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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 2004
|_| TRANSITION REPORT PURSUANT SECTION 13 OR 15 (d)
OF SECURITIES EXCHANGE ACT OF 1934
For the Transition Period From ______to_________
Commission File Number 333-13287
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EARTHSHELL CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 77-0322379
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
6740 CORTONA DRIVE, SANTA BARBARA, CALIFORNIA 93117
(Address of principal executive office) (Zip Code)
(805) 571-8232
(Registrant's telephone number, including area code)
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 |X| No |_|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). Yes |X| No |_|
The number of shares outstanding of the Registrant's Common Stock as of August
5, 2004 is 14,187,177.
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EARTHSHELL CORPORATION
FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 2004
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements Page
a) Consolidated Balance Sheets as of June 30, 2004 (unaudited) and December
31, 2003........................................................................ 1
b) Consolidated Statements of Operations for the three months and six months
ended June 30, 2004 and June 30, 2003 (unaudited)............................... 2
c) Consolidated Statements of Cash Flows for the six months ended June 30,
2004 and June 30, 2003 (unaudited) ............................................. 3
d) Notes to Consolidated Financial Statements (unaudited)...................... 5
Item 2. Management's Discussion and Analysis of Financial Condition and Results of
Operations........................................................................... 8
Item 3. Quantitative and Qualitative Disclosures About Market Risk........................... 15
Item 4. Controls and Procedures ............................................................. 15
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.................................................................... 15
Item 2. Changes in Securities and Use of Proceeds and Issuer Repurchases of Equity
Securities........................................................................... 15
Item 3. Defaults Upon Senior Securities...................................................... 15
Item 4. Submission of Matters to a Vote of Security Holders.................................. 15
Item 5. Other Information.................................................................... 16
Item 6 Exhibits and Reports on Form 8-K..................................................... 16
SIGNATURE................................................................................................. 17
EARTHSHELL CORPORATION
CONSOLIDATED BALANCE SHEETS
JUNE 30, DECEMBER 31,
2004 2003
------------- --------------
(UNAUDITED)
ASSETS
CURRENT ASSETS
Cash and cash equivalents ........................................... $ 408,733 $ 1,901,639
Prepaid expenses and other current assets ........................... 173,703 323,680
----------- -----------
Total current assets ........................................... 582,436 2,225,319
PROPERTY AND EQUIPMENT, NET ............................................... 3,973 61,794
EQUIPMENT HELD FOR SALE ................................................... 1 1
----------- -----------
TOTALS .................................................................... $ 586,410 $ 2,287,114
=========== ===========
LIABILITIES AND STOCKHOLDERS' DEFICIT
CURRENT LIABILITIES
Accounts payable and accrued expenses ............................... $ 4,892,235 $ 4,853,413
Current portion of deferred revenues ................................ 200,000 --
Convertible debentures, net of discount of $1,158,273 and $1,505,755
as of June 30, 2004 and December 31, 2003, respectively 6,305,330 5,294,245
----------- -----------
Total current liabilities ...................................... 11,397,565 10,147,658
PAYABLES TO RELATED PARTY ................................................. 2,664,386 1,839,108
NOTES PAYABLE TO RELATED PARTY, NET OF DISCOUNT OF $168,623 AND $219,210 AS
OF JUNE 30, 2004 AND DECEMBER 31, 2003, RESPECTIVELY ................. 2,586,377 2,535,790
DEFERRED REVENUES, LESS CURRENT PORTION ................................... 275,000 --
OTHER LONG-TERM LIABILITIES ............................................... 227,341 33,333
----------- -----------
Total liabilities .............................................. 17,150,669 14,555,889
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' DEFICIT
Preferred stock, $.01 par value, 10,000,000 shares authorized; 9,170,000 Series
A shares designated; no shares issued and outstanding as of
June 30, 2004 and December 31, 2003.................................. -- --
Common stock, $.01 par value, 25,000,000 shares authorized; 14,128,966
shares issued and outstanding as of June 30, 2004 and December 31, 2003 141,290 141,290
Additional paid-in common capital......................................... 302,033,746 302,033,746
Accumulated deficit ...................................................... (318,681,921) (314,350,681)
Accumulated other comprehensive loss...................................... (57,374) (93,130)
----------- -----------
Total stockholders' deficit......................................... (16,564,259) (12,268,775)
----------- -----------
TOTALS.................................................................... $ 586,410 2,287,114
=========== ===========
See Notes to Consolidated Financial Statements.
EARTHSHELL CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
FOR THE FOR THE
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
--------------------------------- -----------------------------------
2004 2003 2004 2003
--------------- ---------------- ---------------- -----------------
Revenues......................................... $ 25,000 $ -- $ 25,000 $ --
Operating Expenses
Related party license fee and research and
development expenses................... 300,000 304,667 600,000 658,467
Other research and development expenses..... 42,913 1,707,507 265,451 3,604,493
Related party general and administrative
reimbursements......................... -- -- -- (4,074)
Other general and administrative expenses... 1,071,116 1,193,342 2,244,971 3,047,044
Depreciation and amortization............... 11,230 103,636 38,571 216,276
--------------- ---------------- ---------------- -----------------
Total operating expenses................ 1,425,259 3,309,152 3,148,993 7,522,206
Operating Loss.................................. 1,400,259 3,309,152 3,123,993 7,522,206
Other (Income) Expenses
Interest income............................. (1,537) (24,299) (2,771) (64,251)
Related party interest expense.............. 141,683 94,932 275,865 170,234
Other interest expense...................... 213,910 344,970 423,285 922,737
Gain on sales of property and equipment..... (153,535) (7,000) (153,535) (63,000)
Premium due to debenture default............ 663,603 -- 663,603 --
Other expenses (income)..................... -- (109,571) -- 86,958
Loss on extinguishment of debentures........ -- -- -- 1,697,380
Debenture conversion costs.................. -- -- -- 105,847
--------------- ---------------- ---------------- -----------------
Loss Before Income Taxes........................ 2,264,383 3,608,184 4,330,440 10,378,111
Income taxes.................................... -- -- 800 800
--------------- ---------------- ---------------- -----------------
Net Loss........................................ $ 2,264,383 $ 3,608,184 $ 4,331,240 $10,378,911
=============== ================ ================ =================
Basic and Diluted Loss Per Common Share......... $ 0.16 $ 0.28 $ 0.31 $ 0.82
Weighted Average Number of Common Shares
Outstanding................................ 14,128,966 13,013,462 14,128,966 12,688,023
See Notes to Consolidated Financial Statements.
