TABLE OF CONTENTS
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2019
or
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
For the transition period from to
Commission File Number: 001-33852
VirnetX Holding Corporation
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction of incorporation or
organization)
308 Dorla Court, Suite 206
Zephyr Cove, Nevada
(Address of principal executive offices)
77-0390628
(I.R.S. Employer Identification No.)
89448
(Zip Code)
Registrant’s telephone number, including area code: 775-548-1785
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common Stock, par value $0.0001 per share
VHC
NYSE American LLC
Securities registered pursuant to section 12(g) of the Act:
None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o No ☒
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 o No ☒
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and
(2) has been subject to such filing requirements for the past 90 days. Yes ☒ No o
Indicate by check mark whether the registrant has submitted electronically, every Interactive Data File required to be submitted
pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit such files). Yes ☒ No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting
company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,”
and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer o
Emerging growth company o
Accelerated filer ☒
Smaller reporting company ☒
Non-accelerated filer o
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for
complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No ☒
The aggregate market value of the voting and non-voting common equity held by non-affiliates of the Registrant as of June 30, 2019,
was $380,524,606 based upon the closing price of the common shares of the Registrant on June 28, 2019. This calculation does not reflect
a determination that certain persons are affiliates of the Registrant for any other purpose.
70,787,455 shares of Registrant’s Common Stock were outstanding as of March 11, 2020.
DOCUMENTS INCORPORATED BY REFERENCE
The information required by Part III of this Annual Report on Form 10-K, to the extent not set forth herein, is incorporated by
reference from the Registrant’s definitive proxy statement to be filed with the Securities and Exchange Commission not later than 120 days
after December 31, 2019 relating to the Registrant’s 2020 Annual Meeting of Stockholders.
TABLE OF CONTENTS
Item 1.
Item 1A.
Item 1B.
Item 2.
Item 3.
Item 4.
Business
Risk Factors
Unresolved Staff Comments
Properties
Legal Proceedings
Mine Safety Disclosure
INDEX
PART I
PART II
Item 5.
Item 6.
Item 7.
Item 7A.
Item 8.
Item 9.
Item 9A.
Item 9B.
Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of
Equity Securities
Selected Financial Data
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Quantitative and Qualitative Disclosures about Market Risk
Financial Statements and Supplementary Data
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Controls and Procedures
Other Information
PART III
Item 10.
Item 11.
Item 12.
Item 13.
Item 14.
Directors, Executive Officers and Corporate Governance
Executive Compensation
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Certain Relationships and Related Transactions, and Director Independence
Principal Accountant Fees and Services
Item 15.
Exhibits and Financial Statement Schedules
PART IV
1
Page
4
14
26
26
27
30
31
31
31
42
43
65
65
65
66
66
66
66
66
67
TABLE OF CONTENTS
SPECIAL NOTE REGARDING FORWARD LOOKING STATEMENTS
We have included or incorporated by reference in this Annual Report on Form 10-K (including in the section entitled Management’s
Discussion and Analysis of Financial Condition and Results of Operations), and from time to time we may make statements that
may constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements are based upon our current
expectations, estimates, assumptions and beliefs concerning future events and conditions and may discuss, among other things,
anticipated future performance (including sales and earnings), expected growth, future business plans and costs and the impact of
potential and ongoing litigation. Any statement that is not historical in nature is a forward-looking statement and may be identified
by the use of words and phrases such as “anticipates,” “believes,” “estimates,” “expects,” “intends,” “plans,” “predicts,” “projects,”
“will be,” “will continue,” “will likely result in,” and similar expressions. These statements include our beliefs and statements
regarding general industry and market conditions and growth rates, as well as general domestic and international economic
conditions. Readers are cautioned not to place undue reliance on forward-looking statements. Forward-looking statements are
necessarily subject to risks, uncertainties and other factors, many of which are outside our control, which could cause actual results
to differ materially from such statements and from our historical results and experience. These risks, uncertainties and other factors
include, but are not limited to those described in Item 1A - Risk Factors of this Annual Report and elsewhere in this Report and
those described from time to time in our future reports filed with the Securities and Exchange Commission. Readers are cautioned
that it is not possible to predict or identify all the risks, uncertainties and other factors that may affect future results and that the risks
described herein should not be considered to be a complete list. Any forward-looking statement speaks only as of the date on which
such statement is made, and we undertake no obligation to update or revise any forward-looking statement, whether as a result of
new information, future events or otherwise.
Among others, the forward-looking statements appearing in this Annual Report that may not occur include statements that:
•
•
In the VirnetX Inc. v. Apple, Inc. (Case Nos. 6:11-cv-00563-RWS, 6:12-cv-00855-RWS) (“Apple II”) litigation, in
November 2019, the United States Court of Appeals for the Federal Circuit (the “Federal Circuit”) affirmed-in-part and
reversed-in-part the judgement issued by the United States District Court for the Eastern District of Texas (the “district
court”) in the case awarding VirnetX damages of $595.9 million. The Federal Circuit affirmed the district court’s ruling
that Apple Inc. (“Apple”) was precluded from challenging the validity of the asserted patents, and also affirmed the jury’s
finding of infringement with respect to Apple’s VPN on Demand feature. The Federal Circuit reversed, however, the
finding of infringement with respect to Apple’s FaceTime feature. The Federal Circuit remanded to the district court for an
assessment of whether, given that only VPN on Demand infringed, the district court could enter a new judgment based on
the prior jury verdict or whether a new trial was required on damages. The district court has not yet ruled on remand. The
outcome in the district court will affect the total amount of the judgment under the jury’s verdict or may result in a new
trial on damages. In addition, the patents in issue are being challenged in the United States Patent and Trademark Office. If
those challenges are successful, they could also impact the award in the case. The continuation of this litigation, as well as
the Apple I litigation discussed below, is distracting to our management and expensive, and this distraction and expense
may continue.
In the VirnetX Inc. v. Cisco Systems, Inc. et al. (Case 6:10-CV-00417-LED) (“Apple I”) litigation, we have been awarded
total damages in the amount of $439.8 million. On February 24, 2020, the United States Supreme Court denied Apple’s
petition for certiorari with respect to the final judgment awarded in that case. Under a stipulation filed in the case, Apple
agreed to pay any payments then due under the judgment within 20 days of completion of any appeal from the judgment in
this matter. Accordingly, on March 13, 2020, we received final payment of $454,033,859.87 from Apple, representing the
previously announced final judgment with interest in the case. Apple has filed a motion in the district court seeking to
vacate the district court’s final judgment and has indicated that it will seek restitution of the payment if relief is awarded.
Although the Company believes Apple’s motion is without merit, the district court has not yet ruled on this motion. We
cannot assure that Apple will not continue to challenge and seek reimbursement of the payment.
• We have undertaken activities to commercialize our products and patent portfolio in and outside the United States. These
statements may imply that the worldwide market for our commercialized products is large and
2
TABLE OF CONTENTS
will result in significant future revenues for us. However, commercialization of products such as ours are subject to
significant obstacles and risks, including but not limited to a perception by some potential partners and customers that
they should await the outcome of the Apple I and Apple II litigations before entering or considering to enter any
agreement with us, and that or other factors may lead us to be unsuccessful in obtaining further licensing agreements or
making arrangements or entering contracts which create significant future revenues for us.
EXCEPT AS REQUIRED BY LAW, WE UNDERTAKE NO OBLIGATION TO UPDATE OR REVISE ANY FORWARD-
LOOKING STATEMENT AS A RESULT OF NEW INFORMATION, FUTURE EVENTS OR OTHERWISE.
3
TABLE OF CONTENTS
Item 1.
Business
The Company
PART I
We are an Internet security software and technology company with patented technology for secure communications including 5G
and 4G LTE security. Our software and technology solutions, including our Secure Domain Name Registry and GABRIEL
Connection Technology™, are designed to facilitate secure communications and provide the security platform required by next-
generation Internet-based applications such as instant messaging, or IM, voice over Internet protocol, or VoIP, mobile services,
streaming video, file transfer, remote desktop and Machine-to-Machine, or M2M communications. Our technology generates secure
connections on a “zero-click” or “single-click” basis, significantly simplifying the deployment of secure real-time communication
solutions by eliminating the need for end-users to enter any encryption information. Our portfolio of intellectual property is the
foundation of our business model. We currently own approximately 194 total patents and pending applications, including 70 U.S.
patents/patent applications and 124 foreign patents/validations/pending applications. Our patent portfolio is primarily focused on
securing real-time communications over the Internet, as well as related services such as the establishment and maintenance of a
secure domain name registry. Our patented methods also have additional applications in the key areas of device operating systems
and network security for Cloud services, M2M communications in the new initiatives like “Smart City”, “Connected Car” and
“Connected Home” that would connect everything from social services and citizen engagement to public safety, transportation and
economic development to the internet to enable more productivity, features and efficiency in our everyday lives. The subject matter
of all our U.S. and foreign patents and pending applications relates generally to securing communication over the internet, and as
such covers all our technology and other products. Our issued U.S. and foreign patents expire at various times during the period
from 2020 to 2024. Some of our issued patents and pending patent applications were acquired by our principal operating subsidiary;
VirnetX, Inc., from Leidos, Inc., or Leidos, (f/k/a Science Applications International Corporation, or SAIC) in 2006 and we are
required to make payments to Leidos, based on cash or certain other values generated from those patents. The amount of such
payments depends upon the type of value generated, and certain categories are subject to maximums and other limitations.
Our product GABRIEL Secure Communication Platform™ includes a set of sophisticated software libraries with application
interfaces available for securing third-party applications seamlessly across multiple operating system platforms. Unlike other
collaboration and communication products and services on the market today, this product does not require access to user’s
confidential data and reduces the threat of hacking and data mining. It enables individuals and organizations to maintain complete
ownership and control over their personal and confidential data, secured within their own private network, while enabling
authorized secure encrypted access from anywhere at any time.
Our GABRIEL Gateway product extends our Secure Communication Platform™ by allowing existing Networked Devices and
Services to seamlessly join the “GABRIEL SECURED” network without requiring any modifications. All these devices or services,
including cloud based services, can now be assigned a VirnetX Secure Domain Name and use a fully authenticated secure
communication channels for its communications.
Our GABRIEL Collaboration Suite™ is a set of communication tools that use our GABRIEL Secure Communication Platform™. It
enables seamless and secure cross-platform communications between devices that are enrolled in our security fabric and have our
software installed. Our GABRIEL Collaboration Suite™ is available for download and free trial, for Android, iOS, Windows, Linux
and Mac OS X platforms, at http://www.gabrielsecure.com/. We continue to enhance our products and add new functionality to our
products. We will provide updates to new and existing customers as they are released to the general public. A large number of small
and medium businesses have installed our GABRIEL Secure Communication Platform™ and GABRIEL Collaboration Suite™
products in their corporate networks. We intend to continue to expand our customer base with targeted promotions and direct sales
initiatives.
We are actively recruiting partners in various vertical markets including, healthcare, finance, government, etc., to help us rapidly
expand our enterprise customer base. A number of International Association of Certified ISAO (IACI) including ISAO's for
Maritime & Ports ISAO, Credit Union ISAO, City of Chicago ISAO, Human Trafficking ISAO, have chosen to deploy our software
as private and secure e-technology to protect their communications. Several other ISAOs are completing their evaluations before
deploying our products within their networks.
4
TABLE OF CONTENTS
We have executed a number of patent and technology licenses and intend to seek further licensees for our technology, including our
GABRIEL Connection Technology™ to original equipment manufacturers, or OEMs, of chips, servers, smart phones, tablets, e-
Readers, laptops, net books and other devices, within the IP-telephony, mobility, fixed-mobile convergence and unified
communications markets including 5G and 4G/LTE Advanced.
We have submitted a declaration with the 3rd Generation Partnership Project, or 3GPP, identifying a group of our patents and patent
applications that we believe are or may become essential to certain developing specifications in the 3GPP LTE, Systems
Architecture Evolution, or SAE project. We have agreed to make available a non-exclusive patent license under fair, reasonable and
non-discriminatory terms and conditions, with compensation, or FRAND, to 3GPP members desiring to implement the technical
specifications identified by us. We believe that we are positioned to license our essential security patents to 3GPP members as they
move into deploying 5G and 4G/LTE Advanced devices and solutions.
We have an ongoing GABRIEL Licensing Program under which we offer licenses to a portion of our patent portfolio, technology
and software, including our secure domain name registry service, to domain infrastructure providers, communication service
providers as well as to system integrators. Our GABRIEL Connection Technology™ License is offered to OEM customers who
want to adopt the GABRIEL Connection Technology™ as their solution for establishing secure connections using secure domain
names within their products. We have developed GABRIEL Connection Technology™ Software Development Kit (SDK) to assist
with rapid integration of these techniques into existing software implementations with minimal code changes and include object
libraries, sample code, testing and quality assurance tools and the supporting documentation necessary for a customer to implement
our technology. Customers who want to develop their own implementation of the VirnetX patented techniques for supporting secure
domain names, or other techniques that are covered by our patent portfolio for establishing secure communication links, can
purchase a patent license. The number of patents licensed, and therefore the cost of the patent license to the customer, will depend
upon which of the patents are used in a particular product or service. These licenses will typically include an initial license fee, as
well as an ongoing royalty.
We have signed Patent License Agreements with Avaya Inc., Aastra USA, Inc., Microsoft Corporation, Mitel Networks
Corporation, NEC Corporation and NEC Corporation of America, Siemens Enterprise Communications GmbH & Co. KG, and
Siemens Enterprise Communications Inc. to license certain of our patents, for a one-time payment and/or an ongoing royalty for all
future sales through the expiration of the licensed patents with respect to certain current and future IP-encrypted products.
We believe that the market opportunity for our software and technology solutions is large and expanding as secure domain names
are now an integral part of securing the next generation 5G and 4G/LTE Advanced wireless networks and M2M communications in
areas including Smart City, Connected Car and Connected Home. We also believe that all 5G and 4G/LTE Advanced mobile devices
will require unique secure domain names and become part of a secure domain name registry.
We intend to continue to license our patent portfolio, technology and software, including our secure domain name registry service,
to domain infrastructure providers, communication service providers as well as to system integrators. We intend to seek further
license of our technology, including our GABRIEL Connection Technology™ to enterprise customers, developers and original
equipment manufacturers, or OEMs, of chips, servers, smart phones, tablets, e-Readers, laptops, net books and other devices, within
the IP-telephony, mobility, fixed-mobile convergence and unified communications markets including 5G and 4G/LTE.
Our employees include the core development team behind our patent portfolio, technology and software. This team has worked
together for over ten years and is the same team that invented and developed this technology while working at Leidos, Inc.
(“Leidos”). Leidos is a FORTUNE 500® scientific, engineering and technology applications company that uses its deep domain
knowledge to solve problems of vital importance to the nation and the world, in national security, energy and the environment,
critical infrastructure and health. The team has continued its research and development work started at Leidos and expanded the set
of patents we acquired in 2006 from Leidos, into a larger portfolio of approximately 194 U.S. and Foreign patents, patent
validations and pending applications. This portfolio now serves as the foundation of our licensing business and planned service
offerings and is expected to generate the majority of our future revenue in license fees and royalties. We intend to continue our
research and development efforts to further strengthen and expand our patent portfolio.
5
TABLE OF CONTENTS
Please see Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations – Operations –
Research and Development Expenses for a description of our research and development expenses for the past three fiscal years.
We intend to continue using an outsourced and leveraged model to maintain efficiency and manage costs as we grow our licensing
business by, for example, offering incentives to early licensing targets or asserting our rights for use of our patents. We also intend to
expand our design pilot in participation with leading 5G and 4G/LTE companies (domain infrastructure providers, chipset
manufacturers, service providers and others) and build our secure domain name registry.
Industry Overview
We believe that the rapid growth of mobile devices (smartphones/tablets/ultra-mobile PCs), with always-on network access, and
need to socially interact with friends and family while maintaining a constant online presence has transformed the “Internet of Web
2.0” into the “The Internet of the People”. It has become an evolving, rich and complex medium used by individuals and businesses
to conduct commerce, share information and engage in real-time communications including email, text messaging, IM, and voice
and video calls. We believe the user demand for high speed broadband access along with the quality of experience wherever they are
and whatever BYOD (bring your own device) they may be using; Mobility, IP video delivery, and the move to cloud have
dramatically changed the way service providers deliver services. While wireline networks remain the primary mechanism for
delivering premium and high bandwidth services, its growth has held steady compared to the growth of the mobile communications.
The cost barrier to obtaining a mobile device with data access has disappeared allowing billions of people to have online access on
fixed and mobile networks, and those users accessing social networking websites, using peer-to-peer, or P2P applications, and
uploading live content over the internet, which in turn is downloaded by billions, has led to significant growth in packet traffic. Not
only is traffic growing and changing in nature, its location of origin and timing has become completely unpredictable. There is a
significant impact on the mobile signaling network, brought on by smartphone penetration and consumer use of “chatty”
applications that conduct frequent network queries.
Before all the security issues related to the signaling protocols in 4G/Advanced LTE and other hybrid networks could be resolved,
some service providers are forging ahead with early deployments of the emerging 5G standard. The researchers are increasingly
worried that these existing vulnerabilities may get carried over into the 5G networks. Due to 5G’s high-speed bandwidth along with
billions of connected IoT devices with suspected SIM vulnerabilities, an insecure 5G network sets the stage for increasingly
widespread attacks with exponentially large number of available attack points. It’s not difficult to imagine a business using IoT
sensors within a factory setting and getting shut down due to a DDoS attack.
We believe that as the users become more comfortable with using their smartphones/tablets and other connected devices, they will
increasingly treat their mobile and fixed/WiFi networks as a single network and demand seamless transition from one network type
to another without any disruption of service. The 4G/LTE standard was developed with the goal of creating a single IP network that
is efficient, flexible, open up new business models and services revenues and eventually lead to true “virtual networks” or software-
defined networks (SDN). The service providers were forced to perform complete overhaul of their telecom network infrastructure in
order to move from TDM paradigm to next generation IP networks based on 4G/LTE for dealing with this rapidly growing demand.
Before these network overhauls could be completed, some service providers decided to label their hybrid 3.5G/HSPA+/partial LTE
implementations as 4G networks in order to mitigate the risk of losing revenue. We believe this has led to significant confusion and
misunderstanding among users.
Adding to the demand for mobile and fixed broadband services is the fast adoption of connected machines or devices, or embedded
systems capable of M2M communication. These M2M communications are made possible by a device (non-phone/tablet/pc such as
a sensor) that is attached to a machine to capture an event that is relayed over a network via 3G/4G routers or fixed broadband lines,
delivering data or events (such as temperature, location, consumption, heart rate, stress levels, light, movement, altitude and speed)
to applications creating an “Internet of Things” or IoT. As the service providers start deploying true 4G (Long Term Evolution-
Advanced, or LTE-Advanced) and this pace picks up, we believe that almost every device will get its own unique identity and a
high-speed connection to the internet over a high-speed IP (Internet Protocol) based telecommunication network making it an
“Internet of Everything”.
6
TABLE OF CONTENTS
We believe that growing security concerns and vulnerabilities in a large number of use-case scenarios due to the inherent “open”
nature of this architecture can throttle the successful adoption of these technologies. Security can no longer exist as a point solution,
and enterprises are currently upgrading core IT infrastructure (systems, networks, and management) to integrate security into
everything. Because of the complexity of today’s networks and the requirement to connect users from any location at any time on
any device, enterprise buyers looking to improve security posture have to evaluate everything from software solutions for
smartphones to routers and switches with integrated security, massive security appliances for data centers, cloud-based security
services, and security solutions for virtualized environments and public and private clouds.
We believe that telecommunication markets are rapidly changing and presenting new challenges to the equipment and service
providers, including but not limited to increasing user demand for mobile, always-on connections with multiple devices. We also
believe that traffic growth, video acceleration, cloud services and a rapidly growing number of subscribers challenge currently
available network architectures and that, because of this, service providers and carriers will eventually use a single network for fixed
and mobile communications, private/premium communications and Internet access, in spite of the difficulties involved challenging
their business models and forcing the consideration of new network architectures. We believe that LTE technology will deliver users
the benefits of faster data speeds and new services by creating a new radio access technology that’s optimized for IP-based traffic
and offers operators a simple upgrade path from 3G networks. Smartphones are multi-functional devices that handle a wide variety
of business-critical applications and support increasingly complex functions including enhanced data processing, Internet access, e-
mail access, calendars and scheduling, contact management and the ability to view electronic documents. Users have continual
access to these applications while on the move making them an increasingly essential business tool for the mobile worker. These
devices enable mobile workers to have similar functionality inside or outside the office thereby increasing employee efficiency.
However, it is critical that this mobile environment have the same level of security as an enterprise’s internal network.
Embedded mobile broadband computing devices include PCs, netbooks, tablets, and mobile Internet devices (MIDs) with embedded
mobile broadband modems to enable Internet access via a mobile broadband network. A growing number of these devices are now
shipping enabled with LTE/4G. Mobile Internet devices (MIDs) include handheld mobile Internet devices; e.g, eReader, gaming
console, digital picture frame, digital camera, with embedded mobile broadband modems. Mobile broadband routers have mobile
broadband modems or antenna as the broadband connection; have multiple Ethernet ports and integrated wireless access points for
local area connectivity and bandwidth sharing; can have integrated hub or switch; may have an integrated stateful firewall or IPSec
VPN and are also known as mobile hotspot routers.
Machine-to-Machine, or M2M, connected devices, or embedded systems; connected machines are fast becoming the eyes and ears
of the enterprise. By adding sensors and networking technologies to the products they sell and the equipment they employ,
companies are finding new ways to gather powerful insights and use new forms of data, thus creating a vast “internet of things”.
This communication is made possible by a device (such as an intelligent sensor) that is attached to a machine to capture an event,
such as such as temperature, location, consumption, heart rate, stress levels, light, movement, altitude and speed, that is relayed over
a network delivering data to applications. The potential applications for this technology are numerous and as such include smart
meters in energy and utilities (the “smart grid”), connected vehicles in automotive and logistics, heart monitors in healthcare, RFID
tagged inventory in retail and manufacturing, and digital signage in media and communications to name a few. Another fast-
growing application is in the wearable technology products namely, fitness and wellness, infotainment (information-based media
content), healthcare and medical, and industrial and military. The fitness and wellness segment comprise products like smart
clothing and smart sensors, activity monitors, sleep sensors and others, whereas the Infotainment sector consists of products like
smart watches, heads-up displays, smart glasses and others. The products like continuous glucose monitor, drug delivery, monitors,
wearable patches and others have been covered under healthcare and medical segment and products like hand worn terminals,
augmented reality headsets and others have been mentioned under industrial and military segment. We believe that the large revenue
potential for M2M services that has attracted the attention of carriers globally risks being thwarted by the growing security concerns
in M2M applications. Porous security is exposing vulnerabilities in a large number of use-case scenarios, including Automobiles,
energy management systems, telemedicine, and telemetry. While built-in security is a high priority in all other information and
communication technologies, it is yet to be considered, even at a basic level, in most M2M applications. The rapid and successful
adoption of M2M in automobiles, healthcare, industrial installations, and consumer homes may be jeopardized if communication
security is not designed in to all M2M devices and applications. All these new devices will require a unique identity addressable by
a secure domain name
7
TABLE OF CONTENTS
and all their communications, with application servers and other devices, completely secured automatically and on-demand. IP
mobility services require an environment where wired and wireless phones work together with Internet Protocol to deliver services
(voice, video, data and combinations thereof) uniformly across multiple access networks, including, among others, LTE, WiMAX,
WiFi cellular and fixed.
Voice over LTE (“VoLTE”) technology is the foundation for communication services on any device over LTE, Wi-Fi and 5G. VoLTE
is delivered via the IP Multimedia Subsystem (“IMS”) and enables operators to offer high-quality, simultaneous voice and LTE data
services on smartphones and other devices. There are currently more than 1,000 VoLTE-enabled device models, supporting different
regions and frequencies. Wi-Fi calling is built on the same core network systems as VoLTE and enables operators to extend their
voice service to places with limited cellular coverage.
Based on our estimates, using several market data sources, we believe that growth in 5G network subscriptions will start picking up
in 2020 and forecast to reach 2.6 billion in 2025, equivalent to more than one in every five mobile connections. According to our
calculations, 5G connections in North America are forecasted to surpass 32 million by the end of 2021 while the worldwide count
for the same period is expected to be approximately 156 million. Worldwide LTE based subscriptions are expected to grow from 4.7
billion in 2019 to 5.9 billion by 2024. VoLTE is now available in more than 125 networks spanning across approximately 60
countries. Based on recent measurements in operator networks, the number of VoLTE subscriptions is now projected to grow from
1.4 million to 6.1 billion by the end of 2024, making up more than 90 percent of all LTE subscriptions globally. Mobile Data Traffic
per device, including smartphone and tablets, is expected to increase from 13.5 Gigabytes per month in 2018 to over 29 Gigabytes
per month in 2023. We believe in order to realize the full functionality of IP mobility, several challenges including security must be
overcome. When users are mobile, connections and data need to cross multiple network boundaries, each of which poses a security
threat. Wireless networks may be threatened or compromised by rogue users who enter through insecure wireless access points. We
believe that providing authenticated access to the M2M networks and enterprise applications are important requirements and
represent a significant market opportunity for our patented technology and secure domain names to provide users or machines fully
authenticated secure access on a “zero-click” or “single-click” basis.
Our Solutions
Our software and technology solutions, including our secure domain name registry, our patents and our GABRIEL Connection
Technology™ are designed to secure real-time communications over the Internet. Our technology uses industry standard encryption
methods with our patented Domain Name System, or DNS, lookup mechanisms to create a secure communication link between
users intending to communicate in real time over the Internet. Our technology can be built into network infrastructure, operating
systems or silicon chips developed for a communication or computing device to secure real-time communications over the Internet
between numerous devices. Our technology automatically encrypts data allowing organizations and individuals to establish
communities of secure, registered users and transmit information between multiple devices, networks and operating systems. These
secure network communities, which we call secure private domains, or SPDs, are designed to be fully-customizable and support rich
content applications such as IM, VoIP, mobile services, streaming video, file transfer and remote desktop in a completely secure
environment. Our approach is a unique and patented solution that we believe provides the robust security platform required by these
rich content applications and real-time communications over the Internet. We believe the key benefits and features of our technology
include the following:
•
•
•
•
Automatic and seamless to the user. After a one-time registration, users connect securely on a “zero-click” or “single-
click” basis.
Secure data communications. Users create secure networks with people they trust and communicate over a secure
channel.
Control of data at all times. Users can secure and customize their unified communication and collaboration applications
such as file sharing and remote desktop with policy-based access and secure presence information.
Authenticated users. Users know they are communicating with authenticated users with secure domain names.
8
TABLE OF CONTENTS
•
Application-agnostic technology. Our solution provides security at the IP layer of the network by using patented DNS
lookup mechanisms to make connections between secure domain names, thereby obviating the need to provide application
specific security.
Our Products
Our GABRIEL Secure Communication Platform™, unlike other collaboration and communication products and services on the
market today, does not require access to users’ confidential data and reduces the threat of hacking and data mining. It enables
individuals and organizations to maintain complete ownership and control over their personal and confidential data, secured within
their own private network, while enabling authorized secure encrypted access from anywhere at any time. Our GABRIEL
Collaboration Suite™ is a set of applications that run on top of our GABRIEL Secure Communication Platform™. It enables
seamless and secure cross-platform communications between users’ devices. The following applications are included in the current
release and can be easily accessed through the GABRIEL interface:
•
•
•
•
•
Secure chat. Allows users to quickly send and receive text, files and screen shots.
Secure share. Allows users to grant coworkers read/write access to desired folders.
