historical information becomes available.
Supplementary Information
Comparison of Cumulative Total Returns
Measurement Date
3/16/05
12/31/05
12/31/06
12/31/07
Nanophase Technologies Corporation
NASDAQ
LUX Nanotech Index*
Punk Ziegel Nanotechnology Index
$100.00
$100.00
$100.00
$100.00
104.63
109.40
99.80
91.62
110.56
119.82
106.10
84.12
70.37
131.58
94.43
71.36
* First available data was March 16, 2005
The LUX Nanotech Index is designed to identify a group of companies involved in developing,
manufacturing and funding nanotechnology applications. The Punk Ziegel Nanotechnology Index
provides a measure of the stock performance of public companies participating in the nanotechnology
sector. While neither nanotechnology index represents a group of companies that is perfectly analogous to
Nanophase and neither has data available back to January 1, 2003, we believe theses indices will assist
investor analysis of Company performance.
Item 6. Selected Financial Data
The following selected financial data is qualified by reference to, and should be read in
conjunction with, the financial statements and related notes thereto appearing elsewhere in this
Form 10-K and “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of
Operations.” The selected financial data set forth below as of, and for, each of the years in the five-year
period ended December 31, 2007 have been derived from the audited financial statements of the
Company.
2007
Years Ended December 31,
2005
2006
2004
2003
$6,444,444
357,463
6,801,907
5,827,719
974,188
1,934,528
$8,612,705
378,133
8,990,838
7,057,707
1,933,131
2,127,862
$11,766,565
442,543
12,209,108
9,032,187
3,176,921
1,773,565
Statement of Operations Data:
Product revenue ..........................................
Other revenue .............................................
Total revenue ..............................................
Cost of revenue...........................................
Gross profit
Research and development expense ...........
Selling, general and administrative
4,095,877
expense .......................................................
Lease accounting adjustment......................
-
(5,761,072)
Loss from operations ..................................
67,992
Interest income ...........................................
(109,889)
Interest expense ..........................................
5,319
Other, net ....................................................
Provision for income taxes .........................
(30,000)
Net loss ....................................................... $(3,591,170) $(5,177,830) $(5,383,611) $(6,446,955) $(5,827,650)
Net loss per share-basic and diluted ........... $ (0.18) $ (0.28) $ (0.30) $ (0.37) $ (0.38)
4,422,011
279,810
(5,662,161)
295,935
(50,273)
32,888
-
5,427,863
-
(4,024,507)
661,512
(154,515)
(73,660)
-
5,302,836
-
(5,497,567)
366,701
(52,469)
5,505
-
4,361,357
-
(6,207,987)
171,582
(74,277)
(306,273)
(30,000)
$4,880,313
566,348
5,446,661
5,205,065
241,596
1,906,791
$4,253,478
954,456
5,207,934
5,125,216
82,718
1,929,348
Weighted average number of basic and
diluted common shares outstanding............
20,038,868
18,344,334
17,937,932
17,266,228
15,391,537
24
2007
2006
As of December 31,
2005
2004
2003
Balance Sheet Data:
Cash and cash equivalents ..........................
Investments……………………………….
Working capital ..........................................
Total assets .................................................
Long-term obligations ................................
Total stockholders’ equity ..........................
$ 563,075
16,145,844
17,502,619
27,686,885
1,543,937
24,075,371
$ 132,387
8,434,793
9,201,677
19,743,745
1,434,259
15,825,447
$ 340,860 $ 475,185
11,155,126
11,953,699
21,792,295
—
19,982,490
8,168,092
9,210,435
18,173,344
1,265,875
14,920,012
$ 399,999
4,562,364
5,313,781
16,242,819
263,669
13,719,087
Quarterly Financial Data (Unaudited)
2007
Total revenue
Gross Profits
Loss from operations
Net loss
Basic and diluted loss per share
2006
Total revenue
Gross Profits
Loss from operations
Net loss
Basic and diluted loss per share
2005
Total revenue
Gross Profits
Loss from operations
Net loss
Basic and diluted loss per share
First
Quarter
Second
Quarter
Third
Quarter
Fourth
Quarter
$2,906,437
713,162
(1,221,261)
(1,224,027)
(0.06)
$4,125,508
1,514,259
(296,703)
(241,426)
(0.01)
$2,554,123
541,185
(1,160,975)
(963,147)
(0.05)
$2,623,040
408,315
(1,345,568)
(1,162,570)
(0.06)
$2,005,568
337,817
(1,596,783)
(1,543,254)
(0.09)
$2,390,902
544,224
(1,184,312)
(1,138,991)
(0.06)
$2,425,790
720,065
(973,673)
(915,713)
(0.05)
$2,168,578
331,025
(1,742,799)
(1,579,872)
(0.08)
$1,613,382
168,882
(1,468,701)
(1,415,540)
(0.08)
$2,084,725
490,461
(1,179,972)
(1,087,963)
(0.06)
$1,674,614
207,824
(1,602,239)
(1,534,707)
(0.09)
$1,429,186
107,021
(1,411,249)
(1,345,401)
(0.07)
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis should be read in conjunction with “Item 6. Selected
Financial Data,” risks discussed in other filings made by the Company with the Securities and Exchange
Commission, and the financial statements and related notes thereto appearing elsewhere in this
Form 10-K. When used in the following discussions, the words “anticipates,” “believes,” “estimates,”
“expects,” “plans,” “intends” and similar expressions are intended to identify forward-looking
statements. Such statements are subject to certain risks, uncertainties and contingencies that could cause
actual results, performance or achievements to differ materially from those expressed in, or implied by,
such statements. See the “Forward Looking Statements” section in Part I., Item 1.
Overview
Nanophase is a nanomaterials developer and commercial manufacturer with an integrated family
of nanomaterial technologies. Nanophase produces engineered nanomaterials for use in a variety of
diverse markets: sunscreens, architectural coatings, industrial coatings, ingredients, personal care,
abrasion-resistant applications, antimicrobial products, plastics additives, water filtration, DNA
biosensors and a variety of polishing applications, including semiconductors and optics. The Company
targets markets in which it feels practical solutions may be found using nanoengineered products. The
Company works closely with leaders in these target markets to identify their material and performance
25
requirements and market its own materials to various end-use applications manufacturers. Newer
developed technologies have made certain new products possible and opened potential new markets. With
the commercialization of the Company’s NanoArc® synthesis and new dispersion technologies in 2002,
and the expansion of these capabilities in 2003 and 2004, Nanophase has been focusing on penetrating the
chemical-mechanical-planarization (“CMP”) and fine polishing markets. CMP is the process of polishing
various types of integrated circuits or chips to be used in various commercial electronics applications.
Management believes that the Company’s inroads in the CMP and fine polishing markets would have
been very difficult without the Company being able to produce its materials to exacting specifications
verified by in-house and customer-based testing. Management expects growth in end-user (customers of
Nanophase’s customers) adoption in 2008 and beyond and revenue growth in both of these areas to follow
in 2008. Additionally, the Company feels that its exclusive relationship with Altana Chemie AG
(“Altana”), a global ingredients supplier to various coatings industries, may lead to growth in several of
its abrasion-resistant applications in the marketplace. In May of 2005, BASF announced the introduction
of a new coated sunscreen material. This material incorporated a new coating developed by Nanophase
which, management believes, should help expand sales in the European and Asian markets with future
revenue growth expected. Management further expects that we will develop additional customers to help
us achieve growth in 2008 and beyond.
On July 2, 2007, the Company issued and sold 1,900,000 shares of common stock to certain
institutional investors at a purchase price of $5.92 per share and received gross proceeds of $11.2 million.
On August 25, 2006, the Company sold, in a private placement to Rohm and Haas Electronic
Materials CMP Holdings, Inc., 847,918 shares of common stock at $5.90 per share and received gross
proceeds of $5.0 million.
On November 3, 2005, BYK-Chemie USA, a subsidiary of Altana and a customer of Nanophase,
lent $1,597,420 to Nanophase pursuant to the terms of a Promissory Note effective October 27, 2005.
This loan was for the purchase and installation of additional dispersion capacity and an additional
NanoArc® synthesis reactor to allow both for quicker material and application development, which
should help to speed market penetration, and the ability to fulfill orders on a commercial scale for
additional materials in varying media. The equipment was commissioned on November 1, 2006.
From its inception in November 1989 through December 31, 1996, the Company was in the
development stage. During that period, the Company primarily focused on the development of its
manufacturing processes in order to transition from laboratory-scale to commercial-scale production. As
a result, the Company developed an operating capacity to produce significant quantities of its
nanomaterials for commercial sale. The Company was also engaged in the development of commercial
applications and formulations and the recruiting of marketing, technical and administrative personnel.
Since January 1, 1997, the Company has been engaged in commercial production and sales of its
nanomaterials, and the Company no longer considers itself in the development stage. From inception, the
Company was primarily capitalized through the private offerings of approximately $32.0 million of equity
securities prior to its initial public offering, its initial public offering of $28.8 million of common stock in
November of 1997, its private offering of $6.2 million of common stock in May of 2002, its private
offering of $1.95 million of common stock in September of 2003, its receipt of a customer’s equity
investment of $9.3 million in March 2004 and its private offering of $1.95 million of common stock in
September of 2004 (through the conversion of warrants that were attached to its September 2003
offering), its receipt of a customer’s equity investment of $4.9 million in August 2006 and its offering of
$10.5 million of common stock in July 2007 pursuant to a registration statement declared effective by the
SEC on May 31, 2007, each net of issuance costs. The Company has incurred cumulative losses of $66.3
million from inception through December 31, 2007.
26
Critical Accounting Policies
Investments are classified by the Company at the time of purchase for appropriate designation
and are reevaluated as of each balance sheet date. The Company’s policy is to classify money market
funds and certificates of deposit as investments. These investments are classified as held-to maturity when
the Company has the positive intent and ability to hold the securities to maturity. Held-to maturity
securities are stated at amortized cost and are adjusted to maturity for the amortization of premiums and
accretion of discounts. Such adjustments for amortization and accretion are included in interest income.
The Company has also made investments in auction rate securities (“ARS”). The investments have been
classified as available for sale securities. Investments classified as available for sale securities are
recorded at market value using the specific identification method; unrealized gains and losses (excluding
other-than-temporary impairments) are reflected in other comprehensive income (“OCI”). Due to the
nature of the Company’s investments being short-term, the fair value of these investments approximates
their cost, accordingly, no unrealized gains or losses have been reflected in OCI.
Investments are considered to be impaired when a decline in fair value is judged to be other-than-
temporary. The Company employs a systematic methodology that considers available evidence in
evaluating potential impairment of its investments on a quarterly basis. If the cost of an investment
exceeds its fair value, the Company evaluates, among other factors, general market conditions, the
duration and extent to which the fair value is less than cost, as well as the Company’s intent and ability to
hold the investment. The Company also considers specific adverse conditions related to the financial
health of and business outlook for the investee, including industry and sector performance, changes in
technology, operational and financing cash flow factors and rating agency actions. Once a decline in fair
value is determined to be other-than-temporary, an impairment charge is recorded and a new cost basis in
the investment is established.
The Company’s investments are held by its investment bank who is a member of all major stock
exchanges and the Securities Investor Protection Corporation (SIPC). Securities and cash held in custody
by the Company’s investment bank are afforded complete protection for the Company’s investment
positions through SIPC and a commercial insurer (commonly known as “Excess SIPC” coverage),
however, it does not protect against losses from the rise and fall in market value of investments.
Please see Notes 2 and 3 to the financial statements, “Summary of Significant Accounting
Policies” for a further discussion of liquidity issues.
Results of Operations
Years Ended December 31, 2007 and 2006
Total revenue increased to $12,209,108 in 2007, compared to $8,990,838 in 2006. A substantial
majority of the Company’s revenue for the year ended December 31, 2007 is from the Company’s three
largest customers. See Note 15 to the Financial Statements for additional information regarding the
revenue the Company derived from these three customers for the year ended December 31, 2007. Product
revenue increased to $11,766,565 in 2007, compared to $8,612,705 in 2006. The increase in product
revenue was primarily attributed to increased sales to its three significant customers; BYK-Chemie, our
architectural coatings customer and BASF, the Company’s largest customer. The Company and its largest
customer currently have a technology agreement in place that has led to the joint development of the
second generation of sunscreen nanomaterials for other potential personal care applications.
Other revenue increased to $442,543 in 2007, compared to $378,133 in 2006. This increase was
primarily attributed to the Company recognizing deferred revenue in connection with its promissory note
to BYK Chemie partially offset by decreases in shipping revenue.
The majority of the total revenue generated during the year ended December 31, 2007 was from
27
the Company’s largest customers in the healthcare (sunscreens) market, from an application in
architectural coatings (the Company’s second largest customer) and from sales to BYK-Chemie for a
variety of materials.
Cost of revenue generally includes costs associated with commercial production and customer
development arrangements. Cost of revenue increased to $9,032,187 in 2007, compared to $7,057,707 in
2006. The increase in cost of revenue was generally attributed to increased revenue volume and, to a
lesser extent, inefficiencies due to an abundance of smaller lots produced consisting of a series of
products to support initial volume growth in BYK-Chemie. Improvements to gross margins were
primarily due to increased revenue volume and favorable product mix. Nanophase expects to continue
new nanomaterial development, primarily using its NanoArc® synthesis and dispersion technologies, for
targeted applications and new markets through 2008 and beyond. At current revenue levels the Company
has generated a positive gross margin. The Company’s margins have been somewhat impeded by not
having enough revenue to absorb the manufacturing overhead that is required to work with current
customers and the new ones the Company expects to have. Management believes that the current fixed
manufacturing cost structure is sufficient to support significantly higher levels of production, given
current revenue mix and resultant product revenue. The extent to which the Company’s margins continue
to grow, as a percentage of total revenue, will be dependent upon revenue mix, revenue volume, the
Company’s ability to continue to cut costs and the Company’s ability to pass market raw materials
increases on to its customers. As product revenue volume increases, this will result in more of the
Company’s fixed manufacturing costs being absorbed, leading to increased margins. The Company
expects to continue to focus on reducing its controllable variable product manufacturing costs through
2008 and beyond, with potential offsetting increases in the commodity metals markets but may or may
not continue to see absolute dollar gross margin growth through 2008 and beyond, dependent upon the
factors discussed above. Additionally, the Company’s overall margin growth has been slowed by the fact
that, while commodity metal prices have increased and the Company has been able to recover much of
those price increases, the Company has not been able to recover typical overhead and profit that the
Company otherwise would without the increases in the commodity metal prices.
Research and development expense, which includes all expenses relating to the technology and
advanced engineering groups, primarily consists of costs associated with the Company’s development or
acquisition of new product applications and coating formulations and the cost of enhancing the
Company’s manufacturing processes. The May 2005 development of BASF’s new sunscreen was an
example of this work. In another example, the Company has been and continues to be engaged in research
to enhance its ability to disperse its material in a variety of organic and inorganic media for use as
coatings and polishing materials. Much of this work has led to several new products and additional
potential new products for use by BYK-Chemie.
Now that the Company has demonstrated the capability to produce pilot quantities of mixed-
metal oxides in a single crystal phase, the Company does not expect development of further variations on
these materials to present material technological challenges. Many of these materials exhibit performance
characteristics that can enable them to serve in various catalytic applications. This development has been
driven largely by customer demand. Management is now working on several related commercial
opportunities. The Company expects that this technique should not be difficult to scale to large quantity
commercial volumes once application viability and firm demand are established. The Company also has
an ongoing advanced engineering effort that is primarily focused on the development of new
nanomaterials as well as the refinement of existing nanomaterials. The Company is not certain when or if
any significant revenue will be generated from the production of the materials described above.
Research and development expense decreased to $1,773,565 in 2007, compared to $2,127,862 in
2006. The decrease in research and development expense was largely attributed to decreases in expenses
relating to process and new materials development and compensation expense. The Company does not
expect research and development expense to increase significantly in 2008.
28
Selling, general and administrative expense increased to $5,427,863 in 2007, compared to
$5,302,836 in 2006. The net increase was primarily attributed to increases in salary expense, consulting
fees, franchise tax and travel expenses. These increases were partially offset by decreases in recruiting
and relocation expenses, audit, directors and officers insurance and license fees.
Interest income increased to $661,512 in 2007, compared to $366,701 in 2006. These increases
were primarily due to increases in funds available for investment, largely composed of the July 2, 2007
equity investment from certain institutional investors which resulted in net proceeds of approximately
$10.5 million.
Years Ended December 31, 2006 and 2005
Total revenue increased to $8,990,838 in 2006, compared to $6,801,907 in 2005. A substantial
majority of the Company’s revenue for the year ended December 31, 2006 is from the Company’s three
largest customers. See Note 15 to the Financial Statements for additional information regarding the
revenue the Company derived from these three customers for the year ended December 31, 2006. Product
revenue increased to $8,612,705 in 2006, compared to $6,444,444 in 2005. The increase in product
revenue was primarily attributed to increased sales to a new significant customer in architectural coatings
as well as increased sales of sunscreen and personal care materials to BASF, the Company’s largest
customer.
Other revenue increased to $378,133 in 2006, compared to $357,463 in 2005. This increase was
primarily attributed to the Company recognizing deferred revenue in connection with its promissory note
to BYK-Chemie and increases in shipping revenue partially offset by decreases in purchased supplies.
The majority of the total revenue generated during the year ended December 31, 2006 was from
the Company’s largest customers in the healthcare (sunscreens) and its new significant customer (2006‘s
second largest customer) for application in architectural coatings as described above.
Cost of revenue generally includes costs associated with commercial production and customer
development arrangements. Cost of revenue increased to $7,057,707 in 2006, compared to $5,827,719 in
2005. The increase in cost of revenue was generally attributed to increased revenue volume and increases
in commodity metals pricing and was partially offset by the Company’s continued efficiencies in reducing
its remaining variable manufacturing costs on nanomaterials. Improvements to gross margins were
primarily due to increased revenue volume, favorable product mix and the completion of a series of
process improvements that increased PVS reactor output by 38% in conjunction with a re-engineering
program that had reduced the expected operational labor cost by 24% on high volume PVS-produced
nanomaterials in 2005. These gains were somewhat offset by increases in commodity metal prices, a
major component of the Company’s raw material costs. Nanophase expects to continue new nanomaterial
development, primarily using its NanoArc® synthesis and dispersion technologies, for targeted
applications and new markets in 2007. At current revenue levels the Company has generated a positive
gross margin. The Company’s margins have been somewhat impeded by not having enough revenue to
absorb the manufacturing overhead that is required to work with current customers and the new ones the
Company expects to have. Management believes that the current fixed manufacturing cost structure is
sufficient to support significantly higher levels of production and resultant product revenue. The extent to
which the Company’s margins continue to grow, as a percentage of total revenue, will be dependent upon
revenue mix, revenue volume, the Company’s ability to continue to cut costs and the Company’s ability
to pass market raw materials increases on to its customers. As product revenue volume increases, this will
result in more of the Company’s fixed manufacturing costs being absorbed, leading to increased margins.
Research and development expense, which includes all expenses relating to the technology and
advanced engineering groups, primarily consists of costs associated with the Company’s development or
acquisition of new product applications and coating formulations and the cost of enhancing the
29
Company’s manufacturing processes. The May 2005 development of BASF’s new sunscreen was an
example of this work. In another example, the Company has been and continues to be engaged in research
to enhance its ability to disperse its material in a variety of organic and inorganic media for use as
coatings and polishing materials. Much of this work has led to several new products and additional
potential new products for use by Altana. Now that the Company has demonstrated the capability to
produce pilot quantities of mixed-metal oxides in a single crystal phase, the Company does not expect
development of further variations on these materials to present material technological challenges. Many
of these materials exhibit performance characteristics that can enable them to serve in various catalytic
applications. This development has been driven largely by customer demand.
The Company also has an ongoing advanced engineering effort that is primarily focused on the
development of new nanomaterials as well as the refinement of existing nanomaterials. The Company is
not certain when or if any significant revenue will be generated from the production of the materials
described above.
Research and development expense increased to $2,127,862 in 2006, compared to $1,934,528 in
2005. The increase in research and development expense was largely attributed to stock compensation
expense (non-cash), the enhancement of existing processes and outside testing expenses. These increases
were partially offset by the capitalization of payroll related to the installation of dispersion equipment and
a NanoArc® Synthesis Reactor supported by the previously discussed loan from BYK-Chemie USA and
decreases in materials and supplies expense.
Selling, general and administrative expense increased to $5,302,836 in 2006, compared to
$4,422,011 in 2005. The net increase was primarily attributed to increases in stock compensation expense
(non-cash), compensation expense, the abandonment of three United States patent applications and
professional fees. These increases were partially offset by decreases in directors and officers insurance
and audit fees.