EARTHSHELL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
SIX MONTHS ENDED
JUNE 30,
------------------------------------
2004 2003
----------------- -----------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss........................................................................ $ (4,331,240) $ (10,378,911)
Adjustments to reconcile net loss to net cash used in operating activities
Depreciation and amortization................................................. 38,571 216,276
Amortization and accretion of debenture issue costs........................... 398,069 482,973
Premium due to debenture default.............................................. 663,603 --
Debenture conversion costs.................................................... -- 105,847
Loss on change in fair value of warrant obligation............................ -- 86,958
Loss on extinguishment of debentures.......................................... -- 1,697,380
Beneficial conversion value due to change in debentures conversion price...... -- 360,000
Gain on sales of property and equipment....................................... (153,535) (63,000)
Deferred revenues............................................................. 475,000 --
Equity in the losses of joint venture......................................... -- 148,257
Other non-cash items ......................................................... (9,961) (2,124)
Changes in operating assets and liabilities
Prepaid expenses and other current assets..................................... 146,277 (120,135)
Accounts payable and accrued expenses......................................... 89,851 (2,403,817)
Payables to related party..................................................... 825,278 344,376
Other long-term liabilities .................................................. 194,008 --
----------------- -----------------
Net cash used in operating activities...................................... (1,664,079) (9,525,920)
----------------- -----------------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from sales of property and equipment................................... 172,785 74,200
Purchases of property and equipment............................................. -- (1,320)
----------------- -----------------
Net cash provided by investing activities.................................. 172,785 72,880
----------------- -----------------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of common stock and convertible debentures, net of
issuance costs and discounts amounting to approximately $3.4 million....... -- 8,656,982
Proceeds from release of restricted time deposit upon conversion of convertible
debentures into common stock............................................... -- 1,291,000
Proceeds from release of restricted cash upon exchange of convertible debentures -- 2,000,000
Proceeds from release of restricted cash for repayment of convertible debentures -- 5,200,000
Repayment of convertible debentures............................................. -- (5,200,000)
Proceeds from issuance of notes payable to related party........................ -- 1,010,000
----------------- -----------------
Net cash provided by financing activities................................. -- 12,957,982
----------------- -----------------
Effect of exchange rate changes on cash and cash equivalents.................... (1,612) 922
----------------- -----------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS................................ (1,492,906) 3,505,864
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD.................................. 1,901,639 111,015
----------------- -----------------
CASH AND CASH EQUIVALENTS, END OF PERIOD........................................ $ 408,733 $ 3,616,879
================= =================
SIX MONTHS ENDED
JUNE 30,
-----------------------------------
2004 2003
---------------- -----------------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for
Income taxes............................................................... $ 800 $ --
Interest................................................................... 1,406 28,203
Transfer of property to EKI..................................................... 78,409 --
Common stock warrants issued in connection with convertible debentures.......... -- 745,562
Conversion of convertible debentures into common stock.......................... -- 3,141,000
Interest paid in common stock................................................... -- 74,867
Commission paid in common stock................................................. -- 29,500
Common stock issued to service providers in connection with the March 2003
financing.................................................................. -- 484,500
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES
In March 2003, warrants for the purchase of $1.055 million in aggregate
principal amount of convertible debentures and 70,477 shares of common stock
were issued in connection with the issuance of convertible debentures. The
estimated fair value of the warrants of $442,040, based upon the
Black-Scholes method of valuation, was recorded as an original issue
discount, thereby reducing the carrying value of the convertible debentures,
and as an increase in additional paid-in common capital.
In March 2003, warrants for the purchase of 83,333 shares of common stock
were issued to EKI, in connection with the issuance of convertible
debentures, in consideration for its willingness to subordinate amounts owed
to it. The estimated fair value of the warrants of $303,522, based upon the
Black-Scholes method of valuation, was recorded as an original issue
discount, thereby reducing the carrying value of the notes payable to EKI,
and as an increase in additional paid-in common capital.
See Notes to Consolidated Financial Statements.
EARTHSHELL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
JUNE 30, 2004
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OVERVIEW OF OPERATIONS
Organized in November 1992 as a Delaware corporation, EarthShell Corporation is
engaged in the commercialization of composite material technology for the
manufacture of foodservice disposable packaging designed with the environment in
mind. EarthShell Packaging(R) is based on patented composite material technology
(collectively, the "EarthShell Technology"), licensed on an exclusive, worldwide
basis from E. Khashoggi Industries LLC and its wholly owned subsidiaries.
The EarthShell Technology has been developed over many years in consultation
with leading material scientists and environmental experts to reduce the
environmental burdens of foodservice disposable packaging through the careful
selection of raw materials, processes, and suppliers. EarthShell Packaging(R),
including hinged-lid sandwich containers, plates, bowls, foodservice wraps, and
cups, is primarily made from commonly available natural raw materials such as
natural ground limestone and potato starch. EarthShell believes that EarthShell
Packaging(R) has comparable or superior performance characteristics and can be
commercially produced and sold at prices that are competitive with comparable
paper and plastic foodservice disposables.
EarthShell was a development stage enterprise through the first quarter of 2004.
With the recognition of the Company's first revenues in the second quarter of
2004, the Company is no longer a development stage enterprise.
PRESENTATION OF FINANCIAL INFORMATION
The foregoing interim financial information is unaudited and has been prepared
from the books and records of EarthShell Corporation. EarthShell Corporation's
consolidated financial statements include the accounts of its wholly-owned
subsidiary, EarthShell GmbH. All significant intercompany balances and
transactions have been eliminated in consolidation. In the opinion of
management, the financial information reflects all adjustments necessary for a
fair presentation of the financial condition, results of operations and cash
flows of the Company in conformity with generally accepted accounting
principles. All such adjustments were of a normal recurring nature for interim
financial reporting.
The accompanying unaudited consolidated financial statements and these notes do
not include certain information and footnote disclosures required by accounting
principles generally accepted in the United States, which were included in the
Company's consolidated financial statements for the year ended December 31,
2003. The information included in this Form 10-Q should be read in conjunction
with Management's Discussion and Analysis of Financial Condition and Results of
Operations and the Company's consolidated financial statements and notes thereto
for the year ended December 31, 2003 included in the Company's Annual Report on
Form 10-K, including Form-10K/A - Amendment No. 1.