Secure video/voice. Provides users ability to conduct audio and/or video conferencing securely with any other GABRIEL
user.
Secure mail. Allows users to send email and attachments directly from sender to recipient without requiring a centralized
mail server.
Secure sync/backup. Allows users to quickly push single files or automatically backup your files to one or multiple
GABRIEL destinations.
Our GABRIEL Collaboration Suite™ is available for download and free trial, for Android, iOS, Windows, Linux and Mac OS X
platforms, at http://www.gabrielsecure.com/. We continue to enhance our products and add new functionality to our products. We
will provide updates to new and existing customers as they are released publicly. Over 80 small and medium businesses have
installed our GABRIEL Secure Communication Platform™ and GABRIEL Collaboration Suite™ products in their corporate
networks. We intend to continue to expand our customer base with targeted promotions and direct sales initiatives.
Competitive Strengths
We believe the following competitive strengths will enable our success in the marketplace:
•
•
•
Unique patented technology. We are focused on developing innovative technology for securing real-time
communications over the Internet and establishing the exclusive secure domain name registry in the United States and
other key markets around the world. Our unique solutions combine industry standard encryption methods and
communication protocols with our patented techniques for automated DNS lookup mechanisms. Our technology and
patented approach enables users to create a secure communication link by generating secure domain names. We currently
own approximately 194 total patents and pending applications, including 70 U.S. patents/patent applications and 124
foreign patents/validations/pending applications. Our portfolio includes patents and pending patent applications in the
United States and other key markets that support our secure domain name registry service for the Internet.
Scalable licensing business model. We are actively engaged in pursuing additional licensing agreements with OEMs,
service providers and system integrators within the IP-telephony, mobility, mobile-to-mobile communications, fixed-
mobile convergence and unified communications end-markets.
Highly experienced research and development team. Our research and development team is comprised of nationally
recognized network security and encryption technology scientists and experts that have worked together as a team for over
ten years. During their careers, this team has developed several cutting-edge technologies for U.S. national defense,
intelligence and civilian agencies, many of which remain critical to our national security today. Prior to joining VirnetX,
our team worked for Leidos, during which time they invented the technology that is the foundation of our technology, and
software. Based on the collective knowledge and experience of our development team, we believe that we have one of the
most experienced and sophisticated groups of security experts researching vulnerability and threats to real-time
communication over the Internet and developing solutions to mitigate these problems.
9
TABLE OF CONTENTS
Our Strategy
Our strategy is to become the market leader in securing real-time communications over the Internet and to establish our GABRIEL
Communications Technology™ as the industry standard security platform. Key elements of our strategy are to:
•
•
•
•
Actively recruit partners in various vertical markets, including healthcare, finance, government to help us rapidly expand
our enterprise customer base.
Promote our Gabriel Secure Communication Platform™ and Gabriel Collaboration Suite™ products in the general market
for sale to end-user enterprises, directly and with partners, with targeted promotions and other marketing programs.
Continue to grow our technology licensing program to commercialize our intellectual property, including our GABRIEL
Connection Technology™.
Establish VirnetX as the exclusive universal registry of secure domain names and to enable our customers to act as
registrars for their users and broker secure communication between users on different registries.
We have submitted a declaration with the 3rd Generation Partnership Project, or 3GPP, identifying a group of our patents and patent
applications that we believe are or may become essential to certain developing specifications in the 3GPP LTE, SAE project. We
have agreed to make available a non-exclusive patent license under fair, reasonable and non-discriminatory terms and conditions,
with compensation, or FRAND, to 3GPP members desiring to implement the technical specifications identified by us. We have also
submitted a number of updates to our original declaration, identifying additional technical specifications that would also require a
license to our U.S. and Foreign patents.
License and Service Offerings
We offer a diversified portfolio of license and service offerings focused on securing real-time communications over the Internet,
including:
•
•
•
•
VirnetX technology licensing. Customers who want to develop their own implementation of the VirnetX code module for
supporting secure domain names, or who want to use their own techniques that are covered by our patent portfolio for
establishing secure communication links, could purchase a technology license. We anticipate that these licenses would
typically include an initial license fee, as well as an ongoing royalty. We expect that these licenses will include a one-time
delivery of GABRIEL software development kit including object libraries, sample code, testing and quality assurance
tools and the supporting documentation necessary for a customer to implement of the techniques we have developed.
GABRIEL Connection Technology™ Software Development Kit or SDK. OEM customers who want to adopt the
GABRIEL Connection Technology™ as their solution for establishing secure connections using secure domain names
within their products could purchase an SDK license. The software development kit consists of object libraries, sample
code, testing and quality assurance tools and the supporting documentation necessary for a customer to implement our
technology. These tools are comprised of software for a secure domain name connection test server, a relay test server and
a registration test server. We expect that customers would pay an up-front license fee to purchase an SDK license and a
royalty fee for every product shipped with the embedded VirnetX code module.
Secure domain name registrar service. Customers, including service providers, telecommunication companies, ISPs,
system integrators and OEMs could purchase a license to our secure domain name registrar service. We would provide the
software suite and technology support to enable such customers to provision devices with secure domain names and
facilitate secure connections between registered devices. This suite includes the following server software modules:
Registrar server software. We anticipate that our registrar server software would enable customers to operate as a secure
domain name registrar that provisions devices with secure domain names. The registrar server software is designed to
provide an interface for our customers to register new virtual private domains and sub-domain names. This server module
must be enrolled with the VirnetX secure domain name master registry to obtain its credentials before functioning as an
authorized registrar.
10
TABLE OF CONTENTS
•
•
•
•
Connection server software. We anticipate that our connection server software would allow customers to provide
connection services to enrolled devices. The connection services include registration of presence information for
authenticated users and devices, presence information query request services, enforcement of policies and support for
communication with peers behind firewalls.
Relay server software. We anticipate that our relay server software would allow customers to dynamically maintain
connections and relay data to private IP addresses for network devices that reside behind firewalls.
Secure domain name master registry and connection service. As part of enabling the secure domain name registrar
service, we expect that we will maintain and manage the secure domain name master registry. This service is expected to
enroll all secure domain name registrar customers and generate the credentials required to function as an authorized
registrar. It also is expected to provide connection services and universal name resolution, presence information and secure
connections between authorized devices with secure domain names. Secure domain name registrar service customers will
enter into a technology licensing and revenue sharing agreement with VirnetX whereby we will typically receive an up-
front licensing fee for the secure domain name registrar technology, as well as ongoing annual royalties for each secure
domain name issued by the customer.
Technical support services. We intend to provide high-quality technical support services to licensees and customers for
the rapid customization and deployment of GABRIEL Connection Technology™ in an individual customer’s products and
services.
Our research and development team is the team responsible for inventing the claimed subject matter of the patents that form the
foundation of our technology. This team has worked together for over ten years. We intend to leverage this experience and continue
investing in research and development and, over time, expect to strengthen and expand our patent portfolio, technology, and
software. While we are currently focused on securing real-time communications over the Internet and establishing the first and only
secure domain name registry, we believe our existing and future intellectual property portfolio will extend to additional areas
including, among others, network security and operating systems for fixed and mobile devices.
Customers
Our GABRIEL Collaboration Suite™ is available for download and free trial, for Android, iOS, Windows, Linux and Mac OS X
platforms, at http://www.gabrielsecure.com/. We continue to enhance our products and add new functionality to our products. We
will provide updates to new and existing customers as they are released publicly. Over 80 small and medium businesses have
installed our GABRIEL Secure Communication Platform™ and GABRIEL Collaboration Suite™ products in their corporate
networks. We continue to rapidly expand our customer base with targeted promotions and direct sales initiatives.
We have signed Patent License Agreements with Aastra USA, Inc. Avaya, Inc., Microsoft Corporation, Mitel Networks
Corporation, NEC Corporation and NEC Corporation of America, Siemens Enterprise Communications GmbH & Co. KG, and
Siemens Enterprise Communications Inc. to license certain of our patents, for a one-time payment and an ongoing royalty for all
future sales through the expiration of the licensed patents with respect to certain current and future IP-encrypted products.
We are seeking further licensing of our technology, including our GABRIEL Connection Technology™ to developers and original
equipment manufacturers, or OEMs, of chips, servers, smart phones, tablets, e-Readers, laptops, net books and other devices, within
the IP-telephony, mobility, fixed-mobile convergence and unified communications markets including 4G/LTE. We have published
our royalty rates and guidelines on our website. All forward moving licenses have adhered to these guidelines and have met or
exceeded these rates and we will use these rates and guidelines in all future license negotiations.
11
TABLE OF CONTENTS
Marketing and Sales
We plan to employ a leveraged, partner-oriented, marketing strategy for our technology licenses and software product offerings. We
successfully signed a number of Resellers & Managed Service Provider in various market segments, including, healthcare, finance,
government, etc, to assist us in selling our software products to their customers. Some of our key partners include:
•
•
ASCARD MSP (Healthcare)
Above PAR Advisors (Financial)
• Max Cybersecurity (Government)
We plan to continue working on a number of sales and marketing promotions, in the U.S. and Japan, to recruit more resellers and
partners along with direct sales programs as we seek to extend out our customer base internationally.
We plan to directly market our Gabriel Secure Communication Platform™ and Gabriel Collaboration Suite™ products, domain
name registry services to our service provider and system integrator customers. We market our Gabriel line of products directly to
small and medium businesses using online marketing programs and tools. A number of International Association of Certified ISAO
(IACI) including, ISAO’s for Maritime & Ports, ISAO Credit Union ISAO, City of Chicago ISAO and Human Trafficking ISAO
have chosen to deploy our software as private and secure e-technology to protect their communications. Several other ISAOs are
completing their evaluations before deploying our products within their networks.
We expect to leverage our relationship with Leidos, to extend our offering to departments and agencies within the federal
government. Leidos is a FORTUNE 500® scientific, engineering and technology applications company that uses its deep domain
knowledge to solve problems of vital importance to the nation and the world, in national security, energy and the environment,
critical infrastructure, and health. We intend to leverage our sales team for managing current accounts and pursuing sales
opportunities with new customers.
We have signed a non-exclusive Distribution and Service Agreement with IP Dream, a Japanese based strategic technology
developer and service provider, to sell VirnetX’s Gabriel Collaboration Suite as well as VirnetX’s Secure Domain Name technology
to its clients in Japan and greater Asia. Jointly with IP Dream, we are currently pursuing a number of OEM opportunities with some
of the largest services providers in Japan. Along with our efforts with IP dream, we continue to explore alternative strategies to
pursue opportunities to work with other third parties in Japan, and elsewhere, using an approach that will seek to capitalize on these
opportunities in part by placing more emphasis on the use of our own employees.
Competition
We believe our technology and solutions compete primarily against various proprietary security solutions. We group these solutions
into three main categories:
•
•
Proprietary or home-grown application specific security solutions have been developed by vendors and integrated directly
into their products for our target markets including IP-telephony, mobility, fixed-mobile convergence, and unified
communications. These proprietary solutions have been developed due to the lack of standardized approaches to securing
real-time communications. This approach has led to corporate networks that are isolated and, as a result, restrict
enterprises to using these next-generation networks within the boundaries of their private network. These solutions
generally do not provide security for communications over the Internet or require network administrators to manually
exchange keys and other security parameters with each destination network outside their corporate network boundary. The
cost-savings and other benefits of IP-based real-time communications are significantly limited by this approach to
securing real-time communications.
A session border controller, or SBC, is a device used in networks to exert control over the signaling and media streams
involved in establishing, conducting and terminating VoIP calls. A traditional firewall or network address translation, or
NAT, device typically block information like endpoint IP addresses and port numbers required by signaling protocols, such
as SIP and XMPP, to reach and communicate with their intended destination. SBCs are used in physical networks to
address these limitations and enable real-time session traffic to cross the boundaries created by firewalls and other NAT
devices and enable VoIP calls to be established successfully. However, SBCs must decrypt and analyze every single data
packet for the
12
TABLE OF CONTENTS
information to be transmitted successfully, thereby preventing end-to-end encryption. This network design results in SBCs
becoming a single point of congestion on the network, as well as a single point of failure. SBCs are also limited to the
physical network they secure.
•
SIP firewalls, or SIP-aware firewalls, and application layer gateways, manage and protect the traffic, flow and quality of
VoIP and other SIP-related communications. They perform real-time network address translation, dynamic firewall
functions; support multiple signaling protocols, and media functionality, allowing secure interconnection and the flow of
IP media streams across multiple networks. While SIP firewalls assist in analyzing SIP traffic transmitted over the
corporate network to filter out various threats, they do not necessarily encrypt the traffic. As a result, this traffic is not
entirely secure from end-to-end nor is it protected against threats like man-in-middle and eavesdropping.
Intellectual Property and Patent Rights
Our intellectual property is primarily comprised of trade secrets, patented know-how, issued and pending patents, copyrights and
technological innovation.
We currently own approximately 194 total patents and pending applications, including 70 U.S. patents/patent applications and 124
foreign patents/validations/pending applications. Our portfolio includes a number of patents that describe unique systems and
methods for securing real-time communications over the Internet, as well as related services such as the establishment and
maintenance of a secure domain name registry. Our software and technology solutions also may have additional applications
relating to operating systems and network security. A complete list of our U.S. patents is available on our website located at
www.virnetx.com. Each patent is publicly accessible on the Internet website of the U.S. Patent and Trademark Office at
www.uspto.gov. The term of each of our issued U.S. and foreign patents will expire during the period from 2019 to 2024.
Notwithstanding anything to the contrary set forth in any of our filings under the Securities Act of 1933 or the Securities Exchange
Act of 1934 that might incorporate future filings, the information set forth on the United States Patent and Trademark Office, or the
USPTO Website, shall not be deemed to be a part of or incorporated by reference into any such filings. The Company does not
warrant the accuracy, or completeness or adequacy of the USPTO Website, and expressly disclaims liability for errors or omissions
on such website.
Assignment of Patents
Some of our issued patents and pending patent applications were acquired by our principal operating subsidiary, VirnetX, Inc., from
Leidos, pursuant to an Assignment Agreement dated December 21, 2006, and a Patent License and Assignment Agreement dated
August 12, 2005, as amended on November 2, 2006, including documents prepared pursuant to the November amendment, and as
further amended on March 12, 2008. We recorded the assignment from Leidos, with the U.S. Patent Office on December 21, 2006.
Key terms of these agreements are as follows:
•
•
•
Patent Assignment. Leidos, unconditionally and irrevocably conveyed, transferred, assigned and quitclaimed all its right,
title and interest in and to the patents and patent applications, as specifically set forth on Exhibit A to the assignment
document recorded with the U.S. Patent Office, including, without limitation, the right to sue for past infringement.
License to Leidos, Outside the Field of Use. Effective March 12, 2008, we granted to Leidos, a non-exclusive, royalty
free, fully paid, perpetual, worldwide, irrevocable, sub licensable and transferable right and license permitting Leidos, and
its assignees to make, have made, import, use, offer for sale, and sell products and services covered by, and to make
improvements to, the patents and patent applications we acquired from Leidos, solely outside our field of use.
Compensation Obligations. As consideration for the assignment of the patents and for the rights we obtained from Leidos,
as amended, we are required to make payments to Leidos, based on cash or certain other values generated from those
patents. The amount of such payments depends upon the type of value generated, and certain categories are subject to
maximums and other limitations. In 2010, we met our maximum royalty payment requirement; however, Leidos is also
entitled under certain circumstances to receive a portion of the proceeds paid to us for certain acquisitions of VirnetX and
the settlement of certain patent infringement claims of ours.
13
TABLE OF CONTENTS
Government Regulation
The laws governing online secure communications remain largely unsettled, even in areas where there has been legislative action. It
may take years to determine whether and how existing laws governing intellectual property, privacy, data protection and libel apply
to online communications and media. Such legislation may interfere with the growth in use of online secure communications and
decrease the acceptance of online secure communications as a viable solution, which could adversely affect our business.
Due to the Internet’s popularity and increasing use, new laws regulating secure communications may be adopted. These laws and
regulations may cover, among other things, issues relating to privacy, data protection, pricing, taxation, telecommunications over the
Internet, content, copyrights, distribution and quality of products and services. We intend to comply with all new laws and
regulations as they are adopted.
The U.S. government has controlled the authoritative domain name system, or DNS, root server since the inception of the Internet.
On July 1, 1997, the President of the United States directed the U.S. Secretary of Commerce to privatize the management of the
domain name system in a manner that increases competition and facilitates international participation in its management.
On September 29, 2006, the U.S. Department of Commerce extended its delegation of authority by entering into a new agreement
with the Internet Corporation for Assigned Names and Numbers, or ICANN, a California non-profit corporation headquartered in
Marina Del Rey, California. ICANN is responsible for managing the accreditation of registry providers and registrars that manage
the assignment of top-level domain names associated with the authoritative DNS root directory. Although it is possible to create and
manage other DNS root directories privately without accreditation from ICANN, the possibility of conflicting name and number
assignments makes it less likely that users would widely adopt a top-level domain name associated with an alternative DNS root
directory provided by a non-ICANN-accredited registry service.
Employees
As of December 31, 2019, we had 20 full time employees.
Corporate Overview and History
We are a holding company and conduct our operations through our wholly owned subsidiary, VirnetX, Inc. VirnetX, Inc., was
incorporated in the State of Delaware in August 2005. In November 2006, VirnetX, Inc. acquired certain patents from SAIC, now
Leidos. In July 2007, we effected a merger by and among VirnetX, Inc., VirnetX Holding Corporation and a wholly-owned
subsidiary of VirnetX Holding Corporation, whereby VirnetX, Inc. merged with, and became, a wholly-owned subsidiary of VirnetX
Holding Corporation and VirnetX Holding Corporation issued shares of its common stock to the stockholders of VirnetX, Inc. as
consideration for the merger. As a result of this merger, the former security holders of VirnetX, Inc. came to own a majority of our
outstanding common stock. On October 29, 2007, we changed our name from PASW, Inc. to VirnetX Holding Corporation.
Available Information
We file or furnish various reports, such as registration statements, periodic and current reports, proxy statements and other materials
with the SEC. Our Internet website address is www.virnetx.com. You may obtain, free of charge on our Internet website, copies of
our 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 we electronically
file such material with, or furnish it to, the SEC. The information we post is intended for reference purposes only; none of the
information posted on our website is part of this report or incorporated by reference herein.
The SEC also maintains an Internet site that contains reports, proxy and other information statements, and other information
regarding issuers, including us, that file electronically with the SEC. The Internet address of the SEC’s Internet site is
http://www.sec.gov.
Item 1A. Risk Factors
Our operations and financial results are subject to various risks and uncertainties, including those described below, which could
adversely affect our business, financial condition, results of operations, cash flows, and the trading price of our common and capital
stock. You should carefully consider the risks and uncertainties described below in
14
TABLE OF CONTENTS
addition to the other information set forth in this Annual Report on Form 10-K, including the section titled “Management’s
Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and related
notes, before making any investment in our common stock. The risks and uncertainties described below are not the only ones we
face. Additional risks and uncertainties not presently known to us or that we currently believe to be immaterial may also adversely
affect our business. If any of these risk factors occur, you could lose substantial value or your entire investment in our shares.
Risks Related to Our Business and Our Financial Reporting
We are involved and will continue to be involved in litigation defending our patent portfolio, which can be time-consuming and
costly, and we cannot anticipate the results.
We spend a significant amount of our financial and management resources to pursue our current litigation. We believe that this
litigation and others that we may pursue in the future could continue for years and consume significant financial and management
resources. The counterparties to our litigation include large, well-financed companies with substantially greater resources than us.
Patent litigation is risky, and the outcome is uncertain, and we cannot assure you that any of our current or future litigation matters
will result in a favorable outcome for us. In addition, even if we obtain favorable interim rulings or verdicts, they may be
inconsistent with the ultimate resolution of the dispute. Also, we cannot assure you that we will not be exposed to claims or
sanctions against us which may be costly or impossible for us to defend. Unfavorable or adverse outcomes may result in losses,
exhaustion of financial resources or other adverse effects, which could encumber our ability to develop and commercialize our
products.
We may need to raise additional capital to support our business growth, and this capital will be dilutive, may cause our stock
price to drop or may not be available on acceptable terms, if at all.
We may need to raise additional capital, which may not be available to us when needed or may not be available on terms acceptable
to us, to support our business growth or to respond to business opportunities, challenges or unforeseen circumstances, including
sales under our ATM or our universal shelf registration statement. Our ability to obtain additional capital, if and when required, will
depend on our business plans, investor demand, our operating performance, the condition of the capital markets, the terms of our
current contractual obligations and other factors. If we raise additional funds through the issuance of equity, equity-linked or debt
securities, including those under our ATM or our Universal Shelf Registration Statement, those securities may have rights,
preferences, or privileges senior to the rights of our common stock, and our existing stockholders may experience dilution.
Additionally, we are unable to predict the future success of our ATM offering or any other offering. Sales of a substantial number of
shares of our common stock in the public market, or the perception that these sales or other financings might occur, could depress
the market price of our common stock and could also impair our ability to raise capital through the sale of additional equity
securities. If we issue debt securities or incur indebtedness, we could experience increased future payment obligations and a need to
comply with restrictive covenants, such as limitations on our ability to incur additional debt, limitations on our ability to acquire,
sell or license intellectual property rights and other operating restrictions that could adversely impact our ability to conduct our
business. If we are unable to obtain additional capital or are unable to obtain additional capital on satisfactory terms, our ability to
continue to support our business growth or to respond to business opportunities, challenges, or other circumstances could be
adversely affected, and our business may be harmed.
We may not be able to capitalize on market opportunities related to our licensing strategy or our patent portfolio.
Our business strategy includes licensing our patents and technology to other companies in order to reach a larger end-user base than
we could reach through direct sales and marketing efforts; as such, our business strategy and revenues will depend on intellectual
property licensing fees and royalties for the majority of our revenues. We currently derive minimal revenue from licensing activities,
and royalties, and we cannot assure you that we will successfully capitalize on our market opportunities or that our current business
strategy will succeed. Factors that may affect our ability to execute our current business strategy include, but are not limited to, the
following:
Although to date we have entered into a limited number of settlement and license agreements, we may not be successful in entering
into further licensing relationships, or if we are successful in entering into such relationships, the acquisition of them may be
expensive, and they, as well as our existing settlement and our existing and pending license agreements may not generate the
financial results we expect;
•
Third parties may challenge the validity of our patents;
15
TABLE OF CONTENTS
•
The pendency of our various litigations may cause potential licensees not to do business with us;
• We face, and we expect to continue to face, intense competition from new and established competitors who may have
superior products and services or better marketing, financial or other capacities than we do; and
•
It is possible that one or more of our potential customers or licensees develops or otherwise sources products or
technologies similar to, competitive with or superior to ours.
If we are not able to adequately protect our patent rights, our business would be negatively impacted.
We believe our patents are valid, enforceable and valuable. Notwithstanding this belief, third parties may make claims of
infringement or invalidity claims with respect to our patents and such claims could give rise to material cost for defense or
settlement or both, jeopardize or substantially delay a successful outcome of litigation we are or may become involved in, divert
resources away from our other activities, limit or cease our revenues related to such patents, or otherwise materially and adversely
affect our business. Similar challenges could also prevent us from obtaining additional patents in the future. Additionally, several of
our patents are currently, and other patents may in the future be, subject to United States Patent and Trademark Office (“USPTO”)
post-grant inter partes review proceedings (“IPR”) which may result in all or part of these patents being invalidated, or the claims of
our patents being limited. Unfavorable or adverse outcomes in our litigation or IPRs may result in losses, exhaustion of financial
resources, reduction in our ability to enforce our intellectual property rights, or other adverse effects, which could encumber our
ability to develop and commercialize our products. Even if we are successful in enforcing our intellectual property rights, our
patents may not ultimately provide us with any competitive advantages and may be less valuable than we currently expect. These
risks may be heightened in countries other than the United States where laws regarding patent protection are less developed and may
be negatively affected by the fact that legal standards in the United States and elsewhere for protection of intellectual property rights
in Internet-related businesses are uncertain and still evolving. In addition, there are a significant number of United States and foreign
patents and patent applications in our areas of interest, and we expect that significant litigation in these areas will continue and will
add uncertainty to the value of certain patents and other intellectual property rights in our areas of interest. If we are unable to
protect our intellectual property rights or otherwise realize value from them, our business would be negatively affected.
We can provide no assurances that the licensing of our essential security patents under FRAND will be successful.
At the request of the European Telecommunications Standards Institute (“ETSI”), and the Alliance for Telecommunications Industry
Solutions (“ATIS”), we agreed to update our licensing declaration to ETSI and ATIS under their respective Intellectual Property
Rights policies. This was in response to our Statement of Patent Holder identifying a group of our patents and patent applications
that we believe are or may become essential to certain developing specifications in the 3rd Generation Partnership Project Long
Term Evolution (“LTE”), Systems Architecture Evolution project. We will make available a non-exclusive patent license under
FRAND (fair, reasonable and non-discriminatory terms and conditions, with compensation) for the patents identified by us that are
or become essential to applicants desiring to implement the Technical Specifications identified by us, as set forth in the updated
licensing declaration under the ATIS and ETSI Intellectual Property Rights policies. Our licensing declarations under the ATIS and
ETSI Intellectual Property Rights policies may limit our flexibility in determining royalties and license terms for certain of our
patents. Consequently, we cannot assure you that the licensing of the essential security patents will be successful or that third parties
will be willing to enter into licenses with us on reasonable terms or at all, which could have an adverse effect on our business and
harm our competitive position.
Because our business is conducted or expected to be conducted in an environment that is subject to rapid change, we may be
subject to various developments in regulation, law and consumer preferences to which we may not be able to adapt successfully.
The current regulatory environment for our products and services remains unclear. We can give no assurance that our planned
product offerings will be in compliance with laws and regulations of local, state, United States federal or foreign authorities. Further,
we can give no assurance that we will not unintentionally violate such laws or regulations or that such laws or regulations will not
be modified, or that new laws or regulations will be enacted in the future which would cause us to be in violation of such laws or
regulations. For example, Voice-Over-Internet Protocol (“VoIP”) services are not currently subject to all the same regulations that
apply to traditional telephony, but it is possible that similar regulations may be applied to VoIP in the future and that these could
result in substantial costs
16
TABLE OF CONTENTS
to us which could adversely affect the marketability of our products and planned products related to VoIP. For further example, the
use of the Internet and private Internet Protocol (“IP”) networks for communication is largely unregulated within the United States,
but may become regulated in the future; additionally, several foreign governments have enacted measures that could restrict or
prohibit voice communications services over the Internet or private IP networks.
Our business depends on the growth of instant messaging, VoIP, mobile services, streaming video, file transfer and remote desktop
and other next-generation Internet-based applications. A decline in the use of these applications due to complexity or cost of these
applications relative to alternate traditional or newly developed communications channels, or development of alternative
technologies, could cause a material decline in the number of users in these areas.
More aggressive domestic or international regulation of the Internet in general, and Internet telephony providers and services
specifically may materially and adversely affect our business, financial condition, operating results and future prospects.
Our exposure to outside influences beyond our control, including new legislation, court rulings or actions by the United States
Patent and Trademark Office, could adversely affect our licensing and enforcement activities and results of operations.
Our licensing and enforcement activities are subject to numerous risks from outside influences, including the following:
•
New legislation, regulations or rules related to obtaining patents or enforcing patents could significantly increase our
operating costs and decrease our revenue. For instance, the United States Supreme Court has modified some tests used by
the USPTO in granting patents during the past 20 years which may decrease the likelihood that we will be able to obtain
patents and increase the likelihood of challenge of any patents we obtain or license. In addition, in 2012 the United States
enacted sweeping changes to the United States patent system under the Leahy-Smith America Invents Act, including
changes that transition the United States from a “first-to-invent” system to a “first to file” system and alter the processes
for challenging issued patents;
• More patent applications are filed each year resulting in longer delays in getting patents issued by the USPTO;
•
•
Federal courts are becoming more crowded, and as a result, patent enforcement litigation is taking longer; and
As patent enforcement becomes more prevalent, it may become more difficult for us to voluntarily license our patents.