A lease accounting adjustment of $279,810 was made in the third quarter of 2005. This charge
was due to the Company correcting an error in its prior accounting practices to conform the lease term
used in calculating straight-line rent expense with the useful lives used to amortize improvements on
leased property. See Note 18 to the Financial Statements for additional information.
Interest income increased to $366,701 in 2006, compared to $295,935 in 2005. These increases
were primarily due to increases in investment yields in 2006.
Inflation
Management believes inflation has not had a material effect on the Company’s operations or on
its financial position. However, supplier price increases and wage and benefit inflation, both of which
represent a significant component of the Company’s costs of operations, may have a material effect on the
Company’s operations and financial position in 2008 and beyond, if the Company is unable to pass
through those increases under its present contracts, or through to its markets in general.
Liquidity and Capital Resources
The Company’s cash, cash equivalents and investments amounted to $16,708,919 on
December 31, 2007, compared to $8,567,180 on December 31, 2006. The net cash used in the
Company’s operating activities was $1,637,751, $3,186,096 and $4,408,535 for the years ended
December 31, 2007, 2006 and 2005, respectively. Net cash used in investing activities, which is due to
purchases of securities and capital expenditures and partially offset by sales of securities, amounted to
$9,159,022 and $2,445,690 for the years ended December 31, 2007 and 2006, respectively compared to
$2,440,792 of net cash provided by for the year ended December 31, 2005. Capital expenditures
amounted to $1,226,736, $2,013,810 and $292,692 for the years ended December 31, 2007, 2006 and
30
2005, respectively. Net cash provided by financing activities is primarily due to the Company securing
financing through an equity investment in July 2007 and, to a lesser extent, by the issuance of shares of
common stock pursuant to the exercise of stock options, partially offset by principal payments on capital
lease obligations amounting, in total, to $11,227,461 for the year ended December 31, 2007. Net cash
provided by financing activities is primarily due to the Company securing financing through an equity
investment in August 2006 and, to a lesser extent, by the issuance of shares of common stock pursuant to
the exercise of stock options and borrowings for equipment, partially offset by principal payments on debt
and capital lease obligations amounting, in total, to $5,423,313 for the year ended December 31, 2006.
Net cash provided by financing activities, is primarily due to a loan from BYK-Chemie (See discussion
below), the issuance of shares of common stock pursuant to the exercise of options, partially offset by
principal payments on debt and capital lease obligations, amounting, in total, to $1,833,418 for the year
ended December 31, 2005.
On July 2, 2007, the Company issued and sold 1,900,000 shares of common stock pursuant to a
registration statement filed on May 22, 2007 and declared effective by the SEC on May 31, 2007 to
certain institutional investors at a purchase price of $5.92 per share, for an aggregate purchase price of
$11.2 million and net proceeds of approximately $10.5 million.
On August 25, 2006, the Company sold, in a private placement to Rohm and Haas Electronic
Materials CMP Holdings, Inc., 847,918 shares of common stock at $5.8968 per share and received gross
proceeds of $5.0 million.
On November 3, 2005, BYK-Chemie USA, a customer of Nanophase, lent $1,597,420 to
Nanophase pursuant to the terms of a Promissory Note received effective October 27, 2005. The proceeds
of the Promissory Note were used to buy, install and commission certain equipment which now is being
used for fulfillment of orders by BYK-Chemie USA and other uses. The outstanding principal balance of
the Promissory Note is payable in three equal installments on January 30, 2009, April 30, 2009 and
December 31, 2009. Interest accrues and is payable on a quarterly basis one year after the equipment
referenced above is installed and commissioned at the rate of 100 basis points over the average daily
London Inter-Bank Offered Rate for the preceding quarter. See Note 7 to the Financial Statements for a
discussion on the computation of interest relating to this note.
On March 23, 2004, the Company sold, in a private placement to Altana Chemie AG (“Altana”),
1,256,281 shares of common stock at $7.96 per share and received gross proceeds of $10.0 million. In
accordance with the terms of such private placement, on February 5, 2007, the Company filed a
registration statement for such 1,256,281, which was declared effective by the SEC on May 18, 2007. On
September 8, 2003, the Company secured equity funding through a private placement offering with Grace
Brothers, Ltd., its largest investor. The Company issued 453,001 shares of additional common stock at
$4.415 per share and received gross proceeds of $2.0 million. Grace Brothers, Ltd. also had the right to
purchase an additional 453,001 shares for an additional $2.0 million pursuant to the terms of a warrant
issued in such private placement. In accordance with the terms of such private placement, on June 7,
2004, the Company filed a registration statement for such 453,001 shares and the additional 453,001
shares issuable upon exercise of the warrant which registration statement was declared effective on
August 13, 2004. On September 2, 2004, Grace Brothers, Ltd. exercised its warrant rights to acquire
453,001 newly issued shares of common stock and the Company received $2.0 million in gross proceeds.
On May 29, 2002, the Company secured equity funding through a private placement offering. The
Company issued 1.37 million shares of additional common stock at $5.00 per share and received gross
proceeds of $6.85 million. Net proceeds were approximately $6.2 million after commissions, legal,
accounting and other costs. The Company used the remaining proceeds from the foregoing offerings to
fund expected growth in new markets as well as to provide for expanded working capital needs expected
to arise as sales volume grows and pay existing debts.
31
The Company’s supply agreement with its largest customer contains several financial covenants
which could potentially impact the Company’s liquidity. The most restrictive financial covenants under
this agreement require the Company to maintain a minimum of $2.0 million in cash, cash equivalents and
investments and that the Company not have the acceleration of any debt maturity having a principal
amount of more than $10,000,000, in order to avoid triggering a transfer of technology and equipment to
the Company’s largest customer. The Company had approximately $16.7 million in cash, cash
equivalents and investments and debt net of unamortized debt discount of less than $1.6 million on
December 31, 2007. This supply agreement and its covenants are more fully described in Note 15 to the
Company’s Financial Statements. See “Risk Factors—We may need to raise additional capital in the
future”.
In November 2000, the Company executed a three-year promissory note, held by the Company’s
largest customer, in the amount of $1,293,895 for the construction of additional production capabilities at
the Company’s Romeoville, Illinois facility. This debt was fully paid in the second quarter in 2006.
The Company believes that cash from operations, the net proceeds of $10.5 million from its July
2, 2007 Offering, and cash, cash equivalents and investments on hand and interest income thereon, will be
adequate to fund the Company’s operating plans for the foreseeable future. The Company’s actual future
capital requirements in 2008 and beyond will depend, however, on many factors, including customer
acceptance of the Company’s current and potential nanomaterials and product applications, continued
progress in the Company’s research and development activities and product testing programs, the
magnitude of these activities and programs, and the costs necessary to increase and expand the
Company’s manufacturing capabilities and to market and sell the Company’s materials and product
applications. Other important issues that will drive future capital requirements will be the development of
new markets and new customers as well as the potential for significant unplanned growth with the
Company’s existing customers. The Company expects that capital spending relating to currently known
capital needs for 2008 will be approximately $700,000, but could be even greater due to the factors
discussed above.
As of March 4, 2008, the Company’s remaining investments in auction rate securities totaled $6
million, which were purchased subsequent to year-end. These three auction rate securities (“ARS”) in the
Company’s investment portfolio have experienced “failed auctions” due to a lack of available buyers for
them on their expected auction dates. An auction failure means that the parties wishing to sell their
securities could not be matched with an adequate volume of buyers. In the event that there is a failed
auction the indenture governing the security requires the issuer to pay interest at a contractually defined
rate that is generally above market rates for other types of similar short-term instruments. Despite these
failed auctions, there have been no defaults on the underlying securities and investment income on these
ARS holdings. They have been issued through the Federal Family Education Loan Program (“FFELP” or
“FFELPs Loans”) and carry an AAA credit rating. These FFELPs Loans are guaranteed to 97% of their
$6 million value by the Department of Education, limiting any credit risk relating to these securities.
Although a liquidity short-fall may exist from auction to auction, the Company is not aware of any
changes to ratings or other indicators of a permanent decline in value. Accordingly, the Company
believes that the carrying value of investments approximates fair value.
Should events arise that make it appropriate for the Company to seek additional financing, it
should be noted that additional financing may not be available on acceptable terms or at all, and any such
additional financing could be dilutive to the Company’s stockholders. Such a financing could be
necessitated by such things as the loss of existing customers; currently unknown capital requirements in
light of the factors described above; new regulatory requirements that are outside the Company’s control;
the need to meet previously discussed cash requirements to avoid a triggering event; or various other
circumstances coming to pass that are currently not anticipated by the Company.
On December 31, 2007, the Company had a net operating loss carryforward of approximately
$72.8 million for income tax purposes. Because the Company may have experienced "ownership
32
changes" within the meaning of the U.S. Internal Revenue Code in connection with its various prior
equity offerings, future utilization of this carryforward may be subject to certain limitations as defined by
the Internal Revenue Code. If not utilized, the carryforward expires at various dates between 2008 and
2027. As a result of the annual limitation and uncertainty as to the amount of future taxable income that
will be earned prior to the expiration of the carryforward, the Company has concluded that it is likely that
some portion of this carryforward will expire before ultimately becoming available to reduce income tax
liabilities. During the year ended December 31, 2006, the Company’s foreign tax credit carryforward of
$156,000 expired.
Contractual Obligations
The following table highlights the Company’s contractual obligations as of December 31, 2007:
Payments due by period
Total
Less than
1 Year
1-3 Years
3-5 Years
More than
5 Years
Long-term debt obligations
$1,597,420
$ -
$1,597,420
$ - $ -
Operating Leases
$6,813,450
438,515
974,400
1,034,400
4,366,135
Capital Leases
$ 74,540
43,110
31,430
-
-
Unfulfilled Purchase Orders $ 687,605
687,605
-
-
-
Totals
$9,173,015
$1,169,230
$2,603,250
$1,034,400 $4,366,135
Off−Balance Sheet Arrangements
The Company has not created, and is not party to, any special−purpose or off−balance sheet
entities for the purposes of raising capital, incurring debt or operating the Company’s business.
Nanophase does not have any off−balance sheet arrangements or relationships with entities that are not
consolidated into the Company’s financial statements that are reasonably likely to materially affect
Nanophase’s liquidity or the availability of capital resources.
Credit Environment
In fiscal year 2007, the credit markets were volatile and have experienced a shortage in overall
liquidity in the sub-prime lending industry. The Company neither engages in any business activities in the
mortgage industry, nor does it hold mortgage-backed securities in its investment portfolio. The Company
believes it has sufficient liquidity from its cash and investment accounts and from cash provided by
operations. Please see Notes 2 and 3 to the financial statements, “Summary of Significant Accounting
Policies” for a further discussion of liquidity issues.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
The only financial instruments that the Company holds are investments of a short-term duration.
Management does not believe that the Company currently has material market risk relating to its
investments.
33
Item 8. Financial Statements and Supplementary Data
The financial statements, with the report of independent auditors, listed in Item 15 are included in
this Form 10-K.
Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
None.
Item 9A. Controls and Procedures
Disclosure controls
An evaluation was conducted under the supervision and with the participation of the Company’s
management, including the Chief Executive Officer (CEO) and Chief Financial Officer (CFO), of the
effectiveness of the design and operation of the Company’s disclosure controls and procedures as of
December 31, 2007. Based on that evaluation, the CEO and CFO concluded that the Company’s
disclosure controls and procedures were effective as of such date to ensure that information required to be
disclosed in the reports that it files or submits under the Exchange Act is recorded, processed,
summarized and reported within the time periods specified in Securities and Exchange Commission rules
and forms and that the Company’s disclosure controls and procedures are effective to ensure that material
information required to be disclosed by the Company in reports that it files or submits under the
Exchange Act is made known to management and others, as appropriate, to allow timely decisions
regarding required disclosures.
Internal control over financial reporting
The Company’s management, including the CEO and CFO, confirm that there was no change in
the Company’s internal control over financial reporting during the quarter ended December 31, 2007 that
has materially affected, or is reasonably likely to materially affect, the Company’s internal control over
financial reporting.
Management’s report
Management’s report and the Report of independent registered public accounting firm on internal
control over financial reporting are set forth in Part IV, Item 15 of this Form 10-K.
Item 9B. Other Information
None.
PART III
34
Item 10. Directors, Executive Officers and Corporate Governance
DIRECTORS
Set forth below is certain information regarding the directors of the Company.
Name
Age
Position with
Company
Served as
Director Since
Term
Expires
Class
James A. Henderson
James A. McClung, Ph.D.
R. Janet Whitmore
Richard W. Siegel, Ph.D.
Joseph E. Cross
George A. Vincent, III
Donald S. Perkins
Jerry K. Pearlman
73
70
53
70
60
63
80
68
Director
Director
Director
Director
Director, President and
Chief Executive Officer
Director
Chairman of the Board
of Directors
Director
2001
2000
2003
1989
1998
2007
1998
1999
2010
2010
2010
2008
2008
2008
2009
2009
I
I
I
II
II
II
III
III
Mr. Henderson has served as a director of the Company since July 2001. He retired as Chairman
and Chief Executive Officer of Cummins Engine Company in December 1999, after joining the company
in 1964. Mr. Henderson became President and Chief Operating Officer of Cummins in 1977, was
promoted to President and Chief Executive Officer in 1994 and served as Chairman and Chief Executive
Officer from 1995 until his retirement in 1999. Mr. Henderson attended Culver Military Academy, holds
an A.B. in public and international affairs from Princeton University and an M.B.A. from Harvard
Business School. Mr. Henderson also currently serves as a member of the Board of Directors of AT&T
Inc. He serves as Chairman of the Board of the Culver Education Foundation and is a past Chair of the
Executive Committee of the Princeton University Board of Trustees.
Mr. McClung has served as a director of the Company since February 2000. He retired as
Senior Vice President and executive officer for FMC Corporation, a leading producer of a diversified
portfolio of chemicals and machinery. He has over 30 years of international business development
experience in over 75 countries, having managed and developed new technologies and production
processes for diversified global businesses, including specialized chemicals and machinery, while living
in the United States, Europe and Africa. Mr. McClung currently serves as Corporate Board member of
Alticor (Amway), NCCI and Hu-Friedy. He was a founding member of the U.S.-Russia Business Council
and is active in other international business organizations, such as the Japan American Society, Chicago
Council of Foreign Relations and the Economic Club of Chicago. He serves as a board director at
Thunderbird School of Global Management and the College of Wooster (Ohio). Mr. McClung earned a
Bachelor’s degree from the College of Wooster, a Master’s degree from the University of Kansas and a
Doctorate from Michigan State University.
Ms. Whitmore joined the board in November 2003. She is currently a director of Silverleaf
Resorts, Inc., where she serves as Chairman of the Compensation Committee and as a member of the
Audit Committee. She is a former director of Epoch Biosciences, a supplier of proprietary products used
to accelerate genomic analysis. Ms. Whitmore is Founder of Benton Consulting, LLC, which specializes
35
in business development and processes. From 1976 through 1999, Ms. Whitmore held numerous
engineering and finance positions at Mobil Corporation, including Mobil's Chief Financial Analyst and
Controller of Mobil's Global Petrochemicals Division. Ms. Whitmore holds a Bachelor of Science degree
in Chemical Engineering from Purdue University and an M.B.A. from Lewis University.
Mr. Cross has served as Chief Executive Officer of the Company since December 1998 and
President and a director of the Company since joining the Company in November 1998. Prior to joining
the Company in November 1998, Mr. Cross served as President and Chief Executive Officer of Aptech, a
manufacturer of measurement, metering and control devices for the utility industry, from August 1996 to
October 1998. From December 1993 to July 1996, Mr. Cross served as President of Aegis Technologies,
an interactive telecommunications company. He holds a B.S. degree from Southwest Missouri University
and attended the M.B.A. program at Southwest Missouri University.
Mr. Vincent has served as a Director of the Company since November 2007. He is currently
Chairman and Commercial Development Officer of The HallStar Company, where he served as CEO for
twenty years. HallStar is a chemical manufacturer and innovator specializing in material science,
marketing its products worldwide, primarily into the polymer and personal care industries. Prior to
HallStar, Mr. Vincent held positions in purchasing, sales, commercial development and strategic planning
with FMC Corporation (chemicals) and General Electric Company (chemicals and plastics). Mr. Vincent
has served as Chairman of the Illinois Manufacturers' Association (IMA) and the Chemical Industry
Council of Illinois (CICI), as well as Director of the American Chemistry Council (ACC). Mr. Vincent
serves on the Boards of several closely-held companies in the chemicals and materials industry sector.
Mr. Vincent holds a Bachelor of Science degree in Chemistry from Dartmouth College and an MBA
degree from Harvard Business School.
Dr. Siegel is a co-founder of the Company and has served as a director of the Company since
1989. Dr. Siegel served as a consultant to the Company from 1990 to 2002 with regard to the application
and commercialization of nanomaterials. Dr. Siegel is an internationally recognized scientist in the field
of nanomaterials. During his tenure on the research staff at Argonne National Laboratory from July 1974
to May 1995, he was the principal scientist engaged in research with the laboratory-scale synthesis
process that was the progenitor of the Company's physical-vapor-synthesis production system. Dr. Siegel
has been the Robert W. Hunt Professor in Materials Science and Engineering at Rensselaer Polytechnic
Institute since June 1995, and served as Department Head from 1995 to 2000. In April 2001, Dr. Siegel
became the founding Director of the newly created Rensselaer Nanotechnology Center at the Institute.
During 1995-1998, he was also a visiting professor at the Max Planck Institute for Microstructure Physics
in Germany on an Alexander von Humboldt Research Prize received in 1994. During 2003-2004 he was
a visiting professor in Japan on a RIKEN Eminent Scientist Award. He chaired the World Technology
Evaluation Center worldwide study of nanostructure science and technology for the U.S. government, has
served on the Council of the Materials Research Society and as Chairman of the International Committee
on Nanostructured Materials. He also served on the Committee on Materials with Sub-Micron Sized
Microstructures of the National Materials Advisory Board and was the co-chairman of the Study Panel on
Clusters and Cluster-Assembled Materials for the U.S. Department of Energy. He currently serves on the
Nanotechnology Technical Advisory Group to the U.S. President’s Council of Advisors on Science and
Technology. Dr. Siegel holds an A.B. degree in physics from Williams College and an M.S. degree and
Ph.D. from the University of Illinois at Urbana-Champaign.
Mr. Perkins has served as a director of the Company since February 1998. Mr. Perkins retired
from Jewel Companies, Inc., the retail supermarket and drug chain, in 1983. He had been with Jewel
since 1953, serving as President from 1965 to 1970, as Chairman of the Board of Directors from 1970 to
1980, and as Chairman of the Executive Committee until his retirement. He has served on a number of
corporate boards and is currently a director of LaSalle Hotel Properties and La Salle U.S. Realty Income
and Growth Fund III. For more than 30 years, he has served on corporate boards including AT&T, Aon,
Corning, Cummins Engine, Eastman Kodak, Firestone, Inland Steel Industries, Kmart, Lucent
Technologies, The Putnam Funds, Springs Industries and Time-Warner, Inc. He has served as a Trustee
36
of The Ford Foundation and The Brookings Institution, as a member of The Business Council and as a
Protector of the Thyssen-Bornemisza Continuity Trust. Mr. Perkins is a life trustee and was Vice
Chairman of the Board of Trustees of Northwestern University. He is also a member of the Civic
Committee of The Commercial Club of Chicago, and Advisory Boards for Blue Ridge Partners, Shields-
Meneley, Syrus, RoundTable Healthcare Partners L.P., Northwestern University’s School of
Communication and its School of Education and Social Policy. Mr. Perkins holds a B.A. degree from
Yale University and an M.B.A. degree from the Harvard Graduate School of Business Administration.
Mr. Pearlman has served as a director of the Company since April 1999. Mr. Pearlman retired
as Chairman of Zenith Electronics Corporation in November 1995. He joined Zenith as controller in
1971 and served as chief executive officer from 1983 through April 1995. Mr. Pearlman is currently a
director of Smurfit Stone Container Corporation. He is a life trustee of Northwestern University and a life
director and past chairman of the board of Evanston Northwestern Healthcare. Mr. Pearlman graduated
from Princeton with honors from the Woodrow Wilson School and from Harvard Business School with
highest honors.
Meetings of the Board and Committees -- During the year ended December 31, 2007, the
Board of Directors held ten formal meetings. No director missed more than one board and committee
meeting held during 2007 (for all committees on which a particular director served).
