SCHEDULE 14A INFORMATION
PROXY STATEMENT PURSUANT TO SECTION 14(A) OF THE
SECURITIES EXCHANGE ACT OF 1934
FILED BY THE REGISTRANT [X]
FILED BY A PARTY OTHER THAN THE REGISTRANT [_]
CHECK THE APPROPRIATE BOX:
[_] Preliminary Proxy Statement
[_] Confidential, for Use of the Commission Only (as permitted by Rule
14a-6(e)(2))
[X] Definitive Proxy Statement
[_] Definitive Additional Materials
[_] Soliciting Material Pursuant Rule 14a-12
ANDREA ELECTRONICS CORPORATION
--------------------------------------------------------------------------
(NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
N/A
--------------------------------------------------------------------------
(NAME OF PERSON(S) FILING PROXY STATEMENT, IF OTHER THAN THE REGISTRANT)
PAYMENT OF FILING FEE (CHECK THE APPROPRIATE BOX):
[X] No fee required.
[_] Fee computed on table below per Exchange Act Rules 14a-6(i)(1) and 0-11.
(1) Title of each class of securities to which transaction applies:
____________________________________________________________________
(2) Aggregate number of securities to which transaction applies:
____________________________________________________________________
(3) Per unit price or other underlying value of transaction computed
pursuant to Exchange Act Rule 0-11 (set forth the amount on which the
filing fee is calculated and state how it was determined):
____________________________________________________________________
(4) Proposed maximum aggregate value of transaction:
____________________________________________________________________
(5) Total fee paid:
____________________________________________________________________
[_] Fee paid previously with preliminary materials.
[_] Check box if any part of the fee is offset as provided by Exchange Act Rule
0-11(a)(2) and identify the filing for which the offsetting fee was paid
previously. Identify the previous filing by registration statement number,
or the Form or Schedule and the date of its filing.
(1) Amount Previously Paid:
____________________________________________________________________
(2) Form, Schedule or Registration Statement No.:
____________________________________________________________________
(3) Filing Party:
____________________________________________________________________
(4) Date Filed:
____________________________________________________________________
ANDREA ELECTRONICS CORPORATION
45 Melville Park Road
Melville, New York 11747
------------------------------------
NOTICE OF SPECIAL MEETING OF SHAREHOLDERS
TO BE HELD JANUARY 31, 2003
------------------------------------
On Friday, January 31, 2003, Andrea Electronics Corporation will hold a
special meeting of shareholders at the American Stock Exchange, 86 Trinity
Place, New York, New York. The meeting will begin at 9:30 a.m., local time. At
the meeting, shareholders will consider and act on the following:
1. The approval of an amendment to the Restated Certificate of
Incorporation of the Company to increase the authorized shares of
common stock from 70,000,000 shares to 200,000,000 shares;
2. The approval of an amendment to the Restated Certificate of
Incorporation of the Company to reduce the par value of the Company's
common stock from $0.50 per share to $0.01 per share; and
3. Such other business as may properly come before the meeting.
Note: As of the date of this notice, the board of directors is not aware of
any other business to come before the meeting.
Only shareholders of record as the close of business on December 27, 2002,
are entitled to receive notice of the meeting and to vote at the meeting and any
adjournment or postponement of the meeting.
Please complete and sign the enclosed form of proxy, which is solicited by
the board of directors, and mail it promptly in the enclosed envelope. The proxy
will not be used if you attend the meeting and vote in person.
BY ORDER OF THE BOARD OF DIRECTORS
/s/ Richard A. Maue
Richard A. Maue
Secretary
Melville, New York
January 3, 2003
IMPORTANT: The prompt return of proxies will save the Company the expense of
further requests for proxies in order to ensure a quorum. A self-addressed
envelope is enclosed for your convenience. No postage is required if mailed in
the United States.
SPECIAL MEETING
ANDREA ELECTRONICS CORPORATION
PROXY STATEMENT
This proxy statement is furnished in connection with the solicitation
of proxies by the board of directors of Andrea Electronics Corporation ("Andrea
Electronics" or the "Company") to be used at the special meeting of shareholders
of the Company. The special meeting will be held at the American Stock Exchange,
86 Trinity Place, New York, New York on Friday, January 31, 2003 at 9:30 a.m.,
local time. This proxy statement and the enclosed proxy card are being first
mailed to shareholders on or about January 3, 2003.
Voting and Proxy Procedure
Who Can Vote at the Meeting
You are entitled to vote your Andrea Electronics common stock only if
the records of the Company show that you held your shares as of the close of
business on December 27, 2002. As of the close of business on December 27, 2002,
a total of 21,127,918 shares of Andrea Electronics common stock were
outstanding. Each share of common stock has one vote.
Attending the Meeting
If you are a beneficial owner of Andrea Electronics common stock held
by a broker, bank or other nominee (i.e., in "street name"), you will need proof
of ownership to be admitted to the meeting. A recent brokerage statement or
letter from a bank or broker are examples of proof of ownership. If you want to
vote your shares of Andrea Electronics common stock held in street name in
person at the meeting, you will have to get a written proxy in your name from
the broker, bank or other nominee who holds your shares.
Vote Required
The special meeting will be held if a majority of the outstanding
shares of common stock entitled to vote is represented at the meeting. If you
return valid proxy instructions or attend the meeting in person, your shares
will be counted for purposes of determining whether there is a quorum, even if
you abstain from voting. Broker non-votes also will be counted for purposes of
determining the existence of a quorum. A broker non-vote occurs when a broker,
bank or other nominee holding shares for a beneficial owner does not vote on a
particular proposal because the nominee does not have discretionary voting power
with respect to that item and has not received voting instructions from the
beneficial owner.
In voting on the approval of the amendment to the Restated Certificate
of Incorporation to increase the number of authorized shares, you may vote in
favor of the amendment, vote against the amendment or abstain from voting. In
voting on the approval of the amendment to the Restated Certificate of
Incorporation to reduce the par value, you may vote in favor of the amendment,
vote against the amendment or abstain from voting. Both amendments to the
Restated Certificate of Incorporation will be decided by the affirmative vote of
a majority of the outstanding shares entitled to
vote at the special meeting. On these matters, abstentions and broker non-votes
will have effect of votes against the proposal.
Voting by Proxy
The board of directors of Andrea Electronics is sending you this proxy
statement for the purpose of requesting that you allow your shares of Andrea
Electronics common stock to be represented at the special meeting by the persons
named in the enclosed proxy card. All shares of Andrea Electronics common stock
represented at the special meeting by properly executed and dated proxies will
be voted according to the instructions indicated on the proxy card. If you sign,
date and return a proxy card without giving voting instructions, your shares
will be voted as recommended by the Company's board of directors. The board of
directors recommends a vote "FOR" the amendment to the Restated Certificate of
Incorporation to increase the number of authorized shares and "FOR" the
amendment to the Restated Certificate of Incorporation to reduce the par value.
If any matters not described in this proxy statement are properly
presented at the special meeting, the persons named in the proxy card will use
their own best judgment to determine how to vote your shares. This includes a
motion to adjourn or postpone the special meeting in order to solicit additional
proxies. If the special meeting is postponed or adjourned, your Andrea
Electronics common stock may be voted by the persons named in the proxy card on
the new special meeting date as well, unless you have revoked your proxy. The
Company does not know of any other matters to be presented at the special
meeting.
You may revoke your proxy at any time before the vote is taken at the
meeting. To revoke your proxy you must either advise the Secretary of the
Company in writing before your Company common stock has been voted at the
special meeting, deliver a later dated proxy, or attend the meeting and vote
your shares in person. Attendance at the special meeting will not in itself
constitute revocation of your proxy.
If your Andrea Electronics common stock is held in street name, you
will receive instructions from your broker, bank or other nominee that you must
follow in order to have your shares voted. Your broker, bank or other nominee
may allow you to deliver your voting instructions via the telephone or the
Internet. Please see the instruction form provided by your broker, bank or other
nominee that accompanies this proxy statement. If you wish to change your voting
instructions after you have returned your voting instruction form to your broker
or bank, you must contact your broker or bank.
Proposal One:
Amendment of Restated Certificate of Incorporation to
Increase the Number of Authorized Shares of Common Stock
The board of directors recommends the adoption by shareholders of an
amendment to Article Third of the Company's Restated Certificate of
Incorporation, to increase the number of shares of common stock that may be
issued. The Restated Certificate of Incorporation currently authorizes the
issuance of 70,000,000 shares of common stock. The board of directors believes
it to be in the best interests of the Company, and has therefore proposed and
declared advisable, that the Restated Certificate of Incorporation be amended to
increase the number of authorized shares of common stock to 200,000,000 shares.
2
As of December 27, 2002, the Company had available for future issuance
approximately 29,031,447 of its 70,000,000 authorized shares, which were not
outstanding or reserved for possible future issuance. The Company has 21,127,918
shares outstanding and has reserved approximately 19,840,635 shares for future
issuance. These reserved shares relate to the following: 1,268,000 shares and
4,120,625 shares for issuance upon exercise of awards granted under the
Company's 1991 Performance Equity Plan and 1998 Stock Plan, respectively,
992,500 shares for additional awards which may be granted under the 1998 Stock
Plan, 2,569,848 shares for issuance upon conversion of the outstanding Series B
Redeemable Convertible Preferred Stock ("B Preferred Stock") and related
warrant, and 10,889,662 shares for issuance upon conversion of the outstanding
Series C Redeemable Convertible Preferred Stock ("C Preferred Stock").
Further, the conversion prices of the B Preferred Stock and the C
Preferred Stock fluctuate based on the then-applicable trading price for the
common stock. As a result, if the price of the Company's common stock decreases,
the Company likely will be required by its contractual obligations relating to
the B Preferred Stock and the C Preferred Stock to substantially increase the
number of shares of common stock reserved for possible issuance upon the
conversion of the B Preferred Stock and the C Preferred Stock. Such required
increase in reserved shares could restrict the significant portion of the
currently unissued and unreserved shares and could even exceed the number of
unissued and unreserved shares currently available.