New legislation, regulations or court rulings related to enforcing patents could harm our business and operating results.
Intellectual property is the subject of intense scrutiny by the courts, legislatures and executive branches of governments around the
world. Various patent offices, governments or intergovernmental bodies may implement new legislation, regulations or rulings that
impact the patent enforcement process, or the rights of patent holders and such changes could negatively affect licensing efforts
and/or litigations. For example, limitations on the ability to bring patent enforcement claims, limitations on potential liability for
patent infringement, lower evidentiary standards for invalidating patents, increases in the cost to resolve patent disputes and other
similar developments could negatively affect our ability to assert our patent or other intellectual property rights.
It is impossible to determine the extent of the impact of any new laws, regulations or initiatives that may be proposed, or whether
any of the proposals will become enacted as laws. Compliance with any new or existing laws or regulations could be difficult and
expensive, affect the manner in which we conduct our business and negatively impact our business, prospects, financial condition
and results of operations.
If we experience security breaches, we could be exposed to liability and our reputation and business could suffer.
We expect to retain certain confidential and proprietary customer information in our secure data centers and secure domain name
registry, as well as personal data and other confidential and proprietary information relating to our business. It will be critical to our
business strategy that our facilities and infrastructure remain secure and are
17
TABLE OF CONTENTS
perceived by the marketplace to be secure. Our secure domain name registry operations will also depend on our ability to maintain
our computer and telecommunications equipment in effective working order and to reasonably protect our systems against
interruption, and potentially depend on protection by other registrars in the shared registration system. The secure domain name
servers that we will operate will be critical hardware to our registry services operations. Therefore, we expect to have to expend
significant time and money to maintain or increase the security of our products, facilities and infrastructure. Security technologies
are constantly being tested by computer professionals, academics and “hackers.” Advances in computer capabilities and the
techniques for attacking security solutions, new discoveries in the field of cryptography or other events or developments could result
in compromises or breaches of our security measures and could make some or all our products obsolete or unmarketable. Likewise,
if any of our products are found to have significant security vulnerabilities, then we may need to dedicate engineering and other
resources to eliminate the vulnerabilities and to repair or replace products already sold or licensed to our customers. Despite the
security measures that we and our service providers utilize, our infrastructure and that of our service providers may be vulnerable to
physical break-ins, computer viruses, attacks by hackers, phishing attacks, social engineering, or similar disruptive problems. It is
possible that we may have to expend additional financial and other resources to address such problems. As a provider of Internet
security software and technology, we may be the target of dedicated efforts by hackers and other third parties to overcome or defeat
our security measures. Any physical or electronic break-in or other security breach or compromise of the information stored at our
secure data centers and domain name registration systems, including any compromise due to human error or employee or contractor
malfeasance, may jeopardize the security of information stored on our premises or in the computer systems and networks of our
customers. In such an event, we could face significant liability and current or potential customers could be reluctant to use our
services. Additionally, any such data security incident, or the perception that one has occurred could also result in adverse publicity,
harm to our reputation and competitive position, and therefore adversely affect the market’s perception of the security of electronic
commerce and communications over IP networks as well as the security or reliability of our services.
A security breach or other security incident could require a substantial level of financial resources to rectify and otherwise respond
to, may be difficult to identify or address in a timely manner, and could result in claims, investigations, and inquires by private
parties or governmental entities that may divert management’s attention and require the expenditure of significant time and
resources, and which may cause us to incur substantial fines, penalties, or other liability and related legal and other costs. Any actual
or perceived security breach or other security incident may also harm our reputation and make it more difficult or impossible for us
to successfully market to others. Any of the foregoing matters could harm our operating results and financial condition.
Privacy and data security concerns, and data collection and transfer restrictions and related domestic or foreign regulations may
limit the use and adoption of our solutions and adversely affect our business.
Personal privacy, information security, and data protection are significant issues in the United States, Europe and many other
jurisdictions where we have operations or offer our products. The regulatory framework governing the collection, processing,
storage and use of confidential and proprietary business information and personal data is rapidly evolving. The United States federal
and various state and foreign governments have adopted or proposed requirements regarding the collection, distribution, use,
security and storage of personally identifiable information and other data relating to individuals, and federal and state consumer
protection laws are being applied to enforce regulations related to the online collection, use and dissemination of data.
Further, many foreign countries and governmental bodies, including the European Union (“EU”), where we conduct business, have
laws and regulations concerning the collection and use of personal data obtained from their residents or by businesses operating
within their jurisdiction. These laws and regulations often are more restrictive than those in the United States. Laws and regulations
in these jurisdictions apply broadly to the collection, use, storage, disclosure and security of data that identifies or may be used to
identify or locate an individual, such as names, email addresses and, in some jurisdictions, IP addresses.
We also expect that there will continue to be new proposed laws, regulations and industry standards concerning privacy, data
protection and information security in the United States, the EU, and other jurisdictions. For example, the European Commission
adopted a General Data Protection Regulation (the “GDPR”) that became fully effective on May 25, 2018, superseding prior EU
data protection legislation, imposing more stringent EU data protection requirements, and providing for greater penalties for
noncompliance. The United Kingdom enacted a Data Protection Act that substantially implements the GDPR. We are evaluating
obligations imposed on us by the GDPR and we may be required to incur substantial expense in order to make significant changes to
our product and business operations
18
TABLE OF CONTENTS
in connection with obtaining and maintaining compliance with the GDPR and similar legislation, such as the UK Data Protection
Act, all of which may adversely affect our revenue and product sales. Additionally, California recently enacted legislation, the
California Consumer Privacy Act (the “CCPA”) that, among other things, requires covered companies to provide new disclosures to
California consumers, and afford such consumers new abilities to opt-out of certain sales of personal information. We cannot fully
predict the impact of the CCPA on our business or operations, but it may require us to modify our data processing practices and
policies and to incur substantial costs and expenses in an effort to comply. More generally, we cannot yet fully determine the impact
these or future laws, regulations and standards may have on our business. Privacy, data protection and information security laws and
regulations are often subject to differing interpretations, may be inconsistent among jurisdictions, and may be alleged to be
inconsistent with our current or future practices. Additionally, we may be bound by contractual requirements applicable to our
collection, use, processing, and disclosure of various types of data, including personal data, and may be bound by, or voluntarily
comply with, self-regulatory or other industry standards relating to these matters. These and other requirements could reduce
demand for our products, increase our costs, impair our ability to grow our business, or restrict our ability to store and process data
or, in some cases, impact our ability to offer our service in some locations and may subject us to liability. Any failure or perceived
failure to comply with applicable laws, regulations, industry standards, and contractual obligations may adversely affect our
business. Further, in view of new or modified federal, state or foreign laws and regulations, industry standards, contractual
obligations and other legal obligations, or any changes in their interpretation, we may find it necessary or desirable to fundamentally
change our business activities and practices or to expend significant resources to modify our product and otherwise adapt to these
changes. We may be unable to make such changes and modifications in a commercially reasonable manner or at all, and our ability
to develop new products and features could be limited.
The costs of compliance with and other burdens imposed by laws, regulations and standards may limit the use and adoption of our
service and reduce overall demand for it, or lead to significant fines, penalties or liabilities for any noncompliance. Privacy,
information security, and data protection concerns, whether valid or not valid, may inhibit market adoption of our platform,
particularly in certain industries and foreign countries.
We expect that we will experience long and unpredictable sales cycles, which may impact our operating results.
The sales cycle between initial customer contact and execution of a contract or license agreement with a customer or purchaser of
our products can vary widely. We expect that our sales cycles will be long and unpredictable due to several factors, including but not
limited to:
•
•
•
•
•
•
The need to educate potential customers about our patent rights and our product and service capabilities;
Our customers’ willingness to invest potentially substantial resources and modify their network infrastructures to take
advantage of our products;
Our customers’ budgetary constraints;
The timing of our customers’ budget cycles;
Delays caused by customers’ internal review processes; and
Long sales cycles that may increase the risk that our financial resources are exhausted before we are able to generate
significant revenue.
In addition, potential customers of our products include local, state, federal and foreign government authorities. Sales to government
authorities can be extended and unpredictable. Government authorities generally have complex budgeting, purchasing, and
regulatory processes that govern their capital spending, and their spending is likely to be adversely impacted by economic
conditions. In addition, in many instances, sales to government authorities may require field trials and may be delayed by the time it
takes for government officials to evaluate multiple competing bids, negotiate terms, and award contracts.
For these reasons the sales cycle associated with our products is subject to a number of significant risks that are beyond our control.
Consequently, if our forecasted customer orders are not realized or delayed, our revenues and results of operations could be
materially and adversely affected.
19
TABLE OF CONTENTS
If we are unable to expand our revenue sources or establish, sustain, grow or replace relationships with a diversified customer
base, our revenues may be limited.
We currently generate revenue from a limited number of customers that have entered Settlement and License Agreements. Our
GABRIEL Collaboration Suite™ is currently generating limited revenue, it will take time for us to grow our installed user base and
generate new customers. Additionally, there is no guarantee that we will be able to derive revenue from new customers, sustain or
increase revenue from existing customers or replace customers from whom we currently generate revenue. As a result, our revenue
may be limited or static.
We have limited technical resources and are at an early stage in commercialization of our GABRIEL Collaboration Suite™.
Part of our business includes the internal development of commercial products we seek to monetize. This aspect of our business
may require significant capital, time and resources and we cannot guarantee that it will be successful or meet our expectations. We
currently have only one commercial product, the GABRIEL Collaboration Suite™. As such, we have a small technical team, which
may limit our ability to rapidly adapt our product to customer requirements or add new product features to maintain our competitive
edge and drive adoption. Based on the scale of our technical resources, our limited historical financial data upon which to base our
projected revenue or planned operating expenses related to our GABRIEL Collaboration Suite™, we may not be able to effectively:
•
•
•
•
•
•
•
•
Generate revenues or profit from product sales;
Drive adoption of our products;
Attract and retain customers for our products;
Provide appropriate levels of customer training and support for our products;
Implement an effective marketing strategy to promote awareness of our products;
Focus our research and development efforts in areas that generate returns on our efforts;
Anticipate and adapt to changes in our market; or
Protect our products from any system failures or other breaches.
In addition, a high percentage of our expenses are and will continue to be fixed. Accordingly, if we do not generate revenue as and
when anticipated, our losses may be greater than expected and our operating results will suffer.
Our products are highly technical and may contain undetected errors, which could cause harm to our reputation and adversely
affect our business.
Our products are highly technical and complex and, when deployed, may contain errors or defects. Despite testing, some errors in
our products may only be discovered after a product has been installed and used by customers. Any errors or defects discovered in
our products after commercial release could result in failure to achieve market acceptance, loss of revenue or delay in revenue
recognition, loss of customers and increased service and warranty cost, any of which could adversely affect our business, operating
results and financial condition. In addition, we could face claims for product liability, tort or breach of warranty, including claims
relating to changes to our products made by our channel partners. The performance of our products could have unforeseen or
unknown adverse effects on the networks over which they are delivered as well as on third-party applications and services that
utilize our services, which could result in legal claims against us, harming our business. Furthermore, we expect to provide
implementation, consulting and other technical services in connection with the implementation and ongoing maintenance of our
products, which typically involves working with sophisticated software, computing and communications systems. We expect that
our contracts with customers will contain provisions relating to warranty disclaimers and liability limitations, which may not be
upheld. Defending a lawsuit, regardless of its merit, is costly and may divert management’s attention and adversely affect the
market’s perception of us and our products. In addition, if our business liability insurance coverage proves inadequate or future
coverage is unavailable on acceptable terms or at all, our business, operating results and financial condition could be adversely
impacted.
Malfunctions of third-party communications infrastructure, hardware and software expose us to a variety of risks that we cannot
control.
Our business will depend upon, among other things, the capacity, reliability, security and unimpeded access of the infrastructure
owned by third parties that we will use to deploy our offerings. We have no control over the operation,
20
TABLE OF CONTENTS
quality or maintenance of a significant portion of that infrastructure or whether those third parties will upgrade or improve their
equipment. We depend on these companies to maintain the operational integrity of our connections. If one or more of these
companies is unable or unwilling to supply or expand its levels of service to us in the future, our operations could be severely
interrupted. Also, to the extent that the number of users of networks utilizing our current or future products suddenly increases, the
technology platform and secure hosting services which will be required to accommodate a higher volume of traffic may result in
slower response times or service interruptions. System interruptions or increases in response time could result in a loss of potential
or existing users and, if sustained or repeated, could reduce the appeal of the networks to users. In addition, users depend on real-
time communications; outages caused by increased traffic could result in delays and system failures. These types of occurrences
could cause users to perceive that our solution does not function properly and could therefore adversely affect our ability to attract
and retain licensees, strategic partners and customers.
System failure or interruption or our failure to meet increasing demands on our systems could harm our business.
The success of our license and service offerings will depend on the uninterrupted operation of various systems, secure data centers
and other computer and communication networks that we establish. To the extent, the number of users of networks utilizing our
future products suddenly increases, the technology platform and hosting services which will be required to accommodate a higher
volume of traffic may result in slower response times, service interruptions or delays or system failures. Our systems and operations
will also be vulnerable to damage or interruption from, among other things:
•
•
•
•
Power loss, transmission cable cuts and other telecommunications failures;
Damage or interruption caused by fire, earthquake, and other natural disasters;
Computer viruses or software defects; and
Physical or electronic break-ins, sabotage, intentional acts of vandalism, terrorist attacks and other events beyond our
control.
System interruptions or failures and increases or delays in response time could result in a loss of potential or existing users and, if
sustained or repeated, could reduce the appeal of the networks to users. These types of occurrences could cause users to perceive
that our solution does not function properly and could therefore adversely affect our ability to attract and retain licensees, strategic
partners and customers.
Any significant problem with our systems or operations could result in lost revenue, customer dissatisfaction or lawsuits against us.
A failure in the operation of our secure domain name registration system could result in the inability of one or more registrars to
register and maintain secure domain names for a period of time. A failure in the operation or update of the master directory that we
plan to maintain could result in deletion or discontinuation of assigned secure domain names for a period of time. The inability of
the registrar systems we establish, including our back-office billing and collections infrastructure, and telecommunications systems
to meet the demands of an increasing number of secure domain name requests could result in substantial degradation in our
customer support service and our ability to process registration requests in a timely manner.
Our ability to sell our solutions will be dependent on the quality of our technical support, and our failure to deliver high-quality
technical support services could have a material adverse effect on our sales and results of operations.
If we do not effectively assist our customers in deploying our products, succeed in helping our customers quickly resolve post-
deployment issues and provide effective ongoing support, or if potential customers perceive that we may not be able achieve to the
foregoing, our ability to sell our products would be adversely affected, and our reputation with current and potential customers could
be harmed. In addition, as we expand our operations internationally, our technical support team will face additional challenges,
including those associated with delivering support, training and documentation in languages other than English. Our failure to
deliver and maintain high-quality technical support services to our customers could result in customers choosing to use our
competitors’ products and support services instead of ours in the future.
Telephone carriers have petitioned governmental agencies to enforce regulatory tariffs, which, if granted, would increase the
cost of online communication, and such increase in cost may impede the growth of online communication and adversely affect
our business.
Use of the Internet has over-burdened existing telecommunications infrastructures, and many high traffic areas have begun to
experience interruptions in service. As a result, certain local telephone carriers have petitioned governmental
21
TABLE OF CONTENTS
agencies to enforce regulatory tariffs on IP telephony traffic that crosses over their traditional telephone networks. If the relief
sought in these petitions is granted, the costs of communicating via online could increase substantially, potentially adversely
affecting the growth in the use of online secure communications. Any of these developments could have an adverse effect on our
business.
The departure of Kendall Larsen, our Chief Executive Officer and President, and/or other key personnel could compromise our
ability to execute our strategic plan and may result in additional severance costs to us.
Our success largely depends on the skills, experience and performance of our key personnel. Due to the specialized nature of our
business and limited staff, we are particularly dependent on Kendall Larsen, our Chief Executive Officer and President. We have no
employment agreements with any of our key executives that prevent them from leaving us at any time. In addition, we do not
maintain key person life insurance for any of our officers or key employees. The loss of Mr. Larsen, or our failure to retain other key
personnel or failure to adequately plan for the succession of key personnel, would jeopardize our ability to execute our strategic plan
and materially harm our business.
We will need to recruit and retain additional qualified personnel to successfully grow our business.
Our future success will depend, in part, on our ability to attract and retain qualified engineering, operations, marketing, sales and
executive personnel. Inability to attract and retain such personnel could adversely affect our business. Competition for engineering,
operations, marketing, sales and executive personnel is intense, particularly in the technology and Internet sectors and in the regions
where we conduct our business. We may need to invest significant amounts of cash and equity to attract and retain employees and
expend significant time and resources to identify, recruit, train and integrate such employees, and we may never realize returns on
these investments. Additionally, we can provide no assurance that we will attract or retain such personnel.
Our international expansion will subject us to additional costs and risks, and our plans may not be successful.
We expect to expand our presence internationally in Japan and elsewhere through, for example, international partnerships, joint
ventures and other arrangements with third parties and the possibility of establishing international subsidiaries and offices. Our
international expansion may present challenges and risks, including those inherent in international operations, to us and may require
significant attention from management. For example, the recent outbreak of the coronavirus could disrupt and slow our international
expansion and partnership efforts, as our international partners’ businesses could be disrupted by the outbreak. We may not be
successful in our international partnerships, expansion efforts, and we may incur significant operating expenses. For instance, as
previously disclosed in our public filings, we terminated certain agreements with Public Intelligence Technology Associates in
March 2018.
We have incurred and will continue to incur significant increased costs as a result of operating as a public company, and our
management will be required to continue to devote substantial time to various compliance initiatives.
The Sarbanes-Oxley Act of 2002, the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, as well as other rules
implemented by the SEC and the New York Stock Exchange (“NYSE”), impose various requirements on public companies,
including requiring changes in corporate governance practices. These and proposed corporate governance laws and regulations
under consideration may further increase our compliance costs. If compliance with these various legal and regulatory requirements
diverts our management’s attention from other business concerns, it could have a material adverse effect on our business, financial
condition and operating results. The Sarbanes-Oxley Act requires, among other things, that we assess the effectiveness of our
internal control over financial reporting annually and disclosure controls and procedures quarterly. If we are unable to assert in any
future reporting periods that our internal control over financial reporting is effective (or if our independent registered public
accounting firm is unable to express an opinion on the effectiveness of our internal controls), we could lose investor confidence in
the accuracy and completeness of our financial reports, which would have an adverse effect on our share price.
Although we believe that we currently maintain effective control over our disclosures and procedures and internal control over
financial reporting, we may in the future identify deficiencies regarding the design and effectiveness of our system of internal
control over financial reporting. If we experience any material weaknesses in our internal control over financial reporting in the
future or are unable to provide unqualified management or attestation reports about our internal controls, we may be unable to meet
financial and other reporting deadlines and may incur costs associated with remediation, and any of which could cause our share
price to decline. Moreover, if we identify
22
TABLE OF CONTENTS
deficiencies in our internal control over financial reporting that are deemed to be material weaknesses in future periods, the market
price of our ordinary shares could decline, and we could be subject to potential delisting by the NYSE and review by the NYSE, the
SEC, or other regulatory authorities, which would require the expenditure by us of additional financial and management resources.
As a result, our shareholders could lose confidence in our financial reporting, which would harm our business and the market price
of our ordinary shares.
There are inherent uncertainties involved in estimates, judgments and assumptions used in the preparation of financial
statements in accordance with U.S. GAAP. Any changes in estimates, judgments and assumptions could have a material adverse
effect on our business, financial condition and operating results.
The preparation of financial statements in accordance with U.S. GAAP involves making estimates, judgments and assumptions that
affect reported amounts of assets (including intangible assets), liabilities and related reserves, revenues, expenses and income.
Estimates, judgments and assumptions are inherently subject to change in the future, and any such changes could result in
corresponding changes to the amounts of assets, liabilities, revenues, expenses and income. Any such changes could have a material
adverse effect on our business, financial condition and operating results.
Our results of operations and financial condition could be materially affected by the enactment of legislation implementing
changes in the U.S. or foreign taxation of international business activities or the adoption of other tax reform policies.
As we expand the scale of our international business activities, any changes in the U.S. or foreign taxation of such activities may
increase our worldwide effective tax rate and harm our business, results of operations, and financial condition. For example, in
December 2017, the legislation commonly referred to as the Tax Cuts and Jobs Act (the “Tax Act”) was enacted, which contained
significant changes to U.S. tax law, including, but not limited to, a reduction in the corporate tax rate and a transition to a new
territorial system of taxation. The impact of future changes to U.S. and foreign tax law on our business is uncertain and could be
adverse, and we will continue to monitor and assess the impact of any such changes.
Risks Related to Our Common Stock
Trading in our common stock is limited and the price of our common shares may be subject to substantial volatility.
Our common stock is listed on the NYSE American LLC (formerly the NYSE MKT LLC). Over the past years, the market price of
our common stock has experienced significant fluctuations. Between January 1, 2019, and December 31, 2019, the reported last
adjusted closing price on NYSE American LLC for our common stock ranged between $2.40 and $7.63 per share. The price of our
common stock may continue to be volatile as a result of several factors, some of which are beyond our control. These factors
include, but not limited to, the following:
•
•
•
•
•
•
Developments or lack thereof in any then-outstanding litigation;
Quarterly variations in our operating results;
Large purchases or sales of common stock or derivative transactions related to our stock;
Actual or anticipated announcements of new products or services by us or competitors;
General conditions in the markets in which we compete; and
General social, political, economic and financial conditions, including the significant volatility in the global financial
markets.
In addition, we believe there has been and may continue to be substantial trading in derivatives of our stock, including short selling
activity or related similar activities, which are beyond our control and which may be beyond the full control of the SEC and
Financial Institutions Regulatory Authority or “FINRA”. While the SEC and FINRA rules prohibit some forms of short selling and
other activities that may result in stock price manipulation, such activity may nonetheless occur without detection or enforcement.
We have held conversations with regulators concerning trading activity in our stock; however, there can be no assurance that should
there be any illegal manipulation in the trading of our stock, it will be detected, prosecuted or successfully eradicated. Significant
short selling market manipulation could cause our stock trading price to decline, to become more volatile, or both.
23
TABLE OF CONTENTS
The market price of our common stock has been and may continue to be volatile, and you could lose all or part of your
investment.
The trading price of our common stock has been volatile since our initial public offering and is likely to continue to be volatile.
Factors that could cause fluctuations in the market price of our common stock include, but are not limited to the following:
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
Price and volume fluctuations in the overall stock market from time to time;
Volatility in the market prices and trading volumes of companies in our industry or companies that investors consider
comparable;
Changes in operating performance and stock market valuations of other companies generally, or those in our industry;
Sales of shares of our common stock by us or our stockholders;
Failure of securities analysts to maintain coverage of us, changes in financial estimates by securities analysts who follow
us, or our failure to meet these estimates or the expectations of investors;
The financial projections we may provide to the public, any changes in those projections or our failure to meet those
projections;
Announcements by us or our competitors of new products or services;
The public’s reaction to our press releases, other public announcements and filings with the SEC;
Rumors and market speculation involving us or other companies in our industry;
Actual or anticipated changes in our results of operations;
Actual or anticipated developments in our business, our competitors’ businesses or the competitive landscape generally;
Litigation involving us, our industry or both, or investigations by regulators into our operations or those of our
competitors;
Announced or completed acquisitions of businesses or technologies by us or our competitors;
New laws or regulations or new interpretations of existing laws or regulations applicable to our business;
Changes in accounting standards, policies, guidelines, interpretations or principles;
Any significant change in our management; and
General economic conditions and slow or negative growth of our markets.
Further, in recent years the stock markets have experienced extreme price and volume fluctuations that have affected and continue to
affect the market prices of equity securities of many companies. These fluctuations often have been unrelated or disproportionate to
the operating performance of those companies. In addition, the stock prices of many technology companies have experienced wide
fluctuations that have often been unrelated to the operating performance of those companies. These broad market and industry
fluctuations, as well as general economic, political and market conditions such as recessions, government shutdowns, global
pandemics (such as the recent outbreak of the coronavirus), interest rate changes the stability of the EU and the exit of the United
Kingdom or international currency fluctuations, may cause the market price of our common stock to decline. In the past, following
periods of volatility in the overall market and the market price of a particular company’s securities, securities class action litigation
has often been instituted against these companies.
We do not currently pay dividends on our common stock and thus stockholders must look to appreciation of our common stock to
realize a gain on their investments.
Our dividend policy is within the discretion of our Board of Directors and will depend upon various factors, including our business,
financial condition, results of operations, capital requirements, and investment opportunities. We therefore cannot make assurances
that our Board of Directors will determine to pay regular or special dividends in the future. Accordingly, unless our Board of
Directors determines to pay dividends, stockholders will be required to look to appreciation of our common stock to realize a gain
on their investment. This appreciation may not occur.
24
TABLE OF CONTENTS
The exercise of our outstanding stock options, restricted stock units and issuance of new shares would result in a dilution of our
current stockholders’ voting power and an increase in the number of shares eligible for future resale in the public market which
may negatively impact the market price of our stock.
The exercise of our outstanding vested stock options would dilute the ownership interests of our existing stockholders. As of
December 31, 2019, we had outstanding options to purchase an aggregate of 5,630,021 shares of common stock representing
approximately 8% of our total shares outstanding of which 4,079,687 were vested and therefore exercisable. To the extent
outstanding stock options are exercised, additional shares of common stock will be issued, existing stockholders’ percentage voting
interests will decline and the number of shares eligible for resale in the public market will increase. Such increase may have a
negative effect on the value or market trading price of our common stock.
The market price of our common stock may decline because our operating results may not be consistent and may be difficult to
predict.
Our reported net income has fluctuated in the past due to several factors. We expect that our future operating results may also
fluctuate due to the same or similar factors. We had a net loss of $19.2 million for the year ended December 31, 2019, and; a net loss
of $25.4 million for the year ended December 31, 2018, with an accumulated deficit of $217.6 million. The following include some
of the factors that may cause our operating results to fluctuate:
•
•
•
•
•
•
The outcome of actions to enforce our intellectual property rights currently in progress or that we may undertake in the
future, and the timing thereof;
The amount and timing of receipt of license fees from potential infringers, licensees or customers;
The rate of adoption of our patented technologies;
The number of new license arrangements we may execute, or that may expire, within a particular period and the scope of
those licenses, including the number of our patents which are licensed, the extent of prior infringement of our patent
rights, royalty rates, timing of payment obligations, expiration date etc.;
The success of a licensee in selling products that use our patented technologies; and
The amount and timing of expenses related to our patent filings and enforcement proceedings, including litigation, related
to our intellectual property rights.
These fluctuations may make our business particularly difficult to manage, adversely affect our business and operating results, make
our operating results difficult for investors to predict and, further, cause our results to fall below investor’s expectations and
adversely affect the market price of our common stock.
Because ownership of our common stock is concentrated, investors may have limited influence on stockholder decisions.
As of December 31, 2019, our executive officers and directors beneficially owned approximately 13.2% of our outstanding common
stock. In addition, a group of stockholders that, as of December 31, 2007, held 4,766,666 shares, or approximately 8% of our
outstanding common stock, have entered into a voting agreement with us that requires them to vote all of their shares of our voting
stock in favor of the director nominees approved by our Board of Directors at each director election going forward, and in a manner
that is proportional to the votes cast by all other voting shares as to any other matters submitted to the stockholders for a vote.