Committees of the Board of Directors -- The Board of Directors has established an Audit and
Finance Committee, Compensation and Governance Committee and a Nominating Committee each
comprised entirely of independent directors who are not officers or employees of the Company. The
members of the Audit and Finance Committee are Mr. McClung (Chairman), Mr. Henderson,
Mr. Pearlman and Mr. Perkins. The members of the Compensation and Governance Committee are
Mr. Pearlman (Chairman), Mr. Henderson and Mr. Perkins. The members of the Nominating Committee
are Mr. Henderson (Chairman), Mr. McClung, Mr. Pearlman, Mr. Perkins and Dr. Siegel.
The Audit and Finance Committee generally has responsibility for retaining the Company’s
independent public auditors, reviewing the plan and scope of the accountants' annual audit, reviewing the
Company's internal control functions and financial management policies and reporting to the Board of
Directors regarding all of the foregoing. The Audit and Finance Committee held six formal meetings in
2007. The Board of Directors has determined that Mr. Pearlman, Mr. Perkins and Mr. Henderson, all of
whom serve on the Audit and Finance Committee, are "audit committee financial experts" as described in
applicable SEC rules. Each member of the Audit and Finance Committee is independent, as defined in
Rule 4200(a) (15) of the National Association of Securities Dealers' listing standards and applicable SEC
rules.
The Compensation and Governance Committee generally has responsibility for establishing
executive officer and key employee compensation, reviewing and establishing the Company's executive
compensation and general corporate governance policies and reporting to the Board of Directors
regarding the foregoing. The Compensation and Governance Committee also has responsibility for
administering the Amended 2004 Equity Compensation Plan and the 2006 Stock Appreciation Rights
Plan, determining the number of options, if any, to be granted to the Company's employees and
consultants pursuant to the Amended 2004 Equity Compensation Plan and reporting to the Board of
Directors regarding the foregoing. The Compensation and Governance Committee held four formal
meetings in 2007.
The Nominating Committee generally has responsibility for nominating candidates to serve on
the Board of Directors. All members of the Nominating Committee are independent. The Nominating
Committee was formed in 2004 and held three formal meetings in 2007.
37
EXECUTIVE OFFICERS
Set forth below is certain information regarding the executive officers of the Company who are
not identified above as directors.
Name
Jess Jankowski
Kevin J. Wenta
Robert Haines
Richard W. Brotzman, Ph.D.
Age
42
44
57
54
Position
Chief Financial Officer, Vice President of Finance, Secretary and Treasurer
Executive Vice President- Sales and Marketing
Vice President -- Operations
Vice President -- Research and Development
Mr. Jankowski has served as Controller of the Company since joining in 1995. He was elected
Secretary and Treasurer in November 1999, Acting Chief Financial Officer in January 2000, Vice
President in April of 2002 and Vice President of Finance and Chief Financial Officer in April of 2004.
From 1990-1995 he served as Controller for two building contractors in the Chicago area. From 1986 to
1990 he worked for Kemper Financial Services in their accounting control corporate compliance unit,
serving as unit supervisor during his last two years. Mr. Jankowski holds a B.S. in accountancy from
Northern Illinois University, an M.B.A. from Loyola University, is a registered CPA in the State of
Illinois. He has served on the advisory board of NITECH (Formerly WESTEC), an Illinois Technology
Enterprise Center focusing on the commercialization of advanced manufacturing technologies, since
2003. Mr. Jankowski has been an active member of the AeA Midwest CFO Committee since 2006. He
was appointed to the Romeoville Economic Development Commission in 2004.
Mr. Wenta joined the Company on January 8, 2007 as its Executive Vice President of Sales and
Marketing. He brings twenty years of business development, sales, marketing, finance and operations
experience to Nanophase. Prior to joining the Company, Mr. Wenta was a Partner at Accenture, a global
consultancy. Previous to that, he was a General Manager at Eastman Chemical Company and held the
position of Director of Corporate Strategy. Previous experience also includes positions at ChemConnect
(formerly CheMatch), ARCO and Shell Chemical. Mr. Wenta holds a B.S. degree in Chemical
Engineering from the University of Texas at Austin and an M.B.A. degree from the University of
Chicago.
Mr. Haines joined Nanophase Technologies in January 2001 as Vice President of Operations.
Beginning in 1996 and prior to joining Nanophase, he served as Corporate Director of Quality at Legrand
North America. Previous experience includes two years as Vice President of Operations for Aegis
Technologies and eight years with Digital Equipment Corporation. Mr. Haines has a B.S. in
Chemistry/Engineering Physics from East Tennessee State University.
Dr. Brotzman joined the Company in July 1994 as a senior scientist and served as Vice
President -- Research and Development of the Company since July 1996. In November 2007, he was
appointed as the Company's Chief Technology Officer. He is the inventor of much of the Company's
coating technology. Dr. Brotzman has more than 20 years experience in research and development of
advanced materials leading to new products. His technical areas of expertise include interfacial adhesion
and chemistry, self-assembled polymeric coatings, nanosized inorganic powders, powder processing,
reactive coupling agents, solgel derived protective coatings, non-destructive evaluation of composites,
neo-debye relaxation in green inorganic gels, asymmetric membranes and plasma processing. From
January 1991 to July 1994, Dr. Brotzman served as Director of Research at TPL, Inc., an advanced
materials company. He holds a B.S. degree in chemical engineering from Lafayette College, an M.S.
degree in engineering and applied science from the University of California, Davis and a Ph.D. in
chemistry from the University of Washington.
The Board of Directors elects executive officers annually and such executive officers, subject to
the terms of certain employment agreements, serve at the discretion of the Board of Directors.
38
Messrs. Cross, Jankowski, Wenta, Haines and Dr. Brotzman each have employment agreements with the
Company. See Item 11 below. There are no family relationships among any of the directors or officers
of the Company.
SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), requires
the Company’s officers (as defined under Section 16), directors and persons who beneficially own greater
than 10% of a registered class of the Company’s equity securities to file reports of ownership and changes
in ownership with the Securities and Exchange Commission. Based solely on a review of the forms it has
received and on written representations from certain reporting persons that no such forms were required
for them, the Company believes that during 2007, all Section 16 filing requirements applicable to its
officers, directors and 10% beneficial owners were complied with by such persons.
CODE OF ETHICS
The Company has adopted a Code of Business Conduct and Ethics ("Code of Ethics") that applies
to, among others, the Company's principal executive officer, principal financial officer and principal
accounting officer or controller, or persons performing similar functions. The Code of Ethics is posted on
its Internet web site www.nanophase.com under the "Investor Relations" section. In the event that the
Company makes any amendment to, or grants any waiver from, a provision of the Code of Ethics that
requires disclosure under applicable SEC rules, the Company intends to disclose such amendment or
waiver on its web site.
39
Item 11. Executive Compensation
COMPENSATION DISCUSSION & ANALYSIS
This section discusses the material elements of compensation awarded to, earned by or paid to the
principal executive and principal financial officers of the Company, and the three other most highly
compensated executive officers of the Company (the “executive officers”).
The Board of Director’s Compensation and Governance Committee (the “Compensation
Committee”) generally has responsibility for establishing executive officer and key employee
compensation, reviewing and establishing the executive compensation and reporting to the Board of
Directors regarding the foregoing.
The Compensation Committee also has responsibility for
administering the Amended 2004 Equity Compensation Plan and the 2006 Stock Appreciation Rights
Plan, determining the number of options or stock appreciation rights, if any, to be granted under those
plans and reporting to the Board of Directors regarding the foregoing. None of the executive officers are
members of the Compensation Committee. The current Compensation Committee members are Jerry K.
Pearlman (Chairman), James A. Henderson and Donald S. Perkins.
Overview of Compensation Programs and Objectives
The objectives of the Compensation Committee in recommending the levels and components of
compensation for the executive officers are to:
1.
2.
3.
Attract, motivate and retain talented and dedicated executives;
Motivate performance to achieve our specific strategic and operating objectives; and
Provide both cash and equity incentives that align the interests of the executive officers
with the long-term interests of our stockholders.
The Compensation Committee reviews the achievement of corporate goals and individual
contributions to our success. The Compensation Committee relies on judgment and not upon rigid
guidelines or formulas in determining the amount or mix of compensation elements for each executive
officer. Factors affecting their judgment include performance compared to strategic goals, the nature of
the executive officer’s responsibilities and the executive officer’s effectiveness in leading our initiatives
to achieve our goals. Our Chief Executive Officer, Mr. Joseph E. Cross, as the manager of the members
of the executive team, assesses the executives’ individual contributions to their respective departmental
goals and makes recommendations to the Compensation Committee with respect to increases in base
salary, discretionary bonus and long-term incentive awards, for each member of the executive team, other
than himself. The Compensation Committee evaluates, discusses, modifies and approves these
recommendations and conducts a similar evaluation of Mr. Cross’ contributions and performance. Each
member of the Board of Directors is permitted to attend the Compensation Committee meetings and
participate in the discussion. However, approval of each executive officer’s compensation is made by the
Compensation Committee. As described in more detail below, the material components of the executive
officers' compensation includes base salary, discretionary bonus, long-term incentive awards, severance
protection and change-in-control benefits. We believe that each element of our executive compensation
program helps us to achieve one or more of our compensation objectives.
Base salaries, severance protection and change-in-control benefits are all primarily intended to
attract and retain qualified executives. The value of these components in any given year is not dependent
on performance (unless determined by reference to base salary, which may increase depending on
performance). The Company believes it needs to provide executives with a level of predictable
compensation in order to attract and retain top-caliber executives and reward their continued services.
The Compensation Committee’s general philosophy is that discretionary bonuses and long-term incentive
compensation should fluctuate with the Company’s success in achieving financial and other goals, and
that the Company should continue to use long-term compensation such as stock options, restricted stock
40
and stock appreciation rights to align stockholder and executives’ interests. The Company also believes
that a mix of longer-term and short-term elements allows it to achieve the dual goals of attracting and
retaining executives while motivating their continued performance and aligning their financial interests
with that of our shareholders.
The Compensation Committee has found it difficult to benchmark the compensation levels of our
executive officers within a peer group of comparable companies due to the nature of our business and
technology. The Compensation Committee has evaluated the compensation practices of other high
technology companies, including other publicly-held advanced materials and advanced technologies
companies in determining an appropriate level and mix of compensation.
Current Material Elements
Base Salary. In determining the base salaries of the executive officers in 2007, the
Compensation Committee considered the performance of each executive during the prior year, the nature
of the executive’s responsibilities and the Company’s past compensation practice. Base salary is paid in
cash.
Each of the executive officers has employment agreements dictating a minimum level of base
salary. The executive officers annual base salaries were not increased for a period of approximately 18-
months ending on April 25, 2006. During 2007 there were no increases to base salaries, which remained
as follows: for Mr. Cross, $340,000, for Mr. Jankowski, $180,000, for Mr. Wenta, $270,000, for Mr.
Haines, $220,000, and for Dr. Brotzman, $195,000. The base salary that was paid to each executive
officer in 2007 is the amount reported for such officer in Column (c) of the Summary Compensation
Table below. The executive officers’ base salaries are currently expected to change in 2008, however the
Compensation Committee reserves the right to adjust executive salaries at any time.
Discretionary Bonuses. Discretionary bonuses for executive officers, if any, are paid in cash
upon the achievement of our performance goals and are a function of the criteria which the Compensation
Committee believes appropriately takes into account the specific areas of responsibility of the particular
officer, performance and other factors such as our profitability, cash flow, revenue and customer
generation, market share and industry position. Discretionary bonuses, if any, are paid after consideration
of each executive officer’s performance and the input of Mr. Cross related to the individual performance
of the executive officers, other than himself. The Compensation Committee determines whether to pay a
discretionary bonus to Mr. Cross based on our performance, profitability, cash flow, revenue and
customer generations, market share and industry position.
Discretionary bonuses paid for performance in 2007 are shown in column (d) of the Summary
Compensation Table below.
Long-Term Incentive Compensation. Periodically, the Compensation Committee grants long-
term incentive compensation, in the form of stock options, restricted share rights, performance share
rights and stock appreciation rights in order to provide a long-term incentive which is directly tied to the
performance of our stock. These grants provide an incentive to maximize stockholder value by providing
the employees an equity interest which further aligns their interests with those of the stockholders. The
exercise price of these grants is the closing price (used to establish fair market value) of the underlying
Common Stock on the date of grant. In general, the options vest in equal annual installments over a
three-year period beginning one year after the date of grant, in certain instances the Board of Directors (or
the Compensation Committee) can adjust the vesting period for performance-based options. Restricted
share rights typically “cliff vest,” all at one time, at a date several years subsequent to their grant date.
Performance restricted share rights vest upon the achievement of milestones as defined by the
Compensation Committee. In 2006, the Company adopted the 2006 Stock Appreciation Rights Plan
which allows the Compensation Committee to award units that derive their value from the appreciation in
our stock without the issuance of additional shares. These awards are paid in cash. The Company
41
believes that the 2006 Stock Appreciation Rights Plan will allow it to continue to attract and retain key
employees while aligning the financial incentives of those individuals with the financial objectives of our
shareholders. One award has been issued under the 2006 Stock Appreciation Rights Plan to date.
Awards of stock appreciation rights are not currently intended to comprise a major part of our long-term
incentive compensation strategy. The Compensation Committee may elect, from time to time, to grant
these types of awards as particular situations arise. Vesting periods are used to retain key employees and
to emphasize the long-term aspect of contribution and performance. In making grants to executives in
2007, the Compensation Committee considered a number of factors, including the performance of such
persons, the Company’s performance, achievement of specific delineated goals, the responsibilities and
the relative position of such persons within the Company, the number of stock options each such person
currently possesses and the underlying value of the options held.
The Company traditionally awards long-term incentive compensation (including to the executive
officers) once per year. These awards have occurred in the latter half of the last several years. The
Compensation Committee may grant awards at any other time during the year in connection with the
hiring or promotion of employees or based upon other special circumstances or performance. The
aggregate amount as determined under FAS No. 123R recognized for purposes of our financial statements
for 2006 with respect to options granted to the executive officers is shown in the “Summary
Compensation Table” below. The grant date value of the options and restricted stock units awarded to the
executive officers in 2006 as determined under FAS No. 123R for purposes of the Company’s financial
statements is shown in the “Grants of Plan-Based Awards Table” below. The “Grants of Plan-Based
Awards” table and related narrative “Description of Plan-Based Awards” section below provide
additional detail regarding the options granted to the executive officers in 2007, including the vesting and
other terms that apply to the restricted stock units and options.
Severance Protection and Change-in-Control Benefits. The level of severance protection and
change-in-control benefits provided to each executive officer is based upon a review of the market and
consideration of the dedication and service provided by these executive officers to the Company. Please
see the “Potential Payments Upon Termination or Change in Control” section below for a description of
the potential payments that may be made to the executive officers in connection with their termination of
employment or a change in control.
Stock Ownership Guidelines
The Company currently does not require our directors or executive officers to own a particular
amount of our Common Stock. The Compensation Committee is satisfied that stock and option holdings
among our directors and executive officers are sufficient at this time to provide motivation and to align
this group's interests with those of our stockholders.
Other Compensation and Benefits
Our executive officers participate in the same group insurance and employee benefit plans as our
other salaried employees.
Employment Agreements
The Company entered into an employment agreement with Mr. Cross dated November 9, 1999
(with an immaterial amendment thereafter to adjust language for changes in applicable governing
employment law) which provides for an annual base salary of not less than $220,000. In addition, Mr.
Cross received a lump sum payment of $50,000 on the first anniversary of the commencement of this
agreement. The Company also granted to Mr. Cross options to purchase up to 100,000 shares of
Common Stock at an exercise price of $2.9375 per share and options to purchase up to 50,000 shares of
Common Stock at an exercise price of $2.1875, with options for one-fifth of such shares becoming
exercisable on each of the first five anniversaries of the dates of grant. No term has been assigned to Mr.
42
Cross’ employment agreement. If Mr. Cross is terminated other than for “cause” (as such term is defined
in Mr. Cross’ employment agreement), Mr. Cross will receive severance benefits in an amount equal to
Mr. Cross’ base salary for 53 weeks.
Effective as of February 17, 2000, the Company entered into an employment agreement with Mr.
Jankowski (with an immaterial amendment thereafter to adjust language for changes in applicable
governing employment law) providing for an annual base salary of not less than $95,000. No term has
been assigned to Mr. Jankowski’s employment agreement. If Mr. Jankowski is terminated other than for
“cause” (as such term is defined in Mr. Jankowski’s employment agreement), Mr. Jankowski will receive
severance benefits in an amount equal to Mr. Jankowski’s base salary for 27 weeks.
Effective as of January 8, 2007, the Company entered into an employment agreement with Mr.
Wenta which provides for an annual base salary of not less than $270,000. In addition, Mr. Wenta
received a guaranteed bonus of $24,300 payable in two installments of $12,150 on July 8, 2007 and
January 8, 2008. The Company also granted to Mr. Wenta options to purchase up to 75,000 shares of
Common Stock at an exercise price of $5.72 per share with options for one-fifth of such shares becoming
exercisable on each of the first five anniversaries of the dates of grant. No term has been assigned to Mr.
Wenta’s employment agreement. If Mr. Wenta is terminated other than for “cause” (as such term is
defined in Mr. Wenta’s employment agreement), Mr. Wenta will receive severance benefits in an amount
equal to Mr. Wenta’s base salary for 52 weeks.
Effective as of November 2, 2000, the Company also entered into an employment agreement with
Mr. Haines (with an immaterial amendment thereafter to adjust language for changes in applicable
governing employment law) providing for an annual base salary of not less than $160,000. The Company
also granted to Mr. Haines options to purchase up to 30,000 shares of Common Stock at an exercise price
of $10.1875. No term has been assigned to Mr. Haines employment agreement. If Mr. Haines is
terminated other than for “cause” (as such term is defined in Mr. Haines’s employment agreement), Mr.
Haines will receive severance benefits in an amount equal to Mr. Haines’s base salary for 53 weeks.
Effective as of September 26, 2001, the Company also entered into an employment agreement
with Dr. Brotzman (with an immaterial amendment thereafter to adjust language for changes in applicable
governing employment law) providing for an annual base salary of not less than $146,250. No term has
been assigned to Dr. Brotzman’s employment agreement. If Dr. Brotzman is terminated other than for
“cause” (as such term is defined in Dr. Brotzman’s employment agreement), Dr. Brotzman will receive
severance benefits in an amount equal to Dr. Brotzman’s base salary for 27 weeks.
43
Compliance with Section 162(m)
The Compensation Committee currently intends for all compensation paid to the executive
officers to be tax deductible to the Company pursuant to Section 162(m) of the Internal Revenue Code of
1986, as amended (“Section 162(m)”). Section 162(m) provides that compensation paid to the executive
officers in excess of $1,000,000 cannot be deducted by the Company for Federal income tax purposes
unless, in general, (1) such compensation is performance-based, established by a committee of outside
directors and objective, and (2) the plan or agreement providing for such performance-based
compensation has been approved in advance by stockholders. The Compensation Committee believes
that the requirements of Section 162(m) are uncertain at this time and may arbitrarily impact the
Company. In the future, the Compensation Committee may determine to adopt a compensation program
that does not satisfy the conditions of Section 162(m) if in its judgment, after considering the additional
costs of not satisfying Section 162(m), such program is appropriate.
COMPENSATION COMMITTEE REPORT
The Compensation Committee has reviewed and discussed with management the disclosures
contained in the Compensation Discussion and Analysis section of this Item 11. Based upon this review
and our discussions, the Compensation Committee recommended to its Board of Directors that the
Compensation Discussion and Analysis section be included in this Annual Report on Form 10-K.
Jerry K. Pearlman (Chairman)
James A. Henderson
Donald S. Perkins
COMPENSATION COMMITTEE’S INTERLOCKS AND INSIDER PARTICIPATION
The Compensation Committee members whose names appear above were committee members
during all of 2007. Pursuant to a consulting agreement effective as of October 29, 1998, and prior to his
appointment as Chairman of the Board of Directors, Donald S. Perkins, who is a member of the
Compensation Committee, was engaged by the Company to provide additional services in connection
with the Company’s organizational restructuring and refocusing. In consideration for such services, Mr.
Perkins was granted options to purchase 25,000 shares of Common Stock at an exercise price of $3.50 per
share, of which 20,000 options remain vested but unexercised. Mr. Perkins’ consulting agreement was
terminated on June 1, 2000. No member of the Compensation Committee is or has been a former or
current executive officer of the Company. Mr. Cross serves as a director of the Company. None of the
Company’s executive officers served as a member of a Compensation Committee (or other committee
serving an equivalent function) of any other entity.
SUMMARY COMPENSATION TABLE
The following table sets forth all of the compensation awarded to, earned by, or paid to our
principal executive officer, principal financial officer and the three other highest paid executive officers
whose total compensation in fiscal year 2007 exceeded $100,000.