The following table illustrates the varying amounts of shares of common
stock that would be issuable upon conversion of all outstanding shares of B
Preferred Stock and all outstanding shares of C Preferred Stock at the indicated
conversion prices (without regard to any limitations on conversion) and assuming
that all additional amounts are paid in cash:
Number of Shares
of Common Stock Percentage of
Conversion Issuable Upon Outstanding
Price Conversion (1)(2)(3) Common Stock (4)
---------- -------------------- ----------------
$0.10 81,518,759 79%
0.15 54,345,840 72%
0.20 40,759,380 66%
0.25 32,607,504 61%
0.30 27,172,920 56%
0.35 23,291,074 52%
----------------------
(1) The calculation assumes that the conversion price of
the B Preferred Stock and C Preferred Stock are the
same at the assumed conversion prices of $0.10,
$0.15, $0.20, $0.25 and $0.30.
(2) The calculation assumes that for any conversion of
the B Preferred Stock when the prevailing market
price is above $0.30, the C Preferred Stock would
still be converted at its maximum conversion price of
$0.30.
(3) The holder of B Preferred Stock and C Preferred Stock
is prohibited from converting the B Preferred Stock
or C Preferred Stock or from exercising the warrants
issued in connection with the B Preferred Stock, if,
after giving effect to such conversion, it would
beneficially own in excess of 4.99% or, over the
sixty day period prior to the conversion, 9.99% of
the outstanding shares of the Company's common stock
following such conversion.
3
(4) Based on 21,127,918 shares of common stock
outstanding as of December 27, 2002, plus the number
of shares of common stock issuable upon conversion of
the B Preferred Stock and C Preferred Stock.
The conversion rate at December 27, 2002 of the B Preferred Stock and
the C Preferred Stock was $0.28. On December 27, 2002, there were 66 shares of B
Preferred Stock outstanding and 749 shares of C Preferred Stock outstanding. If
all of the outstanding shares of the B Preferred Stock and the C Preferred Stock
were converted on December 27, 2002, the Company would have issued a total of
32,345,598 shares of common stock.
If the Company is not authorized to issue additional shares of common
stock and is unable to deliver common stock upon conversion of the B Preferred
Stock or the C Preferred Stock, the holder of the preferred shares may have the
right to require Andrea Electronics to redeem all or a portion of the preferred
shares. If such redemption rights are triggered and Andrea Electronics has
insufficient funds to satisfy the redemption, which would be the case if a
redemption occurred as of January 3, 2003, Andrea Electronics' ability to
continue its current operations will be materially adversely affected and if the
Company has insufficient funds to redeem either the B Preferred Stock or the C
Preferred Stock, it could result in Andrea Electronics' inability to meet its
operating obligations, and consequently delisting from the American Stock
Exchange.
The Company believes that this proposed increase in authorized shares
is necessary as a result of its contractual obligations under each of the B
Preferred Stock and C Preferred Stock. Other than the required issuance of
shares upon conversion of the B Preferred Stock or C Preferred Stock, the
Company does not have a specific plan or arrangement to issue any of the
proposed increased authorized shares. However, the board of directors believes
its important for the Company to maintain an authorized capitalization that will
permit certain financing alternatives in the future. If the proposal to amend
the Restated Certificate of Incorporation is approved, the additional shares
will be available for issuance from time to time for the conversion or exercise
of previously or to be issued convertible securities, warrants and options, for
use in obtaining funds for present and future operations, for use in conjunction
with possible acquisitions of businesses or properties, for use in possible
stock dividends and stock splits, or for any other proper corporate purpose. The
board of directors does not intend to seek further shareholder approval prior to
the issuance of any additional shares in future transactions unless required by
law, by the Company's Restated Certificate of Incorporation, or by the rules of
any stock exchange upon which the stock may be listed, or unless the Company
deems it advisable to do so to qualify (or to continue to qualify) an employee
benefit plan under the Securities Exchange Act of 1934. Common stock would be
issued only if the Company believed the issuance favorable to, and in the
interests of, the Company and its shareholders.
The newly authorized shares of common stock will have voting and other
rights identical to those of the currently authorized shares of common stock,
subject to shareholder approval of Proposal 2.
Any issuance of additional shares of common stock of the Company would
dilute the equity of the outstanding shares of common stock. In addition, the
board of directors has not proposed the increase in authorized shares of common
stock with the intention of using such shares for anti-takeover purposes
although the availability of such shares may theoretically be utilized to render
more difficult or discourage an attempt to acquire control of Andrea
Electronics.
4
Under the Restated Certificate of Incorporation of the Company, holders
of common stock do not have preemptive rights.
Approval of Proposal 1 is not contingent on approval of Proposal 2.
The Board of Directors recommends a vote "FOR" the adoption of this
proposal.
Proposal Two:
Amendment of Restated Certificate of Incorporation to
Reduce Par Value of Common Stock
The board of directors recommends the adoption by shareholders of an
amendment to Article Third of the Company's Restated Certificate of
Incorporation, to reduce the par value of the Company's common stock. The
Restated Certificate of Incorporation currently authorizes the issuance of
shares of common stock with a par value of $0.50 per share. The board of
directors believes it to be in the best interests of the Company, and has
therefore proposed and declared advisable, that the Restated Certificate of
Incorporation be amended to reduce the par value of the Company's common stock
to $0.01 per share.
Under New York corporate law, par value is initially determined by
incorporators of an entity and set forth in the certificate of incorporation.
Many companies who incorporate today use a low par value (e.g., $0.01) or have
no par value. The concept of par value, which dates back to early corporate law,
once served to protect stock purchasers and creditors from the issuance of stock
at prices below par value. The stated par value was presumed to be the
corporation's value and represented an assurance to both stock purchasers and
creditors that the corporation in which they were investing had a certain value.
Today, corporations issue stock at prices which bear no discernible relationship
to par value.
Although par value generally does not serve the corporate purposes for
which it was originally intended, it remains a factor under New York law in
issuing common stock, upon conversion of preferred stock or otherwise. The
Company is not permitted to issue common stock, upon conversion of preferred
stock or otherwise, below par value. As of December 27, 2002, the price of the
Company's common stock was $0.30 per share, below the $0.50 par value per share.
The Company has recently been able to issue common stock upon conversion of its
B Preferred Stock and C Preferred Stock when its common stock was trading below
par value because New York corporate law permits the Company to allocate capital
surplus to the common stock being issued upon conversion. However, since the
conversion prices of the B Preferred Stock and the C Preferred Stock fluctuate
based on the then-applicable trading price for the common stock, as the price of
the Company's common stock decreases below par value, the more of its capital
surplus the Company will be required to allocate to shares of common stock
issued upon conversion. Since the Company has a limited amount of capital
surplus, the Company may not be able to meet its conversion obligations when the
common stock trades below par value and there is an inadequate amount of capital
surplus to allocate to the common stock issued upon conversion. If the Company
is unable to deliver common stock upon conversion of the B Preferred Stock or
the C Preferred Stock, the holder of the preferred shares may have the right to
require Andrea Electronics to redeem all or a portion of the preferred shares.
If such redemption rights are triggered and Andrea Electronics has insufficient
funds to satisfy the redemption, which would be the case if a redemption
occurred as of December 27, 2002, Andrea Electronics' ability to continue its
current operations will be materially adversely affected and if the Company has
insufficient funds to redeem either the B Preferred Stock or
5
the C Preferred Stock, it could result in Andrea Electronics' inability to meet
its operating obligations, and consequently delisting from the American Stock
Exchange.
The following table reflects the capitalization of the Company at
September 30, 2002 with the par value of the common stock at $0.50 per share and
$0.01 per share.
$0.50 par value $0.01 par value
per share per share
----------------- -----------------
Preferred stock, $0.01 par value; authorized: 4,997,500 shares;
none issued and outstanding .................................. $ -- $ --
Common stock, $0.50 par value; authorized: 70,000,000
shares; issued and outstanding: 20,011,948 shares ............ 10,005,974 200,119
Additional paid-in capital ...................................... 54,479,117 64,284,972
Deferred stock compensation ..................................... (95,857) (95,857)
Accumulated deficit ............................................. (50,278,117) (50,278,117)
------------ ------------
Total shareholders' equity ............................. $ 14,111,117 $ 14,111,117
The Board believes that the proposed reduction in the par value of the
shares of common stock is desirable to provide the Company with flexibility in
managing its corporate funds. The adoption of the amendment to reduce the par
value of shares of the Company's common stock will substantially increase the
Company's ability to issue shares of common stock upon conversion of the B
Preferred Stock and C Preferred Stock.
Any issuance of additional shares of common stock of the Company would
dilute the equity of the outstanding shares of common stock. In addition, the
board of directors has not proposed the reduction in the par value with the
intention of declaring dividends on the common stock although the reduction in
the par value, and resulting increase in capital surplus of the Company, may
result in added dividend flexibility since New York corporate law permits a
corporation to declare dividends and other corporate distributions out of
capital surplus only.
In the event this proposal is approved, certificates representing
shares of the Company's common stock, $0.50 par value per share, issued and
outstanding prior to the effective date of filing of the amendment to the
Company's Restated Articles of Incorporation will be changed to represent the
same number of shares of the Company's common stock, $0.01 par value per share,
as they did prior to the effective date. Existing certificates will not be
exchanged for new certificates. Please do not return any certificates to the
Company.
Except with respect to added dividend flexibility, the decrease in the
par value of the common stock should have no effect on the Company's
shareholders.
Andrea Electronics will notify the American Stock Exchange of the
reduction in par value of the common stock in accordance with American Stock
Exchange regulations.
Approval of Proposal 2 is not contingent on approval of Proposal 1.