However, we cannot be certain how many shares of our common stock this group of stockholders currently owns. Because of their
beneficial ownership interest, our officers and directors could significantly influence stockholder actions of which you disapprove or
that are contrary to your interests. This ability to exercise significant influence could prevent or significantly delay another company
from acquiring or merging with us.
25
TABLE OF CONTENTS
Our protective provisions in our amended and restated certificate of incorporation and bylaws could make it difficult for a third
party to successfully acquire us even if you would like to sell your stock to them.
We have a number of protective provisions in our amended and restated certificate of incorporation and bylaws that could delay,
discourage or prevent a third party from acquiring control of us without the approval of our Board of Directors. These protective
provisions include:
•
•
•
•
•
•
A staggered Board of Directors: This means that only one or two directors (since we have a five-person Board of
Directors) will be up for election at any given annual meeting. This has the effect of delaying the ability of stockholders to
affect a change in control of us because it would take two annual meetings to effectively replace a majority of the Board of
Directors.
Blank check preferred stock: Our Board of Directors has the authority to establish the rights, preferences and privileges of
our 10,000,000 authorized, but unissued, shares of preferred stock. Therefore, this stock may be issued at the discretion of
our Board of Directors with preferences over your shares of our common stock in a manner that is materially dilutive to
you. In addition, blank check preferred stock can be used to create a “poison pill” which is designed to deter a hostile
bidder from buying a controlling interest in our stock without the approval of our Board of Directors. We have not adopted
such a “poison pill;” but our Board of Directors has the ability to do so in the future, very rapidly and without stockholder
approval.
Advance notice requirements for director nominations and for new business to be brought up at stockholder meetings:
Stockholders wishing to submit director nominations or raise matters to a vote of the stockholders must provide notice to
us within very specific date windows and in very specific form in order to have the matter voted on at a stockholder
meeting. This has the effect of giving our Board of Directors and management more time to react to stockholder proposals
generally and could also have the effect of disregarding a stockholder proposal or deferring it to a subsequent meeting to
the extent such proposal is not raised properly.
No stockholder actions by written consent: No stockholder or group of stockholders may take actions rapidly and without
prior notice to our Board of Directors and management or to the minority stockholders. Along with the advance notice
requirements described above, this provision also gives our Board of Directors and management more time to react to
proposed stockholder actions.
Super majority requirement for stockholder amendments to the bylaws: Stockholder proposals to alter or amend our
bylaws or to adopt new bylaws can only be approved by the affirmative vote of at least 66 2/3% of the outstanding shares
of our common stock.
No ability of stockholders to call a special meeting of the stockholders: Only the Board of Directors or management can
call special meetings of the stockholders. This could mean that stockholders, even those who represent a significant
percentage of our shares of common stock, may need to wait for the annual meeting before nominating directors or raising
other business proposals to be voted on by the stockholders.
In addition, the provisions of Section 203 of the Delaware General Corporate Law govern us. These provisions may prohibit large
stockholders, particularly those owning 15% or more of our outstanding voting stock, from merging or combining with us for a
certain period of time.
These and other provisions in our amended and restated certificate of incorporation, our bylaws and under Delaware law could
discourage potential takeover attempts, reduce the price that investors might be willing to pay for shares of our common stock in the
future and result in the market price being lower than it would be without these provisions
Item 1B. Unresolved Staff Comments.
None.
Item 2.
Properties
Our principal executive offices are located at 308 Dorla Court, Suite 206, Zephyr Cove, Nevada, 89448. We lease this property,
which comprises approximately 2,090 square feet of office space, from a third party for a term that ends in October 2021. We have
no other properties and believe that our office facility is suitable and appropriately supports our current business needs.
26
TABLE OF CONTENTS
Item 3.
Legal Proceedings (all dollar amounts in this section are expressed in thousands except for rates per device)
We have multiple intellectual property infringement lawsuits pending in the United States District Court for the Eastern District of
Texas, Tyler Division (“USDC”), and United States Court of Appeals for the Federal Circuit (“USCAFC”).
VirnetX Inc. v. Cisco Systems, Inc. et al. (Case 6:10-CV-00417-LED) (“Apple I”)
On August 11, 2010, we filed a complaint against Aastra USA. Inc. (“Aastra”), Apple Inc. (“Apple”), Cisco Systems, Inc. (“Cisco”),
and NEC Corporation (“NEC”) the USDC in which we alleged that these parties infringe on certain of our patents (U.S. Patent Nos.
6,502,135, 7,418,504, 7,921,211 and 7,490,151). We sought damages and injunctive relief. The cases against each defendant were
separated by the judge. Aastra and NEC agreed to sign license agreements with us, and we dropped all accusations of infringement
against them. A jury in USDC decided that our patents were not invalid and rendered a verdict of non-infringement by Cisco on
March 4, 2013. Our motion for a new Cisco trial was denied and the case against Cisco was closed.
On November 6, 2012, a jury in the USDC awarded us over $368,000 for Apple’s infringement of four of our patents, plus daily
interest up to the final judgment.
Apple filed an appeal of the judgment to the USCAFC. On September 16, 2014, USCAFC affirmed the USDC jury’s finding that all
four of our patents at issue are valid and confirmed the USDC jury’s finding of infringement of VPN on Demand under many of the
asserted claims of our ‘135 and ‘151 patents, and the USDC’s decision to allow evidence about our license and royalty rates
regarding the determination of damages. However, the USCAFC vacated the USDC jury’s damages award and some of the USDC’s
claim construction with respect to parts of our ‘504 and ‘211 patents and remanded the damages award and determination of
infringement with respect to FaceTime back to the USDC for further proceedings.
On September 30, 2016, pursuant to the 2014 remand from the USCAFC, a jury in the USDC awarded us $302,400 for Apple’s
infringement of four of our patents. On September 29, 2017, the USDC entered its final judgement, denied all of Apple’s post-trial
motions, granted all our post-trial motions, including our motion for willful infringement and enhanced the royalty rate during the
willfulness period from $1.20 to $1.80 per device, and awarded us costs, certain attorneys’ fees, and prejudgment interest. The total
amount in the final judgement was $439,700, including $302,400 (jury verdict), $41,300 (enhanced damages) and $96,000 (costs,
fees and interest).
On October 27, 2017 Apple filed its notice of appeal of this final judgement to the USCAFC. Apple filed its opening brief on March
19, 2018. We filed our response on April 4, 2018. On April 11, 2018, USCAFC designated Cases 18-1197-CB, Case 17-1368 and
Case 17-1591 as companion cases and assigned to the same merits panel. Events and developments after this order are described
below under VirnetX Inc. v. The Mangrove Partners (USCAFC Case 17-1368) (“Consolidated Appeal”).
VirnetX Inc. v. Apple, Inc. (Case 6:12-CV-00855-LED) (“Apple II”)
This case began on November 6, 2012, when we had filed a complaint against Apple in USDC in which we alleged that Apple
infringed on certain of our patents, (U.S. Patent Nos. 6,502,135, 7,418,504, 7,921,211 and 7,490,151). We sought damages and
injunctive relief. The accused products include the iPhone 5, iPod Touch 5th Generation, iPad 4th Generation, iPad mini, and the
latest Macintosh computers; these products were not included in the Apple I case because they were released after the Apple I case
was initiated. Post-Trial Motions hearing was held on July 18, 2018. On August 31, 2018, the USDC entered a Final Judgment and
issued its Memorandum Opinion and Order regarding post-trial motions, affirming the jury’s verdict of $502,600 and granting
VirnetX motions for supplemental damages, a sunset royalty and the royalty rate of $1.20 per infringing iPhone, iPad and Mac
products, pre-judgment and post-judgment interest and costs. On September 20, 2018, pursuant to a Court’s order, attorneys from
VirnetX and Apple conferred and agreed, without dispute, to add an amount totaling $93,300 for Bill of Costs and Prejudgment
Interest to the $502,600 jury verdict. The total amount in the final judgement in the Apple II case is now $595,900. Apple has filed a
notice of appeal with the USCAFC in the Apple II case. On October 9, 2018, USCAFC accepted the notice and docketed it as Case
No. 19-1050 - VirnetX Inc. v. Apple Inc . All subsequent events and developments in this case are described below under VirnetX
Inc. v. Apple Inc. (USCAFC Case 19-1050) (“Apple II Appeal”).
27
TABLE OF CONTENTS
VirnetX Inc. v. The Mangrove Partners (USCAFC Case 17-1368) (“Consolidated Appeal”)
On April 11, 2018, the USCAFC in an order designated the following appeals as companion cases and assigned to the same merits
panel;
•
VirnetX Inc. v. The Mangrove Partners (USCAFC Case 17-1368)
On December 16, 2016, we filed appeals with the USCAFC, appealing the invalidity findings by the Patent Trial and
Appeal Board (“PTAB”) in IPR2015-01046, and on December 20, 2016 for IPR2015-1047, involving our U.S. Patent
Nos. 6,502,135, and 7,490,151. These appeals also involve Apple, and one of them involves Black Swamp IP, LLC. Oral
arguments in this case were argued on January 8, 2019.
On July 8, 2019, the USCAFC issued its opinion vacating and remanding both decisions. The court agreed with us that the
PTAB misconstrued the patent claims, that many of the PTAB’s invalidity findings lacked substantial evidence, and that
the PTAB Board abused its discretion in denying us the opportunity to file a motion for additional discovery as to the real
party-in-interest issues. The underlying inter partes review (“IPR”) proceedings are currently pending before the PTAB.
•
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 18-1197-CB) (Appeal of Apple I Case)
On October 27, 2017 Apple appealed the Final Judgment entered on September 29, 2017 to the USCAFC. Oral arguments
in this case were held on January 8, 2019. On January 15, 2019 the Court issued a Rule 36 order affirming the District
Court Judgement. Apple filed a request for panel rehearing and rehearing en-banc in this matter on February 21, 2019. On
March 12, 2019, the Court invited us to respond to Apple’s petition on or before March 26, 2019. We filed our response
on March 22, 2019.
On July 1, 2019 Apple filed a motion for leave to file a supplemental brief regarding the impact of the USCAFC’s
decision in VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 18-1751) , issued on June 28, 2019 (described below).
We filed a response to Apple’s motion and a contingent motion for leave to file a responsive supplemental brief on July
11, 2019. On July 17, 2019, the USCAFC granted both motions and ordered Apple’s and our supplemental briefs filed. On
August 1, 2019, USCAFC issued an order denying Apple’s petition for panel and en banc rehearing. On August 7, 2019,
Apple filed a motion to vacate the August 1, 2019 order and for leave to file a second request for panel rehearing and
rehearing en-banc. On October 1, 2019, USCAFC issued an order denying Apple’s motion. Apple subsequently requested
an extension for its deadline to petition for a writ of certiorari, and that deadline was extended until December 29, 2019.
Apple filed a petition for a writ of certiorari with the U.S. Supreme Court, which was denied on February 24, 2020. Prior
to the Supreme Court decision denying Apple’s Petition for Writ of Certiorari, on Ferbuary 20, 2020, Apple filed a Rule
60(b) Motion for Relief from Judgement in the U.S. District Court (VirnetX Inc. v. Apple, 6:10-cv-00417) seeking relief
from the Court’s September 29, 2017 Final Judgment. VirnetX filed a responsive brief in opposition on March 5, 2020. On
March 13, 2020, the Company received payment of $454,034 from Apple, representing the previously announced final
judgment with interest in this case. Apple has filed a motion in the USDC seeking to vacate the USDC’s final judgment
and has indicated that it will seek restitution of the payment if relief is awarded. The USDC has not ruled in this matter.
•
VirnetX Inc. v. Apple Inc., Cisco Systems, Inc. (USCAFC Case 17-1591)
On February 7, 2017, we filed appeals with the USCAFC, appealing the invalidity findings by the PTAB in inter-parties’
reexamination nos. 95/001,788, 95/001,789, and 95/001,856 related to our U.S. Patent Nos. 7,921,211 and 7,418,504 .
Oral arguments in this case were argued on January 8, 2019.
On July 1, 2019 Apple filed a motion for leave to file a supplemental brief regarding the impact of the USCAFC’s
decision in VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 18-1751) , issued on June 28, 2019 (described below).
On August 1, 2019, the USCAFC issued an opinion in this case agreeing with us that the PTAB could not maintain two of
those reexaminations (initiated by Apple) with respect to claims as to which there has been a prior “final decision” on
patent validity entered by a federal court. The court instructed PTAB to terminate those reexamination proceedings with
respect to claims 1-35 of the ‘504 patent and claims 36-59 of the ‘211 patent. The court affirmed PTAB’s invalidity
findings with respect to the remaining patent
28
TABLE OF CONTENTS
claims. Apple filed a request for panel rehearing and rehearing en-banc in this matter on August 26, 2019. We filed a
separate request for panel rehearing on September 3, 2019. Our request was denied on September 19, 2019, and Apple’s
request was denied on October 11, 2019. All decisions are final in the case.
VirnetX Inc. v. Apple Inc. (USCAFC Case 19-1050) (“Apple II Appeal”)
On January 24, 2019 Apple filed its opening brief. We filed our response brief on March 1, 2019. Apple filed its reply brief on April
5, 2019. The oral arguments were heard on October 4, 2019. On November 22, 2019, the USCAFC issued an opinion affirming the
district court’s findings that Apple is precluded from making certain invalidity arguments and that Apple infringed the ’135 and ’151
patents; reversing the district court’s finding that Apple infringed the ’504 and ’211 patents; and remanding the case for proceedings
on damages. Apple sought panel and en banc rehearing, which the USCAFC denied on February 10, 2020. On February 22, 2020,
USDC issued a scheduling order for the parties to brief the court about the need for a new trial for recalculating the damages. We
filed our initial brief on February 28, 2020. All briefings have been completed. Court’s decision in this matter is awaited.
VirnetX Inc. (USCAFC Case 17-2593)
On September 22, 2017, we filed with the USCAFC appeals of the invalidity findings by the PTAB in IPR2016-00693 and
IPR2016-00957 involving our U.S. Patent Nos. 7,418,504 and 7,921,211. The briefing in these appeals has not taken place. The
entity that initiated the IPRs, Black Swamp IP, LLC, indicated on October 18, 2017, that it would not participate in the appeals. On
November 27, 2017, the USPTO indicated that it would intervene in the appeals. On January 19, 2018, the USCAFC stayed these
appeals pending the USCAFC’s decision in Case 17-1591. On October 25, 2019, we and the USPTO filed a joint request that the
deadline to inform the USCAFC how these appeals should proceed be extended until November 1, 2019. On November 15, 2019,
we and the USPTO requested that the USCAFC stay this appeal pending resolution of any petition for rehearing in Arthrex, Inc. v.
Smith & Nephew, Inc., No. 2018-2140. The USCAFC denied the stay request on November 27, 2019. On January 6, 2020, we filed
a motion to vacate and remand in light of Arthrex, Inc. v. Smith & Nephew, Inc., 941 F.3d 1320 (Fed. Cir. 2019), which was granted
on February 27, 2020.
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 18-1751)
On March 30, 2018, we filed with the USCAFC an appeal of the invalidity findings by the PTAB in inter-partes reexamination no.
95/001,851 involving our U.S. Patent No. 7,418,504. Oral arguments in this case were held on June 4, 2019.
On June 28, 2019, the USCAFC issued its opinion vacating the PTAB’s invalidity findings with respect to claims 5, 12, and 13 and
remanding to the PTAB for further proceedings. The court affirmed the PTAB’s invalidity findings with respect to the remaining
patent claims. Cisco filed a request for panel rehearing and rehearing en-banc in this matter on August 12, 2019. Cisco’s request was
denied on October 1, 2019.
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 19-1043)
On October 1, 2018, we filed with the USCAFC an appeal of the invalidity findings by the PTAB in inter-partes reexamination no.
95/001,746 involving our U.S. Patent No. 6,839,759. We filed our opening brief on March 15, 2019. Cisco filed its response brief on
June 19, 2019. We filed our reply brief on August 14, 2019. Cisco filed a motion to submit a sur-reply brief on August 26, 2019,
which we opposed. On September 27, 2019, the USCAFC issued an order deferring resolution of Cisco’s motion for the merits
panel. Oral argument was held on January 8, 2020. On January 21, 2020, the USCAFC issued a Rule 36 judgment affirming the
PTAB’s decision.
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 19-1671)
On March 18, 2018, we filed with the USCAFC an appeal of the invalidity findings by the PTAB in inter-partes reexamination no.
95/001,679 involving our U.S. Patent No. 6,502,135. We filed a motion to remand on August 23, 2019, which the USCAFC denied
on October 1, 2019, directing the parties to address the issues in the merits briefs. Our opening brief is currently due on November
12, 2019. On November 7, 2019, we filed another motion to vacate and remand in light of Arthrex. The USPTO intervened and
opposed the remand. The USCAFC granted our motion on January 24, 2020.
29
TABLE OF CONTENTS
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 19-1725)
On March 29, 2019, we filed with the USCAFC an appeal of the invalidity findings by the PTAB in inter-partes reexamination no.
95/001,792 involving our U.S. Patent No. 7,188,180. We filed a motion to remand on September 10, 2019. We filed a supplemental
motion to remand in light of Arthrex on November 22, 2019, which the USCAFC granted on January 24, 2020. Cisco filed a petition
for panel and en banc rehearing on February 24, 2020, which remains pending.
One or more potential intellectual property infringement claims may also be available to us against certain other companies who
have the resources to defend against any such claims. Although we believe these potential claims are likely valid, commencing a
lawsuit can be expensive and time-consuming, and there is no assurance that we could prevail on such potential claims if we made
them. In addition, bringing a lawsuit may lead to potential counterclaims which may distract our management and our other
resources, including capital resources, from efforts to successfully commercialize our products.
Currently, we are not a party to any other pending legal proceedings and are not aware of any proceeding threatened or
contemplated against us.
Item 4. Mine Safety Disclosure
Not applicable.
30
TABLE OF CONTENTS
PART II
Item 5. Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity
Securities
Market Information
Our common stock currently trades under the symbol “VHC” on the NYSE American LLC.
Holders of Record
As of March 11, 2020, we had 53 stockholders of record. Because many of our shares of common stock are held of record by
brokers and other institutions on behalf of stockholders, we are unable to estimate the total number of beneficial stockholders
represented by such record holders.
Securities Authorized for Issuance under Equity Compensation Plan
See Item 12, Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters for information
regarding securities authorized for issuance.
Recent Sales of Unregistered Securities
During the year ended December 31, 2019, we had no sales of unregistered securities and no repurchases of stock.
Item 6.
Selected Financial Data
Consistent with the rules applicable to “smaller reporting companies,” we have omitted the information required by Item 6.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Company Overview
We are an Internet security software and technology company with patented technology for secure communications including 5G
and 4G LTE security. Our software and technology solutions, including our Secure Domain Name Registry and GABRIEL
Connection Technology™, are designed to facilitate secure communications and provide the security platform required by next-
generation Internet-based applications such as instant messaging, or IM, voice over Internet protocol, or VoIP, mobile services,
streaming video, file transfer, remote desktop and Machine-to-Machine, or M2M communications. Our technology generates secure
connections on a “zero-click” or “single-click” basis, significantly simplifying the deployment of secure real-time communication
solutions by eliminating the need for end-users to enter any encryption information. Our portfolio of intellectual property is the
foundation of our business model. We currently own approximately 194 total patents and pending applications, including 70 U.S.
patents/patent applications and 124 foreign patents/validations/pending applications. Our patent portfolio is primarily focused on
securing real-time communications over the Internet, as well as related services such as the establishment and maintenance of a
secure domain name registry. Our patented methods also have additional applications in the key areas of device operating systems
and network security for Cloud services, M2M communications in the new initiatives like “Smart City”, “Connected Car” and
“Connected Home” that would connect everything from social services and citizen engagement to public safety, transportation and
economic development to the internet to enable more productivity, features and efficiency in our everyday lives. The subject matter
of all our U.S. and foreign patents and pending applications relates generally to securing communication over the internet, and as
such covers all our technology and other products. Our issued U.S. and foreign patents expire at various times during the period
from 2019 to 2024. Some of our issued patents and pending patent applications were acquired by our principal operating subsidiary;
VirnetX, Inc., from Leidos, Inc., or Leidos, (f/k/a Science Applications International Corporation, or SAIC) in 2006 and we are
required to make payments to Leidos, based on cash or certain other values generated from those patents. The amount of such
payments depends upon the type of value generated, and certain categories are subject to maximums and other limitations.
Our product GABRIEL Secure Communication Platform™ includes a set of sophisticated software libraries with application
interfaces available for securing third-party applications seamlessly across multiple operating system platforms. Unlike other
collaboration and communication products and services on the market today, this product
31
TABLE OF CONTENTS
does not require access to user’s confidential data and reduces the threat of hacking and data mining. It enables individuals and
organizations to maintain complete ownership and control over their personal and confidential data, secured within their own private
network, while enabling authorized secure encrypted access from anywhere at any time.
Our GABRIEL Gateway product extends our Secure Communication Platform™ by allowing existing Networked Devices and
Services to seamlessly join the “GABRIEL SECURED” network without requiring any modifications. All these devices or services,
including cloud based services, can now be assigned a VirnetX Secure Domain Name and use a fully authenticated secure
communication channels for its communications.
Our GABRIEL Collaboration Suite™ is a set of communication tools that use our GABRIEL Secure Communication Platform™. It
enables seamless and secure cross-platform communications between devices that are enrolled in our security fabric and have our
software installed. Our GABRIEL Collaboration Suite™ is available for download and free trial, for Android, iOS, Windows, Linux
and Mac OS X platforms, at http://www.gabrielsecure.com/. We continue to enhance our products and add new functionality to our
products. We will provide updates to new and existing customers as they are released to the general public. A large number of small
and medium businesses have installed our GABRIEL Secure Communication Platform™ and GABRIEL Collaboration Suite™
products in their corporate networks. We intend to continue to expand our customer base with targeted promotions and direct sales
initiatives.
We are actively recruiting partners in various vertical markets including, healthcare, finance, government, etc., to help us rapidly
expand our enterprise customer base. A number of International Association of Certified ISAO (IACI) including ISAO’s for
Maritime & Ports ISAO, Credit Union ISAO, City of Chicago ISAO, Human Trafficking ISAO, have chosen to deploy our software
as private and secure e-technology to protect their communications. Several other ISAOs are completing their evaluations before
deploying our products within their networks.
We have executed a number of patent and technology licenses and intend to seek further licensees for our technology, including our
GABRIEL Connection Technology™ to original equipment manufacturers, or OEMs, of chips, servers, smart phones, tablets, e-
Readers, laptops, net books and other devices, within the IP-telephony, mobility, fixed-mobile convergence and unified
communications markets including 5G and 4G/LTE Advanced.
We have submitted a declaration with the 3rd Generation Partnership Project, or 3GPP, identifying a group of our patents and patent
applications that we believe are or may become essential to certain developing specifications in the 3GPP LTE, Systems
Architecture Evolution, or SAE project. We have agreed to make available a non-exclusive patent license under fair, reasonable and
non-discriminatory terms and conditions, with compensation, or FRAND, to 3GPP members desiring to implement the technical
specifications identified by us. We believe that we are positioned to license our essential security patents to 3GPP members as they
move into deploying 5G and 4G/LTE Advanced devices and solutions.
We have an ongoing GABRIEL Licensing Program under which we offer licenses to a portion of our patent portfolio, technology
and software, including our secure domain name registry service, to domain infrastructure providers, communication service
providers as well as to system integrators. Our GABRIEL Connection Technology™ License is offered to OEM customers who
want to adopt the GABRIEL Connection Technology™ as their solution for establishing secure connections using secure domain
names within their products. We have developed GABRIEL Connection Technology™ Software Development Kit (SDK) to assist
with rapid integration of these techniques into existing software implementations with minimal code changes and include object
libraries, sample code, testing and quality assurance tools and the supporting documentation necessary for a customer to implement
our technology.
Customers who want to develop their own implementation of our patented techniques for supporting secure domain names, or other
techniques that are covered by our patent portfolio for establishing secure communication links, can purchase a patent license. These
licenses will typically include an initial license fee, as well as an ongoing royalty.
We have signed Patent License Agreements with Avaya Inc., Aastra USA, Inc., Microsoft Corporation, Mitel Networks
Corporation, NEC Corporation and NEC Corporation of America, Siemens Enterprise Communications GmbH & Co. KG, and
Siemens Enterprise Communications Inc. to license certain of our patents, for a one-time payment and/or an ongoing royalty for all
future sales through the expiration of the licensed patents with respect to certain current and future IP-encrypted products.
32
TABLE OF CONTENTS
We believe that the market opportunity for our software and technology solutions is large and expanding as secure domain names
are now an integral part of securing the next generation 5G and 4G/LTE Advanced wireless networks and M2M communications in
areas including Smart City, Connected Car and Connected Home. We also believe that all 5G and 4G/LTE Advanced mobile devices
will require unique secure domain names and become part of a secure domain name registry.
We intend to continue to license our patent portfolio, technology and software, including our secure domain name registry service,
to domain infrastructure providers, communication service providers as well as to system integrators. We intend to seek further
license of our technology, including our GABRIEL Connection Technology™ to enterprise customers, developers and original
equipment manufacturers, or OEMs, of chips, servers, smart phones, tablets, e-Readers, laptops, net books and other devices, within
the IP-telephony, mobility, fixed-mobile convergence and unified communications markets including 5G and 4G/LTE.
Our employees include the core development team behind our patent portfolio, technology and software. This team has worked
together for over ten years and is the same team that invented and developed this technology while working at Leidos, Inc.
(“Leidos”). Leidos is a FORTUNE 500® scientific, engineering and technology applications company that uses its deep domain
knowledge to solve problems of vital importance to the nation and the world, in national security, energy and the environment,
critical infrastructure and health. The team has continued its research and development work started at Leidos and expanded the set
of patents we acquired in 2006 from Leidos, into a larger portfolio of approximately 194 total patents and pending applications,
including 70 U.S. patents/patent applications and 124 foreign patents/validations/pending applications This portfolio now serves as
the foundation of our licensing business and planned service offerings and is expected to generate the majority of our future revenue
in license fees and royalties. We intend to continue our research and development efforts to further strengthen and expand our patent
portfolio.
We intend to continue using a primarily outsourced and leveraged model to maintain efficiency and manage costs as we grow our
licensing business by, for example, offering incentives to early licensing targets or asserting our rights for use of our patents. We
also intend to expand our design pilot in participation with leading 5G and 4G/LTE companies (domain infrastructure providers,
chipset manufacturers, service providers and others) and build our secure domain name registry.
Litigation (all dollar amounts in this section are expressed in thousands except for rates per device)
We have multiple intellectual property infringement lawsuits pending in the United States District Court for the Eastern District of
Texas, Tyler Division (“USDC”), and United States Court of Appeals for the Federal Circuit (“USCAFC”).
VirnetX Inc. v. Cisco Systems, Inc. et al. (Case 6:10-CV-00417-LED) (“Apple I”)
On August 11, 2010, we filed a complaint against Aastra USA. Inc. (“Aastra”), Apple Inc. (“Apple”), Cisco Systems, Inc. (“Cisco”),
and NEC Corporation (“NEC”) the USDC in which we alleged that these parties infringe on certain of our patents (U.S. Patent Nos.
6,502,135, 7,418,504, 7,921,211 and 7,490,151). We sought damages and injunctive relief. The cases against each defendant were
separated by the judge. Aastra and NEC agreed to sign license agreements with us, and we dropped all accusations of infringement
against them. A jury in USDC decided that our patents were not invalid and rendered a verdict of non-infringement by Cisco on
March 4, 2013. Our motion for a new Cisco trial was denied and the case against Cisco was closed.