The accompanying consolidated financial statements have been prepared on a going
concern basis, which contemplates the realization of assets and the satisfaction
of liabilities in the normal course of business. During the period from November
1, 1992 (inception) to June 30, 2004, the Company has incurred a cumulative net
loss of $318.7 million and has a stockholders' deficit of $16.6 million at June
30, 2004. These factors among others may indicate that the Company will be
unable to continue as a going concern for a reasonable period of time (see
"Critical Accounting Policies - Going Concern Basis").
The consolidated financial statements do not include any adjustments relating to
the recoverability and classification of recorded asset amounts or the amounts
and classification of liabilities that might be necessary should the Company be
unable to continue as a going concern. The Company's continuation as a going
concern is dependent upon its ability to generate sufficient cash flow to meet
its obligations on a timely basis, to obtain additional financing or refinancing
as may be required, and ultimately to attain successful operations.
Basic loss per common share is computed by dividing net loss available to common
stockholders by the weighted-average number of common shares outstanding during
the period. Diluted loss per common share is computed by dividing net loss
available to common stockholders by the weighted-average number of common shares
outstanding plus an assumed increase in common shares outstanding for
potentially dilutive securities, which consist of options and warrants to
acquire common stock and convertible debentures. Potentially dilutive shares are
excluded from the computation in loss periods, as their effect would be
anti-dilutive. The dilutive effect of options and warrants to acquire common
stock is measured using the treasury stock method. The dilutive effect of
convertible debentures is measured using the if-converted method. Basic and
diluted loss per common share is the same for all periods presented because the
impact of potentially dilutive securities is anti-dilutive.
Since June 21, 2004, the Company's common stock has been listed through the OTC
Bulletin Board. The Company's common stock trades under the symbol "ERTH.OB."
RELATED PARTY TRANSACTIONS
E. Khashoggi Industries LLC and its wholly owned subsidiaries ("EKI") own
approximately 35% of the Company's outstanding shares, and may be deemed to be a
controlling stockholder. In connection with the formation of the Company, the
Company entered into a Master License Agreement with EKI (the "EKI License
Agreement"), pursuant to which the Company has an exclusive, worldwide,
royalty-free license to use and license the EKI technology to manufacture and
sell disposable, single-use containers for packaging or serving food or
beverages intended for consumption within a short period of time (less than 24
hours). Effective January 1, 2001, EKI granted to the Company priority rights to
license certain product applications on an exclusive basis from Biotec, a wholly
owned subsidiary of EKI, in consideration for payment by the Company of a $0.1
million minimum monthly licensing fee to Biotec. In addition, Biotec agreed to
render technical services to the Company, as required, at Biotec's cost plus 5%.
Effective July 29, 2002, the Company restated its agreements with Biotec in a
definitive License & Information Transfer Agreement with Biotec to utilize the
Biotec technology for foodservice applications, including food wraps used in
foodservice applications (the "Biotec License Agreement"). Under the terms of
the Biotec License Agreement, the Company paid or accrued $0.3 million during
the three months ended June 30, 2004 and 2003 and $0.6 million and $0.7 million
during the six months ended June 30, 2004 and 2003, respectively. As part of the
new convertible debenture financing ("2006 Debentures") completed in March 2003
(see "Convertible Debentures"), payment of this licensing fee was subordinated
to the new debentures with strict covenants governing payment. No cash payments
have been made to Biotec from May 2003 through June 2004, and the total amount
of accrued and unpaid licensing fees payable to Biotec as of June 30, 2004 is
approximately $2.2 million, including accrued interest payable on the unpaid
licensing fees. Subsequent to June 30, 2004, as part of an overall restructuring
of the 2006 Debentures and other long-term liabilities of the Company, Biotec
has agreed, in principal, to restructure the unpaid licensing fees and accrued
interest payable (see "Subsequent Events").
In September 2002, the Company entered into a Loan Agreement with EKI whereby
EKI agreed to extend certain loans to the Company at EKI's sole discretion, at
interest rates of 7% to 10%. As of December 31, 2003 and June 30, 2004 the
outstanding principal amount of outstanding loans was $2.755 million. As part of
the 2006 Debentures financing (see "Convertible Debentures"), repayment of these
loans and related interest was subordinated to the new debentures with strict
covenants governing their repayment. Therefore, at June 30, 2004, the loans
totaling $2.755 million and related interest of approximately $0.5 million are
classified as noncurrent liabilities. Subsequent to June 30, 2004, as part of an
overall restructuring of the 2006 Debentures and other long-term liabilities of
the Company, agreement was reached with EKI to convert the entire outstanding
loan balance and all accrued but unpaid interest into unregistered shares of the
Company's common stock (see "Subsequent Events").
In May 2004, the Company sold non-essential machine shop equipment and excess
office furniture and equipment with a net book value of approximately $19,122 to
EKI for $78,409.
CONVERTIBLE DEBENTURES
On March 5, 2003, the Company issued secured convertible debentures due in 2006
(the "2006 Debentures"). The 2006 Debentures bear interest at a rate of 2.0% per
annum, payable quarterly in arrears on each January 31, April 30, July 31 and
October 31. At June 30, 2004, the outstanding principal balance of the 2006
Debentures was $6.8 million, which is reflected on the accompanying balance
sheet net of an unamortized discount of approximately $1.2 million
The Company did not make required interest payments related to the 2006
Debentures on January 31, 2004, April 30, 2004 and July 31, 2004. In addition,
on March 8, 2004, the Company's common stock was delisted from the Nasdaq
Smallcap Market. These actions put the Company in non-compliance with its
covenants under the 2006 Debentures. Two of the debenture holders, including the
debenture holder with the largest ownership position, notified the Company in
writing that the Company was in default and requested that the Company
repurchase the entire principal amount of the 2006 Debentures held at the price
specified in the debenture, along with any accrued and unpaid interest.
Therefore, the entire outstanding principal amount of the 2006 Debentures was
classified as a current liability as of June 30, 2004 and December 31, 2003. In
addition, the Company accrued in the second quarter of 2004 approximately $0.7
million of the repurchase premium specified in the debenture.
Subsequent to June 30, 2004, with the assistance of its largest shareholder, the
Company signed agreements with the holders of all $6.8 million outstanding
principal amount of its 2006 Debentures to convert, retire or restructure the
debentures and all accrued but unpaid interest (see "Subsequent Events").