6
The Board of Directors recommends a vote "FOR" the adoption of this
proposal.
Stock Ownership
The following table sets forth certain information with respect to
beneficial ownership of the Company's common stock, as of December 27, 2002,
for:
. each person known to the Company to beneficially own more than 5%
of its common stock;
. each of the Company's directors;
. each of the Company's executive officers; and
. all of the Company's directors and executive officers as a group.
A person may be considered to beneficially own any shares of stock over
which he or she has, directly or indirectly, sole or shared voting or investing
power. Unless otherwise indicated, each of the named individuals has sole voting
power and sole investment power with respect to the number of shares shown.
Number of
Number of Shares that
Shares Owned May Be Acquired Percent of
Name (and Address of (excluding Within 60 Days By Common Stock
Persons Owning More than 5%) options) Exercising Options Outstanding (1)
---------------------------- ------------ ------------------ ---------------
Douglas J. Andrea ...................... 256,088 (2) 832,500 5.0%
45 Melville Park Road
Melville, New York 11747
Christopher P. Sauvigne ................ 210,000 (3) 687,500 4.1%
Richard A. Maue ........................ 2,000 248,750 1.2%
John R. Croteau ........................ 15,625 - *
James M. Griffin ....................... 20,625 35,000 *
Gary A. Jones .......................... 17,625 70,000 *
Scott Koondel .......................... 15,625 117,500 *
Jack Lahav ............................. 15,625 - *
Louis Libin ............................ 15,625 35,000 *
Directors and executive officers as
a group (9 persons) .................... 568,838 2,061,250 *
---------------------------------
* Less than 1% of the shares of Company common stock outstanding.
(1) Based on 21,127,918 shares of Company common stock outstanding and entitled
to vote as of December 27, 2002, plus the number of shares that may be
acquired within 60 days by each individual (or group of individuals) by
exercising options.
(2) Includes 11,188 shares owned by Mr. Andrea's spouse and 1,450 shares owned
by Mr. Andrea's daughter.
(3) Includes 15,000 shares owned by Mr. Sauvigne's spouse and 5,000 shares
owned by Mr. Sauvigne's minor children.
7
Independent Auditors
Attendance at the Special Meeting
A representative of Marcum & Kliegman LLP is expected to be present at the
special meeting to respond to appropriate questions from stockholders and will
have the opportunity to make a statement should he or she desire to do so.
Arthur Andersen LLP served as the Company's independent auditors for the fiscal
year ended December 31, 2001. A representative of Arthur Andersen LLP is not
expected to be present at the annual meeting.
Change in Independent Auditors
On July 1, 2002, the Company's Board of Directors, at the recommendation of
its Audit Committee, determined not to engage Arthur Andersen LLP as the
Company's independent accountants for the fiscal year ending December 31, 2002,
however, no action was taken on this date to formally dismiss Arthur Andersen
LLP as the Company's independent accountants. On July 29, 2002, the Company's
Board of Directors, at the recommendation of its Audit Committee, determined to
engage PricewaterhouseCoopers LLP as the Company's independent accountants,
however no action was taken on this date to formally engage
PricewaterhouseCoopers LLP as the Company's independent accountants. On August
6, 2002, the Securities and Exchange Commission informed the Company that Arthur
Andersen LLP had notified the Securities and Exchange Commission that it was
unable to perform future audit services for the Company and, as a result, its
relationship with the Company was effectively terminated. Arthur Andersen LLP
did not notify the Company of this directly, however, the Securities and
Exchange Commission stated in its letter that Arthur Andersen LLP's notification
was consistent with widely disseminated press reports of the wind-down of Arthur
Andersen's business. As a result, on August 6, 2002, Arthur Andersen LLP was
dismissed as the Company's independent accountant.
The report of Arthur Andersen LLP on the financial statements of the
Company for each of the years ended December 31, 2001 and 2000 did not contain
an adverse opinion or a disclaimer of opinion and was not qualified or modified
as to uncertainty, audit scope, or accounting principles. During each of the
years ended December 31, 2001 and 2000 and the subsequent interim period
preceding August 6, 2002, the Company was not in disagreement with Arthur
Andersen LLP on any matter of accounting principles or practices, financial
statement disclosure, or auditing scope or procedure, which disagreement, if not
resolved to the satisfaction of Arthur Andersen LLP, would have caused Arthur
Andersen LLP to make reference to the subject matter of the disagreement in
connection with its report.
On August 6, 2002, the Company's Board of Directors, at the recommendation
of its Audit Committee, engaged PricewaterhouseCoopers LLP as the Company's
independent accountants. During the years ended December 31, 2001 and 2000 and
through the date of the Board's decision, the Company did not consult
PricewaterhouseCoopers LLP with respect to the application of accounting
principles to a specified transaction, either completed or proposed, or the type
of audit opinion that might be rendered on the Company's consolidated financial
statements, or any other matters or reportable events as set forth in Items
304(a)(2)(i) and (ii) of Regulation S-K.
On August 14, 2002, the Company's Board of Directors, at the recommendation
of its Audit Committee, dismissed PricewaterhouseCoopers LLP as the Company's
independent accountants. During the term of its engagement,
PricewaterhouseCoopers LLP did not audit or review any financial statements of
the Company as of any date or for any period, nor issue any reports relating
thereto.
8
However, PricewaterhouseCoopers LLP did commence, but did not complete a review
of the Company's interim financial statements for the quarter ended June 30,
2002.
During the term of its engagement, there were no disagreements with
PricewaterhouseCoopers LLP on any matter of accounting principles or practices,
financial statement disclosure, or auditing scope or procedure, which
disagreements if not resolved to the satisfaction of PricewaterhouseCoopers LLP
would have caused it to make reference thereto in any report on any audited
financial statements of the Company.
During the term of PricewaterhouseCoopers LLP's engagement, there were no
reportable events (as defined in Regulation S-K Item 304(a)(1)(v)), except that
prior to its dismissal, PricewaterhouseCoopers LLP raised questions regarding
the Company's ability to recover its deferred tax assets.
PricewaterhouseCoopers LLP was dismissed prior to the matter being
resolved. Members of the Board of Directors, one of which is a member of the
Audit Committee, discussed this matter with PricewaterhouseCoopers LLP. The
Company has authorized PricewaterhouseCoopers LLP to respond fully to the
inquiries of the Company's successor accountant concerning this matter.
On August 15, 2002, the Company's Board of Directors, at the recommendation
of its Audit Committee, engaged Marcum & Kliegman LLP as the Company's
independent accountants. During the years ended December 31, 2001 and 2000 and
through the date of the Board's decision, the Company did not consult Marcum &
Kliegman LLP with respect to the application of accounting principles to a
specified transaction, either completed or proposed, or the type of audit
opinion that might be rendered on the Company's consolidated financial
statements, or any other matters or reportable events as set forth in Items
304(a)(2)(i) and (ii) of Regulation S-K.
Solicitation of Proxies
The Company will pay the cost of this proxy solicitation. The Company will
reimburse brokerage firms and other custodians, nominees and fiduciaries for
reasonable expenses incurred by them in sending proxy materials to the
beneficial owners of Andrea Electronics common stock. In addition to soliciting
proxies by mail, directors, officers and regular employees of the Company may
solicit proxies personally or by telephone without receiving additional
compensation.
Shareholder Proposals and Nominations
Proposals of shareholders intended to be presented at the annual meeting
for the fiscal year 2002 must be received at the Company's offices by May 7,
2003 and must otherwise comply with the requirements of Rule 14a-8 for inclusion
in the proxy materials relating to that meeting.
The Company's Bylaws provide that in order for a shareholder to make
nominations for the election of Directors or proposals for business to be
brought before the annual meeting, a shareholder must give written notice of
such nominations and/or proposals to the Secretary not less than 90 days prior
to the date of the Annual Meeting. A copy of the Bylaws may be obtained from the
Company.
9
Miscellaneous
If you and others who share your address own your shares in street name,
your broker or other holder of record may be sending only one proxy statement to
your address. This practice, known as "householding," is designed to reduce our
printing and postage costs. However, if a shareholder residing at such an
address wishes to receive a separate proxy statement in the future, he or she
should contact the broker or other holder of record. If you own your shares in
street name and are receiving multiple copies of the Company's proxy statement,
you can request householding by contacting your broker or other holder of
record.
Where You Can Find More Information
As a public company, Andrea Electronics is obligated to file annually,
quarterly and current reports, proxy statements and other information with the
SEC. You may read and copy any reports, statements or other information that the
Company files at the SEC's public reference rooms in Washington, D.C., New York,
New York, and Chicago, Illinois. Please call the SEC at 1-800-SEC-0330 for
further information on the public reference rooms. In addition, Andrea
Electronics' public filings are available to the public from commercial document
retrieval services and on the Internet World Wide Website maintained by the SEC
at "http://www.sec.gov."
This proxy statement incorporates by reference the documents listed below
that we have previously filed with the Securities and Exchange Commission and
have attached to this proxy statement.
. Annual Report to Shareholders for the year ended December 31, 2001
(see Appendix A); and
. Quarterly Report on Form 10-Q for the quarter ended September 30,
2002, as filed on November 14, 2002 (see Appendix B).
Whether or not you plan to attend the annual meeting, please vote by
marking, signing, dating and promptly returning the enclosed proxy card in the
enclosed envelope.
By Order of the Board of Directors
/s/ Richard A. Maue
Richard A. Maue
Secretary
Melville, New York
January 3, 2003
10
Appendix A
[PERFECTLY CLEAR]
Andrea [LOGO]
2001 Annual Report
[LOGO]
Andrea The Freedom
Electronics of Voice (R)
[PICTURE]
An effective, natural communication interface requires clear, noise-free audio
input. By ensuring highly intelligible, low noise audio source input (spoken
words), Andrea Electronics' microphone products and technologies enable more
accurate and reliable communication, as well as high performance speech
recognition, in noisy office and various noisy mobile environments. Our products
and technologies enable a person speaking to be at a distance from the audio
input source, freeing the speaker from having to hold or wear a conventional
"close talking" microphone, while maintaining the same level of performance.