On November 6, 2012, a jury in the USDC awarded us over $368,000 for Apple’s infringement of four of our patents, plus daily
interest up to the final judgment.
Apple filed an appeal of the judgment to the USCAFC. On September 16, 2014, USCAFC affirmed the USDC jury’s finding that all
four of our patents at issue are valid and confirmed the USDC jury’s finding of infringement of VPN on Demand under many of the
asserted claims of our ‘135 and ‘151 patents, and the USDC’s decision to allow evidence about our license and royalty rates
regarding the determination of damages. However, the USCAFC vacated the USDC jury’s damages award and some of the USDC’s
claim construction with respect to parts of our ‘504 and ‘211 patents and remanded the damages award and determination of
infringement with respect to FaceTime back to the USDC for further proceedings.
On September 30, 2016, pursuant to the 2014 remand from the USCAFC, a jury in the USDC awarded us $302,400 for Apple’s
infringement of four of our patents. On September 29, 2017, the USDC entered its final judgement,
33
TABLE OF CONTENTS
denied all of Apple’s post-trial motions, granted all our post-trial motions, including our motion for willful infringement and
enhanced the royalty rate during the willfulness period from $1.20 to $1.80 per device, and awarded us costs, certain attorneys’ fees,
and prejudgment interest. The total amount in the final judgement was $439,700, including $302,400 (jury verdict), $41,300
(enhanced damages) and $96,000 (costs, fees and interest).
On October 27, 2017 Apple filed its notice of appeal of this final judgement to the USCAFC. Apple filed its opening brief on March
19, 2018. We filed our response on April 4, 2018. On April 11, 2018, USCAFC designated Cases 18-1197-CB, Case 17-1368 and
Case 17-1591 as companion cases and assigned to the same merits panel. Events and developments after this order are described
below under VirnetX Inc. v. The Mangrove Partners (USCAFC Case 17-1368) (“Consolidated Appeal”).
VirnetX Inc. v. Apple, Inc. (Case 6:12-CV-00855-LED) (“Apple II”)
This case began on November 6, 2012, when we had filed a complaint against Apple in USDC in which we alleged that Apple
infringed on certain of our patents, (U.S. Patent Nos. 6,502,135, 7,418,504, 7,921,211 and 7,490,151). We sought damages and
injunctive relief. The accused products include the iPhone 5, iPod Touch 5th Generation, iPad 4th Generation, iPad mini, and the
latest Macintosh computers; These products were not included in the Apple I case because they were released after the Apple I case
was initiated. Post-Trial Motions hearing was held on July 18, 2018. On August 31, 2018, the USDC entered a Final Judgment and
issued its Memorandum Opinion and Order regarding post-trial motions, affirming the jury’s verdict of $502,600 and granting
VirnetX motions for supplemental damages, a sunset royalty and the royalty rate of $1.20 per infringing iPhone, iPad and Mac
products, pre-judgment and post-judgment interest and costs. On September 20, 2018, pursuant to a Court’s order, attorneys from
VirnetX and Apple conferred and agreed, without dispute, to add an amount totaling $93,300 for Bill of Costs and Prejudgment
Interest to the $502,600 jury verdict. The total amount in the final judgement in the Apple II case is now $595,900. Apple has filed a
notice of appeal with the USCAFC in the Apple II case. On October 9, 2018, USCAFC accepted the notice and docketed it as Case
No. 19-1050 - VirnetX Inc. v. Apple Inc. All subsequent events and developments in this case are described below under VirnetX
Inc. v. Apple Inc. (USCAFC Case 19-1050) (“Apple II Appeal”).
VirnetX Inc. v. The Mangrove Partners (USCAFC Case 17-1368) (“Consolidated Appeal”)
On April 11, 2018, the USCAFC in an order designated the following appeals as companion cases and assigned to the same merits
panel;
•
VirnetX Inc. v. The Mangrove Partners (USCAFC Case 17-1368)
On December 16, 2016, we filed appeals with the USCAFC, appealing the invalidity findings by the Patent Trial and
Appeal Board (“PTAB”) in IPR2015-01046, and on December 20, 2016 for IPR2015-1047, involving our U.S. Patent
Nos. 6,502,135, and 7,490,151. These appeals also involve Apple, and one of them involves Black Swamp IP, LLC. Oral
arguments in this case were argued on January 8, 2019.
On July 8, 2019, the USCAFC issued its opinion vacating and remanding both decisions. The court agreed with us that the
PTAB misconstrued the patent claims, that many of the PTAB’s invalidity findings lacked substantial evidence, and that
the PTAB Board abused its discretion in denying us the opportunity to file a motion for additional discovery as to the real
party-in-interest issues. The underlying inter partes review (“IPR”) proceedings are currently pending before the PTAB.
•
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 18-1197-CB) (Appeal of Apple I Case)
On October 27, 2017 Apple appealed the Final Judgment entered on September 29, 2017 to the USCAFC. Oral arguments
in this case were held on January 8, 2019. On January 15, 2019 the Court issued a Rule 36 order affirming the District
Court Judgement. Apple filed a request for panel rehearing and rehearing en-banc in this matter on February 21, 2019. On
March 12, 2019, the Court invited us to respond to Apple’s petition on or before March 26, 2019. We filed our response
on March 22, 2019.
On July 1, 2019 Apple filed a motion for leave to file a supplemental brief regarding the impact of the USCAFC’s
decision in VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 18-1751), issued on June 28, 2019 (described below).
We filed a response to Apple’s motion and a contingent motion for leave to file a responsive supplemental brief on July
11, 2019. On July 17, 2019, the USCAFC granted both motions and ordered Apple’s and our supplemental briefs filed. On
August 1, 2019, USCAFC issued an order
34
TABLE OF CONTENTS
denying Apple’s petition for panel and en banc rehearing. On August 7, 2019, Apple filed a motion to vacate the August
1, 2019 order and for leave to file a second request for panel rehearing and rehearing en-banc. On October 1, 2019,
USCAFC issued an order denying Apple’s motion. Apple subsequently requested an extension for its deadline to petition
for a writ of certiorari, and that deadline was extended until December 29, 2019. Apple filed a petition for a writ of
certiorari with the U.S. Supreme Court, which was denied on February 24, 2020. Prior to the Supreme Court decision
denying Apple’s Petition for Writ of Certiorari, on Ferbuary 20, 2020, Apple filed a Rule 60(b) Motion for Relief from
Judgement in the U.S. District Court (VirnetX Inc. v. Apple, 6:10-cv-00417) seeking relief from the Court’s September 29,
2017 Final Judgment. VirnetX filed a responsive brief in opposition on March 5, 2020. On March 13, 2020, the Company
received payment of $454,034 from Apple, representing the previously announced final judgment with interest in this
case. Apple has filed a motion in the USDC seeking to vacate the USDC’s final judgment and has indicated that it will
seek restitution of the payment if relief is awarded. The USDC has not ruled in this matter.
•
VirnetX Inc. v. Apple Inc., Cisco Systems, Inc. (USCAFC Case 17-1591)
On February 7, 2017, we filed appeals with the USCAFC, appealing the invalidity findings by the PTAB in inter-parties’
reexamination nos. 95/001,788, 95/001,789, and 95/001,856 related to our U.S. Patent Nos. 7,921,211 and 7,418,504. Oral
arguments in this case were argued on January 8, 2019.
On July 1, 2019 Apple filed a motion for leave to file a supplemental brief regarding the impact of the USCAFC’s
decision in VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 18-1751), issued on June 28, 2019 (described below).
On August 1, 2019, the USCAFC issued an opinion in this case agreeing with us that the PTAB could not maintain two of
those reexaminations (initiated by Apple) with respect to claims as to which there has been a prior “final decision” on
patent validity entered by a federal court. The court instructed PTAB to terminate those reexamination proceedings with
respect to claims 1-35 of the ‘504 patent and claims 36-59 of the ‘211 patent. The court affirmed PTAB’s invalidity
findings with respect to the remaining patent claims. Apple filed a request for panel rehearing and rehearing en-banc in
this matter on August 26, 2019. We filed a separate request for panel rehearing on September 3, 2019. Our request was
denied on September 19, 2019, and Apple’s request was denied on October 11, 2019. All decisions are final in the case.
VirnetX Inc. v. Apple Inc. (USCAFC Case 19-1050) (“Apple II Appeal”)
On January 24, 2019 Apple filed its opening brief. We filed our response brief on March 1, 2019. Apple filed its reply brief on April
5, 2019. The oral arguments were heard on October 4, 2019. On November 22, 2019, the USCAFC issued an opinion affirming the
district court’s findings that Apple is precluded from making certain invalidity arguments and that Apple infringed the ’135 and ’151
patents; reversing the district court’s finding that Apple infringed the ’504 and ’211 patents; and remanding the case for proceedings
on damages. Apple sought panel and en banc rehearing, which the USCAFC denied on February 10, 2020. On February 22, 2020,
USDC issued a scheduling order for the parties to brief the court about the need for a new trial for recalculating the damages. We
filed our initial brief on February 28, 2020. All briefings have been completed. Court’s decision in the matter is awaited.
VirnetX Inc. (USCAFC Case 17-2593)
On September 22, 2017, we filed with the USCAFC appeals of the invalidity findings by the PTAB in IPR2016-00693 and
IPR2016-00957 involving our U.S. Patent Nos. 7,418,504 and 7,921,211. The briefing in these appeals has not taken place. The
entity that initiated the IPRs, Black Swamp IP, LLC, indicated on October 18, 2017, that it would not participate in the appeals. On
November 27, 2017, the USPTO indicated that it would intervene in the appeals. On January 19, 2018, the USCAFC stayed these
appeals pending the USCAFC’s decision in Case 17-1591. On October 25, 2019, we and the USPTO filed a joint request that the
deadline to inform the USCAFC how these appeals should proceed be extended until November 1, 2019. On November 15, 2019,
we and the USPTO requested that the USCAFC stay this appeal pending resolution of any petition for rehearing in Arthrex, Inc. v.
Smith & Nephew, Inc., No. 2018-2140. The USCAFC denied the stay request on November 27, 2019. On January 6, 2020, we filed
a motion to vacate and remand in light of Arthrex, Inc. v. Smith & Nephew, Inc., 941 F.3d 1320 (Fed. Cir. 2019), which was granted
on February 27, 2020.
35
TABLE OF CONTENTS
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 18-1751)
On March 30, 2018, we filed with the USCAFC an appeal of the invalidity findings by the PTAB in inter-partes reexamination no.
95/001,851 involving our U.S. Patent No. 7,418,504. Oral arguments in this case were held on June 4, 2019.
On June 28, 2019, the USCAFC issued its opinion vacating the PTAB’s invalidity findings with respect to claims 5, 12, and 13 and
remanding to the PTAB for further proceedings. The court affirmed the PTAB’s invalidity findings with respect to the remaining
patent claims. Cisco filed a request for panel rehearing and rehearing en-banc in this matter on August 12, 2019. Cisco’s request was
denied on October 1, 2019.
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 19-1043)
On October 1, 2018, we filed with the USCAFC an appeal of the invalidity findings by the PTAB in inter-partes reexamination no.
95/001,746 involving our U.S. Patent No. 6,839,759. We filed our opening brief on March 15, 2019. Cisco filed its response brief on
June 19, 2019. We filed our reply brief on August 14, 2019. Cisco filed a motion to submit a sur-reply brief on August 26, 2019,
which we opposed. On September 27, 2019, the USCAFC issued an order deferring resolution of Cisco’s motion for the merits
panel. Oral argument was held on January 8, 2020. On January 21, 2020, the USCAFC issued a Rule 36 judgment affirming the
PTAB’s decision.
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 19-1671)
On March 18, 2018, we filed with the USCAFC an appeal of the invalidity findings by the PTAB in inter-partes reexamination no.
95/001,679 involving our U.S. Patent No. 6,502,135. We filed a motion to remand on August 23, 2019, which the USCAFC denied
on October 1, 2019, directing the parties to address the issues in the merits briefs. Our opening brief is currently due on November
12, 2019. On November 7, 2019, we filed another motion to vacate and remand in light of Arthrex. The USPTO intervened and
opposed the remand. The USCAFC granted our motion on January 24, 2020.
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 19-1725)
On March 29, 2019, we filed with the USCAFC an appeal of the invalidity findings by the PTAB in inter-partes reexamination no.
95/001,792 involving our U.S. Patent No. 7,188,180. We filed a motion to remand on September 10, 2019. We filed a supplemental
motion to remand in light of Arthrex on November 22, 2019, which the USCAFC granted on January 24, 2020. Cisco filed a petition
for panel and en banc rehearing on February 24, 2020, which remains pending.
One or more potential intellectual property infringement claims may also be available to us against certain other companies who
have the resources to defend against any such claims. Although we believe these potential claims are likely valid, commencing a
lawsuit can be expensive and time-consuming, and there is no assurance that we could prevail on such potential claims if we made
them. In addition, bringing a lawsuit may lead to potential counterclaims which may distract our management and our other
resources, including capital resources, from efforts to successfully commercialize our products.
Currently, we are not a party to any other pending legal proceedings and are not aware of any proceeding threatened or
contemplated against us.
Commitments and Related Party Transactions
We lease our offices under an operating lease with a third party expiring in October 2021. We recognize rent expense on a straight-
line basis over the term of the lease.
We entered into a service agreement for the use of an aircraft from K2 Investment Fund LLC (“LLC”) for business travel for
employees of the Company. We incurred approximately $1,790, and $1,590 in rental fees and reimbursements to the LLC during the
years ended December 31, 2019, and 2018, respectively. We pay for the Company’s business usage of the aircraft and have no right
to purchase. Our Chief Executive Officer and Chief Administrative Officer are the managing partners of the LLC and control the
equity interests of the LLC. We entered into a 12-month non-exclusive agreement with the LLC for use of the plane at a rate of $8
per flight hour, with no minimum usage requirement. The agreement contains other terms and conditions normal in such
transactions and can be cancelled by either us or the LLC with 30 days’ notice. The agreement renews on an annual basis unless
terminated by either party. Neither party has exercised their termination rights.
36
TABLE OF CONTENTS
Critical Accounting Policies
The preparation of financial statements in conformity with accounting principles generally accepted in the United States (“GAAP”)
requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported
period. The critical accounting policies we employ in the preparation of our consolidated financial statements are those which
involve impairment of long-lived assets, income taxes, fair value of financial instruments and stock-based compensation.
Basis of Consolidation
The consolidated financial statements include the accounts of VirnetX Holding Corporation and our wholly-owned subsidiaries. All
intercompany balances and transactions have been eliminated.
Use of Estimates
We prepare our consolidated financial statements in accordance with U.S. GAAP. In doing so, we have to make estimates and
assumptions that affect our reported amounts of assets, liabilities, revenues, and expenses, as well as related disclosure of contingent
assets and liabilities. In some cases, we could reasonably have used different accounting policies and estimates. In some cases,
changes in our accounting estimates are reasonably likely to occur. Accordingly, actual results could differ materially from our
estimates. To the extent that there are material differences between these estimates and actual results, our financial condition or
results of operations will be affected. We base our estimates on past experience and other assumptions that we believe are
reasonable under the circumstances, at the time they are made, and we evaluate these estimates on an ongoing basis. We refer to
accounting estimates of this type as critical accounting policies and estimates, which we discuss further below.
Leases
The Company determines if an arrangement is a lease at inception in accordance with Accounting Standards Codification (“ASC”)
Topic 842. Operating lease right-of-use (“ROU”) assets are included in other assets on the Consolidated Balance Sheet. ROU assets
represent the Company’s right to use an underlying asset for the lease term and lease liabilities represent the Company’s obligation
to make lease payments arising from the lease. ROU assets and lease liabilities are recognized at the commencement date based on
the present value of lease payments over the lease term.
Revenue Recognition
We derive our revenue from patent licensing. The timing and amount of revenue recognized from each licensee depends upon a
variety of factors, including the specific terms of each agreement and the nature of the deliverables and obligations. Such
agreements may be complex and include multiple elements. These agreements may include, without limitation, elements related to
the settlement of past patent infringement liabilities, up-front and non-refundable license fees for the use of patents, patent licensing
royalties on covered products sold by licensees, and the compensation structure and ownership of intellectual property rights
associated with contractual technology development arrangements. We account for revenue in accordance with Accounting
Standards Update (“ASU”) No.2014-09, Revenue from Contracts with Customers (“Topic 606”), which we adopted on January 1,
2018 using the modified-retrospective method.
Under Topic 606 a performance obligation is a promise in a contract to transfer a distinct good or service to the customer. A
contract’s transaction price is allocated to each distinct performance obligation and recognized as revenue when, or as, the
performance obligation is satisfied. Our revenue arrangements may consist of multiple-element arrangements, with revenue for each
unit of accounting recognized as the product or service is delivered to the customer.
With the licensing of our patents, performance obligations are generally satisfied at a point in time as work is complete and our
patent rights are transferred to our customers. We generally have no further obligation to our customers regarding our technology.
Certain contracts may require our customers to enter into a hosting arrangement and revenues from these contracts are recognized
over time, generally over the life of the servicing contract.
37
TABLE OF CONTENTS
Earnings Per Share
Basic earnings per share are computed by dividing earnings available to common stockholders by the weighted average number of
outstanding common shares during the period. Diluted earnings per share are computed by dividing net income by the weighted
average number of shares outstanding during the period increased to include the number of additional shares of common stock that
would have been outstanding if the potentially dilutive securities had been issued. During the years ended 2019 and 2018, we
incurred losses. Therefore, the effects of any common stock equivalents were anti-dilutive during those periods.
Concentration of Credit Risk and Other Risks and Uncertainties
Our cash and cash equivalents are primarily maintained at two major financial institutions in the United States. A portion of those
balances are insured by the Federal Deposit Insurance Corporation. During the year ended December 31, 2019, and 2018 we had, at
times, funds which were uninsured. We do not believe that we are subject to any unusual financial risk beyond the normal risk
associated with commercial banking relationships with major financial institutions. We have not experienced any losses on our
deposits of cash and cash equivalents.
Impairment of Long-Lived Assets
We identify and record impairment losses on long-lived assets used in operations when events and changes in circumstances
indicate that the carrying amount of an asset might not be recoverable, but not less than annually. Recoverability is measured by
comparison of the anticipated future net undiscounted cash flows to the related assets’ carrying value. If such assets are considered
to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the
projected discounted future net cash flows arising from the asset.
Income Taxes
We account for income taxes using the asset and liability method. The asset and liability method require the recognition of deferred
tax assets and liabilities for expected future tax consequences of temporary differences that currently exist between the tax basis and
financial reporting basis of our assets and liabilities. We calculate current and deferred tax provisions based on estimates and
assumptions that could differ from actual results reflected on the income tax returns filed during the following years. Adjustments
based on filed returns are recorded when identified in the subsequent years. The effect on deferred taxes for a change in tax rates is
recognized in income in the period that the tax rate change is enacted. In assessing our deferred tax assets, we consider whether it is
more likely than not that all or some portion of the deferred tax assets will not be realized.
A valuation allowance is provided for deferred income tax assets when, in our judgment, based upon currently available information
and other factors, it is more likely than not that all or a portion of such deferred income tax assets will not be realized. The
determination of the need for a valuation allowance is based on an on-going evaluation of current information including, among
other things, historical operating results, estimates of future earnings in different taxing jurisdictions and the expected timing of the
reversals of temporary differences. We believe the determination to record a valuation allowance to reduce a deferred income tax
asset is a significant accounting estimate because it is based, among other things, on an estimate of future taxable income in the
United States and certain other jurisdictions, which is susceptible to change and may or may not occur, and because the impact of
adjusting a valuation allowance may be material. In determining when to release the valuation allowance established against our net
deferred income tax assets, we consider all available evidence, both positive and negative. Consistent with our policy, and because
of our history of operating losses, we do not currently recognize the benefit of all our deferred tax assets, including tax loss carry
forwards, that may be used to offset future taxable income. We continually assess our ability to generate sufficient taxable income
during future periods in which our deferred tax assets may be realized. If and when we believe it is more likely than not that we will
recover our deferred tax assets, we will reverse the valuation allowance as an income tax benefit in our statements of operations.
We account for our uncertain tax positions in accordance with U.S. GAAP. The U.S. GAAP method of accounting for uncertain tax
positions utilizes a two-step approach to evaluate tax positions. Step one, recognition, requires evaluation of the tax position to
determine if based solely on technical merits it is more likely than not to be sustained upon examination. Step two, measurement, is
addressed only if a position is more likely than not to be sustained. In step two, the tax benefit is measured as the largest amount of
benefit, determined on a cumulative probability basis, which is more likely than not to be realized upon ultimate settlement with tax
authorities. If a position does not meet the more likely than not threshold for recognition in step one, no benefit is recorded until the
first subsequent period
38
TABLE OF CONTENTS
in which the more likely than not standard is met, the issue is resolved with the taxing authority, or the statute of limitations expires.
Positions previously recognized are derecognized when we subsequently determine the position no longer is more likely than not to
be sustained. Evaluation of tax positions, their technical merits, and measurements using cumulative probability are highly
subjective management estimates. Actual results could differ materially from these estimates.
Stock-based Compensation
We account for stock-based compensation using the fair value recognition method. We recognize these compensation costs on a
straight-line basis over the requisite service period of the award, which is generally based on the option vesting term of 4 years.
In addition, we record stock-based compensation expense for awards granted to non-employees at fair value of the consideration
received or the fair value of the equity investments issued generally as they vest over the performance period.
Fair Value
We apply fair value accounting to all financial assets and liabilities and non-financial assets and liabilities that are recognized or
disclosed at fair value in the financial statements on a recurring basis. Fair value is estimated by applying the following hierarchy,
which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the
lowest level of input that is available and significant to the fair value measurement:
Level 1 – Quoted prices in active markets for identical assets or liabilities.
Level 2 – Observable inputs other than quoted prices in active markets for identical assets and liabilities, quoted prices for
identical or similar assets or liabilities in inactive markets, or other inputs that are observable or can be corroborated by
observable market data for substantially the full term of the assets or liabilities.
Level 3 – Inputs that are generally unobservable and typically reflect management’s estimate of assumptions that market
participants would use in pricing the asset or liability.
Our financial instruments are stated at amounts that equal, or are intended to approximate, fair value. When we approximate fair
value, we utilize market data or assumptions that we believe market participants would use in pricing the financial instrument,
including assumptions about risk and inputs to the valuation technique. We use quoted valuation techniques, primarily the income
and market approach that maximize the use of observable inputs and minimize the use of unobservable inputs for recurring fair
value measurements.
New Accounting Pronouncements
In December 2019 the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2019-12
Income Taxes (Topic 740). The amendments in this ASU simplify the accounting for income taxes by removing certain exceptions
to the general principles in Topic 740. The amendments also improve consistent application of and simplify GAAP for other areas of
Topic 740 by clarifying and amending existing guidance. The amendments in this ASU are effective for fiscal years, and interim
periods within those fiscal years, beginning after December 15, 2020. We are currently evaluating the impact, if any this ASU will
have on our consolidated financial statements and related disclosures.
In August 2018 the FASB issued ASU 2018-13 - Fair Value Measurement (Topic 820). The FASB is issuing the amendments in this
ASU as part of the disclosure framework project. On March 4, 2014, the Board issued a proposed FASB Concepts Statement,
Conceptual Framework for Financial Reporting—Chapter 8: Notes to Financial Statements, which the Board finalized on August
28, 2018. The disclosure framework project’s objective and primary focus are to improve the effectiveness of disclosures in the
notes to financial statements by facilitating clear communication of the information required by GAAP that is most important to
users of each entity’s financial statements. The amendments in this ASU are effective for all entities for fiscal years, and interim
periods within those fiscal years, beginning after December 15, 2019. We will adopt this guidance on January 1, 2020 and expect
this guidance will have no material impact on our financial position and statement of operations.
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments-Credit Losses (“Topic 326”). The purpose of this ASU is
to require a financial asset measured at amortized cost basis to be presented at the net amount expected to be collected. Credit losses
relating to available-for-sale debt securities should be recorded through an allowance for credit losses. This ASU is effective for
interim and annual reporting periods beginning after December 15, 2019. We will adopt this guidance on January 1, 2020 and expect
this guidance will have no material impact on our financial position and statement of operations.
39
TABLE OF CONTENTS
In February 2016, FASB issued ASU No. 2016-02, Leases (Topic 842) as amended and supplemented by subsequent ASU’s, (“ASU
2016-02”). ASU 2016-02 requires an entity to recognize ROU assets and lease liabilities on its balance sheet and disclose key
information about leasing arrangements. For public companies, ASU 2016-02 is effective for annual reporting periods beginning
after December 15, 2018, including interim periods within that reporting period, and requires a modified retrospective adoption,
with early adoption permitted. We adopted this ASU on January 1, 2019 which had no impact on our consolidated statements of
operations.
In May 2014, the FASB issued ASU No. 2014-09 Revenue from Contracts with Customers (“Topic 606”). As amended, Topic 606
supersedes prior revenue recognition requirements including most industry-specific revenue recognition guidance. On January 1,
2018 we adopted this standard using the modified retrospective method which resulted in a $2,500 decrease in accumulated deficit
and a $2,500 decrease in deferred revenue in our consolidated balance sheet.
Results of Operations (all amounts in this section are expressed in thousands)
Revenue
Revenue
2019
2018
$
85 $
63
Revenue generated for the year ended December 31, 2019 was $85 compared to revenue for the year ended December 31, 2018 of
$63. The increase was largely attributable to sales as part of our license agreements.
We recognized royalty revenue as part of license agreements entered into with customers during the patent infringement actions (see
“Litigation”). These revenues relate to payment for use of our patented technology prior to the signing of a license agreement, and
royalty payments after the execution of the license agreements. No amounts were allocable to settlement fees, expense
reimbursement, damages or any other amounts other than historical and future sales as no such amounts were requested or received.
Research and Development Expenses
Research and Development
2019
$
3,845 $
2018
4,815
Research and development costs include expenses paid to outside development consultants and compensation-related expenses for
our engineering staff. Research and development costs are expensed as incurred.
Our research and development expenses for the year ended December 31, 2019 were $3,845 compared to December 31, 2018 of
$4,815. The decrease in 2019 compared to 2018 was primarily due to the decrease in compensation.
Selling, General and Administrative Expenses
Selling, General and Administrative
2019
$ 15,905 $
2018
20,705
Selling, general and administrative expenses include compensation expense for management and administrative personnel, as well
as expenses for outside legal, accounting, and consulting services.
Our selling, general and administrative expenses for the year ended December 31, 2019 was $15,905 compared to December 31,
2018 of $20,705. The volatility within selling, general and administrative expenses was primarily due to legal fees related to cases
involving the defense of our patents. Legal fees were $5,898 and $9,706 in 2019 and 2018, respectively and represent approximately
37% of selling, general and administrative expenses for 2019 compared to 47% for 2018.
Interest and Other Income, net
Interest and Other Income
2019
2018
$
92 $
54
Interest and other income for the year ended December 31, 2019 was $92 compared to December 31, 2018 of $54.
40
TABLE OF CONTENTS
Effective Income Tax Rate
A reconciliation of the United States federal statutory income tax rate to our effective income tax rate is as follows:
United States federal statutory rate
State taxes, net of federal benefit
Valuation allowance
Cumulative effect of accounting change
R&D Credit
Other
Effective income tax rate
Year Ended
December 31, 2019
Year Ended
December 31, 2018
21.00%
1.99%
(21.96)%
—
1.34%
(0.38)%
1.99%
21.00%
(0.01)%
(24.33)%
2.07%
1.53%
(0.27)%
(0.01)%
In 2019 and 2018 we had pre-tax losses of $19,573 and $25,403, respectively, which are available for carry forward to offset future
taxable income. We made determinations to provide full valuation allowances for our net deferred tax assets at the end of 2019 and
2018, including NOL carryforwards generated during the years, based on our evaluation of positive and negative evidence,
including our history of operating losses and the uncertainty of generating future taxable income that would enable us to realize our
deferred tax.