44
NAME AND PRINCIPAL
POSITION
YEAR
SALARY
($)
BONUS
($)(1)
OPTION
AWARDS
($)(2)
(a)
(b)
(c)
(d)
(f)
NON-EQUITY
INCENTIVE
PLAN
COMPENSATIO
N
($)(3)
(g)
ALL OTHER
COMPENSATION
($)(4)
TOTAL
($)
(i)
(j)
Joseph E. Cross
President and Chief Executive
Officer
Jess Jankowski
Chief Financial Officer
Kevin J. Wenta
Executive Vice President Sales
and Marketing
Robert Haines
Vice President Operations
Richard Brotzman, Ph.D.
Vice President Research and
Development
2007
2006
2007
2006
2007
2006
2007
2006
2007
2006
$340,000
$340,000
$ 80,000
$100,000
$64,950
$89,946
$180,000
$180,000
$35,000
$35,000
$58,455
$67,460
$270,000
$0
$60,000
$0
$385,890
$0
-
-
-
-
-
-
$220,000
$220,000
$40,000
$40,000
$48,713
-
-
$55,031
$195,000
$195,000
$30,000
$20,000
$48,713
$67,460
-
-
$27,794
$27,999
$22,019
$22,040
$24,174
$0
$23,743
$23,408
$22,418
$22,608
$512,744
$557,945
$295,474
$304,500
$740,064
$0
$332,456
$338,439
$296,131
$305,068
(1)
(2)
(3)
(4)
These amounts were earned in 2006 and 2007, but paid in early 2007 and 2008, respectively.
The amounts in this column represent the dollar amount recognized for financial statement reporting
purposes with respect to the 2007 and 2006 fiscal years in accordance with FAS 123(R). See Note 13 of
the notes to our financial statements contained elsewhere in this Annual Report for a discussion of all
assumptions made by us in determining the FAS 123(R) values.
The amount in this column is attributed to awards under the 2006 Stock Appreciation Rights Plan and
represents the dollar amount recognized for financial statement reporting purposes with respect to the 2006
fiscal year using the Black-Sholes model of valuation.
The amounts in this column represent 401(k) match, health and life insurance. Health insurance benefits are
the same for all employees. Life insurance is provided in the amount of one times the annual base salary
with a maximum of $150,000.
The Summary Compensation Table should be read in connection with the Compensation
Discussion and Analysis above and the tables and narrative descriptions that follow.
GRANTS OF PLAN BASED AWARDS
The following table sets forth each plan based award granted to our executive officers during
fiscal year 2007.
NAME
(a)
GRANT
DATE
(b)
NON-
EQUITY
INCENTIVE
PLAN UNIT
(#)
Joseph E. Cross
11/6/07
Jess Jankowski
11/6/07
Kevin J. Wenta
1/8/07
11/6/07
ESTIMATED FUTURE PAYOUTS
UNDER NON-EQUITY
INCENTIVE PLAN AWARDS
ESTIMATED FUTURE PAYOUTS
UNDER EQUITY INCENTIVE
PLAN AWARDS
Threshold
(#)
(c)
Target
(#)
(d)
Maximum
(#
(e)
Threshold
(#)
(f)
20,000
Target
(#)
(g)
20,000
Maximum
(#
(h)
20,000
18,000
18,000
18,000
75,000
16,000
75,000
16,000
75,000
16,000
45
EXERCISE OR
BASE PRICE OF
OPTION AWARDS
($/SH)
(k)
GRANT DATE
FAIR VALUE
OF AWARDS
(l)
$4.48
$4.48
$5.72
$4.48
$64,950
$58,455
$333,930
$51,960
Robert Haines
11/6/07
Richard Brotzman,
Ph.D.
11/6/07
15,000
15,000
15,000
$4.48
$48,713
15,000
15,000
15,000
$4.48
$48,713
Description of Awards Granted in 2007
Each November 6th nonqualified stock option award described in the “Grants of Plan-Based
Awards” table above expires on the tenth anniversary of its associated grant date and vests in equal
installments over the course of three years. Mr. Wenta’s January 8th award also expires on the tenth
anniversary but vests in equal installments over the course of five years, and is generally subject to
accelerated vesting upon a change in control of the Company or a termination of the executive without
“cause.”
The amount of salary and bonus in proportion to total compensation for 2007 was:
NAME
Joseph E. Cross
Jess Jankowski
Kevin J. Wenta
Robert Haines
Richard Brotzman, Ph.D.
PERCENTAGE
82%
73%
45%
78%
76%
OUTSTANDING EQUITY AWARDS AT FISCAL YEAR-END
The following table sets forth information regarding each unexercised option held by each of our
executive officers as of December 31, 2007.
NAME
(a)
Joseph E. Cross
Jess Jankowski
STOCK AWARDS
EQUITY
INCENTIVE PLAN
AWARDS: NUMBER
OF SHARES OF
STOCK
THAT HAVE NOT
VESTED
(#)
(i)
EQUITY INCENTIVE
PLAN AWARDS: MARKET
VALUE
OF SHARES OF STOCK
THAT HAVE NOT
VESTED
($)
(j)
5,000
$19,000
OPTION AWARDS
NUMBER OF
SECURITIES
UNDERLYING
UNEXERCISED
EARNED
OPTIONS
(#)
EXERCISABLE
(b)
EQUITY INCENTIVE
PLAN AWARDS:
NUMBER OF SECURITIES
UNDERLYING
UNEXERCISED
UNEARNED OPTIONS
(#)
UNEXERCISABLE
(d)
100,000
50,000
100,000
50,000
50,000
55,000
50,000
15,000
10,000
6,667
-0-
6,960
5,334
21,775
13,000
13,000
20,000
18,000
11,000
6,667
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
5,000
13,333
20,000
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
3,333
OPTION
EXERCISE
PRICE
($)
(e)
OPTION
EXPIRATION
DATE
(f)
11/09/08
01/05/09
05/24/10
01/26/11
02/28/11
01/03/12
03/24/13
10/11/14
09/27/15
09/27/16
11/06/17
07/31/08
07/27/09
05/24/10
01/26/11
02/28/11
01/03/12
03/24/13
10/11/14
09/27/15
$2.937
$2.187
$7.687
$10.875
$7.062
$6.650
$3.660
$5.550
$6.030
$6.010
$4.480
$3.812
$1.750
$7.687
$10.875
$7.062
$6.650
$3.660
$5.550
$6.030
46
Kevin J. Wenta
Robert Haines
Richard Brotzman,
Ph.D.
5,000
-0-
-0-
-0-
30,000
40,000
30,000
11,000
6,667
-0-
-0-
27,180
22,500
20,000
20,000
20,000
20,000
11,000
6,667
5,000
-0-
10,000
18,000
75,000
16,000
-0-
-0-
-0-
-0-
3,333
20,000
15,000
-0-
-0-
-0-
-0-
-0-
-0-
-0-
3,333
10,000
15,000
$6.010
$4.480
$5.720
$4.480
$10.187
$6.650
$3.660
$5.550
$6.030
$5.840
$4.480
$3.812
$7.687
$10.875
$7.062
$6.650
$3.660
$5.550
$6.030
$6.010
$4.480
09/27/16
11/06/17
01/08/17
11/06/17
01/22/11
01/03/12
03/24/13
10/11/14
09/27/15
07/24/16
11/06/17
07/31/08
05/24/10
01/26/11
02/28/11
01/03/12
03/24/13
10/11/14
09/27/15
09/27/16
11/06/17
3,000
$11,400
13,000
$11,400
3,000
$11,400
OPTION EXERCISE AND STOCK VESTED
The following table presents information regarding the exercise of stock options by Named
Officers during 2007.
OPTION AWARDS
STOCK AWARDS
NUMBER OF SHARES
ACQUIRED ON
EXERCISE
(#)
(b)
VALUE
REALIZED ON
EXERCISE
($)
(c)
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
OPTION AWARDS
NUMBER OF
SHARES
ACQUIRED ON
EXERCISE
(#)
(d)
2,500
1,500
1,500
1,500
VALUE
REALIZED ON
EXERCISE
($)
(e)
$12,000
$7,200
$7,200
$7,200
NAME
(a)
Joseph E. Cross
Jess Jankowski
Robert Haines
Richard Brotzman, Ph.D.
POTENTIAL PAYMENT UPON TERMINATION OR CHANGE IN CONTROL
Severance Protection. Mr. Cross’s employment agreement provides that if Mr. Cross is
terminated other than for “cause” (as such term is defined in Mr. Cross’ employment agreement), Mr.
Cross will receive severance benefits in an amount equal to his base salary for 53 weeks. The
employment agreement with Mr. Jankowski provides that if Mr. Jankowski is terminated other than for
“cause” (as such term is defined in Mr. Jankowski’s employment agreement), Mr. Jankowski will receive
severance benefits in an amount equal to Mr. Jankowski’s base salary for 27 weeks. Mr. Wenta’s
employment agreement provides that if Mr. Wenta is terminated other than for “cause” (as such term is
defined in Mr. Wenta’s employment agreement), Mr. Wenta will receive severance benefits in an amount
equal to Mr. Wenta’s base salary for 52 weeks. The employment agreement with Mr. Haines provides that
if Mr. Haines is terminated other than for “cause” (as such term is defined in Mr. Haines’s employment
agreement), Mr. Haines will receive severance benefits in an amount equal to Mr. Haines’s base salary for
47
53 weeks. The employment agreement entered into with Dr. Brotzman provides that if Dr. Brotzman is
terminated other than for “cause” (as such term is defined in Dr. Brotzman’s employment agreement), Dr.
Brotzman will receive severance benefits in an amount equal to Dr. Brotzman’s base salary for 27 weeks.
Change in Control. Upon a change in control, the 2001 Equity Compensation Plan (the
predecessor to the 2004 Equity Compensation Plan) and the 2004 Equity Compensation Plan provide that:
(1) vesting under all outstanding stock options will automatically accelerate and each option will become
fully exercisable; (2) the restrictions and conditions on all outstanding restricted shares shall immediately
lapse; and (3) the holders of performance shares will receive a payment in settlement of the performance
shares, in an amount determined by the Compensation Committee, based on the target payment for the
performance period and the portion of the performance period that precedes the change in control. If the
Company is not the surviving entity, the successor is required to assume all unexercised options. Under
the Company’s 1992 Stock Option Plan, the vesting of options issued under it is accelerated upon a “sale
or merger” (as defined in the 1992 Stock Option Plan).
The following table quantifies the estimated payments that would be made in each covered
circumstance:
NAME
TERMINATION BY COMPANY
WITHOUT CAUSE (1)
CHANGE IN
CONTROL (2)
INVOLUNTARY TERMINATION IN
CONNECTION WITH OR FOLLOWING
A CHANGE IN CONTROL (3)
Joseph E. Cross
Jess Jankowski
Kevin J. Wenta
Robert Haines
Richard Brotzman, PhD
$346,538
$93,461
$270,000
$224,230
$101,250
$19,000
$11,400
$ -0-
$11,400
$11,400
$365,538
$104,861
$270,000
$235,630
$112,650
(1)
(2)
(3)
This amount represents the severance benefits that would be received under the executive officers
employment agreement as described had the executive officer been terminated by the Company
without cause on December 31, 2007.
This amount represents an estimate of the value that would have been received under the equity
incentive plans had a change in control occurred as of December 31, 2007 and the executive officers
benefited from an acceleration of vesting in the equity-based plan awards as described above. For this
purpose, the share price as of December 31, 2007 was used. The amount represents the difference
between the exercise price of any unvested options and $3.80 plus the value of any restricted shares
that would have become vested as of this date.
This amount represents an estimate of the payments and value that would have been received by the
executive officers had the executive officers been terminated by the Company without cause on
December 31, 2007 in connection with a change in control on this date. It is the sum of the first two
columns.
DIRECTOR COMPENSATION
Upon first being elected to the Board of Directors, each director of the Company who is not an
employee or consultant of the Company (an “Outside Director”) is granted stock options to purchase
10,000 shares of common stock at the closing price as of the date of issuance (the fair market value). This
initial option grant to an Outside Director vests over five years.
In 2007 and 2006, the Company paid $4,000 as quarterly compensation to each of its directors,
which will amount to an annual total of $16,000 per outside director for services performed in their
capacity as directors. In addition, each outside director will receive $6,000 each calendar quarter in
deferred common stock (the “Director Restricted Stock Plan” as described below) based on the closing
price at the beginning of each quarter. For the years ended December 31, 2007 and 2006 each director
received 3,874 and 3,754 shares respectively, with the total value of the compensation of approximately
$24,000 per year. In 2005, the Company paid $6,250 quarterly, which amounted to an annual total of
48
$25,000 per Outside Director, in cash compensation for services performed in their capacity as directors.
No stock based awards were issued to Outside Directors in 2005. Beginning in 2004, Mr. McClung’s
cash compensation is being paid to Lismore International, Incorporated.
In 2005, the Company adopted, and the Shareholders’ approved, the 2005 Non-Employee
Director Restricted Stock Plan (the “Director Restricted Stock Plan”) which reserves 150,000 shares of
the Company’s common stock to be issued to Outside Directors in the form of restricted shares. In 2005,
no awards were made under the Director Restricted Stock Plan. In 2005, the Company also adopted the
Non-Employee Director Deferred Compensation Plan (the “Director Deferred Compensation Plan”)
which permits an Outside Director to defer the receipt of director fees until separation from service or the
Company undergoes a change in control. The Company amended the Director Restricted Stock Plan in
2005 to permit an Outside Director to defer receipt of restricted stock granted under it. The deferred
restricted shares are accounted for under the Director Deferred Compensation Plan and issued upon
separation from service or the Company’s change in control. Under the Director Deferred Compensation
Plan, the deferred fees that would have been paid in cash are deemed invested in 5 year U.S. Treasury
Bonds during the deferral period. The accumulated hypothetical earnings are paid following the Outside
Director’s separation from service or the Company’s change in control. The deferred fees that would
have been paid as restricted shares are deemed invested in common stock of the Company during the
deferral period. The Director Deferred Compensation Plan is an unfunded, nonqualified deferred
compensation arrangement. In 2006 and 2007, all Outside Directors elected to defer receipts of all of the
restricted shares they became entitled to under the Director Restricted Stock Plan. No director’s fees paid
in cash were deferred under the Director Deferred Compensation Plan.
All Outside Directors are reimbursed for their reasonable out-of-pocket expenses incurred in
attending board and committee meetings.
2007 Director Compensation
Name
(a)
James A. Henderson
James A. McClung
Jerry K. Pearlman
Donald S. Perkins
Richard W. Siegel, Ph.D.
R. Janet Whitmore
Fees Earned or
Paid in Cash
($)
(b)
$16,000
$16,000
$16,000
$16,000
$16,000
$16,000
Stock Awards
($)
(c)
$24,000
$24,000
$24,000
$24,000
$24,000
$24,000
Total($)
(h)
$40,000
$40,000
$40,000
$40,000
$40,000
$40,000
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters
SECURITY OWNERSHIP OF MANAGEMENT
AND PRINCIPAL STOCKHOLDERS
The following table sets forth, as of March 14, 2008 certain information with respect to the
beneficial ownership of the common stock by (1) each person known by the Company to own beneficially
more than 5% of the outstanding shares of common stock, (2) each Company director, (3) each of the
Named Officers and (4) all Company executive officers and directors as a group.
Bradford T. Whitmore
Name
Number of Shares
Beneficially Owned (1)
3,962,920(2)
Percent of Shares
Beneficially Owned
18.78%
49
Spurgeon Corporation
Grace Brothers, Ltd.
Grace Investments, Ltd.
Fidelity
Altana Chemie, AG
AMVESCAP PLC
Rohm and Haas Electronic Materials CMP, Inc.
Joseph E. Cross
James A. Henderson
Richard W. Siegel, Ph.D.
James McClung
Jerry Pearlman
Donald S. Perkins
R. Janet Whitmore
Kevin J. Wenta
Jess Jankowski
Richard W. Brotzman, Ph.D.
Robert Haines
All executive officers and directors as a group
(11 persons)
3,690,108(3)
3,390,108 (4)
300,000 (5)
2,092,671 (6)
1,256,281 (7)
1,439,085 (8)
847,918 9)
497,305 (10)
22,410(11)
236,950 (12)
41,771 (13)
39,948 (14)
75,478 (15)
174,891 (16)
24,000 (17)
127,594 (18)
157,905 (19)
123,225(20)
17.49%
16.07%
1.42 %
9.92%
5.95%
6.82%
4.02%
2.30%
*
1.12%
*
*
*
*
*
*
*
*
1,524,877 (21)
6.90%
Unless otherwise indicated below, the persons address is the same as the address for the
Company.
*Denotes beneficial ownership of less than one percent.
(1)
(2)
(3)
(4)
(5)
Beneficial ownership is determined in accordance with the rules of the Securities and Exchange
Commission (the “Commission”). Unless otherwise indicated below, the persons in the above
table have sole voting and investment power with respect to all shares of common stock shown as
beneficially owned by them.
Includes 3,390,108 shares of common stock held by Grace Brothers, Ltd., 300,000 shares of
common stock held by Grace Investments, Ltd. and 272,812 shares held by Bradford T.
Whitmore. Mr. Whitmore is a general partner of Grace Brothers, Ltd. and is the sole owner of an
entity which is a general partner of Grace Investments, Ltd. In such capacities, Mr. Whitmore
shares voting and investment power with respect to the shares of common stock held by the Grace
entities. This information is based on information reported on Form 4 filed on March 5, 2008
with the Commission by Mr. Whitmore. The address of the stockholder is 1560 Sherman
Avenue, Suite 900, Evanston, Illinois 60201.
Includes 3,390,108 shares of common stock held by Grace Brothers, Ltd. and 300,000 shares of
common stock held by Grace Investments, Ltd. Spurgeon Corporation is a general partner of
both Grace entities and shares voting and investment power with respect to the shares of common
stock held by such Grace entities. This information is based on information reported on Form 4
filed on March 5, 2008 with the Commission by Spurgeon Corporation. The address of the
stockholder is 1560 Sherman Avenue, Suite 900, Evanston, Illinois 60201.
This information is based on information reported on Form 4 filed on March 5, 2008 with the
Commission by Spurgeon Corporation and Bradford T. Whitmore. The address of the
stockholder is 1560 Sherman Avenue, Suite 900, Evanston, Illinois 60201.
This information is based on information reported on Form 4 filed on March 5, 2008 with the
Commission by Spurgeon Corporation and Bradford T. Whitmore. The address of the
stockholder is 1560 Sherman Avenue, Suite 900, Evanston, Illinois 60201.
50
(6)
This information is based on information reported on Schedule 13d-1(b) filed on February 14,
2008 with the Commission by FMR LLC. The address of the stockholder is 82 Devonshire
Street, Boston, Massachusetts 02109.
(7) In accordance with the terms of the private placement of 1,256,281 shares of common stock to
Altana Chemie AG, the Company filed a registration statement for the shares on February 5, 2007
which was declared effective by the SEC on May 18, 2007.
(8)
This information is based on information reported on Schedule 13d-1(b) filed on February 12,
2008 with the Commission by AMVESCAP PLC. The address of the stockholder is 30 Finsbury
Square, London EC2A 1AG, England.
(9)
Consist of unregistered common stock, and therefore not freely saleable, until August 25, 2008.
(10)
(11)
(12)
(13)
(14)
(15)
(16)
(17)
(18)
(19)
(20)
Includes 491,667 shares of common stock issuable upon exercise of options exercisable currently
or within 60 days of March 15, 2008.
Includes 14,000 shares of common stock issuable upon exercise of options exercisable currently
or within 60 days of March 15, 2008.
Includes 19,600 shares of common stock issuable upon exercise of options exercisable currently
or within 60 days of March 15, 2008.
Includes 18,000 shares of common stock issuable upon exercise of options exercisable currently
or within 60 days of March 15, 2008.
Includes 8,000 shares of common stock issuable upon exercise of options exercisable currently or
within 60 days of March 15, 2008.
Includes 26,667 shares of common stock issuable upon exercise of options exercisable currently
or within 60 days of March 15, 2008.
Includes 10,000 shares of common stock issuable upon exercise of options exercisable currently
or within 60 days of March 15, 2008.
Includes 15,000 shares of common stock issuable upon exercise of options exercisable currently
or within 60 days of March 15, 2008.
Includes 123,736 shares of common stock issuable upon exercise of options exercisable currently
or within 60 days of March 15, 2008.
Consists of 155,347 shares of common stock issuable upon exercise of options exercisable
currently or within 60 days of March 15, 2008.
Consists of 120,667 shares of common stock issuable upon exercise of options exercisable
currently or within 60 days of March 15, 2008.