This capability is referred to as untethered, "far-field" microphone operation.
All of our digital, far-field technologies can be tailored and embedded into
various form factors, for example, into the monitor of a PC, a rear view mirror,
or a personal digital assistant, and can be used individually or combined
depending on particular customer requirements. We are currently targeting our
far-field microphone technologies primarily at 1) the desktop computing market
(primarily through our relationship with Analog Devices, Inc., 2) the market for
personal computers designed for use in automobiles, trucks and buses to control
satellite-based navigation systems and other devices within vehicles, 3) the
market for mobile devices, such as personal digital assistants and 4) the
military and commercial aircraft communication systems market.
In addition to our far-field technologies, we also offer a complete line of PC
headsets for voice applications which desire a headset such as with call center
environments.
Andrea Electronics Corporation 2001 Annual Report
Page 1
Highlights
--------------------------------------------------------------------------------
Andrea Electronics Corporation Generates $5 Million in Licensing Revenues from
Analog Devices
"To date, the industry reaction to SoundMAX Cadenza, which includes Andrea's
PureAudio technology, and Andrea's DSDA microphone has been overwhelming."
John Croteau, Analog Devices Inc.
Andrea Electronics' Array Microphone Demonstrated at Launch of Windows XP "To
showcase some of the important sound quality innovations in Windows XP, we
wanted to include an excellent audio input device, so we turned to Andrea and
its DA-400 2.0 far-field array microphone."
Mark Lee, Microsoft Corporation
Andrea Electronics Announces Purchase Agreement with Clever Devices
"Clever Devices selected Andrea Electronics' superior microphone technology and
supporting acoustic designs to address the audio intelligibility and safety
issues common in high noise, mass transit environments."
William Long, Clever Devices, Ltd.
Andrea Electronics' Customized USB Laptop Array Microphone Available for Use
with IBM's ThinkPad
"Andrea's customized digital microphone technologies with speech enhancing
software allows us to provide consumers with solutions that make it easier for
people to interact with their PCs--enabling a natural language interface."
Rob Pace, IBM
Andrea Electronics Corporation Announces Patents Issued for Its Digital Audio
Technologies
.. Patent issued for Direction Finding and Tracking Array Technology (DFTA)
.. Patent issued for Digital Super Directional Array Technology (DSDA)
.. Patent issued for Adaptive and Nonadaptive Noise Canceling Algorithm process
.. Patent issued for PureAudio Technology
Dear Shareholders
--------------------------------------------------------------------------------
Unfortunately, as a result of the indelible tragic events of September 11th, no
one will ever forget the year 2001. On behalf of the entire Andrea Electronics
team, we pray for those families who lost loved ones, applaud the emergency
workers' tireless rescue efforts and strongly believe our citizens will
collectively prove their resilience to maintain our nation's position as a
worldwide leader.
Similar to our country, our Company's inner strength was put to the test during
2001. Being a recognized leader in the development of noise canceling Digital
Audio Technologies (DATs) has been, and continues to be, the cornerstone of our
corporate strategy. When the commercial application of a new technology is not
accepted as quickly as envisioned and additional investments are required, the
ability to stay the course becomes increasingly difficult. We have stayed the
course, and have created "the" strategic alliance with Analog Devices, Inc., an
industry leader capable of exploiting our DATs in several high growth markets
including PC based speech applications, telematics and hand-held devices. As
such, we are now positioned to be well rewarded for our investments.
Mission Statement
--------------------------------------------------------------------------------
To provide emerging "voice interface" markets with state-of-the-art microphone
technologies that facilitate a natural language communication interface.
Andrea Electronics Corporation 2001 Annual Report
Page 2/3
--------------------------------------------------------------------------------
Our relationship with Analog Devices not only provides us with $5 million in
royalty revenue/cash flow but also provides us with a technology platform to
deliver our far-field microphone array technology at unprecedented price points.
Equally as important, is the immediate opportunity to leverage Analog's customer
relationships in PC market space, which represents an approximate 70% market
share. Our Company looks forward to an expanding, long-term mutually beneficial
relationship with Analog Devices.
[PICTURE]
Perfectly Clear
To maximize shareholder value during 2002, we will focus on executing the
opportunities created by the Analog Devices' relationship, developing high
margin call center products that leverage our core competencies and critically
reviewing all areas of our business to enhance our capital structure.
On behalf of Team Andrea, while we look forward to the year 2002 with great
enthusiasm and optimism, we thank you for your continued support.
Sincerely,
/s/ Christopher P. Sauvigne
Christopher P. Sauvigne
President and Chief Executive Officer
Superbeam Array Microphone
--------------------------------------------------------------------------------
One of the most significant barriers to speech recognition performance and, as a
result, in speech recognition usage and popularity, is the high sensitivity to
the acoustic environment and, in particular, to the surrounding noise in any
real office or workstation. The only technically acceptable solution, until
recently, was to use a headset; however, this made the user experience annoying,
uncomfortable and inconvenient. Recent noise canceling microphone array product
developments have enabled users to be untethered; however, these solutions are
very expensive and, therefore, less appealing to an average user.
Andrea Electronics, together with Analog Devices, Inc., has developed a
groundbreaking solution: The Andrea Superbeam(R) Array Microphone. Analog
Devices has developed an interface that allows the Superbeam Array to connect to
the PC and run the necessary software instructions on the PC's processor. The
Superbeam Array is a two-microphone device that attaches to the top of any
laptop or PC equipped with Analog Devices' SoundMax(R) Cadenza software. The
SoundMax Cadenza software is integrated with Andrea Electronics' PureAudio(R)
and DSDA(R) noise-cancellation software, thereby removing the high costs
associated with required memory and processing power from the microphone device
(now powered by the PC's host processor).
[PICTURE]
The end result: freeing a speaker from having to hold, or wear, a conventional
microphone with a very high-tech, low cost, sleek hardware accessory.
5 Selected Financial Data
6-17 Management's Discussion and Analysis of Financial Condition and
Results of Operations
17 Quantitative and Qualitative Disclosures About Market Risk
18 Consolidated Balance Sheets
19 Consolidated Statements of Operations
20 Consolidated Statements of Shareholders' Equity
21 Consolidated Statements of Cash Flows
22-35 Notes to Consolidated Financial Statements
36 Report of Independent Public Accountants
Andrea Electronics Corporation 2001 Annual Report
Page 4/5
Selected Financial Data
--------------------------------------------------------------------------------
December 31,
2001 2000 1999 1998 1997
---------------------------------------------------------------------------------------------------------------------------
Income Statement Data
Net Sales--Operating $ 10,258,875 $ 15,567,664 $ 17,112,487 $ 21,304,570 $ 26,429,804
Sales Reserve--Restructuring/(1)/ (337,499) -- -- -- --
Net Sales 9,921,376 15,567,664 17,112,487 21,304,570 26,429,804
Cost of Sales
Cost of Sales--Operating 7,401,605 11,279,649 11,908,751 14,178,871 16,077,801
Cost of Sales--Restructuring/(1)/ 2,573,339 -- -- -- --
Total Cost of Sales 9,974,944 11,279,649 11,908,751 14,178,871 16,077,801
Gross Profit (53,568) 4,288,015 5,203,736 7,125,699 10,352,003
Research and Development 3,462,340 4,694,116 3,399,666 2,016,684 1,106,880
Restructuring Charges/(1)/ 1,552,892 -- -- -- --
General, Administrative and Selling Expenses 8,724,784 9,373,025 8,954,805 13,002,959 5,753,130
Income (Loss) from Operations (13,793,584) (9,779,126) (7,150,735) (7,893,944) 3,491,993
Other Income (Expense) 163,475 204,774 (26,258) 1,447,989 76,864
Income (Loss) Before Provision (Benefit)
for Income Taxes (13,630,109) (9,574,352) (7,176,993) (6,445,955) 3,568,857
Provision (Benefit) for Income Taxes -- -- -- -- 154,461
Net Income (Loss) (13,630,109) (9,574,352) (7,176,993) (6,445,955) 3,414,396
Preferred Stock Dividends 564,604 351,209 195,843 -- --
Non-Cash Charge Attributable to Beneficial
Conversion Feature/(2)/ 7,500,000 -- -- -- --
Net Income (Loss) Attributable to
Common Shareholders $ (21,694,713) $ (9,925,561) $ (7,372,836) $ (6,445,955) $ 3,414,396
Earnings (Loss) Per Share
Basic $ (1.43) $ (.72) $ (.56) $ (.61) $ .42
Diluted $ (1.43) $ (.72) $ (.56) $ (.61) $ .39
Balance Sheet Data
Current Assets $ 9,755,897 $ 19,161,845 $ 19,315,415 $ 18,818,190 $ 14,430,645
Total Assets $ 34,019,659 $ 47,272,866 $ 49,853,402 $ 50,681,940 $ 17,789,184
Current Liabilities $ 4,124,982 $ 4,126,794 $ 5,293,930 $ 4,481,074 $ 2,643,986
Total Liabilities $ 4,945,889 $ 4,322,661 $ 6,001,769 $ 7,103,040 $ 2,682,486
Redeemable Securities $ 9,785,020 $ 12,162,725 $ 7,187,077 $ -- $ --
Total Equity $ 19,288,750 $ 30,787,480 $ 36,664,556 $ 43,578,900 $ 15,106,698
---------------------------------------------------------------------------------------------------------------------------
(1) Restructuring Charges--The net loss applicable to Common
Shareholders reflects the impact of restructuring charges
associated with exiting a specific PC headset customer type, or
channel, within the Anti-Noise Product business segment as follows:
Sales returns $ 337
Cost of sales $ 2,573
Restructuring charges $ 1,553
--------------------------------------------------------
Total $ 4,463
========================================================
(2) Non-cash charge attributable to beneficial conversion feature--The
net loss applicable to Common Shareholders reflects the intrinsic
value of the realization, during the third quarter of 2001, of a
contingent beneficial conversion feature related to the Company's
Series C Redeemable Convertible Preferred Stock.