Liquidity and Capital Resources
For the year ended December 31, 2019, our cash and cash equivalents totaled $3,135 and our short-term investments totaled $2,394
compared to $7,611 and $1,803, respectively, for the year ended December 31, 2018.
We expect that our cash and cash equivalents and short-term investments as of December 31, 2019, and the $4,489 in proceeds
subsequent to December 31, 2019, from sales of our common shares under the ATM, as well as the possibility of future sales of
common shares under the ATM and the universal shelf registration statement, described below, will be sufficient to fund our current
level of selling, general and administration costs, including legal expenses and provide related working capital for the foreseeable
future. Over the longer term, we expect to derive the majority of our future revenue from license fees and royalties associated with
our patent portfolio, technology, software and secure domain name registry in the United States and other markets around the world.
Universal Shelf Registration and ATM Offering
On July 30, 2018 we filed a $100,000 universal shelf registration statement on SEC Form S-3 which was declared effective by the
SEC on August 16, 2018. We also entered an at-the-market equity offering sales agreement (“ATM”) with Cowen & Company, LLC
on August 31, 2018, under which we can offer and sell shares of our common stock having an aggregate value of up to $50,000.
We use the ATM proceeds for GABRIEL product development, marketing and general corporate purposes, which may include
working capital, capital expenditures, other corporate expenses and acquisitions of complementary products, technologies or
businesses. As of December 31, 2019, common stock with an aggregate value of up to $26,592 remained available for offer and sale
under the ATM agreement.
During the year ended December 31, 2019, we sold 1,860,483 shares under the ATM. The average sales price per common share
was $5.84 and the aggregate proceeds from the sales totaled $10,866 during the period. Sales commissions, fees and other costs
associated with the ATM totaled $327.
Contractual Commitments
Leases
Total
Total
2020
2021
$
$
102 $
102 $
56 $
56 $
46
46
41
TABLE OF CONTENTS
Off-Balance Sheet Arrangements
As of December 31, 2019, we had no off-balance sheet arrangements.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Consistent with the rules applicable to “smaller reporting companies,” we have omitted the information required by Item 7A.
42
TABLE OF CONTENTS
Item 8.
Financial Statements and Supplementary Data
FINANCIAL STATEMENTS
Financial Statements Index
Report of Farber Hass Hurley LLP, Independent Registered Public Accounting Firm
Consolidated Balance Sheets of VirnetX Holding Corporation as of December 31, 2019 and December 31, 2018
Consolidated Statements of Operations of VirnetX Holding Corporation for the years ended December 31, 2019 and,
December 31, 2018
Consolidated Statements of Comprehensive Loss of VirnetX Holding Corporation for the years ended December 31,
2019 and December 31, 2018
Consolidated Statements of Stockholders’ Equity of VirnetX Holding Corporation for the years ended December 31,
2019 and, December 31, 2018
Consolidated Statements of Cash Flows of VirnetX Holding Corporation for the years ended December 31, 2019, and
December 31, 2018
Notes to Consolidated Financial Statements of VirnetX Holding Corporation
Page
44
45
46
46
47
48
49
43
TABLE OF CONTENTS
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and
Stockholders of VirnetX Holding Corporation
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of VirnetX Holding Corporation (the “Company”) as of December
31, 2019 and 2018, and the related consolidated statements of operations, comprehensive loss, stockholders’ equity, and cash flows
for each of the years in the two-year period ended December 31, 2019, and the related notes (collectively referred to as the financial
statements). In our opinion, the financial statements present fairly, in all material respects, the consolidated financial position of the
Company as of December 31, 2019 and 2018, and the consolidated results of their operations and cash flows for each of the years in
the two-year period ended December 31, 2019, in conformity with accounting principles generally accepted in the United States of
America.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States)
(PCAOB), the Company’s internal control over financial reporting as of December 31, 2019, based on criteria established in Internal
Control—Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission
(COSO), and our report dated March 16, 2020, expressed an unqualified opinion.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an
opinion on the Company’s consolidated financial statements based on our audits. We are a public accounting firm registered with
the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and
the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the
audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error
or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether
due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis,
evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting
principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial
statements. We believe that our audits provide a reasonable basis for our opinion.
Emphasis of Matter
As discussed in Notes 12 and 15 to the financial statements, as part of ongoing litigation, the Company received approximately
$454,034,000 from Apple on March 13, 2020.
/s/ Farber Hass Hurley LLP
We have served as the Company’s auditor since 2008.
Chatsworth, California
March 16, 2020
44
TABLE OF CONTENTS
VIRNETX HOLDING CORPORATION
CONSOLIDATED BALANCE SHEETS
(in thousands, except share amounts)
As of
December 31, 2019
As of
December 31, 2018
ASSETS
Current assets:
Cash and cash equivalents
Investments available for sale
Accounts receivables
Prepaid expenses and other current assets
Total current assets
Prepaid expenses and other assets
Property and equipment, net
Total assets
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable and accrued liabilities
Accrued payroll and related expenses
Other liabilities, current
Income tax liability
Total current liabilities
Other liabilities
Total liabilities
Commitments and contingencies (Note 4)
Stockholders’ equity:
Preferred stock, par value $0.0001 per share Authorized: 10,000,000 shares at
December 31, 2019 and December 31, 2018, Issued and outstanding: 0 shares at
December 31, 2019 and December 31, 2018
Common stock, par value $0.0001 per share
Authorized: 100,000,000 shares at December 31, 2019 and December 31, 2018,
Issued and outstanding: 69,586,764 shares and 66,879,847 shares, at December
31, 2019 and December 31, 2018, respectively
Additional paid-in capital
Accumulated deficit
Accumulated other comprehensive loss
Total stockholders’ equity
Total liabilities and stockholders’ equity
$
$
$
$
3,135 $
2,394
5
237
5,771
1,711
16
7,498 $
1,346 $
287
193
—
1,826
44
1,870
—
7,611
1,803
6
718
10,138
1,604
9
11,751
1,050
277
140
396
1,863
—
1,863
—
—
—
7
223,237
(217,602)
(14)
5,628
7,498 $
7
208,317
(198,422)
(14)
9,888
11,751
See accompanying notes to consolidated financial statements.
45
TABLE OF CONTENTS
VIRNETX HOLDING CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except share and per share amounts)
Revenue
Operating expense:
Research and development
Selling, general and administrative expenses
Total operating expense
Loss from operations
Interest and other income, net
Loss before taxes
Income tax benefit (expense)
Net loss
Basic and diluted loss per share
Weighted average shares outstanding basic and diluted
Year Ended
December 31, 2019
Year Ended
December 31, 2018
85 $
63
3,845
15,905
19,750
(19,665)
92
(19,573)
393
(19,180) $
(0.28) $
68,564,321
4,815
20,705
25,520
(25,457)
54
(25,403)
(3)
(25,406)
(0.40)
62,985,763
$
$
$
VIRNETX HOLDING CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(in thousands)
Net loss
Other comprehensive (loss), net of tax:
Change in unrealized gain (loss) on investments
Change in foreign currency translation
Total other comprehensive gain (loss), net of tax
Comprehensive loss
Year Ended
December 31, 2019
Year Ended
December 31, 2018
(19,180) $
(25,406)
3
(3)
—
(19,180) $
(1)
—
(1)
(25,407)
$
$
See accompanying notes to consolidated financial statements.
46
TABLE OF CONTENTS
VirnetX Holding Corporation
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(in thousands, except share amounts)
Common Stock
Shares
Amount
Additional
Paid-in
Capital
Accumulated
Deficit
Accumulated
Other
Comprehensive
Loss
Total
Stockholders’
Equity
(Deficit)
Balance at December 31, 2017
59,051,978 $
6 $177,076 $ (175,516) $
(13) $
1,553
Cumulative effect of accounting change
Stock issued for cash at $3.00 -$4.89 per share,
net
Stock issued for options and RSUs, net
Stock-based compensation
Comprehensive income:
Net loss
Change in unrealized
losses, net of tax
Comprehensive loss
Balance at December 31, 2018
Stock issued for cash at $4.00 -$6.49 per share,
net
Stock issued for options and RSUs, net
Stock-based compensation
Comprehensive income:
Net loss
Change in foreign currency translation, net of
tax
Change in unrealized gains,
net of tax
Comprehensive loss
Balance at December 31, 2019
7,510,555
317,314
1
27,051
135
4,055
2,500
(25,406)
66,879,847 $
7 $208,317 $ (198,422) $
(14) $
(1)
1,860,483
846,434
10,539
670
3,711
(19,180)
(3)
3
69,586,764 $
7 $223,237 $ (217,602) $
(14) $
2,500
27,052
135
4,055
(25,406)
(1)
(25,407)
9,888
10,539
670
3,711
(19,180)
(3)
3
(19,180)
5,628
See accompanying notes to consolidated financial statements.
47
TABLE OF CONTENTS
VIRNETX HOLDING CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Cash flows from operating activities:
Net loss
Adjustments to reconcile net loss to net cash from operating activities:
Year Ended
December 31, 2019
Year Ended
December 31, 2018
$
(19,180) $
(25,406)
Depreciation
Stock-based compensation
Changes in assets and liabilities:
Prepaid expenses and other current assets
Accounts payable
Other liabilities
Accrued payroll and related expenses
Accounts receivable
Income tax liability
Net cash used in operating activities
Cash flows from investing activities:
Purchase of property and equipment
Purchase of investments
Proceeds from sale or maturity of investments
Net cash used in investing activities
Cash flows from financing activities:
Proceeds from exercise of options
Proceeds from sale of common stock
Payments on payroll taxes on cashless exercise of RSUs
Net cash provided by financing activities
Net increase (decrease) in cash and cash equivalents
Cash and cash equivalents, beginning of period
Cash and cash equivalents, end of period
Cash paid for income taxes
Deferred revenue reclassified to retained earnings – ASC 606 adoption
$
$
$
See accompanying notes to consolidated financial statements.
48
7
3,711
374
296
97
10
1
(396)
(15,080)
(14)
(5,784)
5,192
(606)
816
10,539
(145)
11,210
(4,476)
7,611
3,135 $
4 $
— $
18
4,055
258
636
—
(1,856)
(6)
3
(22,298)
—
(3,090)
2,720
(370)
135
27,052
(43)
27,144
4,476
3,135
7,611
3
2,500
TABLE OF CONTENTS
VirnetX Holding Corporation
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands except share, per share and per device amounts)
Note 1 − Formation and Business of the Company
VirnetX Holding Corporation, which we refer to as” we”, “us”, “our”, “the Company” or “VirnetX”, is engaged in the business of
commercializing a portfolio of patents. We seek to license our technology, including GABRIEL Connection Technology™, to
various original equipment manufacturers, or OEMs, that use our technologies in the development and manufacturing of their own
products within the IP-telephony, mobility, fixed-mobile convergence and unified communications markets. Prior to 2012 our
revenue was limited to an insignificant amount of software royalties pursuant to the terms of a single license agreement. During
2013 and 2012 we had revenues from settlements of patent infringement disputes whereby we received consideration for past sales
of licensees that utilized our technology, where there was no prior patent license agreement (see “Revenue Recognition”).
Our portfolio of intellectual property is the foundation of our business model. We currently own approximately 194 total patents and
pending applications, including 70 U.S. patents/patent applications and 124 foreign patents/validations/pending applications. Our
patent portfolio is primarily focused on securing real-time communications over the Internet, as well as related services such as the
establishment and maintenance of a secure domain name registry. Our patented methods also have additional applications in the key
areas of device operating systems and network security for Cloud services, M2M communications in areas of Smart City, Connected
Car and Connected Home. The subject matter of all our U.S and foreign patents and pending applications relates generally to
securing communications over the internet and such covers all our technology and other products. Our issued U.S. and foreign
patents expire at various times during the period from 2019 to 2024. Some of our issued patents and pending patent applications
were acquired by our principal operating subsidiary; VirnetX, Inc., from Leidos, (f/k/a Science Applications International
Corporation or SAIC) in 2006 and we are required to make payments to Leidos, based on cash or certain other values generated
from those patents. The amount of such payments depends upon the type of value generated, and certain categories are subject to
maximums and other limitations.
Note 2 − Summary of Significant Accounting Policies
The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires us
to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported period. The
critical accounting policies we employ in the preparation of our consolidated financial statements are those which involve
impairment of long-lived assets, income taxes, fair value of financial instruments and stock-based compensation.
Use of Estimates
We prepare our consolidated financial statements in accordance with accounting principles generally accepted in the U.S. (“U.S.
GAAP”). In doing so, we have to make estimates and assumptions that affect our reported amounts of assets, liabilities, revenues,
and expenses, as well as related disclosure of contingent assets and liabilities. In some cases, we could reasonably have used
different accounting policies and estimates. In some cases, changes in the accounting estimates are reasonably likely to occur from
period to period. Accordingly, actual results could differ materially from our estimates. To the extent that there are material
differences between these estimates and actual results, our financial condition or results of operations will be affected. We base our
estimates on past experience and other assumptions that we believe are reasonable under the circumstances, and we evaluate these
estimates on an ongoing basis. We refer to accounting estimates of this type as critical accounting policies and estimates, which we
discuss further below. We have reviewed our critical accounting policies and estimates with the audit committee of our board of
directors.
Basis of Consolidation
The consolidated financial statements include the accounts of VirnetX Holding Corporation and our wholly owned subsidiaries. All
intercompany balances and transactions have been eliminated.
49
TABLE OF CONTENTS
Leases
The Company determines if an arrangement is a lease at inception in accordance with Accounting Standards Codification (“ASC”)
Topic 842. Operating lease right-of-use (“ROU”) assets are included in Prepaid expense, and other assets on the Consolidated
Balance Sheet. ROU assets represent the Company’s right to use an underlying asset for the lease term and lease liabilities represent
the Company’s obligation to make lease payments arising from the lease. ROU assets and lease liabilities are recognized at the
commencement date based on the present value of lease payments over the lease term. (See Note 14)
Revenue Recognition
We derive our revenue from patent licensing. The timing and amount of revenue recognized from each licensee depends upon a
variety of factors, including the specific terms of each agreement and the nature of the deliverables and obligations. Such
agreements may be complex and include multiple elements. These agreements may include, without limitation, elements related to
the settlement of past patent infringement liabilities, up-front and non-refundable license fees for the use of patents, patent licensing
royalties on covered products sold by licensees, and the compensation structure and ownership of intellectual property rights
associated with contractual technology development arrangements. We account for revenue in accordance with Accounting
Standards Update (“ASU”) No.2014-09, Revenue from Contracts with Customers (“Topic 606”), which we adopted on January 1,
2018 using the modified-retrospective method.
Under Topic 606 a performance obligation is a promise in a contract to transfer a distinct good or service to the customer. A
contract’s transaction price is allocated to each distinct performance obligation and recognized as revenue when, or as, the
performance obligation is satisfied. Our revenue arrangements may consist of multiple-element arrangements, with revenue for each
unit of accounting recognized as the product or service is delivered to the customer.
With the licensing of our patents, performance obligations are generally satisfied at a point in time as work is complete and our
patent rights are transferred to our customers. We generally have no further obligation to our customers regarding our technology.
Certain contracts may require our customers to enter into a hosting arrangement with us and for these arrangements’ revenue is
recognized over time, generally over the life of the servicing contract.
Contingent Gains
We recognize gain contingencies in accordance with ASC 450-30-25 which prohibits recognition of contingent gains until realized.
Accordingly, we do not record contingent gains ahead of such realization. Management generally considers any such gains as
realized only upon the collection of cash.
Cash and Cash Equivalents
We consider all highly liquid investments purchased with original maturities of three months or less at the date of purchase to be
cash equivalents. Our cash and cash equivalents are not subject to significant interest rate risk due to the short maturities of these
investments.
Prepaid Expenses and Other Current Assets
Prepaid Expense and Other Current Assets on the consolidated balance sheet at December 31, 2018 includes the current portion of
prepaid rent for a facility lease for corporate promotional and marketing purposes, and this balance is included in ROU assets as of
December 31, 2019 (see Note 14 - Effects of Adopting ASU Topic 842 – Leases, below). In a prior year, the Company prepaid
$4,000 which is being amortized over the remaining balance of the lease. The unamortized non-current portion of the prepayment is
included in Prepaid Expenses-Non-current on the consolidated balance sheet.
Investments
Investments are classified as available-for-sale and are recorded at fair market value. Unrealized gains and losses are reported as
other comprehensive income. Realized gains and losses are recorded in income in the period they are realized using specific
identification of each security’s cost basis. We invest our excess cash primarily in highly liquid debt instruments including
corporate, government and federal agency securities, with contractual maturities less than two years. By policy, we limit the amount
of credit exposure to any one issuer.
50
TABLE OF CONTENTS
Property and Equipment
Property and equipment are stated at historical cost, less accumulated depreciation and amortization. Depreciation and amortization
are computed using the accelerated and straight-line methods over the estimated useful lives of the assets, which range from five to
seven years. Repair and maintenance costs are charged to expense as incurred.
Concentration of Credit Risk and Other Risks and Uncertainties
Our cash and cash equivalents are primarily maintained at two major financial institutions in the United States. Deposits held with
these financial institutions may exceed the amount of insurance provided on such deposits. A portion of those balances are insured
by the Federal Deposit Insurance Corporation, or FDIC. During the year ended December 31, 2019 and 2018, we had, at times,
funds that were uninsured. We do not believe that we are subject to any unusual financial risk beyond the normal risk associated
with commercial banking relationships. We have not experienced any losses on our deposits of cash and cash equivalents.
Fair Value
The carrying amounts of our financial instruments, including cash equivalents, accounts payable, and accrued liabilities,
approximate fair value because of their generally short maturities.
Intangible Assets
We record intangible assets at cost, less accumulated amortization. Amortization of intangible assets is provided over their estimated
useful lives, which can range from 3 to 15 years, on either a straight-line basis or as revenue is generated by the assets.
Impairment of Long-Lived Assets
We identify and record impairment losses on long-lived assets used in operations when events and changes in circumstances
indicate that the carrying amount of an asset might not be recoverable, but not less than annually. Recoverability is measured by
comparison of the anticipated future net undiscounted cash flows to the related assets’ carrying value. If such assets are considered
to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the
projected discounted future net cash flows arising from the asset.
Research and Development
Research and development costs include expenses paid to outside development consultants and compensation related expenses for
our engineering staff. Research and development costs are expensed as incurred.
Income Taxes
We account for income taxes using the asset and liability method. The asset and liability method requires the recognition of deferred
tax assets and liabilities for expected future tax consequences of temporary differences that currently exist between the tax basis and
financial reporting basis of our assets and liabilities. We calculate current and deferred tax provisions based on estimates and
assumptions that could differ from actual results reflected on the income tax returns filed during the following years. Adjustments
based on filed returns are recorded when identified in the subsequent years. The effect on deferred taxes for a change in tax rates is
recognized in income in the period that the tax rate change is enacted. In assessing our deferred tax assets, we consider whether it is
more likely than not that all or some portion of the deferred tax assets will not be realized.
A valuation allowance is provided for deferred income tax assets when, in our judgment, based upon currently available information
and other factors, it is more likely than not that all or a portion of such deferred income tax assets will not be realized. The
determination of the need for a valuation allowance is based on an on-going evaluation of current information including, among
other things, historical operating results, estimates of future earnings in different taxing jurisdictions and the expected timing of the
reversals of temporary differences. We believe the determination to record a valuation allowance to reduce a deferred income tax
asset is a significant accounting estimate because it is based, among other things, on an estimate of future taxable income in the
United States and certain other jurisdictions, which is susceptible to change and may or may not occur, and because the impact of
adjusting a valuation allowance may be material. In determining when to release the valuation allowance established
51
TABLE OF CONTENTS
against our net deferred income tax assets, we consider all available evidence, both positive and negative. Consistent with our
policy, and because of our history of operating losses, we do not currently recognize the benefit of all of our deferred tax assets,
including tax loss carry forwards, that may be used to offset future taxable income. We continually assess our ability to generate
sufficient taxable income during future periods in which our deferred tax assets may be realized. If and when we believe it is more
likely than not that we will recover our deferred tax assets, we will reverse the valuation allowance as an income tax benefit in our
statements of operations.
We account for our uncertain tax positions in accordance with U.S. GAAP. The U.S. GAAP method of accounting for uncertain tax
positions utilizes a two-step approach to evaluate tax positions. Step one, recognition, requires evaluation of the tax position to
determine if based solely on technical merits it is more likely than not to be sustained upon examination. Step two, measurement, is
addressed only if a position is more likely than not to be sustained. In step two, the tax benefit is measured as the largest amount of
benefit, determined on a cumulative probability basis, which is more likely than not to be realized upon ultimate settlement with tax
authorities. If a position does not meet the more likely than not threshold for recognition in step one, no benefit is recorded until the
first subsequent period in which the more likely than not standard is met, the issue is resolved with the taxing authority, or the
statute of limitations expires. Positions previously recognized are derecognized when we subsequently determine the position no
longer is more likely than not to be sustained. Evaluation of tax positions, their technical merits, and measurements using
cumulative probability are highly subjective management estimates. Actual results could differ materially from these estimates.
Stock-Based Compensation
We account for stock-based compensation using the fair value recognition method in accordance with U.S. GAAP. We recognize
these compensation costs on a straight-line basis over the requisite service period of the award, which is generally the vesting term
of 4 years. We do not estimate the forfeiture rate and recognize forfeitures, if any, when they occur. See Note 6 - Stock-Based
Compensation below for additional information concerning our share-based compensation awards.
In addition, as required we record stock-based compensation expense for awards granted to non-employees at fair value of the
consideration received or the fair value of the equity instruments issued as they vest over the performance period.
Earnings per Share
Basic earnings per share are computed by dividing earnings available to common stockholders by the weighted average number of
outstanding common shares during the period. Diluted earnings per share is computed by dividing net income by the weighted
average number of shares outstanding during the period increased to include the number of additional shares of common stock that
would have been outstanding if the potentially dilutive securities had been issued. During 2019, and 2018 we incurred losses;
therefore, the effect of any common stock equivalent would be anti-dilutive during these periods.
New Accounting Pronouncements
In December 2019 the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2019-12
Income Taxes (Topic 740). The amendments in this ASU simplify the accounting for income taxes by removing certain exceptions
to the general principles in Topic 740. The amendments also improve consistent application of and simplify GAAP for other areas of
Topic 740 by clarifying and amending existing guidance. The amendments in this ASU are effective for fiscal years, and interim
periods within those fiscal years, beginning after December 15, 2020. We are currently evaluating the impact, if any this ASU will
have on our consolidated financial statements and related disclosures.
In August 2018 the FASB issued ASU 2018-13 - Fair Value Measurement (Topic 820). The FASB is issuing the amendments in this
ASU as part of the disclosure framework project. On March 4, 2014, the Board issued a proposed FASB Concepts Statement,
Conceptual Framework for Financial Reporting—Chapter 8: Notes to Financial Statements, which the Board finalized on August
28, 2018. The disclosure framework project’s objective and primary focus are to improve the effectiveness of disclosures in the
notes to financial statements by facilitating clear communication of the information required by GAAP that is most important to
users of each entity’s financial statements. The amendments in this ASU are effective for all entities for fiscal years, and interim
periods within those fiscal years, beginning after December 15, 2019. We will adopt this guidance on January 1, 2020 and expect
this guidance will have no material impact on our financial position and statement of operations.
52
TABLE OF CONTENTS
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments-Credit Losses (“Topic 326”). The purpose of this ASU is
to require a financial asset measured at amortized cost basis to be presented at the net amount expected to be collected. Credit losses
relating to available-for-sale debt securities should be recorded through an allowance for credit losses. This ASU is effective for
interim and annual reporting periods beginning after December 15, 2019. We will adopt this guidance on January 1, 2020 and expect
this guidance will have no material impact on our financial position and statement of operations.
In February 2016, FASB issued ASU No. 2016-02, Leases (Topic 842) as amended and supplemented by subsequent ASU’s, (“ASU
2016-02”). ASU 2016-02 requires an entity to recognize ROU assets and lease liabilities on its balance sheet and disclose key
information about leasing arrangements. For public companies, ASU 2016-02 is effective for annual reporting periods beginning
after December 15, 2018, including interim periods within that reporting period, and requires a modified retrospective adoption,
with early adoption permitted. We adopted this ASU on January 1, 2019 which had no impact on our consolidated statements of
operations.
In May 2014, the FASB issued ASU No. 2014-09 Revenue from Contracts with Customers (“Topic 606”). As amended, Topic 606
supersedes prior revenue recognition requirements including most industry-specific revenue recognition guidance. On January 1,
2018 we adopted this standard using the modified retrospective method which resulted in a $2,500 decrease in accumulated deficit
and a $2,500 decrease in deferred revenue in our consolidated balance sheet.
Note 3 − Property and Equipment
Our major classes of property and equipment were as follows:
Office furniture
Computer equipment
Total
Less accumulated depreciation
Total property and equipment, net
December 31
2019
2018
$
$
79 $
81
160
(144)
16 $
79
67
146
(137)
9
Depreciation expense for the years ended December 31, 2019 and 2018 was $7, and $18, respectively.
Note 4 − Commitments, Contingencies and Related Party Transactions
We lease our offices under an operating lease with a third party expiring in October 2021. We recognize rent expense on a straight-
line basis over the term of the lease. Rent expense was $56, for each of the years ended December 31, 2019, and 2018. Future
minimum rents due under the lease total $102 in 2019, of which $56 is due in 2020 and $46 is due in 2021, when the lease expires.
We entered into a service agreement for the use of an aircraft from K2 Investment Fund LLC (“LLC”) for business travel for
employees of the Company. We incurred approximately $1,790 and $1,590 in rental fees and reimbursements to the LLC during the
years ended December 31, 2019 and 2018, respectively. We pay for the Company’s usage of the aircraft and have no rights to
purchase. Our Chief Executive Officer and Chief Administrative Officer are the managing partners of the LLC and control the
equity interests of the LLC. We entered into a 12-month non-exclusive agreement with the LLC for use of the plane at a rate of $8
per flight hour, with no minimum usage requirement. The agreement contains other terms and conditions normal in such
transactions and can be cancelled by either us or the LLC with 30 days’ notice. The agreement renews on an annual basis unless
terminated by either party. Neither party has exercised their termination rights.
Note 5 − Stock Plan
We have a stock incentive plan for employees and others called the VirnetX Holding Corporation 2013 Equity Incentive Plan (the
“2013 Plan”), which has been approved by our stockholders. To the extent that any award should expire, become un-exercisable or
is otherwise forfeited, the shares subject to such award will again become available for issuance under the 2013 Plan. The 2013 Plan
provides for the granting of stock options and restricted stock units purchase rights (“RSUs”) to our employees and consultants.
Stock options granted under the 2013 Plan may be
53
TABLE OF CONTENTS
incentive stock options or nonqualified stock options. Incentive stock options (“ISOs”) may only be granted to our employees
(including officers and directors). Nonqualified stock options (“NSOs”) and stock purchase rights may be granted to our employees
and consultants.