(21)
Includes 1,002,684 shares of common stock issuable upon exercise of options exercisable
currently or within 60 days of March 15, 2008.
Item 13. Certain Relationships and Related Transactions, and Director Independence
See Item 12 above. In addition, on September 5, 2003, in anticipation of the September 8, 2003
private placement to Grace Brothers Ltd. discussed below, the Company amended its existing
51
Stockholder Rights Agreement to revise the beneficial ownership threshold at which a person or group of
persons becomes an “acquiring person” and triggers certain provisions under the Stockholder Rights
Agreement. As revised, a person or group would become an “acquiring person” if that person or group
becomes the beneficial owner of 35% or more of the outstanding shares of the Company’s stock. Prior to
such amendment, the beneficial ownership threshold was 25%. On September 8, 2003, the Company
issued 453,001 shares of its common stock to Grace Brothers Ltd. at a purchase price of $4.415 per share
together with a warrant to purchase a like number of shares of common stock during the next twelve
months also at a price of $4.415 per share. The share price for the common stock was determined based
on the fifteen-day market closing average for the Company’s stock ending September 5, 2003. On
September 2, 2004 the warrants were exercised to acquire 453,001 newly issued shares of common stock.
Grace Brothers, Ltd. and its affiliates beneficially own approximately 19% of the Company’s outstanding
common stock. Ms. R. Janet Whitmore is a sister of Bradford Whitmore who serves as the general partner
of Grace Brothers, Ltd.
On March 23, 2004, the Company entered into a joint development agreement with Altana
described in “Item 1. Business—Marketing.” In connection with this agreement the Company sold, in a
private placement to Altana, 1,256,281 shares of common stock at $7.96 per share and received gross
proceeds of $10 million. Altana beneficially owns approximately 7% of the Company’s outstanding
common stock.
On August 25, 2006, the Company sold, in a private placement to Rohm and Haas Electronic
Materials CMP Holdings, Inc., 847,918 shares of common stock at $5.8968 per share and received gross
proceeds of $5.0 million. Rohm and Haas Electronic Materials CMP Holdings, Inc. beneficially owns
approximately 4% of the Company’s outstanding common stock.
On July 2, 2007, the Company issued and sold 1,900,000 shares of common stock pursuant to a
registration statement filed on May 22, 2007 and declared effective by the SEC on May 31, 2007 to
certain institutional investors at a purchase price of $5.92 per share, for an aggregate purchase price of
$11.2 million and net proceeds of approximately $10.5 million.
Director Independence. The Board of Directors has determined that the following directors are
“independent” as that term is defined in (i) paragraph (m) of Section 10A of the Securities Exchange Act
of 1934 (15 U.S.C. 78f), and the rules and regulations of the Securities and Exchange Commission
promulgated thereunder, and (ii) the rules of the NASDAQ stock market: Mr. McClung, Mr. Henderson,
Mr. Pearlman, Mr. Perkins and Mr. Siegel.
The Board of Directors has established an Audit and Finance Committee, Compensation and
Governance Committee and a Nominating Committee each comprised entirely of independent directors.
The members of the Audit and Finance Committee are Mr. McClung (Chairman), Mr. Henderson,
Mr. Pearlman and Mr. Perkins. The members of the Compensation and Governance Committee are
Mr. Pearlman (Chairman), Mr. Henderson and Mr. Perkins. The members of the Nominating Committee
are Mr. Henderson (Chairman), Mr. McClung, Mr. Pearlman, Mr. Perkins and Dr. Siegel.
Item 14. Principal Accountant Fees and Services
Audit Fees. The aggregate amount billed by our principal accountant, McGladrey & Pullen, LLP,
for audit services performed for the fiscal years ended December 31, 2007 and 2006 was $217,000 and
$223,000, respectively. Audit services include the auditing of financial statements, internal control over
financial reporting and quarterly reviews.
Audit Related Fees. Total fees billed by McGladrey & Pullen, LLP were $19,000 and $12,000
for the years ended December 31, 2007 and 2006 which included costs incurred for reviews of
52
registration statements, consultation on various accounting matters in support of the Company’s financial
statements and correspondence with the SEC related to comment letters received during 2006.
Tax Fees. Total fees billed by RSM McGladrey, Inc. (an affiliate of McGladrey & Pullen, LLP)
for tax related services for the fiscal years ended December 31, 2007 and 2006 were $10,500 and
$12,500, respectively. These services include the preparation of federal and state income tax returns and
other tax matters.
All Other. Other than those fees described above, during the fiscal year ended December 31,
2007 and 2006 there were no other fees billed for services performed by McGladrey & Pullen, LLP or
RSM McGladrey, Inc.
All of the fees described above were approved by Nanophase’s Audit Committee.
Audit Committee Pre-Approval Policies and Procedures. Nanophase’s audit committee pre-
approves the audit and non-audit services performed by McGladrey & Pullen, LLP, our principal
accountants, and RSM McGladrey, Inc. (an affiliate of McGladrey & Pullen, LLP) in order to assure that
the provision of such services does not impair McGladrey & Pullen, LLP’s independence. Unless a type
of service to be provided by McGladrey & Pullen, LLP and RSM McGladrey, Inc. (an affiliate of
McGladrey & Pullen, LLP) has received general pre-approval, it will require specific pre-approval by the
Audit Committee. In addition, any proposed services exceeding pre-approval cost levels will require
specific pre-approval by the Audit Committee.
The term of any pre-approval is 12 months from the date of pre-approval, unless the audit
committee specifically provides for a different period. The Audit Committee will periodically revise the
list of pre-approved services, based on subsequent determinations, and has delegated pre-approval
authority to the Chairman of the audit committee. In the event the Chairman exercises such delegated
authority, he shall report such pre-approval decisions to the audit committee at its next scheduled
meeting. The Audit Committee does not delegate its responsibilities to pre-approve services performed by
the independent auditor to management.
PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a)
The following documents are filed as part of this Form 10-K:
1.
The following financial statements of the Company, with the report of independent
registered public accounting firm, are filed as part of this Form 10-K:
Management’s report
Report of McGladrey & Pullen, LLP, Independent Registered Public Accounting Firm
Balance Sheets as of December 31, 2007 and 2006
Statements of Operations for the Years Ended December 31, 2007, 2006 and 2005
Statements of Stockholders' Equity for the Years Ended December 31, 2007, 2006 and
2005
Statements of Cash Flows for the Years Ended December 31, 2007, 2006 and 2005
Notes to Financial Statements
2.
The following exhibits are filed with this Form 10-K or incorporated by reference as set
forth below.
53
Exhibit
Number
2
3(I).1
3(I).2
Plan and Agreement of Merger dated as of November 25, 1997 by and between the
Company and its Illinois predecessor, incorporated by reference to Exhibit 2 to the
Company's Annual Report on Form 10-K for the year ended December 31, 1997 (the
"1997 10-K").
Certificate of Incorporation of the Company, incorporated by reference to Exhibit 3.1
to the 1997 10-K.
First Amendment to the Certificate of Incorporation of Nanophase Technologies
Corporation dated July 27, 2006, incorporated by reference to Exhibit 99.3 to the
Company’s Current Report on Form 8-K filed July 27, 2006.
3(II).1
Bylaws of the Company, incorporated by reference to Exhibit 3.2 to the 1997 10-K.
4.1
4.2
4.3
4.4
4.5
4.6
4.7
4.8
4.9
Specimen stock certificate representing common stock, incorporated by reference to
Exhibit 4.1 to the Company's Registration Statement on Form S-1 (File No. 333-
36937) (the "IPO S-1").
Form of Warrants, incorporated by reference to Exhibit 4.2 to the IPO S-1.
Rights Agreement dated as of October 28, 1998 by and between the Company and
LaSalle National Bank, incorporated by reference to Exhibit 1 to the Company's
Registration Statement on Form 8-A, filed October 28, 1998.
Certificate of Designation of Series A Junior Participating Preferred Stock
incorporated by reference to Exhibit 4.4 to the Company's Annual Report on
Form 10-K for the year ended December 31, 1998 (the "1998 10-K").
Amendment to Rights Agreement dated August 1, 2001 between the Company and
LaSalle National Association, as Rights Agent, incorporated by reference to Exhibit
4.5 to the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30,
2001.
2001 Nanophase Technologies Corporation Equity Compensation Plan, incorporated
by reference to Exhibit 4.3 to the Company’s Registration Statement on Form S-8
(File No. 333-74170).
Second Amendment to Rights Agreement dated May 24, 2002 between the Company
and LaSalle National Association, as Rights Agent, incorporated by reference to
Exhibit 4.3 to the Company’s Registration Statement on Form S-3 (File No. 333-
90326) filed June 12, 2003.
Third Amendment to Rights Agreement dated September 5, 2003 between the
Company and LaSalle National Association, as Rights Agent, incorporated by
reference to Exhibit 99.1 to the Company’s Current Report on Form 8-K filed
September 10, 2003.
Subscription Agreement dated September 8, 2003 between the Company and Grace
Brothers, Ltd., incorporated by reference to Exhibit 99.2 to the Company’s Current
Report on Form 8-K filed September 10, 2003.
54
4.10
4.11
4.12
4.13
4.14
4.15
4.16
4.17
10.1
10.2
10.3
10.4
10.5
10.6
Stock Purchase Agreement dated March 23, 2004 between the Company and Altana
Chemie AG, incorporated by reference to Exhibit 4.10 to the Company’s Annual
Report on Form 10-K filed March 30, 2004.
Registration Rights Agreement dated March 23, 2004 between the Company and
Altana Chemie AG, incorporated by reference to Exhibit 4.11 to the Company’s
Annual Report on Form 10-K filed March 30, 2004.
2004 Nanophase Technologies Corporation 2004 Equity Compensation Plan,
(“2004 Equity Plan”) incorporated by reference to Exhibit 4 to the Company’s
Registration Statement on Form S-8 (File No. 333-119466).
Form of Stock Option Agreement under the 2004 Equity Plan, incorporated by
reference to Exhibit 4.13 to the Company’s Annual Report on Form 10-K filed
March 15, 2005.
Form of Restricted Share Grant Agreement under the 2004 Equity Plan, incorporated
by reference to Exhibit 4.14 to the Company’s Annual Report on Form 10-K filed
March 15, 2005.
Form of Performance Share Grant Agreement under the 2004 Equity Plan,
incorporated by reference to Exhibit 4.15 to the Company’s Annual Report on Form
10-K filed March 15, 2005.
2005 Nanophase Technologies Corporation Equity Compensation Plan, incorporated
by reference to Exhibit 4 to the Company’s Non-Employee Director Restricted Stock
Plan, incorporated by reference to Exhibit A to the Company’s Definitive Proxy
Statement on Form DEF14A filed May 17, 2005.
First Amendment to the Nanophase Technologies Corporation 2005 Non-Employee
Director Restricted Stock Plan, incorporated by reference to Exhibit 99.1 to the
Company’s Current Report on Form 8-K filed January 9, 2006.
The Nanophase Technologies Corporation Amended and Restated 1992 Stock Option
Plan, as amended (the "Stock Option Plan"), incorporated by reference to
Exhibit 10.1 to the IPO S-1.
Form of Indemnification Agreement between the Company and each of its directors
and executive officers, incorporated by reference to Exhibit 10.2 to the IPO S-1.
Amended and Restated Registration Rights Agreements dated as of March 16, 1994,
as amended, incorporated by reference to Exhibit 10.2 to the IPO S-1.
License Agreement dated June 1, 1990 between the Company and ARCH
Development Corporation, as amended, incorporated by reference to Exhibit 10.7 to
the IPO S-1.
License Agreement dated October 12, 1994 between the Company and Hitachi,
incorporated by reference to Exhibit 10.8 to the IPO S-1.
License Agreement dated May 31, 1996 between the Company and Research
Development Corporation of Japan, incorporated by reference to Exhibit 10.9 to the
IPO S-1.
55
10.7
10.8*
10.9
10.10
10.11
10.12
10.13*
10.14*
10.15*
10.16**
10.17*
License Agreement dated April 1, 1996 between the Company and Cornell Research
Foundation, incorporated by reference to Exhibit 10.10 to the IPO S-1.
Consulting and Stock Purchase Agreement between Richard W. Siegel and the
Company dated as of May 9, 1990, as amended February 13, 1991, November 21,
1991 and January 1, 1992, incorporated by reference to Exhibit 10.11 to the IPO S-1.
Lease Agreement between the Village of Burr Ridge and the Company, dated
September 15, 1994, incorporated by reference to Exhibit 10.12 to the IPO S-1.
Distribution Agreement between the Company and C.I. Kasei, Ltd., (a subsidiary of
Itochu Corporation) dated as of October 30, 1996, incorporated by reference to
Exhibit 10.15 to the IPO S-1.
Supply Agreement between the Company and Schering-Plough HealthCare Products,
Inc. dated as of March 15, 1997, incorporated by reference to Exhibit 10.17 to the
IPO S-1.
License Agreement between the Company and C.I. Kasei Co., Ltd. (a subsidiary of
Itochu Corporation) dated as of December 30, 1997, incorporated by reference to
Exhibit 10.17 to the 1997 10-K.
Employment Agreement dated as of November 9, 1999 between the Company and
Joseph Cross, incorporated by reference to Exhibit 10.15 to the 1999 10-K.
Employment Agreement dated as of March 15, 1999 between the Company and
Daniel S. Bilicki, incorporated by reference to Exhibit 10.19 to the 1998 10-K.
Form of Options Agreement under the Stock Option Plan, incorporated by reference
to Exhibit 4.5 to the Company's Registration Statement on Form S-8 (File No. 333-
53445).
Zinc Oxide Supply Agreement dated as of September 16, 1999 between the Company
and BASF Corporation, as assignee, incorporated by reference to Exhibit 10.22 to the
1999 10-K.
Employment Agreement dated as of November 2, 2000 between the Company and
Robert Haines, incorporated by reference to Exhibit 10.22 to the Company’s Annual
Report on Form 10-K for the year ended December 31, 2000 (the “2000 10-K”).
10.18
Lease Agreement between Centerpointe Properties Trust and the Company, dated
June 15, 2000, incorporated by reference to Exhibit 10.23 to the 2000 10-K.
10.19** Amendment No. 1 to Zinc Oxide Supply Agreement dated as of January, 2001
between the Company and BASF Corporation, incorporated by reference to Exhibit
10.24 to the 2000 10-K.
10.20
Promissory Note dated as of September 14, 2000 between the Company and BASF
Corporation, incorporated by reference to Exhibit 10.25 to the 2000 10-K.
10.21**
Cooperation Agreement dated June 24, 2002 between the Company and Rodel, Inc.,
incorporated by reference to Exhibit 10.23 to the Company’s Quarterly Report on
Form 10-Q for the quarter ended June 30, 2002.
56
10.22*
Consulting Agreement dated December 12, 2002 between the Company and Dr. Gina
Kritchevsky, incorporated by reference to Exhibit 10.24 to the Company’s Annual
Report on Form 10-K for the year ended December 31, 2002.
10.23
10.24
10.25*
10.26*
10.27*
First Amendment to Promissory Note dated as of March 11, 2003 between the
Company and BASF Corporation, incorporated by reference to Exhibit 10.25 to the
Company’s Annual Report on Form 10-K for the year ended December 31, 2002.
Amendment No. 2. to Zinc Oxide Supply Agreement dated as of March 17, 2003
between the Company and BASF Corporation, incorporated by reference to Exhibit
10.25 to the Company’s Annual Report on Form 10-K for the year ended December
31, 2002.
Employment Agreement dated March 24, 2003 between the Company and Mr.
Edward G. Ludwig, Jr., incorporated by reference to Exhibit 10.25 to the Company’s
Annual Report on Form 10-K for the year ended December 31, 2002.
Employment Agreement dated February 17, 2000 between the Company and Mr. Jess
Jankowski, incorporated by reference to Exhibit 10.26 to the Company’s Annual
Report on Form 10-K filed March 30, 2004.
Employment Agreement dated September 26, 2001 between the Company and Dr.
Richard W. Brotzman, incorporated by reference to Exhibit 10.27 to the Company’s
Annual Report on Form 10-K filed March 30, 2004.
10.28** Amendment No. 1 to Cooperation Agreement dated February 25, 2004 between the
Company and Rohm and Haas Electronic Materials CMP Inc. (formerly known as
Rodel, Inc.), incorporated by reference to Exhibit 10.28 to the Company’s Annual
Report on Form 10-K filed March 30, 2004.
10.29
10.30
10.31**
Joint Development Agreement dated March 23, 2004 between the Company and
Altana Chemie AG., incorporated by reference to Exhibit 10.29 to the Company’s
Quarterly Report on Form 10-Q filed August 13, 2004
Amendment No. 1 to License Agreement dated July 16, 2004 between the Company
and C.I. Kasei Co., Ltd., incorporated by reference to Exhibit 10.30 to the
Company’s Quarterly Report on Form 10-Q filed August 13, 2004.
Letter Agreement Amending Cooperation Agreement dated October 15, 2004
between the Company and Rohm and Haas Electronic Materials CMP Inc.,
incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form
8-K filed October 22, 2004.
10.32
Building Lease dated September 15, 2004 between the Company and the Village of
Burr Ridge, incorporated by reference to Exhibit 10.32 to the Company’s Annual
Report on Form 10-K filed March 15, 2005.
10.33**
Second Amendment to Promissory Note dated as of May 1, 2005 between the
Company and BASF Corporation, incorporated by reference to Exhibit 10.33 to the
Company’s Quarterly Report on Form 10-Q filed May 9, 2005.
10.34
Lease Amendment effective October 1, 2005 between Nanophase Technologies
Corporation and Centerpoint Properties Trust, incorporated by reference to Exhibit
99.1 to the Company’s Current Report on Form 8-K filed October 20, 2005.
57
10.35
Promissory Note effective October 27, 2005 executed by BYK-Chemie USA in favor
of Nanophase Technologies Corporation, incorporated by reference to Exhibit 99.2 to
the Company’s Current Report on Form 8-K filed October 27, 2005.
10.36** Distributor Agreement dated October 24, 2005 between Johnson Matthey Catalog
Company, Inc., d/b/a ALFA AESAR, and Nanophase Technologies Corporation,
incorporated by reference to Exhibit 99.1 to the Company’s Current Report on Form
8-K filed November 1, 2005.
10.37
10.38
to 2005 Non-Employee Director Restricted Stock Plan,
First Amendment
incorporated by reference to Exhibit 99.1 to the Company’s Current Report on Form
8-K filed January 9, 2006.
Nanophase Technologies Corporation Non-Employee Director Deferred
Compensation Plan, incorporated by reference to Exhibit 99.2 to the Company’s
Current Report on Form 8-K filed January 9, 2006.
10.39**
Supply Agreement dated March 3, 2006 between Roche Diagnostics GmbH and
Nanophase Technologies Corporation, incorporated by reference to Exhibit 99.1 to
the Company’s Current Report on Form 8-K filed March 9, 2006.
10.40
10.41
10.42
10.43
Z-COTE HP-2 Brand Supply Agreement dated May 15, 2006 between BASF
Corporation and Nanophase Technologies Corporation, incorporated by reference to
Exhibit 99.1 to the Company’s Current Report on Form 8-K filed June 20, 2006.
Amendment to 2004 Equity Compensation Plan, incorporated by reference to Exhibit
99.1 to the Company’s Current Report on Form 8-K filed July 27, 2006.
Stock Purchase Agreement dated August 25, 2006 between Rohm and Haas
Electronic Materials CMP Holdings, Inc. and Nanophase Technologies Corporation,
incorporated by reference to Exhibit 99.1 to the Company’s Current Report on Form
8-K filed August 28, 2006.
Registration Rights Agreement dated August 25, 2006 between Rohm and Haas
Electronic Materials CMP Holdings, Inc. and Nanophase Technologies Corporation,
incorporated by reference to Exhibit 99.2 to the Company’s Current Report on Form
8-K filed August 28, 2006.
10.44** Amended and Restated Cooperation Agreement dated August 25, 2006 between
Rohm and Haas Electronic Materials CMP Inc. and Nanophase Technologies
Corporation, incorporated by reference to Exhibit 99.3 to the Company’s Current
Report on Form 8-K filed August 28, 2006.
10.45
10.46
10.47*
2006 Stock Appreciation Rights Plan, incorporated by reference to Exhibit 99.1 to
the Company’s Current Report on Form 8-K filed October 3, 2006.
Form of Grant Agreement, incorporated by reference to Exhibit 99.2 to the
Company’s Current Report on Form 8-K filed October 3, 2006.
Employment Agreement dated as of January 8, 2007 between the Company and
Kevin J. Wenta, incorporated by reference to Exhibit 99.1 to the Company’s Current
Report on Form 8-K filed January 12, 2007.