Management's Discussion and Analysis of
Financial Condition and Results of Operations
--------------------------------------------------------------------------------
OVERVIEW
Our mission is to provide the emerging "voice interface" markets with
state-of-the-art communications products that facilitate natural language,
human/machine interfaces.
Examples of the applications and interfaces for which Andrea DSP Microphone and
Software Products and Andrea Anti-Noise(R) Products provide benefit include:
Internet and other computer-based speech; telephony communications; multi-point
conferencing; speech recognition; multimedia; multi-player Internet and CD ROM
interactive games; military and commercial aircraft communications; and other
applications and interfaces that incorporate natural language processing. We
believe that end users of these applications and interfaces will require high
quality microphone and earphone products that enhance voice transmission,
particularly in noisy environments, for use with personal computers, mobile
personal computing devices, military and commercial aircraft systems, cellular
and other wireless communication devices and automotive communication systems.
Our Andrea DSP Microphone and Software Products use "far-field" digital signal
processing technology to provide high quality transmission of voice where the
user is at a distance from the microphone. High quality audio communication
technologies will be required for emerging far-field voice applications, ranging
from continuous speech dictation, to Internet telephony and multiparty video
teleconferencing and collaboration, to natural language-driven interfaces for
automobiles, home and office automation and other machines and devices into
which voice-controlled microprocessors are expected to be introduced during the
next several years.
In order to complement our internal efforts to develop digital signal processing
technology, in May 1998, we acquired Lamar Signal Processing, Ltd., an Israeli
corporation engaged in the development of DSP noise cancellation microphone
solutions for voice-driven interfaces covering a wide range of audio and
acoustic applications. This acquisition resulted in a substantial amount of
goodwill and other intangible assets. The amortization of the goodwill and other
intangible assets has a significant, negative, non-cash impact on our results of
operations. See Note 3 to our Consolidated Financial Statements.
We outsource the assembly of most of our Andrea Anti-Noise(R) Products from
purchased components, and we are currently assembling our Andrea DSP Microphone
and Software Products from purchased components at our New York and Israeli
facilities. We manufacture our Aircraft Communications Products at our New York
facility.
Cautionary Statement Regarding Forward-Looking Statements
Certain information contained in this Management's Discussion and Analysis of
Financial Condition and Results of Operations for the year ended December 31,
2001 and other items set forth in this Report on Form 10-K are 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.
The words "anticipates," "believes," "estimates," "expects," "intends," "plans,"
"seeks," variations of such words, and similar expressions are intended to
identify forward-looking statements. We have based these forward-looking
statements on our current expectations, estimates and projections about our
business and industry, our beliefs and certain assumptions made by our
management. Investors are cautioned that matters subject to forward-looking
statements involve risks and uncertainties including economic, competitive,
governmental, technological and other factors that may affect our business and
prospects. These statements are not guarantees of future performance and are
subject to certain risks, uncertainties and assumptions that are difficult to
predict. In order to obtain the benefits of these "safe harbor" provisions for
any such forward-looking statements, we wish to caution investors and
prospective investors about the following significant factors, which, among
others, have in some cases affected our actual results and are in the future
likely to affect our actual results and could cause them to differ materially
from those expressed in any such forward-looking statements. These factors
include:
Because our operating results are subject to significant fluctuation,
period-to-period comparisons of our operating results may not necessarily be
meaningful and you should not rely on them as indications of our future
performance.
Our results of operations have historically been and are subject to continued
substantial annual and quarterly fluctuations. The causes of these fluctuations
include, among other things:
. the volume of sales of our products under our collaborative marketing
arrangements;
. the cost of development of our products under our collaborative
development arrangements;
. the mix of products we sell;
. the mix of distribution channels we use;
. the timing of our new product releases and those of our competitors;
. fluctuations in the computer and communications hardware and software
marketplace; and
. general economic conditions.
Andrea Electronics Corporation 2001 Annual Report
Page 6/7
--------------------------------------------------------------------------------
We cannot assure that the level of sales and gross profit, if any, that we
achieve in any particular fiscal period will not be significantly lower than in
other fiscal periods. Our revenues for the year ended December 31, 2001, were
approximately $9.9 million versus $15.6 million in the prior year. Net loss
applicable to common shareholders for the year ended December 31, 2001 was
approximately $21.7 million, or $1.43 per share on a diluted basis, versus net
loss applicable to common shareholders of approximately $9.9 million, or $0.72
per share on a diluted basis, for the year ended December 31, 2000. We continued
to experience a significant decline in our sales of Andrea Anti-Noise Products
as a result of increased competition with respect to a specific customer
channel. In response to this decline, as well as our overall shift in strategic
direction to deliver digital, far-field microphone solutions, during the fourth
quarter of 2001, we incurred restructuring charges of approximately $4.5
million. This restructuring is expected to result in a further decrease in sales
during fiscal 2002. We are examining additional opportunities for
cost-reduction, production efficiencies and further diversification of our
business. But to remain competitive, we intend to continue incurring substantial
research and development, marketing and general and administrative expenses. We
may not be able to easily and quickly reduce these expenses if our sales revenue
falls below our expectations and, therefore, our net income or loss may be
disproportionately affected by any reduction in sales revenue. Furthermore, our
acquisition in 1998 of Lamar Signal Processing, Ltd. resulted in a substantial
amount of goodwill and other intangible assets. The amortization of these
intangible assets has had, and will continue to have, a negative, non-cash
impact on our results of operations (other than goodwill). As a result of these
factors, we expect to continue to accumulate losses and the market price of our
common stock could decline.
If we fail to obtain additional capital or maintain access to funds sufficient
to meet our operating needs, we may be required to significantly reduce, sell,
or refocus, our operations and our business, results of operations and financial
condition could be materially and adversely effected, and could result in our
delisting on the American Stock Exchange or inability to continue operations.
In recent years, we have sustained significant operating losses. We have been
unable to generate sufficient cash flow from operations to meet our operating
needs and, correspondingly, from time to time during the past several years, we
have raised additional capital from external sources. We expect to continue to
have to raise additional capital from external sources. These sources may
include private or public financings through the issuance of debt, convertible
debt or equity, or collaborative arrangements. Additional capital and funding
may not be available on favorable terms, if at all. Additionally, we may only be
able to obtain additional capital or funds through arrangements that require us
to relinquish rights to our products, technologies or potential markets, in
whole or in part, or result in the sale of Andrea. Additionally, Andrea's
funding and capital raising efforts could trigger change in control payments due
to certain executive officers of Andrea under their employment contracts or
redemptions of the Company's Series B and Series C Redeemable Convertible
Preferred Stock. Given our current financial condition and market conditions, it
may be difficult to attract additional financings on favorable terms, or at all,
as compared to prior periods. We have revised our business strategies to reduce
our expenses and capital expenditures, but we cannot assure you that we will be
successful in obtaining financings or access to additional sources of funding in
amounts necessary to continue our operations. Failure to maintain sufficient
access to funding may also result in our delisting from the American Stock
Exchange.
We face the risk that Andrea could be required to redeem the Series C Redeemable
Convertible Preferred Stock.
On October 10, 2000, Andrea issued and sold in a private placement $7,500,000 of
Series C Redeemable Convertible Preferred Stock (the "Series C Preferred
Stock"). The Series C Preferred Stock is convertible or redeemable at maturity
by the Company, based upon certain circumstances at that time, and is redeemable
by the holder upon certain events, including the announcement of a major
transaction, as defined in the Certificate of Amendment, or upon certain other
triggering events. On March 25, 2002, Andrea announced that a triggering event
had occurred and that Andrea was seeking a waiver from the Series C Preferred
Stock holders. A final agreement regarding the waiver arrangement was reached on
March 28, 2002. The waiver related to the existing triggering event, as well as
certain possible future triggering events, however, the waiver will be null and
void upon the earlier of April 7, 2007, the first date on which Andrea fails to
comply in any material respect with the terms of the waiver and related
documents, and the first date on which Andrea is insolvent.
As consideration for the Series C Preferred Stock holder's agreement to waive
its current and, in certain circumstances, any future right to receive the
aggregate Triggering Event Redemption Price for the Series C Preferred Stock,
Andrea agreed to grant a security interest in all of Andrea's assets. However,
the Series C Preferred Stock holder agreed to have its lien on Andrea's assets
Management's Discussion and Analysis of
Financial Condition and Results of Operations
--------------------------------------------------------------------------------
(Continued)
subordinated to (1) any lien granted in the future to a non-affiliated third
party in connection with a strategic transaction with a financing component,
provided that such third-party lien relates only to the amount of the financing
component of such transactions, and (2) any lien granted in the future to a bank
or other similar institution pursuant to any asset based financing transaction.
In addition, the Series C Preferred Stock holder agreed to release its lien in
connection with any sale of any assets subject to its lien, provided they
receive a lien on the proceeds of the sale. The Series C Preferred Stock holder
acknowledged that its lien in any portion of Andrea's intellectual property is
effectively subordinate to the interest of any current or future licensee of
such intellectual property, as any interest the investor may have in such
intellectual property cannot be greater than Andrea's interest therein.
Given that the waiver granted by the Series C Preferred Stock holder does not
cover all triggering events that could require the redemption of the Series C
Preferred Stock, and that the waiver will be null and void in the event Andrea
fails to comply in any material respect with the terms of the agreements
relating to the waiver, among other things, there is a risk that the Series C
Preferred Stock holder could declare a triggering event that would trigger the
redemption rights. If such redemption rights are triggered and Andrea has
insufficient funds to satisfy the redemption, Andrea will be requested to obtain
a new waiver from the holder of the Series C Preferred Stock. If no such waiver
can be obtained, Andrea's ability to continue its current operations will be
materially adversely affected and if Andrea has insufficient funds to redeem the
Series C Preferred Stock, it could result in Andrea's inability to meet its
operating obligations and, consequently, delisting from the American Stock
Exchange.