The 2013 Plan will expire in 2023. Options may be granted under the 2013 Plan with an exercise price determined by our Board of
Directors, or a duly appointed committee thereof, provided, however, that the exercise price of an option granted to any employee
shall be not less than 100% of the fair market value at the date of grant in the case of ISOs or 85% of the fair market value at the
date of grant in the case of an NSO. The exercise price of an ISO or NSO granted to one of our Named Executive Officers shall not
be less than 100% fair market value of the shares at the date of grant and the exercise price of an ISO granted to a 10% shareholder
shall not be less than 110% of the fair market value of the shares on the date of grant. Stock options granted under the 2013 Plan
typically vest over four years and have a 10-year term. All RSUs are considered to be granted at the fair value of our stock on the
date of grant because they have no exercise price. RSUs typically vest over four years. At December 31, 2019, there were 1,208,070
shares available for grant under the 2013 Plan.
Note 6 − Stock-Based Compensation
The following tables summarize information about stock options and RSUs outstanding at December 31, 2019:
Range of
Exercise Prices
$ 2.35 - 6.95
$ 14.52 - 35.25
Options Outstanding
Number
Outstanding
4,376,396
1,253,625
5,630,021
Weighted
Average
Remaining
Contractual
Life (Years)
Weighted
Average
Exercise
Price
Options Vested and Exercisable
Weighted
Average
Remaining
Contractual
Life (Years)
Weighted
Average
Exercise
Price
Number
Exercisable
7.08 $
2.71 $
6.11 $
4.29
23.16
8.49
2,826,062
1,253,625
4,079,687
6.48 $
2.71 $
5.32 $
4.31
23.16
10.10
The following tables summarize activity under the Plan for the indicated periods:
Outstanding at December 31, 2017
Options granted
Options exercised
Options cancelled
Outstanding at December 31, 2018
Options granted
Options exercised
Options cancelled
Outstanding at December 31, 2019
Options exercisable at December 31, 2019
Outstanding at December 31, 2017
RSUs granted
RSUs vested
Outstanding at December 31, 2018
RSUs granted
RSUs vested
RSUs cancelled
Outstanding at December 31, 2019
Number of
Shares
5,138,066 $
1,095,000
(117,229)
(117,000)
5,998,837 $
345,000
(663,816)
(50,000)
5,630,021 $
4,079,687 $
Options
Weighted
Average
Exercise
Price
Weighted
Average
Remaining
Contractual
Life (Years)
Aggregate
Intrinsic
Value
8.41
3.52
1.15
5.34
7.72
6.06
1.23
4.95
8.49
10.10
— $
—
—
—
— $
—
—
—
6.11 $
5.32 $
—
—
—
—
—
—
—
—
516
314
RSUs
Weighted
Average
Grant Date
Fair Value
Aggregate
Intrinsic
Value
5.19 $
3.26
6.19
3.83 $
6.06
4.07
4.65
4.71 $
—
—
—
—
—
—
86
Number of
RSUs
469,661 $
246,663
(211,330)
504,994 $
229,996
(207,334)
(29,167)
498,489 $
54
TABLE OF CONTENTS
Intrinsic value is calculated as the difference between the per-share market price of our common stock on the last trading day of
2019, which was $3.80 and the exercise price of the options. For options exercised, the intrinsic value is the difference between
market price and the exercise price on the date of exercise. We received cash proceeds of $816 and $135 from stock options
exercised in 2019 and 2018, respectively. The total intrinsic value of options exercised was $2,473 and $46 during the years ended
December 31, 2019 and 2018, respectively.
Stock-based compensation expense is included in general and administrative expense for each period as follows:
Stock-Based Compensation by Type of Award
Stock options
RSUs
Total stock-based compensation expense
Year Ended
December 31, 2019
$
Year Ended
December 31, 2018
2,756 $
955
3,711 $
2,926
1,129
4,055
$
As of December 31, 2019, there was $4,801 of unrecognized stock-based compensation expense related to unvested employee stock
options and $1,882 of unrecognized stock-based compensation expense related to unvested RSUs. These costs are expected to be
recognized over a weighted-average period of 2.13 and 2.33 years, respectively.
The fair value of each option grant was estimated on the date of grant using the Black-Scholes option pricing model using the
following weighted average assumptions:
Expected stock price volatility
Risk-free interest rate
Expected life term
Expected dividends
Year Ended
December 31, 2019
Year Ended
December 31, 2018
92.34%
2.09%
85.26%
2.73%
6.14 years
6.02 years
0%
0%
Based on the Black-Scholes option pricing model, the weighted average estimated fair value of employee stock options granted was
$4.63 and $2.58 per share during the years ended December 31, 2019 and 2018, respectively.
The expected life was determined using the simplified method outlined in ASC 718, “Compensation - Stock Compensation”.
Expected volatility of the stock options was based upon historical data and other relevant factors. We have not provided an estimate
for forfeitures because we have had nominal forfeited options and RSUs and believed that all outstanding options and RSUs at
December 31, 2019, would vest.
Note 7 − Earnings Per Share
Basic earnings per share are based on the weighted average number of shares outstanding for a period. Diluted earnings per share
are based upon the weighted average number of shares and potentially dilutive common shares outstanding. Potential common
shares outstanding principally include stock options, under our stock plan and warrants. During 2019, and 2018 we incurred losses;
therefore, the effect of any common stock equivalent would be anti-dilutive during those periods.
The table below sets forth the basic and diluted loss per share calculations:
Net loss
Basic and diluted weighted average number of shares outstanding
Basic and diluted loss per share
Note 8 − Common Stock
2019
(19,180)
68,564
(0.28)
$
$
2018
(25,406)
62,986
(0.40)
Each share of common stock has the right to one vote. The holders of common stock are entitled to receive dividends whenever
funds are legally available and when declared by our Board of Directors, subject to the prior rights of holders of all classes of stock
outstanding having priority rights as to dividends. Our restated articles of incorporation authorize us to issue up to 100,000,000
shares of $.0001 par value common stock.
In August 2015, we filed a universal shelf registration statement with the SEC enabling us to offer and sell from time to time up to
$100 million of equity, debt or other types of securities. We also entered into an at-the-market (“ATM”)
55
TABLE OF CONTENTS
equity offering sales agreement with Cowen & Company, LLC in August 2015, under which we may offer and sell shares of our
common stock having an aggregate value of up to $35 million. On March 8, 2018, we amended our August 20, 2015 equity offering
sales agreement with Cowen whereby the maximum aggregate value of the Company’s common stock we could offer and sell, from
time to time, was increased from $35,000 to $50,000. This registration statement expired on September 2, 2018.
On July 30, 2018 we filed a $100,000 replacement universal shelf registration statement on SEC Form S-3. This replacement
registration statement was declared effective by the SEC on August 16, 2018. We also entered a new ATM with Cowen on August
31, 2018, under which we could offer and sell shares of our common stock having an aggregate value of up to $50,000.
We use the ATM proceeds for GABRIEL product development and marketing, and general corporate purposes, which may include
working capital, capital expenditures, other corporate expenses and acquisitions of complementary products, technologies or
businesses. As of December 31, 2019, common stock with an aggregate value of up to $26,592 remained available for offer and sale
under the ATM agreement.
We sold 1,860,483 and 7,510,555 shares of common stock under the ATM program during the years ended December 31, 2019 and
2018 respectively. The average sales price per common share sold during the year ended December 31, 2019 was $5.84 and the
aggregate proceeds from the sales totaled $10,866 during the period. Sales commissions, fees and other costs associated with the
ATM transactions totaled $326 for 2019. The average sales price per common share sold during the year ended December 31, 2018
was $3.71 and the aggregate proceeds from the sales totaled $27,837 during the period. Sales commissions, fees and other costs
associated with the ATM transactions totaled $785 for 2018 (see Note 15 Subsequent Events).
In addition, in 2015 we issued warrants for the purchase of 25,000 shares of common stock which are exercisable at a price of $7
per share and expire in April 2020.
Note 9 − Employee Benefit Plan
We sponsor a defined contribution 401k plan covering substantially all our employees. Our matching contribution to the plan was
approximately $101 and $95 in 2019 and 2018, respectively.
Note 10 − Income Taxes
The income tax benefit (provision) is comprised of the following:
Current:
Federal
State
Foreign
Deferred:
Federal
State
Total income tax provision
Year Ended
December 31, 2019
Year Ended
December 31, 2018
$
$
— $
393
—
393
—
—
393 $
—
(3)
—
(3)
—
—
(3)
A reconciliation of the United States federal statutory income tax rate to our effective income tax rate is as follows:
United States federal statutory rate
State taxes, net of federal benefit
Valuation allowance
Accounting method change - ASC 606
R&D Credit
Other
Effective income tax rate
56
Year Ended
December 31, 2019
Year Ended
December 31, 2018
21.00%
1.99%
(21.96)%
—
1.34%
(0.38)%
1.99%
21.00%
(0.01)%
(24.33)%
2.07%
1.53%
(0.27)%
(0.01)%
TABLE OF CONTENTS
In 2019 and 2018, we had pre-tax losses of $19,573 and $25,403 respectively, which are available for carry forward to offset future
taxable income. We made determinations to provide full valuation allowances for our net deferred tax assets at the end of 2019 and
2018, including NOL carryforwards generated during the years, based on our evaluation of positive and negative evidence,
including our history of operating losses and the uncertainty of generating future taxable income that would enable us to realize our
deferred tax assets.
Deferred tax assets (liabilities) consist of the following:
Deferred tax assets:
Reserves and accruals
Research and development credits and other credits
Net operating loss carry forward
Stock based compensation
Other
Total deferred tax assets
Valuation allowance
Deferred tax assets after valuation allowance
Total deferred tax liability
Net deferred tax assets (liabilities)
As of
December 31, 2019
As of
December 31, 2018
$
62 $
1,730
27,907
8,402
11
38,112
(38,112)
—
—
— $
$
45
1,635
25,733
8,857
26
36,296
(36,296)
—
—
—
In assessing the realization of deferred tax assets, management considers whether it is more likely than not that a portion of the net
deferred assets will not be realized. The ultimate realization of the net deferred tax assets is dependent upon the generation of future
taxable income during the periods in which those temporary differences become deductible. Based on the available objective
evidence, management believes it is more likely than not that the net deferred tax assets at December 31, 2019 will not be realizable.
Accordingly, management has maintained a full valuation allowance against its net deferred tax assets at December 31, 2019. The
net change in the total valuation allowance for the 12 months ended December 31, 2019 was an increase of $1,816.
At December 31, 2019, we had federal and state net operating loss carryforwards of approximately $131,055 and $107,989,
respectively, expiring beginning in 2028 for federal and in 2029 for state, respectively. At December 31, 2019, we had federal
research and development creditcarryforwards of approximately $1,730, expiring beginning in 2032.
Internal Revenue Code Section 382 places a limitation (the “Section 382 Limitation”) on the amount of net operating loss carry
forwards that can be used to offset taxable income after a change in control (generally greater than 50% change in ownership) of a
loss corporation. California, the state in which our headquarters was once located, has similar rules. Our capitalization may have
resulted in such a change. Generally, after a control change, a loss corporation cannot deduct net operating loss carry forwards
generated in years prior to the deemed change of control under IRC Section 382 in excess of the Section 382 Limitation.
We are required to recognize the financial statement effects of a tax position when it is more likely than not, based on the technical
merits, that the position will be sustained upon examination. As a result, we have provided an allowance for an uncertain tax
position under ASC 740-10 of $0 and $316 at December 31, 2019 and December 31, 2018, respectively. In 2019, we released all
ASC 740-10 uncertain tax positions due to the expiring of the statute of limitation.
Our tax returns are subject to review by various tax authorities. The returns subject to review are those from 2005 forward.
Our policy is to recognize interest and penalties, if any, accrued on any unrecognized tax benefits, as a component of income tax
expense. We had no interest or penalties accrued for the year ended December 31, 2019.
57
TABLE OF CONTENTS
Reconciliation of provision for uncertain tax position discussed above:
Balance at the beginning of the year
Additions based on tax positions related to the current year
Additions for tax positions of prior years
Settlements
Lapse of applicable statute of limitations
Balance at the end of the year
Note 11 − Fair Value Measurement
Year Ended
December 31, 2019
$
Year Ended
December 31, 2018
316 $
—
—
—
(316)
$
— $
316
—
—
—
—
316
We apply fair value accounting for all financial assets and liabilities and non-financial assets and liabilities that are recognized or
disclosed at fair value in the financial statements on a recurring basis. Fair value is estimated by applying the following hierarchy,
which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the
lowest level of input that is available and significant to the fair value measurement:
Level 1 – Quoted prices in active markets for identical assets or liabilities.
Level 2 – Observable inputs other than quoted prices in active markets for identical assets and liabilities, quoted prices for
identical or similar assets or liabilities in inactive markets, or other inputs that are observable or can be corroborated by
observable market data for substantially the full term of the assets or liabilities.
Level 3 – Inputs that are generally unobservable and typically reflect management’s estimate of assumptions that market
participants would use in pricing the asset or liability.
The carrying amounts for cash and cash equivalents, investments in certificates of deposit, accounts payable and accrued expenses
approximate their fair values due to the short period of time until maturity.
Mutual funds: Valued at the quoted net asset value (NAV) of shares held.
U.S. agency securities: Fair value measured at the closing price reported on the active market on which the individual securities
are traded.
The following table shows the adjusted cost, gross unrealized gains, gross unrealized losses and fair value of our financial assets as
of December 31, 2019 and 2018 (in thousands):
Cash
Level 1:
Mutual funds
U.S. agency securities
Total
December 31, 2019
Adjusted
Cost
Unrealized
Gains
Unrealized
Losses
Fair
Value
Cash
and Cash
Equivalents
Investments
Available
for Sale
$
2,076 $
— $
— $
2,076 $
2,076 $
—
613
2,837
3,450
5,526 $
$
—
3
3
3 $
58
—
—
—
— $
613
2,840
3,453
5,529 $
613
446
1,059
3,135 $
—
2,394
2,394
2,394
TABLE OF CONTENTS
Cash
Level 1:
Mutual funds
U.S. agency securities
Total
December 31, 2018
Adjusted
Cost
Unrealized
Gains
Unrealized
Losses
Fair
Value
Cash
and Cash
Equivalents
Investments
Available
for Sale
$
5,048 $
— $
— $
5,048 $
5,048 $
—
1,107
3,259
4,366
9,414 $
$
—
—
—
— $
—
—
—
— $
1,107
3,259
4,366
9,414 $
1,107
1,456
2,563
7,611 $
—
1,803
1,803
1,803
The maturities of our marketable securities generally range from within one to two years. Actual maturities could differ from
contractual maturities due to call or prepayment provisions.
Note 12 – Litigation (all dollar amounts in this section are expressed in thousands except for rates per device)
We have multiple intellectual property infringement lawsuits pending in the United States District Court for the Eastern District of
Texas, Tyler Division (“USDC”), and United States Court of Appeals for the Federal Circuit (“USCAFC”).
VirnetX Inc. v. Cisco Systems, Inc. et al. (Case 6:10-CV-00417-LED) (“Apple I”)
On August 11, 2010, we filed a complaint against Aastra USA. Inc. (“Aastra”), Apple Inc. (“Apple”), Cisco Systems, Inc. (“Cisco”),
and NEC Corporation (“NEC”) the USDC in which we alleged that these parties infringe on certain of our patents (U.S. Patent Nos.
6,502,135, 7,418,504, 7,921,211 and 7,490,151). We sought damages and injunctive relief. The cases against each defendant were
separated by the judge. Aastra and NEC agreed to sign license agreements with us, and we dropped all accusations of infringement
against them. A jury in USDC decided that our patents were not invalid and rendered a verdict of non-infringement by Cisco on
March 4, 2013. Our motion for a new Cisco trial was denied and the case against Cisco was closed.
On November 6, 2012, a jury in the USDC awarded us over $368,000 for Apple’s infringement of four of our patents, plus daily
interest up to the final judgment.
Apple filed an appeal of the judgment to the USCAFC. On September 16, 2014, USCAFC affirmed the USDC jury’s finding that all
four of our patents at issue are valid and confirmed the USDC jury’s finding of infringement of VPN on Demand under many of the
asserted claims of our ‘135 and ‘151 patents, and the USDC’s decision to allow evidence about our license and royalty rates
regarding the determination of damages. However, the USCAFC vacated the USDC jury’s damages award and some of the USDC’s
claim construction with respect to parts of our ‘504 and ‘211 patents and remanded the damages award and determination of
infringement with respect to FaceTime back to the USDC for further proceedings.
On September 30, 2016, pursuant to the 2014 remand from the USCAFC, a jury in the USDC awarded us $302,400 for Apple’s
infringement of four of our patents. On September 29, 2017, the USDC entered its final judgement, denied all of Apple’s post-trial
motions, and granted all our post-trial motions, including our motion for willful infringement and enhanced the royalty rate during
the willfulness period from $1.20 to $1.80 per device, and awarded us costs, certain attorneys’ fees, and prejudgment interest. The
total amount in the final judgement was $439,700, including $302,400 (jury verdict), $41,300 (enhanced damages) and $96,000
(costs, fees and interest).
On October 27, 2017 Apple filed its notice of appeal of this final judgement to the USCAFC. Apple filed its opening brief on March
19, 2018. We filed our response on April 4, 2018. On April 11, 2018, USCAFC designated Cases 18-1197-CB, Case 17-1368 and
Case 17-1591 as companion cases and assigned to the same merits panel. Events and developments after this order are described
below under VirnetX Inc. v. The Mangrove Partners (USCAFC Case 17-1368) (“Consolidated Appeal”).
VirnetX Inc. v. Apple, Inc. (Case 6:12-CV-00855-LED) (“Apple II”)
This case began on November 6, 2012, when we had filed a complaint against Apple in USDC in which we alleged that Apple
infringed on certain of our patents, (U.S. Patent Nos. 6,502,135, 7,418,504, 7,921,211 and 7,490,151). We sought damages and
injunctive relief. The accused products include the iPhone 5, iPod Touch 5th Generation, iPad
59
TABLE OF CONTENTS
4th Generation, iPad mini, and the latest Macintosh computers; These products were not included in the Apple I case because they
were released after the Apple I case was initiated. Post-Trial Motions hearing was held on July 18, 2018. On August 31, 2018, the
USDC entered a Final Judgment and issued its Memorandum Opinion and Order regarding post-trial motions, affirming the jury’s
verdict of $502,600 and granting VirnetX motions for supplemental damages, a sunset royalty and the royalty rate of $1.20 per
infringing iPhone, iPad and Mac products, pre-judgment and post-judgment interest and costs. On September 20, 2018, pursuant to
a Court’s order, attorneys from VirnetX and Apple conferred and agreed, without dispute, to add an amount totaling $93,300 for Bill
of Costs and Prejudgment Interest to the $502,600 jury verdict. The total amount in the final judgement in the Apple II case is now
$595,900. Apple has filed a notice of appeal with the USCAFC in the Apple II case. On October 9, 2018, USCAFC accepted the
notice and docketed it as Case No. 19-1050 - VirnetX Inc. v. Apple Inc. All subsequent events and developments in this case are
described below under VirnetX Inc. v. Apple Inc. (USCAFC Case 19-1050) (“Apple II Appeal”).
VirnetX Inc. v. The Mangrove Partners (USCAFC Case 17-1368) (“Consolidated Appeal”)
On April 11, 2018, the USCAFC in an order designated the following appeals as companion cases and assigned to the same merits
panel;
•
VirnetX Inc. v. The Mangrove Partners (USCAFC Case 17-1368)
On December 16, 2016, we filed appeals with the USCAFC, appealing the invalidity findings by the Patent Trial and Appeal Board
(“PTAB”) in IPR2015-01046, and on December 20, 2016 for IPR2015-1047, involving our U.S. Patent Nos. 6,502,135, and
7,490,151. These appeals also involve Apple, and one of them involves Black Swamp IP, LLC. Oral arguments in this case were
argued on January 8, 2019.
On July 8, 2019, the USCAFC issued its opinion vacating and remanding both decisions. The court agreed with us that the PTAB
misconstrued the patent claims, that many of the PTAB’s invalidity findings lacked substantial evidence, and that the PTAB Board
abused its discretion in denying us the opportunity to file a motion for additional discovery as to the real party-in-interest issues. The
underlying inter partes review (“IPR”) proceedings are currently pending before the PTAB.
•
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 18-1197-CB) (Appeal of Apple I Case)
On October 27, 2017 Apple appealed the Final Judgment entered on September 29, 2017 to the USCAFC. Oral arguments in this
case were held on January 8, 2019. On January 15, 2019 the Court issued a Rule 36 order affirming the District Court Judgement.
Apple filed a request for panel rehearing and rehearing en-banc in this matter on February 21, 2019. On March 12, 2019, the Court
invited us to respond to Apple’s petition on or before March 26, 2019. We filed our response on March 22, 2019.
On July 1, 2019 Apple filed a motion for leave to file a supplemental brief regarding the impact of the USCAFC’s decision in
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 18-1751), issued on June 28, 2019 (described below). We filed a response to
Apple’s motion and a contingent motion for leave to file a responsive supplemental brief on July 11, 2019. On July 17, 2019, the
USCAFC granted both motions and ordered Apple’s and our supplemental briefs filed. On August 1, 2019, USCAFC issued an
order denying Apple’s petition for panel and en banc rehearing. On August 7, 2019, Apple filed a motion to vacate the August 1,
2019 order and for leave to file a second request for panel rehearing and rehearing en-banc. On October 1, 2019, USCAFC issued an
order denying Apple’s motion. Apple subsequently requested an extension for its deadline to petition for a writ of certiorari, and that
deadline was extended until December 29, 2019. Apple filed a petition for a writ of certiorari with the U.S. Supreme Court, which
was denied on February 24, 2020. Prior to the Supreme Court decision denying Apple’s Petition for Writ of Certiorari, on Ferbuary
20, 2020, Apple filed a Rule 60(b) Motion for Relief from Judgement in the U.S. District Court (VirnetX Inc. v. Apple, 6:10-cv-
00417) seeking relief from the Court’s September 29, 2017 Final Judgment. VirnetX filed a responsive brief in opposition on March
5, 2020. On March 13, 2020, the Company received payment of $454,034 from Apple, representing the previously announced final
judgment with interest in this case. Apple has filed a motion in the USDC seeking to vacate the USDC’s final judgment and has
indicated that it will seek restitution of the payment if relief is awarded. The USDC has not ruled in this matter.
•
VirnetX Inc. v. Apple Inc., Cisco Systems, Inc. (USCAFC Case 17-1591)
On February 7, 2017, we filed appeals with the USCAFC, appealing the invalidity findings by the PTAB in inter-parties’
reexamination nos. 95/001,788, 95/001,789, and 95/001,856 related to our U.S. Patent Nos. 7,921,211 and 7,418,504. Oral
arguments in this case were argued on January 8, 2019.
60
TABLE OF CONTENTS
On July 1, 2019 Apple filed a motion for leave to file a supplemental brief regarding the impact of the USCAFC’s decision in
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 18-1751), issued on June 28, 2019 (described below).
On August 1, 2019, the USCAFC issued an opinion in this case agreeing with us that the PTAB could not maintain two of those
reexaminations (initiated by Apple) with respect to claims as to which there has been a prior “final decision” on patent validity
entered by a federal court. The court instructed PTAB to terminate those reexamination proceedings with respect to claims 1-35 of
the ‘504 patent and claims 36-59 of the ‘211 patent. The court affirmed PTAB’s invalidity findings with respect to the remaining
patent claims. Apple filed a request for panel rehearing and rehearing en-banc in this matter on August 26, 2019. We filed a separate
request for panel rehearing on September 3, 2019. Our request was denied on September 19, 2019, and Apple’s request was denied
on October 11, 2019. All decisions are final in this case.
VirnetX Inc. v. Apple Inc. (USCAFC Case 19-1050) (“Apple II Appeal”)
On January 24, 2019 Apple filed its opening brief. We filed our response brief on March 1, 2019. Apple filed its reply brief on April
5, 2019. The oral arguments were heard on October 4, 2019. On November 22, 2019, the USCAFC issued an opinion affirming the
district court’s findings that Apple is precluded from making certain invalidity arguments and that Apple infringed the ’135 and ’151
patents; reversing the district court’s finding that Apple infringed the ’504 and ’211 patents; and remanding the case for proceedings
on damages. Apple sought panel and en banc rehearing, which the USCAFC denied on February 10, 2020. On February 22, 2020,
USDC issued a scheduling order for the parties to brief the court about the need for a new trial for recalculating the damages. We
filed our initial brief on February 28, 2020. All briefings have been completed. Court’s decision in the matter is awaited.
VirnetX Inc. (USCAFC Case 17-2593)
On September 22, 2017, we filed with the USCAFC appeals of the invalidity findings by the PTAB in IPR2016-00693 and
IPR2016-00957 involving our U.S. Patent Nos. 7,418,504 and 7,921,211. The briefing in these appeals has not taken place. The
entity that initiated the IPRs, Black Swamp IP, LLC, indicated on October 18, 2017, that it would not participate in the appeals. On
November 27, 2017, the USPTO indicated that it would intervene in the appeals. On January 19, 2018, the USCAFC stayed these
appeals pending the USCAFC’s decision in Case 17-1591. On October 25, 2019, we and the USPTO filed a joint request that the
deadline to inform the USCAFC how these appeals should proceed be extended until November 1, 2019. On November 15, 2019,
we and the USPTO requested that the USCAFC stay this appeal pending resolution of any petition for rehearing in Arthrex, Inc. v.
Smith & Nephew, Inc., No. 2018-2140. The USCAFC denied the stay request on November 27, 2019. On January 6, 2020, we filed
a motion to vacate and remand in light of Arthrex, Inc. v. Smith & Nephew, Inc., 941 F.3d 1320 (Fed. Cir. 2019), which was granted
on February 27, 2020.
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 18-1751)
On March 30, 2018, we filed with the USCAFC an appeal of the invalidity findings by the PTAB in inter-partes reexamination no.
95/001,851 involving our U.S. Patent No. 7,418,504. Oral arguments in this case were held on June 4, 2019.
On June 28, 2019, the USCAFC issued its opinion vacating the PTAB’s invalidity findings with respect to claims 5, 12, and 13 and
remanding to the PTAB for further proceedings. The court affirmed the PTAB’s invalidity findings with respect to the remaining
patent claims. Cisco filed a request for panel rehearing and rehearing en-banc in this matter on August 12, 2019. Cisco’s request was
denied on October 1, 2019.
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 19-1043)
On October 1, 2018, we filed with the USCAFC an appeal of the invalidity findings by the PTAB in inter-partes reexamination no.
95/001,746 involving our U.S. Patent No. 6,839,759. We filed our opening brief on March 15, 2019. Cisco filed its response brief on
June 19, 2019. We filed our reply brief on August 14, 2019. Cisco filed a motion to submit a sur-reply brief on August 26, 2019,
which we opposed. On September 27, 2019, the USCAFC issued an order deferring resolution of Cisco’s motion for the merits
panel. Oral argument was held on January 8, 2020. On January 21, 2020, the USCAFC issued a Rule 36 judgment affirming the
PTAB’s decision.
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 19-1671)
On March 18, 2018, we filed with the USCAFC an appeal of the invalidity findings by the PTAB in inter-partes reexamination no.
95/001,679 involving our U.S. Patent No. 6,502,135. We filed a motion to remand on August 23, 2019,
61
TABLE OF CONTENTS
which the USCAFC denied on October 1, 2019, directing the parties to address the issues in the merits briefs. Our opening brief is
currently due on November 12, 2019. On November 7, 2019, we filed another motion to vacate and remand in light of Arthrex. The
USPTO intervened and opposed the remand. The USCAFC granted our motion on January 24, 2020.
VirnetX Inc. v. Cisco Systems, Inc. (USCAFC Case 19-1725)
On March 29, 2019, we filed with the USCAFC an appeal of the invalidity findings by the PTAB in inter-partes reexamination no.