COMMITMENTS
During 1998, EKI entered into certain agreements with an equipment manufacturer
providing for the purchase by EKI of certain technology applicable to
starch-based disposable packaging. EKI licenses such technology to the Company
on a royalty-free basis pursuant to the EKI License Agreement. In connection
with the purchase, the Company would be required to pay the seller $3.0 million
over the five-year period commencing January 1, 2004 if EKI, the Company or
their respective licensees make active use of the technology. As of June 30,
2004, the Company and its respective licensees have not actively used the
technology. The Company does not plan to make active use of the technology
during the year ending December 31, 2004. EKI has agreed to indemnify the
Company to the extent the Company is required to pay any portion of this $3.0
million obligation solely as a result of EKI's or its licensees' active use of
such patents and related technology (other than use by the Company or its
sublicenses). The $3.0 million obligation to the seller of the technology is
subject to reduction in an amount equal to 5% of the purchase price of any
equipment purchased from the seller by EKI, the Company or their sublicenses
during the five-year period commencing January 1, 2004.
PROPERTY AND EQUIPMENT AND EQUIPMENT HELD FOR SALE
The cost and accumulated depreciation of property and equipment and equipment
held for sale at June 30, 2004 and December 31, 2003 were as follows:
JUNE 30, DECEMBER 31,
2004 2003
------------- --------------
Property and Equipment
Product development center ... $ 893,657 $ 1,175,394
Office furniture and equipment 236,545 356,339
----------- -----------
Total cost ........................ 1,130,202 1,531,733
Less: Accumulated depreciation ... (1,126,229) (1,469,939)
----------- -----------
Property and equipment - net ...... $ 3,973 $ 61,794
=========== ===========
Equipment held for sale ........... $ 1 $ 1
=========== ===========
A commercial production line in Goettingen, Germany was financed and constructed
by the Company. Because the Company is unable to determine with certainty the
proceeds that will be realized upon sale of the equipment, the Company wrote the
line down to $1 as of December 31, 2003 and reclassified it to the long-term
asset account "Equipment held for sale." If the equipment is sold, the Company
will recognize a gain equal to the proceeds received for the equipment.
STOCK OPTIONS
The Company accounts for stock options in accordance with the provisions of
Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued
to Employees," and complies with the disclosure provisions of Statement of
Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based
Compensation." Under APB Opinion No. 25, compensation expense is based on the
difference, if any, on the date of grant, between the fair value of the
Company's common stock and the exercise price of the option. For disclosure
purposes, to measure stock-based compensation in accordance with SFAS No. 123,
the fair value of each option grant is estimated on the date of grant using the
Black-Scholes option-pricing model. The fair value of each option grant is then
amortized as pro forma compensation expense over the vesting period of the
options. The following table sets forth the pro forma net loss and loss per
share resulting from applying SFAS No. 123.
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
--------------------------------- -----------------------------------
2004 2003 2004 2003
-------------- --------------- ---------------- ---------------
Net Loss as reported........................... $2,264,383 $3,608,184 $4,331,240 $10,378,911
Deduct: Stock-based employee compensation
expense included in reported net loss, net
of tax...................................... -- -- -- --
Add: Total stock-based employee compensation
determined under fair value based method
for all awards, net of tax..................
94,422 102,772 107,437 182,162
-------------- --------------- ---------------- ---------------
Pro forma net loss............................. $2,358,805 $3,710,956 $4,438,677 $10,561,073
Net loss per common share
As reported................................. $ 0.16 $ 0.28 $ 0.31 $ 0.82
Pro forma................................... 0.17 0.29 0.31 0.83
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD LOOKING STATEMENTS
Information contained in this Quarterly Report on Form 10-Q, including but not
limited to "Management's Discussion and Analysis of Financial Condition and
Results of Operations," contains forward-looking statements within the meaning
of the Private Securities Litigation Reform Act of 1995, as amended. These
statements may be identified by the use of forward-looking terminology such as
"may," "will," "expect," "anticipate," "estimate," or "continue," or the
negative thereof or other comparable terminology. Any one factor or combination
of factors could cause the Company's actual operating performance or financial
results to differ substantially from those anticipated by management that are
described herein. Investors should carefully review the risk factors set forth
in other Company reports or documents filed with the Securities and Exchange
Commission, including Forms 10-Q, 10-K, 10-K/A and 8-K. Factors influencing the
Company's operating performance and financial results include, but are not
limited to, the performance of licensees, changes in the general economy, the
availability of financing, governmental regulations concerning, but not limited
to, environmental issues, and other risks and unforeseen circumstances affecting
the Company's business. This Quarterly Report on Form 10-Q should be read in
conjunction with the Company's Annual Report on Form 10-K, including Form 10-K/A
- Amendment No. 1, for the fiscal year ended December 31, 2003.
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements and related disclosures in conformity
with generally accepted accounting principles requires management to make
judgments, assumptions and estimates that affect the amounts reported in the
Company's financial statements and the accompanying notes. The amounts of assets
and liabilities reported in the Company's balance sheet and the amounts of
expenses reported for each fiscal period are affected by estimates and
assumptions which are used for, but not limited to, the accounting for asset
impairments. Actual results could differ from these estimates. The following
critical accounting policies are significantly affected by judgments,
assumptions and estimates used in the preparation of the consolidated financial
statements.
Going Concern Basis. The consolidated financial statements have been prepared on
a going concern basis, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business. During the period
from November 1, 1992 (inception) to June 30, 2004, the Company has incurred a
cumulative net loss of $318.7 million and has a working capital deficit of $10.8
million at June 30, 2004. These factors, along with others, may indicate that
the Company will be unable to continue as a going concern for a reasonable
period of time. Even after the restructuring of the 2006 Debentures and other
long-term liabilities of the Company and the sale of common stock subsequent to
June 30, 2004 (see "Subsequent Events"), the Company may have to raise
additional funds to meet its current obligations and to cover operating expenses
through the year ending December 31, 2004. If the Company is not successful in
raising additional capital it may not be able to continue as a going concern for
a reasonable period of time. Management plans to address this need by raising
cash through either the issuance of debt or equity securities. In addition, the
Company expects to receive additional technology fee payments towards the end of
2004 in connection with a sublicense agreement (the "Sublicense Agreement")
entered into between the Company and Meridian Business Solutions in the second
quarter of 2004. Upon execution of the Sublicense Agreement, the Company
received a payment of $500,000 towards the $2.0 million technology fee provided
for in the agreement. Pursuant to the terms of the Sublicense Agreement, the
balance of the technology fee is to be paid over the next twelve months as
certain milestones are achieved. Another possible source of funds is the sale or
transfer of the commercial production line in Goettingen, Germany to an
operating partner. However, the Company can not assure that additional financing
will be available to it, or, if available, that the terms will be satisfactory,
that it will receive any further technology fee payments in 2004 pursuant to the
Sublicense Agreement, or that it will be able to negotiate mutually agreeable
terms for the transfer of its commercial production line to an operating
partner. Management also plans to continue in its efforts to reduce expenses,
but can not assure that it will be able to reduce expenses below current levels.