Shares eligible for future sale may have an adverse effect on market price; you
may experience substantial dilution.
Sales of a substantial number of shares of our common stock in the public market
could have the effect of depressing the prevailing market price of our common
stock. Of the 70,000,000 shares of common stock presently authorized, 17,861,700
were outstanding as of March 27, 2002. This does not include 5,732,375 shares of
our common stock reserved for issuance upon exercise of outstanding awards
granted under our 1991 Performance Equity Plan and 1998 Stock Plan, and shares
of our common stock reserved for further awards under the 1998 Stock Plan. In
addition, this does not include 20,496,848 shares of common stock reserved for
issuance upon conversion of the Series B and Series C Convertible Preferred
Stock and exercise of related warrants. Furthermore, in May 1998, we issued
1,800,000 shares of common stock as part of the consideration for our
acquisition of Lamar Signal Processing, Ltd. Trading restrictions on these
1,800,000 shares have expired and are subject to demand and piggyback
registration rights. To date, 920,880 of the 1,800,000 shares have been
registered for sale under the Securities Act of 1933.
Conversions of our Series B Convertible Preferred Stock and Series C Convertible
Preferred Stock may result in substantial dilution to other holders of our
common stock.
As of March 27, 2002, we had 172 shares of Series B Convertible Preferred Stock
and 750 shares of Series C Convertible Preferred Stock outstanding. Both the
Series B Convertible Preferred Stock and the Series C Convertible Preferred
Stock are convertible into shares of common stock, subject to ownership
limitations that prohibit the holders of the preferred stock from owning more
than 4.99% of the outstanding shares of common stock at the time of conversion
or 9.99% over the sixty day period prior to the conversion. These restrictions
do not prevent purchasers from converting and selling some of their holdings and
then later converting the rest of their holdings.
As the price of our common stock decreases, the number of shares of common stock
issuable upon conversion of our Series B Convertible Preferred Stock and Series
C Convertible Preferred Stock increases.
The variable conversion price of the Series B Convertible Preferred Stock and
any reset of the conversion price of the Series C Convertible Preferred Stock
are functions of the market price of our common stock. If the price of our
common stock decreases over time, the number of shares of common stock issuable
upon conversion of each series will increase.
The following table illustrates the varying amounts of shares of common stock
issuable upon conversion of all 172 shares of Series B Convertible Preferred
Stock at the indicated conversion
Andrea Electronics Corporation 2001 Annual Report
Page 8/9
--------------------------------------------------------------------------------
prices (without regard to any limitations on conversion) and assuming that the
4% additional amount is paid in cash:
Number of Shares
of Common Stock Percentage of
Conversion Issuable Upon Outstanding
Price Conversion/(1)/ Common Stock/(2)/
------------------------------------------------------------
$0.50 3,440,000 16%
$1.50 1,146,667 6%
$2.50 688,000 4%
$3.50 491,429 3%
$4.50 382,222 2%
$5.50 312,727 2%
$6.50 264,615 1%
$7.50 229,333 1%
(1) The Series B Holder is prohibited from converting its holdings of the
Series B Convertible Preferred Stock if after giving effect to such
conversion it would beneficially own in excess of 4.99% or, over the sixty
day period prior to the conversion, 9.99% of the outstanding shares of our
Common Stock following such conversion. The numbers in this column do not
reflect these limitations.
(2) Based on 17,861,700 shares of common stock outstanding as of March 27, 2002.
The following table illustrates, as of any reset date and assuming the
conversion price indicated is lower than the then applicable conversion price on
that date, the varying amounts of shares of common stock that would be issuable
upon conversion of all outstanding 750 shares of Series C Convertible Preferred
Stock at the indicated conversion prices (without regard to any limitations on
conversion) and assuming that the 5% additional amount is paid in cash:
Number of Shares
of Common Stock Percentage of
Conversion Issuable Upon Outstanding
Price Conversion/(1) Common Stock/(2)/
------------------------------------------------------------
$0.40 18,750,000 51%
$0.50 15,000,000 46%
$0.60 12,500,000 41%
$0.65 11,538,462 39%
$0.70 10,714,286 37%
$0.75 10,000,000 36%
$0.765 9,803,922 35%
(1) The Series C Holder is prohibited from converting its holdings of the Series
C Convertible Preferred Stock if after giving effect to such conversion it
would beneficially own in excess of 4.99% or, over the sixty day period
prior to the conversion, 9.99% of the outstanding shares of our common
stock following such conversion. The numbers in this column do not reflect
these limitations.
(2) Based on 17,861,700 shares of common stock outstanding as of March 27, 2002.
The following table illustrates the varying amounts of shares of Common Stock
that would be issuable upon conversion of all 172 outstanding shares of Series B
Convertible Preferred Stock and all 750 outstanding shares of Series C
Convertible Preferred Stock at the indicated conversion prices (without regard
to any limitations on conversion) and assuming that all additional amounts are
paid in cash:
Number of Shares
of Common Stock Percentage of
Conversion Issuable Upon Outstanding
Price Conversion/(1)/(2)/(3)/ Common Stock/(4)/
---------------------------------------------------------------
$0.50 18,440,000 51%
$0.65 14,184,615 44%
$0.765 12,052,288 40%
$1.50 10,950,588 38%
$2.50 10,491,922 37%
$3.50 10,295,350 37%
$4.50 10,186,144 36%
$5.50 10,116,649 36%
$6.50 10,068,537 36%
(1) The calculation assumes that the conversion price of the Series B and Series
C Convertible Preferred Stock are the same at the assumed conversion prices
of $.50, $.65 and $.765. This could only occur if the market price of
Andrea's Common Stock declines, and at a future reset date, the conversion
price of the Series C adjusts to the then prevailing market price (the
current fixed conversion price of the Series C is $.765, and such conversion
price is fixed unless adjusted downward at a future reset date).
(2) The calculation assumes that for any conversion of the Series B Convertible
Preferred Stock when the prevailing market price is above $.765, the Series
C would still be converted at its maximum conversion price of $.765.
(3) The Series B and Series C holder is prohibited from converting the Series C
or Series B Convertible Preferred Stock, or from exercising the warrants
issued in connection with the Series B Convertible Preferred Stock, if
after giving effect to such conversion it would beneficially own in excess
of 4.99% or, over the sixty day period prior to the conversion, 9.99% of
the outstanding shares of our Common Stock following such conversion.
(4) Based on 17,861,700 shares of common stock outstanding as of March 27,
2002.
Sales of an increased number of shares of common stock issued
upon conversion of the Series B Convertible Preferred Stock and the Series C
Convertible Preferred Stock resulting from a declining market price for our
common stock can cause the market price of our common stock to decline further.
Disregarding the manner in which the shares of common stock issued upon
conversion of the Series B Convertible Preferred Stock and the Series C
Convertible Preferred Stock are sold as
Management's Discussion and Analysis of
Financial Condition and Results of Operations
--------------------------------------------------------------------------------
(Continued)
well as any other factors such as reactions to our operating results and general
market conditions which may be operative in the market at such time, an increase
in the number of shares of common stock eligible for sale can cause a decrease
in the market price of our common stock. This decrease could reduce the
conversion prices of the Series B Convertible Preferred Stock and the Series C
Convertible Preferred Stock, leading to a further increase in the number of
shares of common stock issuable upon future conversions and a further decline in
our stock price.
Short sales of our common stock may be attracted by or accompany conversions of
Series B Convertible Preferred Stock and Series C Convertible Preferred Stock,
which sales may cause downward pressure upon the price of our common stock.
Short sales of our common stock may be attracted by or accompany the sale of
converted common stock, which in the aggregate could cause downward pressure
upon the price of the common stock, regardless of our operating results, thereby
attracting additional short sales of the common stock. The result of conversions
of the Series B and Series C Convertible Preferred Stock at declining conversion
prices would be increasing and substantial dilution of the interests of the
other holders of common stock.
If we fail to market and commercialize our Andrea DSP Microphone and Software
and Andrea Anti-Noise products, our revenues may not increase at a high enough
rate to improve our results of operations or at all.
Our business, results of operations and financial condition depend on successful
commercialization of our Andrea DSP Microphone and Software and Andrea
Anti-Noise products and technologies. Since we began sales of the initial Andrea
Anti-Noise products in 1995, we have been expanding the number of products in
this line. We introduced our first Andrea Digital Super Directional Array
products in 1998 and we are initially targeting these and our other Andrea DSP
Microphone and Software products at the desktop computer market, the market for
computer-based automobile monitoring and control systems for use by drivers and
passengers, and the mobile device market. The success of these
products is subject to the risks frequently encountered by companies in an early
stage of product commercialization, particularly companies in the computing and
communications industries.
If we are unable to obtain market acceptance of Andrea DSP Microphone and
Software products and technologies or if market acceptance of these products and
technologies occurs at a slow rate, then our business, results of operations and
financial condition will be materially and adversely affected.
We, and our competitors, are focused on developing and commercializing products
and technologies that enhance the use of voice, particularly in noisy
environments, for a broad range of computer and communications applications.
These products and technologies have been rapidly evolving and the number of our
competitors has grown, but the markets for these products and technologies are
subject to a high level of uncertainty and have been developing slowly. We,
alone or together with our industry, may be unsuccessful in obtaining market
acceptance of these products and technologies.
If we fail to develop and successfully introduce new products and technologies
in response to competition and evolving technology, we may not be able to
attract new customers or retain current customers.