58
10.48
Placement Agency Agreement dated as of June 29, 2007 between the Company and
Global Crown Capital, L.L.C., incorporated by reference to Exhibit 99.1 to the
Company’s Current Report on Form 8-K filed June 2, 2007.
23.1
31.1
31.2
32
Consent of McGladrey & Pullen, LLP.
Certification of the Chief Executive Officer pursuant to Rules 13a-14(a) and 15d-
14(a) under the Exchange Act.
Certification of the Chief Financial Officer pursuant to Rules 13a-14(a) and 15d-
14(a) under the Exchange Act.
Certification of the Chief Executive Officer and the Chief Financial Officer pursuant
to 18 U.S.C. Section 1350
_______________________
* Management contract or compensatory plan or arrangement.
** Confidentiality previously granted for portions of this agreement.
59
NANOPHASE TECHNOLOGIES CORPORATION
INDEX TO FINANCIAL STATEMENTS
Management’s Report
Report of McGladrey and Pullen, LLP, Independent Registered Public Accounting Firm
Balance Sheets as of December 31, 2007 and 2006
Statements of Operations for the years ended December 31, 2007, 2006 and 2005
Statements of Stockholders' Equity for the years ended December 31, 2007, 2006 and 2005
Statements of Cash Flows for the years ended December 31, 2007, 2006 and 2005
Notes to the Financial Statements
Page
F-2
F-3
F-5
F-6
F-7
F-8
F-9
F-1
Management’s Report
Management is responsible for the preparation, integrity and fair presentation of the financial statements
and Notes to the financial statements. The financial statements were prepared in accordance with the
accounting principles generally accepted in the U.S. and include certain amounts based on management’s
judgment and best estimates. Other financial information presented is consistent with the financial
statements.
Management is also responsible for establishing and maintaining adequate internal control over financial
reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934. The
Company’s internal control over financial reporting is designed under the supervision of the Company’s
principal executive and financial officers in order 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. The Company’s internal control over financial reporting
includes 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 assets of the Company;
(ii) Provide reasonable assurance that transactions are recorded as necessary to permit preparation of
financial statements in accordance with generally accepted accounting principles, and that receipts
and expenditures of the Company 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.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect
misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk
that controls may become inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
Management assessed the effectiveness of the Company’s internal control over financial reporting as of
December 31, 2007. In making this assessment, management used the criteria established in Internal
Control–Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO).
Based on our assessment and those criteria, management believes that the Company maintained effective
internal control over financial reporting as of December 31, 2007.
The Company’s independent registered public accounting firm, McGladrey & Pullen, LLP, has issued an
attestation report on management’s assessment of the Company’s internal control over financial reporting.
That report appears on a subsequent page of this Report and expresses unqualified opinions on
management’s assessment and on the effectiveness of the Company’s internal control over financial
reporting.
NANOPHASE TECHNOLOGIES CORPORATION
March 14, 2008
F-2
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Stockholders
Nanophase Technologies Corporation
We have audited the accompanying balance sheets of Nanophase Technologies Corporation as of
December 31, 2007 and 2006, and the related statements of operations, stockholders' equity, and cash
flows for each of the years in the three-year period ended December 31, 2007. We also have audited
Nanophase Technologies Corporation's internal control over financial reporting as of December 31, 2007,
based on criteria established in Internal Control— Integrated Framework issued by the Committee of
Sponsoring Organizations of
Nanophase Technologies
Corporation's management is responsible for these financial statements, for maintaining effective internal
control over financial reporting, and for its assessment of the effectiveness of internal control over
financial reporting included in the accompanying Management’s Report. Our responsibility is to express
an opinion on these financial statements and an opinion on the company's internal control over financial
reporting based on our audits.
the Treadway Commission (COSO).
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 audits to obtain reasonable
assurance about whether the financial statements are free of material misstatement and whether effective
internal control over financial reporting was maintained in all material respects. Our audits of the
financial statements included examining, on a test basis, evidence supporting the amounts and disclosures
in the financial statements, assessing the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement presentation. Our audit of internal control
over financial reporting included obtaining an understanding of internal control over financial reporting,
assessing the risk that a material weakness exists, and testing and evaluating the design and operating
effectiveness of internal control based on the assessed risk. Our audits also included performing such
other procedures as we considered necessary in the circumstances. We believe that our audits provide a
reasonable basis for our opinions.
A company's internal control over financial reporting is a process designed 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. A company's internal
control over financial reporting includes those policies and procedures that (1) pertain to the maintenance
of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the
assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted accounting principles,
and that receipts and expenditures of the company are being made only in accordance with authorizations
of management and directors of the company; and (3) 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.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect
misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the
risk that controls may become inadequate because of changes in conditions, or that the degree of
compliance with the policies or procedures may deteriorate.
In our opinion, the financial statements referred to above present fairly, in all material respects, the
financial position of Nanophase Technologies Corporation as of December 31, 2007 and 2006, and the
F-3
results of its operations and its cash flows for each of the years in the three-year period ended December
31, 2007, in conformity with accounting principles generally accepted in the United States of America.
Also in our opinion, Nanophase Technologies Corporation maintained, in all material respects, effective
internal control over financial reporting as of December 31, 2007, based on criteria established in Internal
Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO).
As described in Note 13 to the financial statements, on January 1, 2006, the Company changed its method
of accounting for share-based payments to adopt Statement of Financial Accounting Standard No. 123(R).
Schaumburg, Illinois
March 14, 2008
F-4
NANOPHASE TECHNOLOGIES CORPORATION
BALANCE SHEETS
Current assets:
ASSETS
Cash and cash equivalents
Investments
Trade accounts receivable, less allowance for doubtful accounts
of $13,000 and $22,000 on December 31, 2007 and 2006,
respectively
Inventories, net
Prepaid expenses and other current assets
Total current assets
Equipment and leasehold improvements, net
Other assets, net
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of capital lease obligations
Current portion of deferred other revenue
Accounts payable
Accrued expenses
Total current liabilities
Long-term debt, less current maturities and unamortized debt
discount
Long-term portion of capital lease obligations
Deferred other revenue, less current portion
As of December 31,
2007
2006
$ 563,075 $ 132,387
8,434,793
16,145,844
1,403,206
1,085,364
298,464
19,495,953
1,459,391
923,223
534,407
11,484,201
7,608,326
7,409,666
781,266
651,218
$ 27,686,885 $ 19,743,745
$ 43,110
127,273
238,295
1,584,656
1,993,334
$ 32,972
127,273
478,694
1,643,585
2,282,524
1,512,507
31,430
74,243
1,618,180
1,383,707
50,552
201,515
1,635,774
Commitments and contingencies
-
-
Stockholders' equity:
Preferred stock, $.01 par value; 24,088 authorized and no shares
issued and outstanding
-
-
Common stock, $.01 par value; 30,000,000 shares authorized;
21,088,068 and 18,995,581 shares issued and outstanding on
December 31, 2007 and December 31, 2006, respectively
Additional paid-in capital
Accumulated deficit
Total stockholders' equity
189,956
210,881
78,380,962
90,201,131
(62,745,471)
(66,336,641)
15,825,447
24,075,371
$ 27,686,885 $ 19,743,745
(See accompanying Notes to Financial Statements)
F-5
NANOPHASE TECHNOLOGIES CORPORATION
STATEMENTS OF OPERATIONS
Revenue:
Product revenue
Other revenue
Total revenue
Operating expense:
Cost of revenue
Gross Profit
Research and development expense
Selling, general and administrative expense
Lease accounting adjustment
Loss from operations
Interest income
Interest expense
Other, net
Loss before provision for income taxes
Provision for income taxes
Net loss
Years ended December 31,
2007
2006
2005
$ 11,766,565
442,543
12,209,108
$ 8,612,705
378,133
8,990,838
$ 6,444,444
357,463
6,801,907
9,032,187
3,176,921
7,057,707
1,933,131
5,827,719
974,188
2,127,862
1,773,565
5,302,836
5,427,863
-
-
(5,497,567)
(4,024,507)
366,701
661,512
(52,469)
(154,515)
5,505
(73,660)
(5,177,830)
(3,591,170)
-
-
$ (3,591,170) $ (5,177,830)
1,934,528
4,422,011
279,810
(5,662,161)
295,935
(50,273)
32,888
(5,383,611)
-
$ (5,383,611)
Net loss net per share-basic and diluted
$ (0.18) $ (0.28)
$ (0.30)
Weighted average number of basic and diluted
common shares outstanding
20,038,868
18,344,334
17,937,932
(See accompanying Notes to Financial Statements)
F-6
NANOPHASE TECHNOLOGIES CORPORATION
STATEMENTS OF STOCKHOLDERS' EQUITY
Preferred Stock
Common Stock
Description
Shares
Amount
Shares
Amount
Additional
Paid-in
Capital
Accumulated
Deficit
Total
Balance on January 1, 2005
— — 17,895,482
$ 178,955
$ 71,987,565
$(52,184,030)
$19,982,490
Exercise of stock options
Stock-based compensation
Net loss for the year ended
December 31, 2005
—
—
—
—
81,110
—
811
—
247,013
73,309
—
—
247,824
73,309
— — —
— —
(5,383,611)
(5,383,611)
Balance on December 31, 2005
— — 17,976,592
$ 179,766
$ 72,307,887
$(57,567,641)
$14,920,012
Exercise of stock options
Common stock issuances, net of
transaction cost of $72,850
Stock-based compensation
Net loss for the year ended
December 31, 2006
Balance on December 31, 2006
Exercise of stock options
Common stock issuances, net of
transaction cost of $676,657
Stock-based compensation
Vesting of restricted common
stock
Net loss for the year ended
December 31, 2007
—
—
148,547
1,486
513,754
—
—
—
—
496,876
870,442
8,704
5,062,445
—
—
—
515,240
5,071,149
496,876
—
—
— —
— — (5,177,830)
(5,177,830)
—
18,995,581 $ 189,956
$ 78,380,962
$(62,745,471)
$15,825,447
—
—
159,731
1,597
695,138
—
—
—
—
1,923,244
19,233
10,694,376
—
—
429,405
—
—
9,512
95
1,250
—
—
—
—
696,735
10,713,609
429,405
1,345
—
—
—
—
— (3,591,170)
(3,591,170)
Balance on December 31, 2007
—
$ —
21,088,068 $ 210,881
$ 90,201,131
$(66,336,641)
$24,075,371
(See accompanying Notes to Financial Statements)
F-7
NANOPHASE TECHNOLOGIES CORPORATION
STATEMENTS OF CASH FLOWS
Operating activities:
Net loss
Adjustments to reconcile net loss to cash used in
operating activities:
Depreciation and amortization
Amortization of debt discount
Amortization of deferred revenue
Interest added to equipment
Stock compensation expense
Allowance for excess inventory quantities
Loss (gain) on disposal of equipment
Abandonment of pending patents
Changes in assets and liabilities related to operations:
Trade accounts receivable
Other receivable
Inventories
Prepaid expenses and other assets
Accounts payable
Accrued expenses
Net cash used in operating activities
Investing activities:
Acquisition of patents
Acquisition of equipment and leasehold improvements
Proceeds from disposal of equipment
Payment of accounts payable incurred for the
purchase of equipment and leasehold improvements
Purchases of investments
Sales of investments
Net cash (used in) provided by investing activities
Financing activities:
Principal payment on debt obligations, including
capital leases
Proceeds from borrowings
Proceeds from sale of common stock and exercise of
stock options and warrants, net
Net cash provided by financing activities
Increase (decrease) in cash and cash equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
Supplemental cash flow information:
Interest paid
Supplemental non-cash investing and financing
activities:
Accounts receivable paid through offset of long-
2007
Years ended December 31,
2006
2005
$ (3,591,170) $ (5,177,830)
$ (5,383,611)
1,421,262
128,799
(127,272)
—
574,750
26,179
75,152
—
1,269,719
117,832
(21,212)
(74,109)
645,210
(247,986)
(2,697)
149,811
1,228,515
18,455
—
—
73,309
(14,205)
69,710
—
56,185
—
(188,320)
235,943
(184,817)
(64,442)
(1,637,751)
(479,528)
—
125,980
(120,044)
146,839
481,919
(3,186,096)
(766,674)
3,498
50,324
85,334
(25,288)
252,098
(4,408,535)
(171,135)
(156,158)
(142,180)
(1,226,736)
10,800
(2,013,810)
5,100
(292,692)
—
(60,900)
(136,137,489)
128,426,438
(9,159,022)
(14,121)
(84,983,188)
84,716,487
(2,445,690)
(111,370)
(164,935,218)
167,922,252
2,440,792
(38,883)
—
(19,076)
—
(11,826)
1,597,420
11,266,344
5,442,389
5,423,313
11,227,461
(208,473)
430,688
132,387
340,860
$ 563,075 $ 132,387
247,824
1,833,418
(134,325)
475,185
$ 340,860
$ 8,866
$ 8,747
$ 31,818
term debt
$ —
$ 200,254
$ 379,219
Accounts payable incurred for the purchase of
equipment and leasehold improvements
Debt discount offset by deferred other revenue
Capital lease obligations incurred in the purchase of
equipment
$ 5,318
$ 60,900
$ — $ —
$ 14,121
$ 350,000
$ 29,900
$ 102,600 $ —
(See accompanying Notes to Financial Statements)
F-8
NANOPHASE TECHNOLOGIES CORPORATION
NOTES TO FINANCIAL STATEMENTS
(1)
Description of Business
Nanophase is a nanomaterials developer and commercial manufacturer with an integrated family
of nanomaterial technologies. Nanophase produces engineered nanomaterial products for use in a variety
of diverse existing and developing markets: sunscreens, personal care, architectural coatings, industrial
coating ingredients, abrasion-resistant applications, plastic additives, water filtration, DNA biosensors,
antimicrobial products and a variety of polishing applications, including semiconductors and optics. New
markets and applications are also being developed. Nanophase targets markets in which it feels practical
solutions may be found using nanoengineered products. The Company works with leaders in these
targeted markets to identify and supply their material and performance requirements. The Company was
incorporated in Illinois on November 25, 1989, and became a Delaware corporation on November 30,
1997. The Company’s common stock trades on the NASDAQ Global Market under the symbol NANX.
The Company also recognizes regular other revenue in connection with its promissory note to
BYK Chemie and from a technology license. These activities are not expected to drive the long-term
growth of the business. Both the deferred and license revenue are recognized as “other revenue” in the
Company’s Statement of Operations, as they do not represent revenue directly from the Company’s
nanocrystalline materials.
(2)
Summary of Significant Accounting Policies
Use of Estimates
The preparation of financial statements requires the Company to make estimates and assumptions
that affect the amounts reported in the financial statements and accompanying notes. Actual results could
differ from those estimates.
Cash and Cash Equivalents
Cash and cash equivalents primarily consist of demand deposits. The Company has employed
corporate “sweep” accounts, when cost-effective in order to maximize interest income earned with its
operating funds. From time to time, the Company’s cash accounts may exceed federally insured limits.
Investments and Risks and Uncertainties
Investments are classified by the Company at the time of purchase for appropriate designation
and are reevaluated as of each balance sheet date. The Company’s policy is to classify money market
funds and certificates of deposit as investments. These investments are classified as held-to maturity when
the Company has the positive intent and ability to hold the securities to maturity. Held-to maturity
securities are stated at amortized cost and are adjusted to maturity for the amortization of premiums and
accretion of discounts. Such adjustments for amortization and accretion are included in interest income.
The Company has also made investments in auction rate securities (“ARS”). The investments have been
classified as available for sale securities. Investments classified as available for sale securities are
recorded at market value using the specific identification method; unrealized gains and losses (excluding
other-than-temporary impairments) are reflected in other comprehensive income (“OCI”). Due to the
nature of the Company’s investments being short-term, the fair value of these investments approximates
their cost, accordingly, no unrealized gains or losses have been reflected in OCI.
Investments are considered to be impaired when a decline in fair value is judged to be other-than-
temporary. The Company employs a systematic methodology that considers available evidence in
evaluating potential impairment of its investments on a quarterly basis. If the cost of an investment
exceeds its fair value, the Company evaluates, among other factors, general market conditions, the
F-9
duration and extent to which the fair value is less than cost, as well as the Company’s intent and ability to
hold the investment. The Company also considers specific adverse conditions related to the financial
health of and business outlook for the investee, including industry and sector performance, changes in
technology, operational and financing cash flow factors and rating agency actions. Once a decline in fair
value is determined to be other-than-temporary, an impairment charge is recorded and a new cost basis in
the investment is established.
The Company’s investments are held by its investment bank who is a member of all major stock
exchanges and the Securities Investor Protection Corporation (SIPC). Securities and cash held in custody
by the Company’s investment bank are afforded complete protection for the Company’s investment
positions through SIPC and a commercial insurer (commonly known as “Excess SIPC” coverage),
however, it does not protect against losses from the rise and fall in market value of investments.
Due to the level of liquidity risk associated with such investments and the level of uncertainty
related to changes in the value of such investments, it is at least reasonably possible that changes in risks
in the near term would materially affect the amounts reported in the financial statements and the
classifications of these investments as short-term.
Trade Accounts Receivable
Trade accounts receivable are carried at original invoice amount less an estimate made for
doubtful receivables based on a review of all outstanding amounts on a monthly basis. Management
determines the allowance for doubtful accounts by identifying troubled accounts and by using historical
experience applied to an aging of accounts. Trade accounts receivable are written off when deemed
uncollectible. Recoveries of trade accounts receivable previously written off are recorded when received.
The Company’s typical credit terms are thirty days from shipment and invoicing.
The activity in the Allowance for Doubtful Accounts is as follows:
Balance, Beginning of year
Charge offs
Recoveries
Provision
2007
$ 22,000
2006
$ 24,000
(9,000)
(2,000)
-
-
-
-
Balance, End of year
$ 13,000
$ 22,000
Inventories
Inventories are stated at the lower of cost, maintained on a first in, first out basis, or market. The
Company has recorded allowances to reduce inventory relating to excess quantities of certain materials.
Write-downs of inventories establish a new cost basis, which is not increased for future increases in
market value of inventories or changes in estimated excess quantities.
Equipment and Leasehold Improvements
Equipment is stated at cost and is being depreciated over its estimated useful life (3-20 years)
using the straight-line method. Leasehold improvements are stated at cost and are being amortized using
the straight-line method over the shorter of the useful life of the asset or the term of the lease (3-16 years).
Depreciation expense for leased assets is included with depreciation expense for owned assets. From time
to time the company has self-constructed assets. These assets are stated at cost plus the capitalization of
labor and have an estimated useful life (7-10 years) using the straight-line method.
F-10
Intangible Assets
Intangible assets are included in other assets and are being amortized over the estimated useful
life (17 or 20 years) of the respective patents and trademarks using the straight-line method. From time to
time, the Company abandons patents, when either; due to advances in Company technology they are no
longer of value, or when they have served mainly as a defensive measure to preclude others from a given
technological space and the costs of continuing to pursue their award outweighs their relative benefit.
Long Lived Assets
The Company follows the provisions of SFAS No. 144, “Accounting for the Impairment or
Disposal of Long-Lived Assets.” Reviews are performed whenever events or changes in circumstances
indicate that the carrying amount of assets may not be recoverable or that the useful life is shorter than
originally estimated. The Company assesses the recoverability of its assets by comparing the projected
undiscounted net cash flows associated with the related asset or group of assets over their remaining lives
against their respective carrying amounts. Impairment, if any, is based on the excess of the carrying
amount over the fair value of those assets. If assets are determined to be recoverable, but the useful lives
are shorter than originally estimated, the net book value of the assets is depreciated over the newly
determined remaining useful lives.
Deferred Other Revenue
In connection with its promissory note to BYK-Chemie (see Note 7), the Company recorded
$350,000 of deferred other revenue. The note requires that the Company give BYK-Chemie first
preference in use of the new equipment commissioned on November 1, 2006 and accordingly, has begun
to recognize deferred revenue under this note and the Company has also agreed to provide experimental
product made using this equipment. As a result of a lack of further specificity with regards to the
equipment use obligations, the Company intends to recognize the deferred revenue ratably, on a straight-
line basis over a period beginning with the commissioned date on November 1, 2006 and ending on July
30, 2009, the expected date of the Company’s final payment under the note. For the years ended
December 31, 2007, 2006 and 2005 the Company has recognized $127,272, $21,212 and $0 of deferred
other revenue, respectively.