The consolidated financial statements do not include any adjustments relating to
the recoverability and classification of recorded asset amounts or the amounts
and classification of liabilities that might be necessary should the Company be
unable to continue as a going concern.
Estimated Net Realizable Value of Property and Equipment. The Company has been
engaged in the development of manufacturing equipment to validate acceptance of
EarthShell products and their pricing. To this end the Company financed and
constructed a commercial production line in Goettingen, Germany for the
Company's joint venture with Huhtamaki. During 2001, $1.2 million of the
Goettingen line was written off to reflect equipment that had no further
application in the product development cycle. During the third quarter of 2002
the Company concluded, after obtaining quotations from various machinery
suppliers for an identical line, that $1.7 million of the cost of the line would
not be recoverable and therefore the carrying value of the line was written down
by this amount in the second half of 2002. With the conclusion of the joint
venture with Huhtamaki in 2003, the Company is seeking other operating partners
to purchase the production line. However, because the Company is unable to
determine with certainty the proceeds that will be realized upon sale of the
equipment, the Company wrote the line down to $1 as of December 31, 2003 and
reclassified it to the long-term asset account "Equipment held for sale."
The key accounting estimates and policies are reviewed with the Audit Committee
of the Board of Directors.
THREE MONTHS ENDED JUNE 30, 2004 COMPARED WITH THE THREE MONTHS ENDED JUNE 30,
2003.
The Company's net loss decreased $1.3 million to $2.3 million from $3.6 million
for the three months ended June 30, 2004 compared to the three months ended June
30, 2003, respectively.
REVENUES. The Company recorded revenues of $0.03 million for the three months
ended June 30, 2004. These revenues reflect amortization of the $2.0 million
technology fee payable under the Sublicense Agreement that was entered into in
the second quarter of 2004 over the ten years of the agreement. The amortization
of the technology fee will result in the recognition of $0.2 million in revenues
per year during the life of the agreement.
RESEARCH AND DEVELOPMENT EXPENSES. Total research and development expenses are
comprised of Related party license fee and research and development expenses and
Other research and development expenses. Total research and development expenses
for the development of EarthShell Packaging(R) decreased $1.7 million to $0.3
million from $2.0 million for the three months ended June 30, 2004 compared to
the three months ended June 30, 2003, respectively.
o Related party license fee and research and development expenses are
comprised of the $100,000 monthly licensing fee for the use of the
EarthShell Technology and technical services, both of which are
payable to EKI, a stockholder of the Company, or Biotec, a wholly
owned subsidiary of EKI. It should be noted that payment of these
related party expenses has been deferred pursuant to subordination
agreements entered into by the EKI entities in connection with the
convertible debenture financing concluded in March 2003. Related party
license fee and research and development expenses were $0.3 million
for both the three months ended June 30, 2004 and the three months
ended June 30, 2003.
Subsequent to June 30, 2004, agreement was reached, in principal, to
amend the Biotec License Agreement to eliminate, for the next two
years, the $0.1 million per month minimum license fee payable by the
Company to Biotec (see "Subsequent Events").
o Other research and development expenses are comprised of personnel
costs, travel and direct overhead for development and demonstration
production. Other research and development expenses decreased $1.7
million to $0.04 million from $1.7 million for the three months ended
June 30, 2004 compared to the three months ended June 30, 2003,
respectively. The reduction was due to the non-recurrence of the
following 2003 activities: the start-up in mid-May 2003 of a new
manufacturing line for plates and bowls built and financed by Detroit
Tool and Engineering Company (DTE) at their Lebanon, Missouri
facility, as well as expenses incurred to vacate the Company's
demonstration manufacturing facility in Goleta, California at the
expiration of the lease on May 31, 2003. In addition, the Company's
expense reduction efforts resulted in significantly reduced personnel
and other costs in 2004.
OTHER GENERAL AND ADMINISTRATIVE EXPENSES. Other general and administrative
expenses are comprised of personnel costs, travel and direct overhead for
marketing, finance and administration. Total general and administrative expenses
decreased $0.1 million to $1.1 million from $1.2 million for the three months
ended June 30, 2004 compared to the three months ended June 30, 2003,
respectively. As a result of the Company's efforts to reduce general and
administrative expenses, actual expenses incurred in the second quarter of 2004
were approximately $0.4 million lower than the second quarter of 2003 expenses.
The largest reductions were in personnel costs (approximately $0.2 million; due
to a reduction in headcount from 14 employees at March 31, 2003 to 8 employees
at March 31. 2004), with additional reductions in travel expenses, professional
fees and services, business insurance and franchise taxes. These expense
reductions were largely offset by approximately $0.4 million of accounts payable
settlement gains that reduced the second quarter 2003 expenses. The settlement
gains were the result of a program began by the Company in the second quarter of
2003 to satisfy vendors for outstanding aged invoices. As a result of
negotiations, the company settled and paid outstanding accounts payable of
approximately $0.7 million at a discount of approximately $0.4 million.
INTEREST EXPENSE. Interest expense is comprised of Related party interest
expense and Other interest expense.
o Related party interest expense was $0.1 million in both the three
months ended June 30, 2004 and the three months ended June 30, 2003.
Related party interest expense includes interest accrued on
outstanding loans made to the Company by EKI under the Loan Agreement
(see "Related Party Transactions"), accretion of the discount related
to the warrants issued in conjunction with the March 2003 financing
transactions, plus accrued interest payable on amounts owed to EKI for
monthly licensing fees that were not paid in accordance with the terms
of the subordination agreements entered into in connection with the
2006 Debentures ("see Related Party Transactions").
Subsequent to June 30, 2004, agreement was reached with EKI to convert
all outstanding loans and accrued but unpaid interest into common
stock of the Company and agreement was reached, in principal, to
restructure the unpaid licensing fees under the Biotec License
Agreement (see "Subsequent Events"). Therefore, there will be no
Related party interest expense for these items subsequent to the
closing of the agreements.
o Other interest expense decreased $0.1 million to $0.2 million from
$0.3 million for the three months ended June 30, 2004 compared to the
three months ended June 30, 2003, respectively. Other interest expense
in both years is primarily composed of accretion of the discount and
interest accrued on the 2006 Debentures. However, the 2004 accretion
of the discount is lower than the 2003 accretion of the discount
because of the conversion of almost $5.0 million principal amount of
the 2006 Debentures into common stock of the Company in the second
half of 2003, which resulted in a corresponding portion of the
un-accreted discount being charged against additional paid-in common
capital. Interest expense from accretion of the discount and accrued
interest payable for the 2006 Debentures will be approximately $0.8
million per year until the 2006 Debentures have been converted or the
obligation satisfied in full.