The markets in which we sell our Andrea Anti-Noise, Andrea DSP Microphone and
Software and our Aircraft Communication Products are highly competitive. We may
not compete successfully with any of our competitors. Most of our current and
potential competitors have significantly greater financial, technology
development, marketing, technical support and other resources than we do.
Consequently, these competitors may be able to respond more quickly to new or
emerging technologies and changes in customer requirements, or devote greater
resources to the development, marketing, and sale of their products than we can.
One or more of these competitors may independently develop technologies that are
substantially equivalent or superior to our technology. The introduction of
products incorporating new technologies could render our products obsolete and
unmarketable and could exert price pressures on existing products.
We are currently engaged in the development of digital signal processing
products and technologies for the voice, speech and natural language interface
markets. We may not succeed in developing these new digital signal processing
products and technologies, and any of these new digital signal processing
products or technologies may not gain market acceptance.
In the markets for Aircraft Communications Products, we often compete with major
defense electronics corporations as well as smaller manufacturing firms, which
specialize in supplying products and technologies for specific military
initiatives.
Andrea Electronics Corporation 2001 Annual Report
Page 10/11
--------------------------------------------------------------------------------
Further, the markets for our products and technologies are characterized by
evolving industry standards and specifications that may require us to devote
substantial time and expense to adapt our products and technologies. We may not
successfully anticipate and adapt our products and technologies in a cost
effective and timely manner to changes in technology and industry standards or
to introductions of new products and technologies by others that render our then
existing products and technologies obsolete.
If our marketing collaborators do not effectively market those of their products
with which our products are included or incorporated, our sales growth could be
adversely affected.
We have entered into several collaborative and distribution arrangements with
software publishers and computer hardware manufacturers relating to the
marketing and sale of Andrea Anti-Noise products and Andrea DSP Microphone and
Software products through inclusion or incorporation with the products of our
collaborators. Our success will therefore be dependent to a substantial degree
on the efforts of these collaborators to market those of their products with
which our products are included or incorporated. Our collaborators may not
successfully market these products. In addition, our collaborators generally are
not contractually obligated to any minimum level of sales of our products or
technologies, and we have no control over their marketing efforts. Furthermore,
our collaborators may develop their own microphone, earphone or headset products
that may replace our products or technologies or to which they may give higher
priority.
If we fail to maintain sales of Aircraft Communication Products to the U.S.
Government, we would experience a material adverse effect on our business,
results of operations and financial condition.
We are substantially dependent on product sales to the U.S. Government. During
the years ended December 31, 2001, 2000 and 1999, the U.S. Government accounted
for 17%, 18% and 23%, respectively, of our net sales before sales
returns--restructuring. The U.S. Government is not obligated to continue to
purchase these products and is free to purchase similar products from our
competitors. Our failure to maintain sales of Aircraft Communication Products to
the U.S. Government would have a material adverse effect on our business,
results of operations and financial condition.
Shortages of, or interruptions in, the supply of more specialized components for
our Andrea Anti-Noise products and Andrea DSP Microphone products could have a
material adverse effect on our sales of these products.
We conduct assembly operations at our facilities in New York and Israel and
through subcontractors using purchased components. Some specialized components
for the Andrea Anti-Noise and Andrea DSP Microphone products, such as
microphones and digital signal processing boards, are available from a limited
number of suppliers and subject to long lead times. We may not be able to
continue to obtain sufficient supplies of these more specialized components,
particularly if our sales of Andrea Anti-Noise and Andrea DSP microphone
products increase substantially or market demand for these components otherwise
increases.
If our subcontractor fails to meet our production and shipment schedules, our
business, results of operations and financial condition would be materially and
adversely affected.
We conduct assembly operations at our facilities in New York and Israel and
through subcontracting. During initial production runs of Andrea Anti-Noise and
Andrea DSP Microphone products, we perform assembly operations at our New York
facility from purchased components. As sales of any particular product increase,
assembly operations are primarily transferred to a subcontractor in Asia.
Our ability to compete may be limited by our failure to adequately protect our
intellectual property or by patents granted to third parties.
We rely on a combination of patents, patent applications, trade secrets,
copyrights, trademarks, nondisclosure agreements with our employees, licensees
and potential licensees, limited access to and dissemination of our proprietary
information, and other measures to protect our intellectual property and
proprietary rights. However, the steps that we have taken to protect our
intellectual property may not prevent its misappropriation or circumvention. In
addition, numerous patents have been granted to other parties in the fields of
noise cancellation, noise reduction, computer voice recognition, digital signal
processing and related subject matter. We expect that products in these fields
will increasingly be subject to claims under these patents as the
Management's Discussion and Analysis of
Financial Condition and Results of Operations
--------------------------------------------------------------------------------
(Continued)
numbers of products and competitors in these fields grow and the functionality
of products overlap. Claims of this type could have an adverse effect on our
ability to manufacture and market our products or to develop new products and
technologies, because the parties holding these patents may refuse to grant
licenses or only grant licenses with onerous royalty requirements. Moreover, the
laws of other countries do not protect our proprietary rights to our
technologies to the same extent as the laws of the United States.
An unfavorable ruling in any current litigation proceeding or future proceeding
may adversely affect our business, results of operations and financial
condition.
From time to time we are subject to litigation incidental to our business. For
example, we are subject to the risk of adverse claims, interference proceedings
before the U.S. Patent and Trademark Office, oppositions to patent applications
outside the United States, and litigation alleging infringement of the
proprietary rights of others. Litigation to establish the validity of patents,
to assert infringement claims against others, and to defend against patent
infringement claims can be expensive and time-consuming, even if the outcome is
in our favor.
We are presently engaged in a lawsuit filed in the U.S. District Court for the
Eastern District of New York by NCT Group, Inc. ("NCT") and its subsidiary NCT
Hearing Products, Inc. NCT alleges that we: engaged in unfair competition by
misrepresenting the scope our patents, specifically, U.S. Pat. Nos. 5,732,143,
5,825,897 and 6,061,456 thereby tortuously interfering with prospective
contractual rights between NCT and its existing and potential customers; made
false and disparaging statements about NCT and its products; and falsely
advertised Andrea's ANR products. The complaint requests a declaration that
these patents are invalid and unenforceable and that NCT's products do not
infringe upon these patents and seeks to enjoin Andrea from engaging in these
alleged activities and seeks compensatory damages of not less than $5 million,
punitive damages of not less than $50 million and plaintiffs' costs and
attorneys' fees.
We have filed and served an answer to the NCT complaint, denying the allegations
and asserting affirmative defenses and counterclaims. Our counterclaims, as
amended, allege that NCT has willfully infringed the above mentioned patents,
and that NCT has engaged in trademark infringement, false designation of origin,
and unfair competition. The counterclaims seek injunctive relief with respect to
the allegations of patent infringement, trademark infringement, false
designation of origin and unfair competition. We are also seeking exemplary and
punitive damages, prejudgment interest on all damages, costs, reasonable
attorneys' fees and expenses.
During the third quarter of 2001, the court held a "Markman Hearing" to
determine the meaning of the claims in the three Andrea patents. We are unable
to anticipate when the Court will issue a decision on this question. If this
suit is ultimately resolved in favor of NCT, we could be materially adversely
effected. We believe, however, that NCT's allegations are without merit and we
intend to vigorously defend Andrea and to assert against NCT the claims
described above.
Changes in economic and political conditions outside the United States could
adversely affect our business, results of operations and financial condition.
We have been seeking to increase our sales to regions outside the United States,
particularly in Europe and areas in the Americas and Asia. For the year ended
December 31, 2001, sales to customers outside the United States accounted for
approximately 17% of our net sales. International sales and operations are
subject to a number of risks, including:
. trade restrictions in the form of license requirements;
. restrictions on exports and imports and other government controls;
. changes in tariffs and taxes;
. difficulties in staffing and managing international operations;
. problems in establishing and managing distributor relationships;
. general economic conditions; and
. political and economic instability or conflict.
To date, we have invoiced our international sales in U.S. dollars, and have not
engaged in any foreign exchange or hedging transactions. We may not continue to
be able to invoice all our sales in U.S. dollars and to avoid engaging in
foreign exchange or hedging transactions. If we are required to invoice any
material amount of international sales in non-U.S. currencies, fluctuations in
the value of non-U.S. currencies relative to the U.S. dollar may adversely
affect our business, results of operations and financial condition or require us
to incur hedging costs to counter such fluctuations.
We Face Risk From Operating in Israel
Our principal research and development facility is located in the State of
Israel and, as a result, as of December 31, 2001, certain of our key research
and development employees were located in Israel. Although substantially all of
our sales currently are being made to customers outside Israel, we are
nonetheless directly influenced by the political, economic and military
conditions affecting Israel. Since the establishment of the State of Israel in
1948, a state of hostility has existed, varying in degree and
Andrea Electronics Corporation 2001 Annual Report
Page 12/13
--------------------------------------------------------------------------------
intensity, between Israel and Arab countries. Although Israel has entered into
various agreements with certain Arab countries and the Palestinian Authority,
and various declarations have been signed in connection with efforts to resolve
some of the economic and political problems in the Middle East, we cannot
predict whether or in what manner these problems will be resolved.
If we are unable to attract and retain the necessary managerial, technical and
other personnel necessary for our business, then our business, results of
operations and financial condition will be harmed.
Our performance is substantially dependent on the performance of our executive
officers and key employees. The loss of the services of any of these executive
officers or key employees could have a material adverse effect on our business,
results of operations and financial condition. Our future success depends on our
continuing ability to attract and retain additional highly qualified managers
and technical personnel. Competition for qualified personnel is intense and we
may not be able to attract, assimilate or retain qualified personnel in the
future.