95/001,792 involving our U.S. Patent No. 7,188,180. We filed a motion to remand on September 10, 2019. We filed a supplemental
motion to remand in light of Arthrex on November 22, 2019, which the USCAFC granted on January 24, 2020. Cisco filed a petition
for panel and en banc rehearing on February 24, 2020, which remains pending.
One or more potential intellectual property infringement claims may also be available to us against certain other companies who
have the resources to defend against any such claims. Although we believe these potential claims are likely valid, commencing a
lawsuit can be expensive and time-consuming, and there is no assurance that we could prevail on such potential claims if we made
them. In addition, bringing a lawsuit may lead to potential counterclaims which may distract our management and our other
resources, including capital resources, from efforts to successfully commercialize our products.
Currently, we are not a party to any other pending legal proceedings and are not aware of any proceeding threatened or
contemplated against us.
Note 13 − Quarterly Financial Information (unaudited)
2019
Revenue
Loss from operations
Net loss
Basic and diluted (loss) per common share
2018
Revenue
Loss from operations
Net loss
Basic and diluted (loss) per common share
First
Second
(in thousands except per share)
Third
Fourth
$
$
$
$
$
$
$
$
8 $
(5,634) $
(5,608) $
(.08) $
First
6 $
(7,608) $
(7,605) $
(0.13) $
38 $
(4,552) $
(4,130) $
(.06) $
4 $
(4,976) $
(4,956) $
(.07) $
Second
(in thousands except per share)
Third
35
(4,503)
(4,485)
(.07)
Fourth
16 $
(6,462) $
(6,450) $
(0.10) $
7 $
(4,948) $
(4,934) $
(0.08) $
34
(6,439)
(6,417)
(0.09)
Note 14 – Effects of Adopting ASU Topic 842 - Leases
We determine if an arrangement is a lease at inception. Operating lease ROU assets are included in Prepaid expense and other assets
on the Consolidated Balance Sheet as of December 31, 2019. ROU assets represent our right to use an underlying asset for the lease
term and lease liabilities represent our obligation to make lease payments arising from the lease. ROU assets and lease liabilities are
recognized at the commencement date based on the present value of lease payments over the lease term.
We lease office space under an operating lease which expires on October 31, 2021. We also entered an operating lease for a facility
used for corporate promotional and marketing purposes which was prepaid in full in a prior year and expires in 2024.
As described under New Accounting Pronouncements above, we adopted ASU Topic 842 - Leases effective January 1, 2019. As a
result of the adoption, on January 1, 2019 we reclassified $385 of prepaid lease payments for the promotional and marketing facility
from current assets to non-current assets. At January 1, 2019 we recorded a ROU asset and lease liability of $45 for the office lease
with a balance of $97 at December 31, 2019. Adoption of the ASU had no impact on the Consolidated Statement of Operations.
62
TABLE OF CONTENTS
Note 15 – Subsequent Events
Between January 1, 2020 and February 21, 2020, we sold 1,049,382 shares of common stock under the ATM program. The average
sales price per common shares sold was $4.41 and the aggregate proceeds from the sales totaled $4,627. Sales commissions, fees
and other costs associated with these ATM transactions totaled $139.
Between January 1, 2020 and March 10, 2020 our employees exercised 151,308 options.
On March 13, 2020, the Company received payment of $454,034 from Apple, Inc. (“Apple”), representing the previously
announced final judgment with interest in the VirnetX Inc. v. Cisco Systems, Inc. et al (Case 6:10-CV-00417-LED) litigation
(“Apple I”). (See Note 12 - Litigation)
63
TABLE OF CONTENTS
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and
Stockholders of VirnetX Holding Corporation
Opinion on Internal Control over Financial Reporting
We have audited VirnetX Holding Corporation’s (the Company’s) internal control over financial reporting as of December 31, 2019,
based on criteria established in Internal Control—Integrated Framework (2013) issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO). In our opinion, the Company maintained, in all material respects, effective
internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control—Integrated
Framework (2013) issued by COSO.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States)
(PCAOB), the consolidated balance sheets and the related consolidated statements of operations, comprehensive loss, stockholders’
equity, and cash flows of the Company, and our report dated March 16, 2020, expressed an unqualified opinion.
Basis for Opinion
The Company’s management is responsible 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 on Internal
Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial
reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with
respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities
and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material
respects. 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 audit also included performing such other procedures as we considered necessary in
the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control over Financial Reporting
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.
/s/ Farber Hass Hurley LLP
Chatsworth, California
March 16, 2020
64
TABLE OF CONTENTS
Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial
Officer, we conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures, as
defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, December 31, 2019.
The purpose of this evaluation was to determine whether as of December 31, 2019 our disclosure controls and procedures were
effective to provide reasonable assurance that the information we are required to disclose in our filings with the SEC, (i) is recorded,
processed, summarized and reported within the time periods specified in the SEC’s rules and forms and (ii) accumulated and
communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow
timely decisions regarding required disclosure.
Based on their evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that as of December 31, 2019,
our disclosure controls and procedures were effective.
Changes in Internal Control Over Financial Reporting
There were no changes in our internal controls over financial reporting (as such term is defined in rules 13a-15(f) under the
Securities Exchange Act of 1934, as amended) during the fiscal year ended December 31, 2019 that have materially affected, or are
reasonably likely to materially affect, our internal controls over financial reporting.
Management’s Report on Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting for the Company.
Internal control over financial reporting is a process to provide reasonable assurance regarding the reliability of our financial
reporting for external purposes in accordance with accounting principles generally accepted in the United States of America.
Internal control over financial reporting includes maintaining records that in reasonable detail accurately and fairly reflect our
transactions; providing reasonable assurance that transactions are recorded as necessary for preparation of our financial statements;
providing reasonable assurance that receipts and expenditures of Company assets are made in accordance with management
authorization; and providing reasonable assurance that unauthorized acquisition, use or disposition of Company assets that could
have a material effect on our financial statements would be prevented or detected on a timely basis. Because of its inherent
limitations, internal control over financial reporting is not intended to provide absolute assurance that a misstatement of our
financial statements would be prevented or detected.
Management conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in
Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway
Commission. Based on this evaluation, management concluded that the Company’s internal control over financial reporting was
effective as of December 31, 2019. There were no changes in our internal control over financial reporting during the period ended
December 31, 2019 that have materially affected, or are reasonably likely to materially affect, our internal control over financial
reporting. Farber Hass Hurley LLP has audited our internal control over financial reporting as of December 31, 2019; their report is
included elsewhere herein.
Item 9B. Other Information
None.
65
TABLE OF CONTENTS
Item 10. Directors, Executive Officers and Corporate Governance
PART III
The information required by this item will be contained in our definitive proxy statement to be filed with the SEC in connection
with our 2019 Annual Meeting of Stockholders (the “Proxy Statement”), which is expected to be filed not later than 120 days after
the end of our fiscal year ended December 31, 2019 and is incorporated in this report by reference.
Item 11. Executive Compensation
The information required by this item will be set forth in the Proxy Statement and is incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder
Matters
The information required by this item will be set forth in the Proxy Statement and is incorporated herein by reference.
Securities Authorized for Issuance Under the Equity Compensation Plans
We have a stock incentive plan for employees and others called the “VirnetX Holding Corporation 2013 Stock Plan”, or the Plan,
which has been approved by our stockholders. The Plan provides for the granting of up to 16,624,469 shares of our common stock,
including stock options and stock purchase rights, and will expire in 2023. As of December 31, 2019, there were 1,208,070 shares
available to be granted under the Plan. We had 5,630,021 and 5,998,837 options outstanding at December 31, 2019 and December
31, 2018, respectively, with an average exercise price of $8.49 and $7.72, respectively. We had 498,489 and 504,994 restricted stock
units outstanding at December 31, 2019 and December 31, 2018, respectively, with a weighted average grant price of $4.71 and
$3.83 respectively.
Plan Category
Equity compensation plans approved by security holders
Equity compensation plans not approved by security holders
Total
Number of
Securities to be
Issued Upon
Exercise of
Outstanding
Options,
Warrants and
Rights
6,153,510 $
—
6,153,510 $
Weighted-Average
Exercise Price of
Outstanding
Options, Warrants
and Rights
8.18
—
8.18
Number of
Securities
Remaining
Available for
Future Issuance
Under Equity
Compensation
Plans
1,208,070
1,208,070
On May 30, 2019, the Compensation Committee granted 307,500 options to the employees of VirnetX Inc. On May 30, 2019 the
Compensation Committee granted 204,997 RSUs to the employees of VirnetX, Inc. On May 23, 2019, the Compensation
Committee granted 37,500 options and 24,999 RSUs to members of the Board of Directors of VirnetX, Inc.
Item 13. Certain Relationships and Related Transactions, and Director Independence
The information required by this item will be set forth in the Proxy Statement and is incorporated herein by reference.
Item 14. Principal Accountant Fees and Services
The information required by this item will be set forth in the Proxy Statement and is incorporated herein by reference.
66
TABLE OF CONTENTS
Item 15. Exhibits and Financial Statement Schedules
(a) The following documents are filed as part of this Annual Report on Form 10-K
PART IV
(1) Financial Statements: See the Index to Consolidated Financial Statements under Item 8 of this Annual Report on
Form 10-K.
(2) Financial Statement Schedule: Financial statement schedules are omitted because they are not applicable, or the
required information is shown in the financial statements or notes thereto. All other schedules are omitted because of
the absence of conditions under which they are required or because the required information is given in the financial
statements or the notes thereto.
(3) Exhibits: The documents listed in the Exhibit Index of this Annual Report on Form 10-K are incorporated by
reference or are filed with this Annual Report on Form 10-K, in each case as indicated therein (numbered in
accordance with Item 601 of Regulation S-K).
EXHIBIT INDEX
Exhibit
Number
3.1
3.2
4.1
4.2
4.3
4.4
4.5
4.6
10.1
10.2*
10.3*
10.4*
10.5*
10.6*
10.7*
10.8
10.9
Description
Certificate of Incorporation of the Company.
By Laws of the Company.
Form of Warrant Agency Agreement by and
between the Company and Corporate Stock
Transfer, Inc. as Warrant Agent.
Form of Series I Warrant.
Specimen Common Stock Certificate.
Form of Senior Indenture
Form of Subordinated Indenture
Description of Capital Stock
Form of Indemnification Agreement by and
between the Company and each of Kendall
Larsen, Robert D. Short III, Gary Feiner, Michael
F. Angelo, Thomas M. O’Brien and Richard
Nance.
2007 Stock Plan, as amended on April 13, 2012.
Amended Form of Stock Option Agreement –
2007 Stock Plan.
Form of Restricted Stock Unit Award Agreement
– 2007 Stock Plan.
2013 Equity Incentive Plan.
Form of Stock Option Agreement – 2013 Equity
Incentive Plan.
Form of Restricted Stock Unit Agreement – 2013
Equity Incentive Plan.
Voting Agreement among the Company and
certain of its stockholders, dated as of December
12, 2007.
Securities Purchase Agreement, dated as of
September 2, 2009, by and between the Company
and the Purchasers (as defined therein).
Form
8-K
8-K
S-1/A
8-K
S-3
S-3
S-3
Incorporated by reference herein
Exhibit No.
3.1
3.2
4.1
Filing Date
11/01/2007
11/01/2007
01/16/2009
File No.
000-26895
000-26895
333-153645
4.1
4.1
4.2
4.4
09/03/2009
07/30/2018
07/30/2018
07/30/2018
001-33852
333-226413
333-226413
333-226413
10-K
10.1
03/18/2019
001-33852
10-Q
10-Q
10-Q
10.2
4.5
10.3
05/10/2012
05/10/2011
001-33852
001-33852
05/10/2012
001-33852
DEF 14A
10-K
Appendix A
10.6
04/12/2013
03/02/2015
001-33852
001-33852
10-K
10-K
10.7
03/02/2015
001-33852
10.11
03/31/2008
001-33852
8-K
10.1
09/03/2009
001-33852
67
TABLE OF CONTENTS
Exhibit
Number
10.10
10.11
10.12
10.13
10.14
10.15
10.16
10.17
Description
Form of Registration Rights Agreement by and
between the Company and the Purchasers (as
defined therein).
Form of Underwriting Agreement between
VirnetX Holding Corporation and Gilford
Securities Incorporated.
Patent License and Assignment Agreement by
and between the Company and Leidos, Inc.
(formerly Science Applications International
Corporation) dated as of August 12, 2005.
Amendment No. 1 to Patent License and
Assignment Agreement by and between the
Company and Leidos, Inc. dated as of November
2, 2006.
Amendment No. 2 to Patent License and
Assignment Agreement by and between VirnetX,
Inc. and Leidos, Inc. dated as of March 12, 2008.
Security Agreement by and between the
Company and Leidos, Inc. dated as of August 12,
2005.
Assignment Agreement between the Company
and Leidos, Inc. dated as of December 21, 2006.
Professional Services Agreement by and between
the Company and Leidos, Inc. dated as of August
12, 2005.
Form
8-K
Incorporated by reference herein
Exhibit No.
10.2
Filing Date
09/03/2009
File No.
001-33852
S-1/A
1.1
01/16/2009
333-153645
8-K
10.4
07/12/2007
000-26895
8-K
10.6
07/12/2007
000-26895
8-K
8-K
8-K
8-K
10.1
03/18/2008
001-33852
10.5
07/12/2007
000-26895
10.7
10.8
07/12/2007
000-26895
07/12/2007
000-26895
10.18** Engagement Letter dated June 8, 2009, by and
10-Q
10.1
08/10/2009
001-33852
between McKool Smith, a professional
corporation, and VirnetX, Inc.
10.19** Engagement Letter dated April 15, 2010, by and
between McKool Smith, a professional
corporation, and VirnetX, Inc.
Settlement and License Agreement, by and
between Microsoft Corporation and VirnetX,
Inc., dated May 14, 2010.
10.20**
10.21*** Amended Settlement and License Agreement, by
and between Microsoft Corporation and VirnetX,
Inc., dated December 17, 2014.
Employment Offer Letter from VirnetX, Inc. to
Richard H. Nance.
10.22*
10.23** Amended and Restated Revenue Sharing
Agreement by and between VirnetX Holding
Corporation and Public Intelligence Technology
Associates, dated October 18, 2017.
10-Q
10.1
05/07/2010
001-33852
10-Q/A
10.1
01/31/2011
001-33852
10-K
10.23
03/02/2015
001-33852
10-Q
10-Q
10.4
10.1
05/10/2012
001-33852
11/09/2017
001-33852
68
TABLE OF CONTENTS
Exhibit
Number
10.24** Amended and Restated Gabriel License
Description
Form
10-Q
Incorporated by reference herein
Exhibit No.
10.2
Filing Date
11/09/2017
File No.
001-33852
8-K
10.1
08/31/2018
001-33852
Agreement by and between VirnetX Holding
Corporation and Public Intelligence Technology
Associates, dated October 18, 2017.
Sales Agreement, dated August 31, 2018, by and
between VirnetX Holding Corporation and
Cowen and Company, LLC.
Subsidiaries of VirnetX Holding Corporation.
Consent of Farber Hass Hurley LLP, Independent
Registered Public Accounting Firm.
Power of Attorney (contained on signature page
hereto)
Chief Executive Officer Certification pursuant to
Rule 13a-14(a) of the Securities Exchange Act.
Chief Financial Officer Certification pursuant to
Rule 13a-14(a) of the Securities Exchange Act.
Chief Executive Officer Certification pursuant to
18 U.S.C. Section 1350 as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
Chief Financial Officer Certification pursuant to
18 U.S.C. Section 1350 as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
10.25
21.1
23.1
24.1
31.1
31.2
32.1†
32.2†
101.INS XBRL Instance Document
101.SCH XBRL Taxonomy Extension Schema Document
101.CAL XBRL Taxonomy Extension Calculation
Linkbase Document
101.DEF XBRL Taxonomy Extension Definition Linkbase
Document
101.LAB XBRL Taxonomy Extension Label Linkbase
Document
101.PRE XBRL Taxonomy Extension Presentation
Linkbase Document
*
**
Indicates management contract or compensatory plan.
Confidential treatment has been granted by the Securities and Exchange Commission as to certain portions of this Exhibit.
*** Portions of this Exhibit have been omitted pending a determination by the Securities and Exchange Commission as to whether these portions should be granted
confidential treatment.
†
The certifications attached as Exhibit 32.1 and 32.2 that accompany this Annual Report on Form 10-K are not deemed filed with the Securities and Exchange
Commission and are not to be incorporated by reference into any filing of VirnetX Holding Corporation under the Securities Act of 1933, as amended, or the
Securities Exchange Act of 1934, as amended, whether before or after the date of this Annual Report on Form 10-K, irrespective of any general incorporation
language contained in such filing.
69
TABLE OF CONTENTS
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this
Annual Report on Form 10-K to be signed on its behalf by the undersigned, thereunto duly authorized.
VirnetX Holding Corporation
By:
/s/ Kendall Larsen
Name: Kendall Larsen
Title: Chief Executive Officer and President
Dated: March 16, 2020
TABLE OF CONTENTS
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Kendall
Larsen his or her attorney-in-fact, with full power of substitution, for him or her in any and all capacities, to sign any amendments to
this Report on Form 10-K, and to file the same, with exhibits thereto and other documents in connection therewith with the
Securities and Exchange Commission, hereby ratifying and confirming all that said attorney-in-fact, or his or her substitute or
substitutes may do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this Annual Report on Form 10-K has been signed below by
the following persons on behalf of the registrant and in the capacities indicated.
Name
Capacity
Date
/s/ Kendall Larsen
Kendall Larsen
Director, Chief Executive Officer and President
(Principal Executive Officer)
/s/ Richard H. Nance
Richard H. Nance
Chief Financial Officer
(Principal Financial Officer and
Principal Accounting Officer)
/s/ Robert D. Short III
Robert D. Short III
/s/ Gary Feiner
Gary Feiner
/s/ Michael F. Angelo
Michael F. Angelo
/s/ Thomas M. O’Brien
Thomas M. O’Brien
Director
Director
Director
Director
March 16, 2020
March 16, 2020
March 16, 2020
March 16, 2020
March 16, 2020
March 16, 2020
DESCRIPTION OF CAPITAL STOCK
Exhibit 4.6
The following description of the capital stock of VirnetX Holding Corporation (“us”, “our,” “we”, or the “Company”) is a
summary. We have adopted an amended and restated certificate of incorporation and amended and restated bylaws, and this
description summarizes the provisions that are included in such documents. Because it is only a summary, it does not contain all
the information that may be important to you. For a complete description of the matters set forth in this Exhibit, you should refer
to our amended and restated certificate of incorporation and amended and restated bylaws, each previously filed with the
Securities and Exchange Commission and incorporated by reference as exhibits to the Annual Report on Form 10-K of which this
Exhibit is a part, and to the applicable provisions of Delaware law.
General
Our authorized capital stock consists of 100,000,000 shares of common stock with a $0.0001 par value per share, and
10,000,000 shares of preferred stock with a $0.0001 par value per share, all of which shares of preferred stock are undesignated.
Our board of directors may establish the rights and preferences of the preferred stock from time to time. All outstanding shares
of our common stock are fully paid and non-assessable. The rights, preferences and privileges of the holders of our common
stock are subject to, and may be adversely affected by, the rights of the holders of shares of any series of preferred stock that we
may designate and issue in the future.
Common Stock
We have one class of common stock.
Dividend Rights
Subject to any preferential rights of any outstanding preferred stock, holders of our common stock are entitled to receive
ratably the dividends, if any, as may be declared from time to time by the board of directors out of funds legally available
therefor.
Voting Rights
Each holder of our common stock is entitled to one vote for each share on all matters to be voted upon by the stockholders
and there are no cumulative rights.
Right to Receive Liquidation Distributions
If there is a liquidation, dissolution or winding up of our company, holders of our common stock would be entitled to
share in our assets remaining after the payment of liabilities and any preferential rights of any outstanding preferred stock.
No Preemptive or Similar Rights
Holders of our common stock have no preemptive or conversion rights or other subscription rights, and there are no
redemption or sinking fund provisions applicable to the common stock.
Preferred stock
Our board of directors is authorized to issue shares of preferred stock in one or more series without stockholder approval.
Our board of directors has the discretion to determine the rights, preferences, privileges and restrictions, including voting rights,
dividend rights, conversion rights, redemption privileges and liquidation preferences, of each series of preferred stock. There are
no restrictions presently on the repurchase or redemption of any shares of our preferred stock. We have no present plans to issue
any shares of preferred stock nor are any shares of our preferred stock presently outstanding.
Anti-Takeover Effects
Provisions of Delaware law and our amended and restated certificate of incorporation and Bylaws could make the
acquisition of our company through tender offer, a proxy context or other means more difficult and could make the removal of
incumbent officers and directors more difficult. We expect these provisions to discourage coercive takeover practices and
inadequate takeover bids and to encourage persons seeking to acquire control of our company to first negotiate with our board of
directors. We believe that the benefits provided by our ability to negotiate with the proponent of an unfriendly or unsolicited
proposal outweigh the disadvantages of discouraging these proposals. We believe the negotiation of an unfriendly or unsolicited
proposal could result in an improvement of its terms.
Amended and Restated Certificate of Incorporation and Bylaws
Our amended and restated certificate of incorporation and bylaws provide for the following:
•
•
•
•
Undesignated Preferred Stock. The ability to authorize undesignated preferred stock makes it possible for our board of directors to issue
one or more series of preferred stock with voting or other rights or preferences that could impede the success of any attempt to change
control of our company. These and other provisions may have the effect of deferring hostile takeovers or delaying changes in control or
management of our company.
Stockholder Meetings. Our charter documents provide that a special meeting of stockholders may be called only by resolution adopted
by the board of directors.
Requirements for Advance Notification of Stockholder Nominations and Proposals. Our bylaws establish advance notice procedures with
respect to stockholder proposals and the nomination of candidates for election as directors, other than nominations made by or at the
direction of the board of directors or a committee of the board of directors.
Board Classification. Our board of directors is divided into three classes. The directors in each class will serve for a three-year term, one
class being elected each year by our stockholders. This system of electing and removing directors may tend to discourage a third party
from making a tender offer or otherwise attempting to obtain control of us, because it generally makes it more difficult for stockholders to
replace a majority of the directors.
•
•
Stockholder Meetings; Limits on Ability of Stockholders to Act by Written Consent. We have provided in our certificate of incorporation
that our stockholders may not act by written consent. This limit on the ability of our stockholders to act by written consent may lengthen
the amount of time required to take stockholder actions. As a result, a holder controlling a majority of our capital stock would not be able
to amend our bylaws or remove directors without holding a meeting of our stockholders called in accordance with our bylaws.
Amendment of Bylaws. Any amendment of our bylaws requires approval by holders of at least two-thirds of our outstanding capital stock
entitled to vote generally in the election of directors.
Delaware Anti-Takeover Statute
We are subject to Section 203 of the Delaware General Corporation Law, an anti-takeover law. In general, Section 203
prohibits a publicly held Delaware corporation from engaging in a “business combination” with an “interested stockholder” for a
period of three years following the date the person became an interested stockholder, unless:
•
•
•
prior to the date of the transaction, the board of directors of the corporation approved either the business combination or the transaction
which resulted in the stockholder becoming an interested stockholder;
the stockholder owned at least 85% of the voting stock of the corporation outstanding at the time the transaction commenced, excluding
for purposes of determining the number of shares outstanding (a) shares owned by persons who are directors and also officers, and (b)
shares owned by employee stock plans in which employee participants do not have the right to determine confidentially whether shares
held subject to the plan will be tendered in a tender or exchange offer; or
on or subsequent to the date of the transaction, the business combination is approved by the board and authorized at an annual or special
meeting of stockholders, and not by written consent, by the affirmative vote of at least two-thirds of the outstanding voting stock that is
not owned by the interested stockholder.
Generally, a “business combination” includes a merger, asset or stock sale, or other transaction resulting in a financial
benefit to the interested stockholder. An “interested stockholder” is a person who, together with affiliates and associates, owns
or, within three years prior to the determination of interested stockholder status, did own 15% or more of a corporation’s
outstanding voting securities. We expect the existence of this provision to have an anti-takeover effect with respect to
transactions our board of directors does not approve in advance. We also anticipate that Section 203 may also discourage
attempts that might result in a premium over the market price for the shares of common stock held by stockholders.
Transfer Agent and Registrar
The transfer agent and registrar for the common stock is Corporate Stock Transfer, Inc.
Listing
Our common stock is listed on the NYSE American under the symbol “VHC.”
Subsidiaries of Registrant
Name of Entity
Network Research Corporation Japan Ltd. (known as Network Research Corporation Japan Kabushiki
Kaisha in Japan)
VirnetX Inc.
EXHIBIT 21.1
Jurisdiction of
Incorporation or
Organization
Japan
Delaware
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We hereby consent to the incorporation by reference in the Registration Statements on Form S-3 (No. 333-226413) and Form S-8
(Nos. 333-149883, 333-196064, and 333-218467) of our reports dated March 16, 2020, relating to the consolidated financial
statements of VirnetX Holding Corporation (the “Company”), and the effectiveness of the Company's internal control over financial
reporting, appearing in this Annual Report on Form 10-K of the Company for the year ended December 31, 2019.
EXHIBIT 23.1
/s/ Farber Hass Hurley LLP
Chatsworth, California
March 16, 2020
EXHIBIT 31.1
I, Kendall Larsen, certify that:
CERTIFICATIONS
1.
I have reviewed this Annual Report on Form 10-K of VirnetX Holding Corporation for the fiscal year ended December 31,
2019;
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 and I are responsible for establishing and maintaining disclosure controls and
procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as
defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is
made known to us by others within those entities, particularly during the period in which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be
designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the
preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this
report based on such evaluation; and
(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the
registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the
registrant’s internal control over financial reporting; and
5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over
financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons
performing the equivalent functions):
(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.
/s/ Kendall Larsen
Kendall Larsen
President and Chief Executive Officer
(Principal Executive Officer)
Date: March 16, 2020
EXHIBIT 31.2
I, Richard H. Nance, certify that:
CERTIFICATIONS
1.
I have reviewed this Annual Report on Form 10-K of VirnetX Holding Corporation for the fiscal year ended December 31,
2019;
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 and I are responsible for establishing and maintaining disclosure controls and
procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as
defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is
made known to us by others within those entities, particularly during the period in which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be
designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the
preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this
report based on such evaluation; and
(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the
registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the
registrant’s internal control over financial reporting; and
5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over
financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons
performing the equivalent functions):
(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.
/s/ Richard H. Nance
Richard H. Nance
Chief Financial Officer
(Principal Accounting and Financial Officer)
Date: March 16, 2020
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
EXHIBIT 32.1
In connection with the Annual Report of VirnetX Holding Corporation (the “Company”) on Form 10-K for the fiscal year ended
December 31, 2019 as filed with the Securities and Exchange Commission on March 16, 2020 (the “Report”), I, Kendall Larsen,
President and Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002, that, to my knowledge:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of
operations of the Company.
Date: March 16, 2020
/s/ Kendall Larsen
Kendall Larsen
President and Chief Executive Officer
(Principal Executive Officer)
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
EXHIBIT 32.2
In connection with the Annual Report of VirnetX Holding Corporation (the “Company”) on Form 10-K for the fiscal year ended
December 31, 2019 as filed with the Securities and Exchange Commission on March 16, 2020 (the “Report”), I, Richard Nance,
Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002, that, to my knowledge:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of
operations of the Company.
/s/ Richard H. Nance
Richard H. Nance
Chief Financial Officer
(Principal Accounting and Financial Officer)
Date: March 16, 2020