Subsequent to June 30, 2004, the Company signed agreements with the
holders of all $6.8 million outstanding principal amount of its 2006
Debentures to convert, retire or restructure the debentures and all
accrued but unpaid interest (see "Subsequent Events"). Therefore, there
will be no Other interest expense for the 2006 Debentures subsequent to
the closing of the agreements.
GAIN ON SALES OF PROPERTY AND EQUIPMENT. The Company realized a gain of
approximately $0.2 million in the three months ended June 30, 2004 upon the sale
of non-essential machine shop equipment and excess office furniture and
equipment over their net book value, most of which was fully depreciated.
PREMIUM DUE TO DEBENTURE DEFAULT. At June 30, 2004, the Company was in
non-compliance with certain covenants of the 2006 Debentures. Two of the
debenture holders, including the debenture holder with the largest ownership
position, notified the Company in writing that the Company was in default and
requested that the Company repurchase the entire principal amount of the 2006
Debentures held at the price specified in the debenture, along with any accrued
and unpaid interest. The debenture contains a provision for repurchase of the
debenture at a premium if the repurchase is due to an event of default.
Therefore, the Company accrued approximately $0.7 million of the repurchase
premium specified in the debentuure. This amount is also included in the current
liabilities account "Convertible debentures" of the June 30, 2004 balance sheet.
SIX MONTHS ENDED JUNE 30, 2004 COMPARED WITH THE SIX MONTHS ENDED JUNE 30, 2003.
The Company's net loss decreased $6.1 million to $4.3 million from $10.4 million
for the six months ended June 30, 2004 compared to the six months ended June 30,
2003, respectively.
REVENUES. The Company recorded revenues of $0.03 million for the six months
ended June 30, 2004. These revenues reflect amortization of the $2.0 million
technology fee payable under the Sublicense Agreement that was entered into in
the second quarter of 2004 over the ten years of the agreement. The amortization
of the technology fee will result in the recognition of $0.2 million in revenues
per year during the life of the agreement.
RESEARCH AND DEVELOPMENT EXPENSES. Total research and development expenses are
comprised of Related party license fee and research and development expenses and
Other research and development expenses. Total research and development expenses
for the development of EarthShell Packaging(R) decreased $3.4 million to $0.9
million from $4.3 million for the six months ended June 30, 2004 compared to the
six months ended June 30, 2003, respectively.
o Related party license fee and research and development expenses are
comprised of the $100,000 monthly licensing fee for the use of the
EarthShell Technology and technical services, both of which are
payable to EKI, a stockholder of the Company, or Biotec, a wholly
owned subsidiary of EKI. It should be noted that payment of these
related party expenses has been deferred pursuant to subordination
agreements entered into by the EKI entities in connection with the
convertible debenture financing concluded in March 2003. Related party
license fee and research and development expenses decreased $0.1
million to $0.6 million from $0.7 million for the six months ended
June 30, 2004 compared to the six months ended June 30, 2003,
respectively. This decrease was entirely due to a decrease in
technical services provided to the Company by Biotec.
Subsequent to June 30, 2004, agreement was reached, in principal, to
amend the Biotec License Agreement to eliminate, for the next two
years, the $0.1 million per month minimum license fee payable by the
Company to Biotec (see "Subsequent Events").
o Other research and development expenses are comprised of personnel
costs, travel and direct overhead for development and demonstration
production. Other research and development expenses decreased $3.3
million to $0.3 million from $3.6 million for the six months ended
June 30, 2004 compared to the six months ended June 30, 2003,
respectively. The reduction was due to the non-recurrence of the
following 2003 activities:the winding down of on-going demonstration
manufacturing in Goleta, California in the first quarter of 2003 and
the start-up in mid-May 2003 of a new manufacturing line for plates
and bowls built and financed by Detroit Tool and Engineering Company
(DTE) at their Lebanon, Missouri facility, as well as expenses
incurred to vacate the Company's demonstration manufacturing facility
in Goleta at the expiration of the lease on May 31, 2003. In addition,
as previously noted, the Company's expense reduction efforts resulted
in significantly reduced personnel and other costs in 2004.
OTHER GENERAL AND ADMINISTRATIVE EXPENSES. Other general and administrative
expenses are comprised of personnel costs, travel and direct overhead for
marketing, finance and administration. Total general and administrative expenses
decreased $0.8 million to $2.2 million from $3.0 million for the six months
ended June 30, 2004 compared to the six months ended June 30, 2003,
respectively. This was primarily the result of efforts to significantly reduce
general and administrative expenses throughout 2003 and 2004, which resulted in
reductions in the following expenses: personnel costs by $0.5 million (due to to
a reduction in headcount from 17 employees at December 31, 2002 to 9 employees
at December 31. 2003), facility and support costs by $0.2 million, professional
fees and services by $0.1 million, travel and entertainment expenses by $0.1
million, business insurance costs by $0.1 million and franchise taxes by $0.1
million. These expense reductions were offset by approximately $0.3 million more
of accounts payable settlement gains in 2003 than in 2004. The settlement gains
were the result of a program began by the Company in the second quarter of 2003
to satisfy vendors for outstanding aged invoices.
INTEREST EXPENSE. Interest expense is comprised of Related party interest
expense and Other interest expense.
o Related party interest expense increased $0.1 million to $0.3 million
from $0.2 million for the six months ended June 30, 2004 compared to
the six months ended June 30, 2003, respectively. Related party
interest expense includes interest accrued on outstanding loans made
to the Company by EKI under the Loan Agreement (see "Related Party
Transactions"), accretion of the discount related to the warrants
issued in conjunction with the March 2003 financing transactions, plus
accrued interest payable on amounts owed to EKI for monthly licensing
fees that were not paid in accordance with the terms of the
subordination agreements entered into in connection with the 2006
Debentures (see "Related Party Transactions"). The increase is
primarily due to accrued interest payable on amounts owed for the
monthly licensing fees. As the amount of unpaid licensing fees
increases each month due to the subordination agreements, the monthly
charge for interest expense also increases.