Asset Retirement Obligations
In connection with its leased facilities, the Company is required to remove certain leasehold
improvements upon termination of its occupancy. Effective January 1, 2003, the Company follows the
provisions of SFAS 143, “Accounting for Asset Retirement Obligations”, under which the Company
recognizes a liability for the fair value of its asset retirement obligations. The fair value of that liability is
measured based on an expected cash flow approach and accretion expense is recognized each period to
recognize increases to the fair value of the liability due to the passage of time. Increases to the fair value
of the liability, except for accretion, are added to the carrying value of the long-lived asset. Those
increases are then reported in amortization expense over the estimated useful life of the long-lived asset.
Activity in the asset retirement obligation account for the years ended December 31, is as follows:
Balance, beginning
Accretion of liability due to passage of time
Amortization of asset due to passage of time
2007
2006
$ 116,495 $ 110,618
3,037
3,345
2,840
2,840
F-11
Balance, ending
$ 122,680
$ 116,495
Fair Value of Financial Instruments
The Company's financial instruments include investments, accounts receivable, accounts payable,
accrued liabilities and long-term debt. The fair values of all financial instruments were not materially
different from their carrying values.
Product Revenue
Product revenue consists of sales of product that are recognized when realized and earned. This
occurs when persuasive evidence of an arrangement exists, title transfers via shipment of products or
when delivery has occurred, the price is fixed or determinable and collectability is reasonably assured.
Other Revenue
Other revenue consists of revenue from a technology license and deferred other revenue in
connection with the Company’s promissory note to BYK-Chemie. Technology license fees are
recognized when earned pursuant to the agreed upon contractual arrangement, when performance
obligations are satisfied, the amount is fixed or determinable, and collectability is reasonably assured. The
Company intends to recognize the deferred revenue ratably, on a straight-line basis over a period
beginning with the commissioned date on November 1, 2006 and ending on July 30, 2009, the expected
date of the Company’s final payment under the note.
Shipping and handling costs are included in other revenue when products are shipped and
invoiced to the customer. The Company includes the related cost of shipping and handling in cost of
goods sold.
Research and Development Expenses
Research and development expenses are recognized as expense when incurred. The Company
recognized $1,773,565, $2,127,862 and $1,934,528 for the years ended December 31, 2007, 2006 and
2005, respectively.
Income Taxes
The Company accounts for income taxes using the liability method. As such, deferred income
taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and
liabilities for financial reporting purposes and the amounts used for income tax purposes. Deferred tax
assets and liabilities are calculated using the enacted tax rates and laws that are expected to be in effect
when the anticipated reversal of these differences is scheduled to occur. Deferred tax assets are reduced
by a valuation allowance when, in the opinion of management, it is more likely than not that some portion
or all of the deferred tax assets will not be realized.
Earnings per share
Net loss per common share is computed based upon the weighted average number of common
shares outstanding. Common equivalent shares of 179,654 for 2007, 317,875 for 2006 and 357,796 for
2005 are not included in the per share calculations because the effect of their inclusion would be anti-
dilutive. Included in common equivalent shares are in-the-money stock options and unvested restricted
stock grants.
Recently Issued Accounting Standards
F-12
In December 2007, the FASB issued SFAS 141(R), Business Combinations. This Statement
provides greater consistency in the accounting and financial reporting for business combinations.
SFAS 141(R) establishes new disclosure requirements and, among other things, requires the acquiring
entity in a business combination to record contingent consideration payable, to expense transaction costs,
and to recognize all assets acquired and liabilities assumed at acquisition-date fair value. This standard is
effective for the beginning of the Company’s first fiscal year beginning after December 15, 2008. SFAS
141(R) will have a significant impact on the accounting for future business combinations after the
effective date and will impact financial statements both on the acquisition date and subsequent periods.
The Company does not believe that adoption of SFAS 141(R) will have a material effect on its financial
statements.
In December 2007, the FASB issued SFAS 160, Noncontrolling Interests in Consolidated
Financial Statements. SFAS 160 amends Accounting Research Bulletin No. 51, Consolidated Financial
Statements, to establish accounting and reporting standards for the minority or noncontrolling interests in
a subsidiary or variable interest entity and for the deconsolidation of a subsidiary or variable interest
entity. Minority interests will be recharacterized as noncontrolling interests and classified as a component
of equity. It also establishes a single method of accounting for changes in a parent’s ownership interest in
a subsidiary and requires expanded disclosures. SFAS 160 is effective for the beginning of the
Company’s first fiscal year beginning after December 15, 2008, and requires retroactive adoption of the
presentation and disclosure requirements for existing minority interests. The Company does not expect
the adoption of this standard to have a material impact on its financial position or results of operations.
In February 2007, the FASB issued SFAS 159, The Fair Value Option for Financial Assets and
Financial Liabilities. SFAS 159 permits entities to choose to measure many financial instruments and
certain other items at fair value at specified election dates. Under SFAS 159, a business entity shall report
unrealized gains and losses on items for which the fair value option has been elected in earnings (or
another performance indicator if the business entity does not report earnings) at each subsequent reporting
date. SFAS 159 also establishes presentation and disclosure requirements designed to facilitate
comparisons between entities that choose different measurement attributes for similar types of assets and
liabilities. This Statement is effective for fiscal years beginning after November 15, 2007. The Company
does not believe that adoption of SFAS 159 will have a material effect on its financial statements.
In September 2006, the FASB issued SFAS 157, Fair Value Measurements. SFAS 157 defines
fair value, establishes a framework for measuring fair value and expands disclosures about fair value
measurements. In February 2008, the FASB issued FSP SFAS 157-2 which deferred the requirements of
SFAS 157 to financial statements issued for fiscal years beginning after November 15, 2008. The
Company does not believe that adoption of SFAS 157 will have a material effect on its financial
statements.
(3)
Investments
Investments at December 31, 2007 and 2006 were comprised of auction rate securities,
certificates of deposit and a money market fund. Included in investments is $30,000 on December 31,
2007 and 2006, respectively, in the form of certificates of deposit which are pledged as collateral,
primarily for the Company’s rent in 2007 and 2006, and is restricted as to withdrawal or usage.
Investments held in short-term auction rate securities and certificates of deposit have maturity days of less
than 30 days. The Company’s investments on December 31, 2007 and 2006 were as follows:
Auction rate securities ....................................................................
Money market fund ........................................................................
Certificates of deposit.....................................................................
Accrued interest..............................................................................
F-13
As of December 31,
2007
$ 14,175,000
1,898,262
30,000
42,582
2006
$ 6,750,000
1,640,819
30,000
13,974
$ 16,145,844
$ 8,434,793
The auction rate securities held on December 31, 2007 were sold in January 2008 with no decline
in market value. As of March 4, 2008, the Company’s remaining investments in auction rate securities
totaled $6 million, which were purchased subsequent to year-end. These three auction rate securities
(“ARS”) in the Company’s investment portfolio have experienced “failed auctions” due to a lack of
available buyers for them on their expected auction dates. An auction failure means that the parties
wishing to sell their securities could not be matched with an adequate volume of buyers. In the event that
there is a failed auction the indenture governing the security requires the issuer to pay interest at a
contractually defined rate that is generally above market rates for other types of similar short-term
instruments. Despite these failed auctions, there have been no defaults on the underlying securities and
investment income on these ARS holdings. They have been issued through the Federal Family Education
Loan Program (“FFELP” or “FFELPs Loans”) and carry an AAA credit rating. These FFELPs Loans are
guaranteed to 97% of their $6 million value by the Department of Education, limiting any credit risk
relating to these securities. Although a liquidity short-fall may exist from auction to auction, the Company
is not aware of any changes to ratings or other indicators of a permanent decline in value. Accordingly,
the Company believes that the carrying value of investments approximates fair value.
(4)
Inventories
Inventories consist of the following:
Raw materials .................................................................................
Finished goods................................................................................
Allowance for excess quantities .....................................................
The activity in the Allowance for Excess Inventory Quantities as
follows:
Balance, Beginning of year
Deductions(1)
Increase in
allowance
2007
$ 343,354
-
2006
$ 591,340
(247,986)
26,179 -
Balance, End of year
$ 369,533
$ 343,354
As of December 31,
2007
2006
$ 180,293 $ 173,750
1,092,827
1,274,604
1,266,577
1,454,897
(369,533)
(343,354)
$ 1,085,364 $ 923,223
(1) Reduction in inventory allowance as a result of the disposal or sale of
inventories for which an allowance had previously been provided.
(5)
Equipment and Leasehold Improvements
Equipment and leasehold improvements consist of the following:
As of December 31,
2006
2007
Machinery and equipment ..............................................................
Office equipment ............................................................................
Office furniture ...............................................................................
Leasehold improvements ................................................................
Construction in progress.................................................................
$ 11,859,120 $ 11,426,106
453,582
75,871
4,532,825
274,280
545,068
78,242
4,659,459
695,420
F-14
Less: Accumulated depreciation and amortization ........................
17,837,309
16,762,664
(10,427,643)
$ 7,409,666 $ 7,608,326
(9,154,338)
Depreciation expense was $1,374,660, $1,228,180 and $1,190,208, for the years ended
December 31, 2007, 2006 and 2005, respectively.
F-15
(6) Intangible Assets
The following is a summary of intangible assets on December 31, 2007 and 2006:
Subject to Amortization:
Trademarks
Patents
2007
2006
Gross Carrying
Amount
Accumulated
Amortization
Gross Carrying
Amount
Accumulated
Amortization
$ 44,429
494,060
$ 538,489
$ 12,738
197,221
$ 209,959
$ 44,429
469,660
$ 514,089
$ 10,358
159,183
$ 169,541
Amortization expense recognized on all amortizable intangibles totaled $40,417, $35,364 and $31,196 for the
years ended December 31, 2007, 2006 and 2005, respectively.
Estimated aggregate amortization expenses for each of the next five years is as follows:
Year ending December 31:
2008
2009
2010
2011
2012
Thereafter
$ 41,664
41,562
40,517
35,608
30,834
138,345
$ 328,530
On December 31, 2007 and 2006 patents pending were $440,684 and $293,949, respectively.
Patents pending are not amortized.
(7)
Pledged Assets and Long-Term Debt
In November 2000, the Company executed a three-year promissory note, held by the Company’s
largest customer, in the amount of $1,293,895 for the construction of additional production capabilities at
the Company’s Romeoville, Illinois facility. Nanophase repaid this loan through a sales discount on
product over time. The BASF note was retired in the second quarter in 2006.
In November 2005, the Company executed a promissory note, held by BYK-Chemie (a U.S.
subsidiary of Altana Chemie AG which owns approximately 6% of the Company’s outstanding common
stock) in the amount of $1,597,420 for the purchase and installation of additional dispersion capacity and
an additional NanoArc® synthesis reactor at the Company’s Romeoville, Illinois facility. The note
requires that the Company give BYK-Chemie first preference in use of the new equipment commissioned
on November 1, 2006 under this note, and that the Company agrees to provide experimental product made
using this equipment. In addition, the Company also capitalized approximately $74,000 in interest related
to this note. The rate of interest in the note will float at 1% over LIBOR, measured on a quarterly average.
Interest will not begin to accrue until one year after the commissioning of the specified equipment and
principal will be repaid in three equal payments during the first three quarters of 2009. Management has
determined that the required interest payments, including a flexible interest free period of more than a
year, are substantially lower than the Company would be required to pay in a more traditionally
underwritten equipment note. As such, management’s imputation of interest, in accordance with the
provisions of APB No. 21, “Interest on Receivables and Payables”, at 9% over the entire life of the note,
it’s determination of a market interest rate, resulted in the Company recording a debt discount of
F-16
$350,000, having an unamortized balance of $84,913 and $213,713 on December 31, 2007 and 2006,
respectively. Accrued interest on note was $16,850 on December 31, 2007. Management further
determined that the debt discount of $350,000 recorded at the inception of the loan was attributable to
deferred other revenue relating to the issuance of right of first preference on the new equipment being
commissioned and the Company’s commitment to provide experimental product.
(8)
Lease Commitments
The Company leases its operating facilities under operating leases. On October 18, 2005
Nanophase entered into a Lease Amendment amending its current lease for its facility in Romeoville,
Illinois, which, among other things, extended the term of such lease through December 31, 2015 (with the
option to extend the term for two additional five year periods) and granted Nanophase an option to
purchase such facility in certain instances. The current monthly rent on this lease amounts to $25,500.
Nanophase leases its Burr Ridge facility under an agreement whose initial term expired in September
1999. The Company exercised its option to extend the lease for five additional one-year terms, the last of
which expired in September 2004. The Company executed a new lease for its Burr Ridge facility in
September 2004 (with the option to extend the term for three additional one-year periods). The initial
term of the new lease expired in September 2007. The Company exercised its option to extend the lease
for one year, which expires in September 2008. The current monthly rent on this lease amounts to
$10,643.
The following is a schedule of future minimum lease payments as required under the above
operating leases:
Year ending December 31:
2008
2009
2010
2011
2012
Thereafter
Total minimum payments required:
$ 438,515
318,000
325,200
331,200
338,400
5,062,135
$ 6,813,450
Rent expense, including real estate taxes, under these leases amounted to $615,035, $601,364 and
$546,815, for the years ended December 31, 2007, 2006 and 2005, respectively.
On December 31, 2007 and 2006, equipment under capital leases had a cost of $137,552 and
$105,752, respectively, with accumulated depreciation of $7,931 and $24,867, respectively. The
Company had two and one capital lease(s) as of December 31, 2007 and 2006, respectively.
(9)
Accrued Expenses
Accrued expenses consist of the following:
Accrued payroll and related expenses
Accrued professional services
Accrued rent
Other
As of December 31,
2006
2007
$ 623,792 $ 584,485
321,435
490,216
247,449
139,746
564,921
256,197
$ 1,584,656 $ 1,643,585
F-17
(10)
License Agreements
The Company was granted a non-exclusive license by a third party to make, use, and sell products
of the type claimed in two U.S. patents. In consideration for this license, the Company agreed to pay
royalties of 1% of net sales, as defined, and made an advance royalty payment of $17,500. Royalties
under this agreement amounted to approximately $0, $49,252 and $37,166 for the years ended December
31, 2007, 2006 and 2005, respectively. As of December 31, 2007, the patents on this license agreement
have expired and no further royalties will be paid.
In December 1997, the Company entered into a license agreement whereby the Company granted
a royalty-bearing exclusive right and license, as defined, to purchase, make, use and sell nanocrystalline
materials in designated parts of Asia to C. I. Kasei, a division of Itochu Corporation (“CIK”). Under this
agreement, the Company also will earn royalties on net sales of manufactured products containing
nanocrystalline materials. The agreement also provided for minimum sales targets and minimum royalty
payments to maintain exclusivity. The agreement expires on March 31, 2013 unless earlier terminated as
provided therein. The Company recorded royalty revenues, classified as “Other Revenue” on the
Statements of Operations, under this agreement of $300,000 for the years ended December 31, 2007,
2006 and 2005, respectively.
(11)
Income Taxes
The Company has no income tax provision, current or deferred, relating to U.S. federal, state or
local income taxes.
A reconciliation of income tax expense to the amount computed by applying the Federal income
tax rate to loss before provision for income taxes as of December 31, 2007, 2006 and 2005, is as follows:
Income tax credit at statutory rates
Nondeductible expenses
Tax benefit of exercise of non-qualified
stock options
State income tax, net of federal benefits
Foreign income taxes
Other
Benefit of net operating loss and foreign
tax credits not recognized,
Increase in valuation allowance
2007
$ (1,220,998)
8,571
2006
$ (1,760,462)
8,213
2005
$ (1,830,428)
8,094
-
(170,652)
-
(7,921)
-
(258,892)
-
(42,859)
(120,766)
(269,180)
-
19,280
1,391,000
$ -
2,054,000
$ -
2,193,000
$ -
F-18
Deferred income taxes reflect the net tax effects of temporary differences between the carrying
amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax
purposes. Significant components of the Company's deferred income taxes consist of the following:
Deferred tax assets:
Net operating loss carryforwards ..............................................
$ 28,372,000
$ 27,282,000
As of December 31,
2007
2006
Inventory and other allowances.................................................
Excess (tax) book depreciation..................................................
Excess (tax) book amortization
Other accrued costs ...................................................................
Total deferred tax assets.....................................................
157,000
(93,000)
41,000
292,000
28,769,000
151,000
(113,000)
41,000
275,000
27,636,000
Less: Valuation allowance
Deferred income taxes
(28,769,000)
$ —
(27,636,000)
$ —
The valuation allowance increased $1,391,000 and $2,054,000 for the years ended December 31,
2007 and 2006, respectively (net of $258,000 and $561,000, respectively for expiring net operating loss
carryforwards and expiring foreign tax credit carryforwards) due principally to the increase in the net
operating loss carryforward and uncertainty as to whether future taxable income will be generated prior to
the expiration of the carryforward period. Under the Internal Revenue Code, certain ownership changes,
including the prior issuance of preferred stock and the Company's public offering of common stock, may
subject the Company to annual limitations on the utilization of its net operating loss carryforward. As of
December 31, 2007, the amounts subject to limitations has not yet been determined.
The Company has net operating loss carryforwards for tax purposes of approximately
$72,750,000 on December 31, 2007, which expire between 2008 and 2027.
In July 2006, the FASB issued Interpretation No. 48 (FIN 48), “Accounting for Uncertainty in
Income Taxes, an interpretation of SFAS 109. FIN 48 clarifies the accounting for income taxes by
prescribing the minimum recognition threshold a tax position is required to meet before being recognized
in the financial statements. FIN 48 also provides guidance on derecognition, measurement, classification,
interest and penalties, accounting in interim periods, disclosure and transition. FIN 48 applies to all tax
positions related to income taxes. On January 1, 2007, the Company adopted the provisions of FIN 48.
The Company has not recorded a reserve for any tax positions for which the ultimate deductibility is
highly certain but for which there is uncertainty about the timing of such deductibility. The Company files
tax returns in all appropriate jurisdictions, which include a federal tax return and Illinois state tax return.
Open tax years for both jurisdictions are 2004 to 2006, which statutes expire in 2008 to 2010,
respectively. When and if applicable, potential interest and penalty costs are accrued as incurred, with
expenses recognized in selling, general and administrative expenses in the statements of operations. As of
December 31, 2007, the Company has no liability for unrecognized tax benefits. The adoption and
implementation of FIN 48 had no effect on the Company’s loss from operations, net loss or basic and
diluted loss per share for the period ended December 31, 2007.
(12) Capital Stock
In October 1998, pursuant to a Stockholder Rights Agreement between Nanophase and LaSalle
National Association, as Rights Agent, the Company declared a dividend of one Preferred Stock Purchase
Right (a "Right") for each outstanding share of Company common stock on November 10, 1998 and each
share of common stock issued by the Company after such date. The Rights are not presently exercisable.
Each Right entitles the holder, upon the occurrence of certain specified events, to purchase from the
F-19
Company one ten-thousandth of a share of the Company's Series A Junior Participating Preferred Stock at
a purchase price of $25 per one-ten thousandth of a share (the "Purchase Price"). The Rights further
provide that each Right will entitle the holder, upon the occurrence of certain specified events, to
purchase from the Company, common stock having a value of twice the Purchase Price and, upon the
occurrence of certain other specified events, to purchase from another entity into which the Company is
merged or which acquires 50% or more of the Company's assets or earnings power, common stock of
such other entity having a value of twice the Purchase Price. In general, the Rights may be redeemed by
the Company at a price of $0.01 per Right. The Rights expire on October 28, 2008. On September 5,
2003, in anticipation of the September 8, 2003 private placement to Grace Brothers Ltd., the Company
amended its existing Stockholder Rights Agreement to revise the beneficial ownership threshold at which
a person or group of persons becomes an “acquiring person” and triggers certain provisions under the
Stockholder Rights Agreement. As revised, a person or group would become an “acquiring person” if that
person or group becomes the beneficial owner of 35% or more of the outstanding shares of the
Company’s stock. Prior to this amendment, the beneficial ownership threshold was 25%.
On March 23, 2004, the Company sold, in a private placement to Altana, 1,256,281 shares of
common stock at $7.96 per share and received gross proceeds of $10.0 million. In accordance with the
terms of such private placement, on February 5, 2007, the Company filed a registration statement for the
1,256,281 shares. Such registration statement was declared effective by the Securities and Exchange
Commission on May 18, 2007. While the Company had obligations to Altana with respect to the
effectiveness of this registration statement, Altana would not have the ability to settle such shares in cash
if such registration statement was not declared effective and, accordingly, the Company had treated the
shares purchased by Altana as permanent equity on its balance sheet (i.e., as additional paid-in capital).
On August 25, 2006, the Company sold, in a private placement to RHEM, 847,918 shares of
unregistered common stock at $5.8968 per share and received gross proceeds of $5.0 million. The
Company is obligated to prepare a registration statement within five business days of the second
anniversary of this transaction to be filed with the SEC. While the Company has obligations to RHEM
with respect to the effectiveness of this registration statement, RHEM would not have the ability to settle
such shares in cash if such registration statement is not declared effective and, accordingly, the Company
has treated the shares purchased by RHEM as permanent equity on its balance sheet (i.e., as additional
paid-in capital).