Subsequent to June 30, 2004, agreement was reached with EKI to convert
all outstanding loans and accrued but unpaid interest into common
stock of the Company and agreement was reached, in principal, to
restructure the unpaid licensing fees under the Biotec License
Agreement (see "Subsequent Events"). Therefore, there will be no
Related party interest expense for these items subsequent to the
closing of the agreements.
o Other interest expense decreased $0.5 million to $0.4 million from
$0.9 million for the six months ended June 30, 2004 compared to the
six months ended June 30, 2003, respectively. Other interest expense
for the six months ended June 30, 2004 is primarily composed of
accretion of the discount and interest accrued on the 2006 Debentures.
Other interest expense for the six months ended June 30, 2003 was
primarily composed of accretion of the discount on the 2006 Debentures
and a beneficial conversion charge in the amount of $.04 million due
to a change in the conversion price of the convertible debentures due
in August 2007 (the "2007 Debentures"). In addition, Other interest
expense for 2003 also included accretion of the discount on the 2007
debentures and accrued interest payable on the 2006 and 2007
Debentures. Interest expense from accretion of the discount and
accrued interest payable for the 2006 Debentures will be approximately
$0.8 million per year until the 2006 Debentures have been converted or
the obligations satisfied in full.
Subsequent to June 30, 2004, the Company signed agreements with the
holders of all $6.8 million outstanding principal amount of its 2006
Debentures to convert, retire or restructure the debentures and all
accrued but unpaid interest (see "Subsequent Events"). Therefore,
there will be no Other interest expense for the 2006 Debentures
subsequent to the closing of the agreements.
GAIN ON SALES OF PROPERTY AND EQUIPMENT. The Company realized a gain of
approximately $0.2 million in the six months ended June 30, 2004 upon the sale
of non-essential machine shop equipment and excess office furniture and
equipment over their net book value, most of which was fully depreciated.
PREMIUM DUE TO DEBENTURE DEFAULT. At June 30, 2004, the Company was in
non-compliance with certain covenants of the 2006 Debentures. Two of the
debenture holders, including the debenture holder with the largest ownership
position, notified the Company in writing that the Company was in default and
requested that the Company repurchase the entire principal amount of the 2006
Debentures held at the price specified in the debenture, along with any accrued
and unpaid interest. The debenture contains a provision for repurchase of the
debenture at a premium if the repurchase is due to an event of default.
Therefore, the Company accrued approximately $0.7 million of the repurchase
premium specified in the debenture. This amount is also included in the current
liabilities account "Convertible debentures" of the June 30, 2004 balance sheet.
LOSS ON EXTINGUISHMENT OF DEBENTURES. In connection with the March 2003
financing transactions, the Company prepaid $5.2 million aggregate principal
amount of the 2007 Debentures, resulting in a prepayment penalty of
approximately $0.2 million. The Company also issued to the holders of the
prepaid 2007 Debentures 52,083 shares of common stock, valued at approximately
$0.2 million based upon the closing price of the Company's common stock of $4.56
per share on March 5, 2003. In addition, one of the holders of the 2007
Debentures exchanged $2.0 million aggregate principal amount of 2007 Debentures
for $2.0 million aggregate principal amount of 2006 Debentures. In connection
with the prepayment and exchange transactions, the Company incurred cash
transaction costs of approximately $0.3 million, excluding the prepayment
penalty. In addition, the Company incurred a charge of approximately $0.9
million for the prorated portion of the original discount attributed to the $7.2
million of the 2007 Debentures repaid and exchanged. Therefore, the Company
recognized a $1.7 million loss upon extinguishment of the 2007 debentures
through the prepayment and exchange in 2003.
DEBENTURE CONVERSION COSTS. Debenture conversion costs of $0.1 million for the
six months ended March 31, 2003 represent the prorated portion of the original
discount attributed to the 2007 Debentures whose conversion was forced by
Company in the first six months of 2003.
LIQUIDITY AND CAPITAL RESOURCES AT JUNE 30, 2004
Cash Flow. The Company's principal use of cash for the six months ended June 30,
2004 was to fund operations. Net cash used in operations was $1.7 million for
the six months ended June 30, 2004, compared to $9.5 million for the six months
ended June 30, 2003. As of June 30, 2004 the Company had cash and cash
equivalents totaling $0.4 million and a working capital deficit of $10.8
million. These factors, along with others, may indicate that the Company will be
unable to continue as a going concern for a reasonable period of time.
Capital Requirements. The Company made no capital expenditures during the six
months ended June 30, 2004, nor does the Company expect to make significant
capital expenditures in the year 2004.
Sources of Capital. The Company did not make required interest payments related
to the 2006 Debentures on January 31, 2004, April 30, 2004 and July 31, 2004. In
addition, on March 8, 2004, the Company's common stock was delisted from the
Nasdaq Smallcap Market. These actions put the Company in non-compliance with its
covenants under the 2006 Debentures. Two of the debenture holders, including the
debenture holder with the largest ownership position, notified the Company in
writing that the Company was in default and requested that the Company
repurchase the entire principal amount of the 2006 Debentures held at the price
specified in the debenture, along with any accrued and unpaid interest.
Therefore, the entire outstanding principal amount of the 2006 Debentures
totaling $6.8 million was classified as a current liability as of June 30, 2004
and December 31, 2003. Subsequent to June 30, 2004, the Company signed
agreements with the holders of all $6.8 million outstanding principal amount of
its 2006 Debentures to convert, retire or restructure the debentures and all
accrued but unpaid interest (see "Subsequent Events").
Even after the restructuring of the 2006 Debentures and other long-term
liabilities of the Company and the sale of common stock subsequent to June 30,
2004, the Company may have to raise additional funds to meet its current
obligations and to cover operating expenses through the year ending December 31,
2004. If the Company is not successful in raising additional capital it may not
be able to continue as a going concern for a reasonable period of time.
Management plans to address this need by raising cash through either the
issuance of debt or equity securities. In addition, the Company expects to
receive additional technology fee payments towards the end of 2004 in connection
with the Sublicense Agreement that was entered into in the second quarter of
2004. Upon execution of the Sublicense Agreement, the Company received a payment
of $500,000 towards the $2.0 million technology fee provided for in the
agreement. Pursuant to the terms of the Sublicense Agreement, the balance of the
technology fee is to be paid over the next twelve months as certain milestones
are achieved. Another possible source of funds is the sale or transfer of the
commercial production line in Goettingen, Germany to an operating partner.
However, the Company can not assure that additional financing will be available
to it, or, if available, that the terms will be satisfactory, that it will
receive any further technology fee payments in 2004 pursuant to the Sublicense
Agreement, or that it will be able to negotiate mutually agreeable terms for the
transfer of its commercial production line to an operating partner. Management
also plans to continue in its efforts to reduce expenses, but can not assure
that it will be able to reduce expenses below current levels.
Off-Balance Sheet Arrangements. The Company does not have any off-balance sheet
arrangements as of June 30, 2004 and has not entered into any transactions
involving unconsolidated, limited purpose entities.
SUBSEQUENT EVENTS
Subsequent to June 30, 2004, the Company entered into agreements to restructure
its long-term debt, including the 2006 Debentures, the notes payable to EKI, the
unpaid licensing fees under the Biotec Licensing Agreement and all related
accrued but unpaid interest. In total the Company has signed agreements to
settle an aggregate of approximately $14.0 million in long-term debt for $3.5
million in cash payments, the issuance of approximately 2.3 million shares of
common stock of the Company (subject to possible anti-dilution adjustments) and
future cash payments (or conversions to common stock of the Company) of
approximately $2.1 million. In addition, on August 5, 2004, the Company entered
into an agreement to sell approximately 1.7 million shares of its unregistered
common stock to a single purchaser at a price of $3.00 per share. Although the
agreement required funding on August 5, 2004, the Company has not yet received
the $5.0 million in consideration. However, the Company has received oral
assurances from the purchaser that the funds will be forthcoming in the near
future.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's treasury function controls all decisions and commitments regarding
cash management and financing arrangements. Treasury operations are conducted
within a framework that has been authorized by the board of directors.
The Company is exposed to interest rate risk on its fixed rate long-term working
capital loans to EKI and its fixed rate long-term convertible debentures. As of
June 30, 2004, the principal amount of these long-term fixed rate debt
obligations totaled approximately $9.555 million. The working capital loans bear
interest at a fixed rate of 10% per annum. The convertible debentures bear
interest at a fixed rate of 2% per annum. While generally an increase in market
interest rates will decrease the value of this debt, and decreases in rates will
have the opposite effect, we are unable to estimate the impact that interest
rate changes will have on the value of the substantial majority of this debt as
there is no active public market for this debt.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of disclosure controls and procedures. The Company's Chief Executive
Officer and Chief Financial Officer have evaluated the effectiveness of the
Company's disclosure controls and procedures (as such term is defined in Rules
13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended
(the "Exchange Act")) as of the end of the period covered by this quarterly
report on Form 10-Q (the "Evaluation Date"). Based on such evaluation, such
officers have concluded that, as of the Evaluation Date, the Company's
disclosure controls and procedures are effective in alerting them on a timely
basis to material information relating to the Company required to be included in
the Company's periodic filings under the Exchange Act.
Changes in internal control over financial reporting. No changes in the
Company's internal control over financial reporting have come to management's
attention during the Company's last fiscal quarter that have materially
affected, or are reasonably likely to materially affect, the Company's internal
control over financial reporting.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Not applicable
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS AND ISSUER REPURCHASES OF
EQUITY SECURITIES
Not applicable
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
The Company did not make required interest payments related to the 2006
Debentures on January 31, 2004, April 30, 2004 and July 31, 2004. In addition,
on March 8, 2004, the Company's common stock was delisted from the Nasdaq
Smallcap Market. These actions put the Company in non-compliance with its
covenants under the 2006 Debentures. Two of the debenture holders, including the
debenture holder with the largest ownership position, notified the Company in
writing that the Company was in default and requested that the Company
repurchase the entire principal amount of the 2006 Debentures held at the price
specified in the debenture, along with any accrued and unpaid interest.
Subsequent to June 30, 2004, with the assistance of its largest shareholder, the
Company signed agreements with the holders of all $6.8 million outstanding
principal amount of its 2006 Debentures to convert, retire or restructure the
debentures and all accrued but unpaid interest (see "Subsequent Events").
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Annual Meeting of Stockholders of the Company was held on July 26, 2004. The
meeting, originally convened on June 28, 2004, was adjourned to July 26, 2004
because a quorum was not present at that time. At the reconvened meeting the
following actions were taken:
1) Re-elected the entire membership of the Board of Directors, as listed
in the Company's Proxy Statement dated June 8, 2004, until the next
Annual Meeting of Stockholders. Voting for the individual nominees was
as follows:
Votes Withheld
Nominee Votes For or Against
------- --------- ----------
Mr. Essam Khashoggi 7,529,763 540,894
Mr. Simon K. Hodson 7,529,908 540,749
Mr. John Daoud 7,529,846 540,811
Dr. Hamlin M. Jennings 7,529,906 540,751
Ms. Layla Khashoggi 7,529,672 540,985
Mr. Walker Rast 7,529,823 540,834
Dr. George W. Roland 7,529,906 540,751
2) Approved an amendment to the Company's Certificate of Incorporation to
increase, upon filing, the number of Common Stock the Company is
authorized to issue from 25,000,000 to 40,000,000 shares and in
connection therewith to increase the total number of shares of all
classes of stock the Company is authorized to issue from 35,000,000 to
50,000,000. The votes were cast as follows:
Votes for 7,249,071
Votes withheld or against 757,924
Abstentions 63,662
Broker non-votes 0
ITEM 5. OTHER INFORMATION
Not applicable
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following documents are filed as a part of this report:
Exhibit Number Description
-------------- -----------
10.1 Meridian Business Solutions Sublicense Agreement dated May 13, 2004.
31.1 Certification of the CEO pursuant to Rules 13a-14 and 15d-14 under the Exchange Act,
as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of the CFO pursuant to Rules 13a-14 and 15d-14 under the Exchange Act,
as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K
The Company filed one report on Form 8-K during the quarter ended June 30, 2004.
Information regarding the item reported on is as follows:
DATE ITEM REPORTED ON
---------------------------- ------------------------------------------------------------
June 29, 2004 Press release of the Company dated June 28, 2004 announcing,
that (i) it had adjourned its Annual Meeting of Stockholders
to July 26, 2004 because a quorum was not present by proxy
or in person and (ii) it reported during a discussion period
following adjournment of the business portion of the Annual
qeeting of Stockholders that its largest shareholder, E.
Khashoggi Industries (EKI), has agreed to convert its $2.755
million note to common stock at a price of $3 per share,
provided that the Registrant can resolve the default that
currently exists under its 2006 debentures.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
EarthShell Corporation
Date: August 16, 2004 By: /s/ D. Scott Houston
____________________
D. Scott Houston
Chief Financial Officer
(PRINCIPAL FINANCIAL OFFICER AND
DULY AUTHORIZED OFFICER)