On July 27, 2006, the Company amended its Certificate of Incorporation to increase its authorized
shares of common stock to 30,000,000.
On July 2, 2007, the Company issued and sold 1,900,000 shares of common stock to certain
institutional investors at a purchase price of $5.92 per share and received gross proceeds of $11.2 million.
As of December 31, 2007 and 2006, the Company has 24,088 authorized shares of preferred
stock, of which 2,500 shares have been designated as Series A Junior Participating Preferred Stock and
reserved for issuance in connection with the Rights described above. Shares of Series A Junior
Participating Preferred Stock are nonredeemable and subordinate to any other series of the Company's
preferred stock, unless otherwise provided for in the terms of the preferred stock; has a preferential
dividend in an amount equal to 10,000 times any dividend declared on each share of common stock; has
10,000 votes per share, voting together with the Company's common stock; and in the event of
liquidation, entitles its holder to receive a preferred liquidation payment equal to 10,000 times the
payment made per share of common stock. In addition, as of December 31, 2007, 2,420,213 authorized
but unissued shares of common stock have been reserved for future issuance upon exercise of stock
options.
(13)
Stock Options and Stock Grants
The Company has entered into stock option agreements with certain officers, employees,
directors and three members of the Company’s former Advisory Board. On December 31, 2007, the
F-20
Company had outstanding options to purchase 1,672,214 shares of common stock. The stock options
generally expire ten years from the date of grant. Of the total number of exercisable options, 258,320 of
the outstanding options vest over a five-year period and 954,697 vest over a three-year period from their
respective grant dates.
Share-Based Compensation
Prior to January 1, 2006, the Company accounted for its stock option plan under the recognition
and measurement provisions of APB Opinion No. 25, Accounting for Stock Issued to Employees and
related Interpretations, as permitted by FASB Statement No. 123, Accounting for Stock-Based
Compensation. No stock option-based employee compensation cost was recognized in the Statement of
Operations for year ended December 31, 2005, as all options granted under those plans had an exercise
price equal to the market value of the underlying common stock on date of grant. Effective January 1,
2006, the Company adopted the fair value recognition provisions of FASB Statement No. 123(R), Share-
Based Payment, using the modified-prospective-transition method. Under that transition method,
compensation cost recognized for the years ended December 31, 2007 and 2006 includes: (a)
compensation cost for all share-based payments granted prior to, but not yet vested on January 1, 2006,
based on the grant date fair value estimated in accordance with the original provisions of Statement 123,
and (b) compensation cost for all share-based payments granted subsequent to January 1, 2006, based on
the grant-date fair value estimated in accordance with the provisions of Statement 123(R). Results for the
prior period have not been restated.
The effect of adopting Statement 123(R) was to increase the Company’s loss from operations, loss
before provision for income taxes and net loss for the years ended December 31, 2007 and 2006 increased
by $481,431 and $382,791. As a result of adopting Statement 123(R), basic and diluted earnings per share
for each of the years ended December 31, 2007 and 2006 decreased by ($.02).
Compensation expense is recognized only for share-based payments expected to vest. The
Company estimates forfeitures at the date of grant based on the Company’s historical experience and future
expectations. Prior to the adoption of SFAS 123(R), the effect of forfeitures on the pro forma expense was
recognized based on estimated forfeitures.
As of December 31, 2007, there was approximately $1,403,000 of total unrecognized compensation
cost related to nonvested share-based compensation arrangements granted under the Company’s stock
option plans. That cost is expected to be recognized over a remaining weighted-average period of 3.6 years.
The following table illustrates the effect on net income and earnings per share if the Company had
applied the fair value recognition provisions of SFAS No. 123 to options granted under the Company’s stock
option plan presented on December 31, 2005. For purposes of this pro forma disclosure, the value of the
options is estimated using a Black-Scholes option-pricing formula and amortize to expense over the option
vesting periods.
Net Loss:
As reported
Deduct total stock-based employee
compensation expense determined under fair
value based method for all awards
Pro forma net loss
Loss per share:
Basic and diluted - As reported
Basic and diluted – Pro forma
Year Ended
December 31,
2005
$(5,383,611)
(491,690)
$(5,875,301)
(0.30)
(0.33)
F-21
Fair Value and Assumptions Used to Calculate Fair Value under SFAS 123 (R) and SFAS 123
The following table illustrates the various assumptions used to calculate
the Black-Scholes option pricing model for all years presented:
Years Ended December 31,
2007
2006
2005
Weighted-average risk-free
interest rates:
4.16%
4.76%
Dividend yield:
0.00%
0.00%
4.68%
0.00%
Weighted-average expected life of
the option:
Weighted-average expected stock
price volatility:
Weighted-average fair value of
the options granted:
7 years
7 years
7 years
78.31%
62.07%
78.79%
$3.68
$3.67
$4.50
Under SFAS No. 123(R), the Company will continue to use the Black−Scholes option pricing
model to determine the fair value of stock based compensation. The Black−Scholes model requires the
Company to make several assumptions, including the estimated length of time employees will retain their
vested stock options before exercising them (“expected term”), the estimated volatility of the Company’s
common stock price over the expected term and estimated forfeitures. Expected price volatility of the
fiscal 2007 and 2006 grants is based on the daily market rate changes of the Company’s stock going back
to January 1, 1998. The shares granted in fiscal 2007 and 2006 had a vesting period of either three or five
years and a contractual life of 10 years. Forfeitures were estimated at 5.5% based on the Company’s
historical experience. The Black−Scholes model also requires a risk free interest rate, which is based on
the U.S. Treasury yield curve in effect at the time of the grant, and the dividend yield on the Company’s
common stock, which is assumed to be zero since the Company does not pay dividends and has no
current plans to do so in the future. Changes in these assumptions can materially affect the estimate of fair
value of stock based compensation and consequently, the related expense recognized on the condensed
consolidated statement of operations. The Company recognizes stock based compensation expense on a
straight-line basis.
Employees Stock Options and Stock Grants
For the year ended December 31, 2007, 159,731 shares of Common Stock were issued pursuant to
option exercises compared to 148,547 and 81,110 shares of Common Stock for the same period in 2006 and
2005, respectively. For the year ended December 31, 2007, 320,000 shares of stock options were granted
compared to 201,000 and 100,000 shares granted for the same period in 2006 and 2005, respectively. For
the year ended December 31, 2007, 23,244 shares were issued in the form of restricted stock grant to the
Company’s outside directors compared to 22,524 and 0 in 2006 and 2005.
The following table summarizes the Company’s option activity for Nanophase Technologies
Corporation employees and directors during the years ended December 31, 2007, 2006 and 2005:
F-22
Weighted
Average
Exercise
Price per
Share
Weighted
Average
Remaining
Contractual
Term
(years)
Aggregate
Intrinsic
Value
$5.79
$6.03
$3.06
$6.62
$5.92
$5.99
$3.47
$4.33
$6.14
$4.95
$4.48
$7.54
Shares
1,741,092
100,000
(81,110)
(15,750)
1,744,232
201,000
(148,547)
(12,502)
1,784,183
320,000
(159,731)
(272,238)
1,672,214
$5.84
5.16
$254,857
1,213,017
$6.06
3.61
$253,417
Options
Outstanding on January 1, 2005
Granted
Exercised
Forfeited or expired
Outstanding on December 31,
2005
Granted
Exercised
Forfeited or expired
Outstanding on December 31,
2006
Granted
Exercised
Forfeited or expired
Outstanding on December 31,
2007
Exercisable on December 31,
2007
Shares available for grant
852,231
The aggregate intrinsic value in the table above is before income taxes, based on Nanophase’s
closing stock price of $3.80 on the last business day for the period ended December 31, 2007.
During the years ended December 31, 2007, 2006 and 2005 the total intrinsic value of Nanophase
stock options exercised was $343,434, $490,762 and $309,657, respectively. Cash received for option
exercises was $696,735, $515,240 and $247,824 during the years ended December 31, 2007, 2006 and
2005. Based on the Company’s election of the “with and without” approach, no realized tax benefits from
stock options were recognized for the years ended December 31, 2007, 2006 and 2005.
Restricted Stock
For the years ended December 31, 2007 and 2006, the Company was to grant each outside
director 3,874 and 3,754 shares of deferred common stock totaling 23,244 and 22,524 shares under the
Company’s 2005 Non-Employee Director Restricted Stock Plan. However, each outside director elected
to defer receipt of the restricted stock until the termination of their services to the Company. The deferral
of restricted stock is being accounted for under the Company’s Non-Employee Director Deferred
Compensation Plan. The fair value of the awards granted in each of 2007 and 2006 was $144,000 for the
restricted share rights and is included in stock-based compensation expense for the years ending
December 31, 2007 and 2006 compared to $0 for the same period in 2005.
In September 2005 and October 2004, the Company granted a total of 66,666 (33,333 each year)
shares of restricted stock at market value consisting of 33,332 restricted share rights and 33,334
performance share rights, respectively. Grant date fair value was $5.55 for the September 2005 grant and
F-23
$6.03 for the October 2004 grant, respectively. The Company uses an estimated forfeiture rate of 5.5% for
both the restricted and performance shares. On October 30, 2007, 9,512 restricted shares from the October
2004 grant vested at $4.80. The fair value of shares vested during 2007 was approximately $36,200. The
performance share rights granted on October 2004 terminated due to the Company not meeting certain
performance goals or milestones on or before October 30, 2007. A summary of the status of the
Company’s nonvested restricted shares as of December 31, 2007 is presented below:
# of Restricted Shares
Weighted Average Remaining
Life on Unvested Shares
Unrecognized Compensation
Cost
12,066
.74
$20,411
For the years ended December 31, 2007, 2006 and 2005, the stock-based compensation expense
was $20,790, $58,328 and $39,025 for the restricted share rights. A summary of the status of the
Company’s nonvested performance share rights as of December 31, 2007 is presented below:
# of Performance Shares
Weighted Average Remaining
Life on Unvested Shares
Unrecognized Compensation
Cost
12,067
1.08
-
For the years ended December 31, 2007, 2006 and 2005 the stock-based compensation (recovery)
expense was ($71,471), $55,757 and $34,284 for the performance share rights. Compensation expense for
performance share rights is based upon management’s estimate of the number of share rights that will
eventually vest.
(14)
401(k) Profit-Sharing Plan
The Company has a 401(k) profit-sharing plan covering substantially all employees who meet
defined service requirements. In 2004, the Company amended its 401(k) plan providing for deferred
salary contributions by the plan participants and maximum contributions by the Company of 100% of the
first 3% and 50% of the next 2% of the participant’s salary. The Company contributions under this plan
were $165,632, $166,781 and $131,137 for the years ended December 31, 2007, 2006 and 2005,
respectively.
(15)
Significant Customers and Contingencies
Revenue from three customers constituted approximately 48.7%, 25.2% and 12.4%, respectively,
of the Company’s 2007 revenue. Amounts included in accounts receivable on December 31, 2007 relating
to these three customers were approximately $644,000, $63,000 and $0, respectively. Revenue from these
three customers constituted approximately 56.1%, 22.1% and 2.8%, respectively, of the Company's 2006
revenue. Amounts included in accounts receivable on December 31, 2006 relating to these three
customers were approximately $619,000, $289,000 and $45,000, respectively. Revenue from these three
same customers constituted approximately 65.8%, 1.0% and 2.0%, respectively, of the Company’s 2005
revenue.
The Company currently has supply agreements with BASF Corporation ("BASF"), the
Company’s largest customer, and Rohm and Haas Electronic Materials CMP, Inc. (“RHEM”), as well as
a technology development agreement with Altana Chemie, that have contingencies outlined in them
which could potentially result in the license of technology and/or the sale of production equipment,
F-24
providing capacity sufficient to meet the customer’s production needs, from the Company to the
customer, if triggered by the Company’s failure to meet certain performance requirements, certain other
obligations and/or certain financial condition covenants. The financial condition covenants in one of the
Company’s supply agreement with its largest customer, as amended, “triggers” a technology transfer
(license or, optionally, an equipment sale) in the event (a) that earnings of the Company for a twelve
month period ending with its most recently published quarterly financial statements are less than zero and
its cash, cash equivalents and investments are less than $2,000,000, (b) of an acceleration of any debt
maturity having a principal amount of more than $10,000,000, or (c) of the Company’s insolvency, as
further defined within the agreement. In the event of an equipment sale, upon incurring a triggering
event, the equipment would be sold to the customer at 115% of the equipment’s net book value. Under
another of the Company’s supply agreements with BASF, upon the Company’s breach of its contractual
obligations to BASF, the Company would be required to sell BASF certain production equipment at the
greater of 30% of the original book value of such equipment, and any associated upgrades to it, or 115%
of the equipment’s net book value.
The Company believes that it has sufficient cash and investment balances to avoid the first
triggering event under the supply agreement with BASF for the foreseeable future. If a triggering event
were to occur and BASF elected to proceed with the license and related sale mentioned above, the
Company would receive royalty payments from this customer for products sold using the Company’s
technology; however, the Company would lose both significant revenue and the ability to generate
significant revenue to replace that which was lost in the near term. Replacement of necessary equipment
that could be purchased and removed by the customer pursuant to this triggering event could take in
excess of twelve months. Any additional capital outlays required to rebuild capacity would probably be
greater than the proceeds from the purchase of the assets as dictated by the Company’s agreement with
the customer. Similar consequences would occur if the Company were determined to have materially
breached certain other provisions of its supply agreement with BASF, its supply agreement with RHEM
or the Company's technology development agreement with Altana Chemie. Any such event would also
result in the loss of many of the Company’s key staff and line employees due to economic realities. The
Company believes that its employees are a critical component of its success and could be difficult to
replace and train quickly. Given the occurrence of any such event, the Company might not be able to hire
and retain skilled employees given the stigma relating to such an event and its impact on the Company.
(16)
Business Segmentation and Geographical Distribution
Revenue from international sources approximated $641,600, $664,500 and $1,094,200 for the
years ended December 31, 2007, 2006 and 2005, respectively. As part of its revenue from international
sources, the Company recognized approximately $203,700 and $73,700 in product revenue from several
German and United Kingdom companies respectively, and $300,000 in other revenue from a technology
license fee from its Japanese licensee for the year ended December 31, 2007. Revenue from these same
international sources approximated $249,800, $8,400 and $300,000 for the year ended December 31, 2006,
compared to $479,400, $27,200 and $306,800 for the same period in 2005, respectively. The $300,000
technology license fee typically received every twelve months from our Japanese licensee is included in
each of the three years presented.
The Company’s operations comprise a single business segment and all of the Company’s long-
lived assets are located within the United States.
(17) Administrative Actions
An unidentified party filed three Petitions to Request a Reexamination of US Patent No.
6,669,823 B1 in the U.S. Patent and Trademark Office, or USPTO. US Patent No. 6,669,823 B1 relates
to certain parts of one of the Company’s nanoparticle manufacturing processes, NanoArc® Synthesis.
After substantial prosecution of the reexaminations, the USPTO on February 5, 2008 issued an Ex Parte
Reexamination Certificate wherein the USPTO cancelled all of the claims in the patent. As a result, the
F-25
Company's legal protection of the invention that was subject to the reexamination now has been limited.
However, the Company will still be able to conduct its business as currently conducted, including its use
of the technology that was the subject of the reexamined patent claims. While the Company does not
agree with the USPTO’s reasons for canceling the claims of the patent, the Company does not believe that
the cancellation of the claims protected by the Company’s patent materially alters the competitive
environment in which the Company operates or results in a material loss.
(18)
Lease Accounting Adjustment
Along with many other companies with leased properties in 2005, Nanophase reviewed its
policies with respect to leasing transactions. Following this review, the Company corrected an error in its
prior accounting practices to conform the lease term used in calculating straight-line rent expense with the
useful lives used to amortize improvements on leased property. The result of this correction was
primarily to accelerate the recognition of rent expense under its lease for the Romeoville headquarters that
included fixed rent escalations by revising the computation of straight-line rent expense to include those
escalations for certain option periods. As the correction related solely to accounting treatment, it had no
effect on Nanophase’s historical or future cash flows or the timing of payments under the related lease.
Had the Company, from the inception of the lease in June 2000, correctly calculated its straight-line rent
expense, the effect would have been an increase in rent of approximately $13,220 per quarter. This
quarterly effect, and the annualized effect, of this adjustment were immaterial to the Company’s 2005
earnings per share. The total amount of this expense was $279,810 and was expensed in the third quarter
of 2005.
F-26
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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, on the 14th day of March, 2008.
NANOPHASE TECHNOLOGIES CORPORATION
By:
/s/ Joseph Cross
Joseph Cross
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed
below by the following persons on behalf of the registrant and in the capacities indicated on the 14th day
of March, 2008.
Signature
/s/ Joseph Cross
Joseph Cross
/s/ Jess Jankowski
Jess Jankowski
/s/ Donald S. Perkins
Donald S. Perkins
/s/ James A. Henderson
James A. Henderson
/s/ James A. McClung
James A. McClung
/s/ Jerry Pearlman
Jerry Pearlman
/s/ Richard W. Siegel
Richard W. Siegel
/s/ George Vincent
George Vincent
/s/ R. Janet Whitmore
R. Janet Whitmore
Title
President, Chief Executive Officer (Principal
Executive Officer) and a Director
Chief Financial Officer, Treasurer and
Secretary (Principal Financial and Accounting
Officer)
Chairman of the Board and Director
Director
Director
Director
Director
Director
Director
23.1 Consent of McGladrey & Pullen, LLP.
EXHIBIT INDEX
31.1 Certification of Chief Executive Officer pursuant to Rules 13a-14(a) and 15d-14(a) under
the Exchange Act.
31.2 Certification of the Chief Financial Officer pursuant to Rules 13a-14(a) and 15d-14(a)
under the Exchange Act.
32
Certification of the Chief Executive Officer and Chief Financial Officer pursuant to 18
U.S.C. Section 1350.
Certification of the Chief Executive Officer
Pursuant to
Rules 13a-14(a) and 15d-14(a) under the Exchange Act
Exhibit 31.1
I, Joseph Cross, certify that:
1.
I have reviewed this annual report on Form 10-K of Nanophase Technologies
Corporation;
2.
Based on my knowledge, this 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 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(s) 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
15(d)-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 (the registrant’s
fourth fiscal quarter in the case of an annual report) 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(s) 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 (or persons performing the equivalent function):
(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 14, 2008
JOSEPH E. CROSS
/s/
Joseph E. Cross
Chief Executive Officer
Certification of the Chief Financial Officer
Pursuant to
Rules 13a-14(a) and 15d-14(a) under the Exchange Act
Exhibit 31.2
I, Jess Jankowski, certify that:
1.
I have reviewed this annual report on Form 10-K of Nanophase Technologies
Corporation;
2.
Based on my knowledge, this 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 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(s) 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
15(d)-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 (the registrant’s
fourth fiscal quarter in the case of an annual report) 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(s) 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 (or persons performing the equivalent function):
(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 14, 2008
/s/
JESS A. JANKOWSKI
Jess A. Jankowski
Chief Financial Officer
Exhibit 32
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 this annual report of Nanophase Technologies Corporation (the “Company”)
on Form 10-K for the year ending December 31, 2007 as filed with the Securities and Exchange
Commission on the date hereof (the “Report”), we, Joseph E. Cross, Chief Executive Officer of the
Company, and Jess A. Jankowski, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C.
§ 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to our 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 14, 2008
/s/
JOSEPH E. CROSS
Joseph E. Cross
Chief Executive Officer
/s/
JESS A. JANKOWSKI
Jess A. Jankowski
Chief Financial Officer
Exhibit 23.1
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We consent to the incorporation by reference in Registration Statements (No. 333-53445, No.
333-74170 and No. 333-119466) on Form S-8, and Registration Statements (No. 333-90326, No. 333-
112130, No. 333-116224, No. 333-140461 and No. 333-143153) on Form S-3, of Nanophase
Technologies Corporation of our report dated March 14, 2008 relating to our audits of the financial
statements and internal control over financial reporting, which appear in the Annual Report to
Shareholders, which is incorporated in this Annual Report on Form 10-K of Nanophase Technologies
Corporation for the year ended December 31, 2007.
/s/ McGladrey & Pullen LLP
Schaumburg, Illinois
March 14, 2008
nanophase technologies corporation
1319 Marquette Drive
Romeoville, Illinois 60446
phone: 630.771.6700
fax: 630.771.0825
investor relations: 630.771.6708
www.nanophase.com