RESULTS OF OPERATIONS
Year Ended December 31, 2001 Compared to Year Ended December 31, 2000
Sales
Excluding the impact of restructuring charges, sales for the year ended December
31, 2001, were $10,258,875, a decrease of 34% from sales of $15,567,664 for the
year ended December 31, 2000. This decrease in sales reflects an approximate 61%
decrease in sales of Andrea Anti-Noise Products to $4,656,078, or 45% of total
sales , offset by an approximate 68% increase in sales of our Aircraft
Communications Products, to $4,916,616, or 48% of total sales, and an
approximate 2% increase in sales of Andrea DSP Microphone and Software Products,
to $686,181, or 7% of total sales.
The primary reason for the decrease of Andrea Anti-Noise Product sales during
2001 was a significant decline in headset unit shipments to IBM which was
primarily a result of increased competition in the PC headset market, coupled
with unfavorable economic conditions which continues to negatively impact the
technology sector. In response, during the fourth quarter 2001, we formulated a
plan to exit from an increasingly unprofitable PC headset channel within
Andrea's Anti-Noise Headset product segment. This customer channel included IBM.
For the year ended December 31, 2001, excluding the impact of restructuring
charges, sales to IBM and certain of IBM's affiliates accounted for
approximately 25% of our total sales, or $2,515,819. This reflects an
approximate 63% decrease from $6,809,575 for the year ended December 31, 2000.
The increase in our Aircraft Communication Product revenues is primarily a
result of increased sales and marketing activities.
Sales of Andrea DSP Microphone and Software Products were primarily comprised of
shipments of Andrea's far-field microphone products for use with business
videoconferencing systems, in-vehicle communications systems, and
desktop speech dictation applications. During the fourth quarter of 2001, we
recorded deferred revenues of $1 million related to a license agreement for
certain of our Andrea DSP Microphone and Software technologies. The deferred
revenue will be recognized over a period of three years beginning March 22,
2002.
Cost of Sales
Excluding the impact of restructuring charges, cost of sales as a percentage of
sales for the year ended December 31, 2001 remained consistent from the year
ended December 31, 2000.
Research and Development
Research and development expenses for the year ended December 31, 2001 decreased
26% to $3,462,340 from $4,694,116 for the year ending December 31, 2000. This
decrease is due primarily to a reduction in expenses associated with research
efforts that were determined not to be integral to Andrea's core portfolio of
digital microphone software and hardware technologies. DSP Microphone and
Software Technology efforts were $2,770,491, or 80% of total research and
development expenses, Aircraft Communications technology efforts were $388,757,
or 11% of total research and development expenses and Andrea Anti-Noise Product
efforts were $303,092, or 9% of total research and development expenses. With
respect to DSP Microphone and Software Technologies, research efforts are
primarily focused on the pursuit of commercializing a natural language-driven
human/machine interface by developing optimal far-field microphone solutions for
various voice-driven interfaces, incorporating our digital super directional
array microphone technology ("DSDA") and certain other related technologies
obtained through the acquisition of Lamar in May 1998. We believe that the
acquisition of Lamar significantly reinforces its position in digital signal
processing by extending our marketing programs to other high-growth industries,
including automotive telematics, mobile device markets, the business
videoconferencing market and Internet telephony, among others. Specifically, the
core technology acquired produces noise filtering capabilities that management
believes is preferred to other known DSP-based technologies in the market, and
is unattainable in products using traditional mechanical solutions. In addition,
the nature of a
Management's Discussion and Analysis of
Financial Condition and Results of Operations
--------------------------------------------------------------------------------
(Continued)
DSP-based solution, together with the people acquired supporting our technology,
offers a solution that is highly scalable and embeddable, and therefore enables
the technology to be integrated into many different applications and form
factors. We believe that continued research and development spending will
provide us with a competitive advantage. For 2002, we expect total research and
development spending to approach levels similar to that of 2001.
General, Administrative and Selling Expenses
Excluding the impact of restructuring charges, general, administrative and
selling expenses decreased approximately 7% to $8,724,784 for the
year ended December 31, 2001 from $9,373,025 for the year ended December 31,
2000. This decrease is primarily due to our cost reduction efforts which are
aimed at cutting costs that are not integral to the execution of Andrea's
overall strategy, and to ensure conservative spending during the current period
of economic uncertainty. Included in our cost reduction initiatives was a
reduction in workforce which was implemented during February of 2001,
representing a reduction of approximately 25% of Andrea's then total workforce.
Restructuring Charges
During the fourth quarter 2001, we committed to a defined plan of action and
recorded restructuring charges relating to repositioning our business plan for
our Anti-Noise Product business segment as part of our overall effort to drive
high margin product sales and become profitable. The restructuring focused on
exiting from an increasingly unprofitable PC headset channel within Andrea's
Anti-Noise Headset product segment. This was primarily a result of the
increasing competitive nature of the PC headset market, coupled with Andrea's
ongoing strategic efforts to focus on being primarily a leading supplier of
high-end, digital-based, far-field microphone technologies. This channel
primarily purchased our lower-end, low margin headset products, and required
substantial support which, when combined with decreasing volumes realized during
2001, became unprofitable. The plan resulted in an aggregate restructuring
charge of approximately $4.5 million, and included the following:
1.Sales returns--restructuring reserve--This charge, approximating $340
thousand, reflects estimated sales returns activity related to exiting
this customer channel.
2.Cost of sales--This charge, approximating $2.6 million, relates to
inventory obsolescence for products that we do not expect to sell as a
result of exiting this activity.
3.Other charges--These charges, approximating $1.6 million, relate to costs
associated with exiting certain agreements, as well as impairment charges
associated with abandoning related assets.
Other Income (Expense)
Other income for the year ended December 31, 2001 was $163,475 compared to
$204,774 for the year ended December 31, 2000. This decrease is due to lower
cash balances coupled with unfavorable market conditions for those invested cash
balances during 2001.
Provision for Income Taxes
We did not record income tax expense for the year ending December 31, 2001 in
light of the net loss recorded for the period. Furthermore, the realization of a
portion of our reserved deferred tax assets, if and when realized, will not
result in a tax benefit in the consolidated statement of operations, but will
result in an increase in additional paid in capital as they are related to tax
benefits associated with the exercise of stock options. We will be continually
re-assessing its reserves on deferred income tax assets in future periods on a
quarterly basis. The determination as to the realization of additional reserves
is, and will be, based on Andrea's expectations of future earnings. To the
extent we believe that, more likely than not, previously reserved deferred tax
assets will be realized, we will reduce the reserve accordingly. See Note 12 to
our Consolidated Financial Statements.
Net Loss
Net loss for the year ended December 31, 2001 was $13,630,109 compared to a net
loss of $9,574,352 for the year ended December 31, 2000. The net loss for the
year ended December 31, 2001 principally reflects the factors described above.
Year Ended December 31, 2000 Compared to Year Ended December 31, 1999
Sales
Sales for the year ended December 31, 2000 were $15,567,664, a decrease of 9%
from sales of $17,112,487 for the year ended December 31, 1999. The decrease in
sales for the year ended December 31, 2000 reflects an approximate 10% decrease
in sales of Andrea Anti-Noise Products to $11,974,410, or 77% of total sales and
an approximate 23% decrease in sales of our Aircraft Communications Products, to
$2,923,031, or 19% of total sales, both offset by initial sales of Andrea DSP
Microphone and Software Products of $670,223, or 4% of total sales. The primary
reasons for the decrease of Andrea Anti-Noise Product sales during 2000 were a
significant decline in headset unit shipments to IBM and, to a lesser extent,
continued price pressures from IBM. In addition, the decrease from 1999 reflects
a decline in Aircraft Communication Product sales as a result of a product
transformation required to meet future demand for printed circuit and
digital-based intercom systems. Initial sales of Andrea DSP Microphone and
Software Products were primarily comprised of
Andrea Electronics Corporation 2001 Annual Report
Page 14/15
--------------------------------------------------------------------------------
shipments of Andrea's far-field microphone products for use with business
videoconferencing systems, professional audio microphones and desktop speech
dictation applications. For the year ended December 31, 2000, sales of our
computer headsets to one customer and certain of that customer's affiliates,
distributors, licensees and integrators accounted for approximately 44% of our
total sales.
Cost of Sales
Cost of sales as a percentage of sales for the year ended December 31, 2000
increased to 72% from 70% for the year ended December 31, 1999. This increase in
cost of sales percentage is primarily a result of lower than expected Andrea
Anti-Noise and Aircraft Communications production and sales (described above
under "Sales") over which to spread our pool of fixed overhead costs.
Research and Development
Research and development expenses for the year ended December 31, 2000 increased
38% to $4,694,116 from $3,399,666 for the year ending December 31, 1999. This
increase is due to our continuing efforts to develop its digital signal
processing microphone and software technologies, coupled with, to a lesser
extent, efforts in Aircraft Communication technologies. Research and development
in DSP-based technology at Andrea is focused on the pursuit of commercializing a
natural language-driven human/machine interface by developing optimal far-field
microphone solutions for various voice-driven interfaces, incorporating Andrea's
array microphone technologies obtained through the acquisition of Lamar Signal
Processing, Ltd. ("Lamar") in May 1998. Correspondingly, the activities of Lamar
accounted for approximately 28% of the total research and development expenses
during 2000. We believe that the acquisition of Lamar significantly reinforces
its position in digital signal processing by extending our marketing programs to
other high-growth industries, including automotive telematics, mobile device
markets, the business videoconferencing market and Internet telephony, among
others. Specifically, the core technology acquired produces noise filtering
capabilities that management believes is superior to other known DSP-based
technologies in the marketplace, and is unattainable in products using
traditional mechanical solutions. In addition, the nature of a DSP-based
solution, together with the people acquired supporting our technology, offers a
solution that is highly scalable and embeddable, and therefore enablesthe
technology to be integrated into many different applications and form factors.
We believe that continued research and development spending will provide us with
a significant competitive advantage. For 2001, we expect total research and
development spending to approach levels similar to that of 2000.
General, Administrative and Selling Expenses
General, administrative and selling expenses increased approximately 5% to
$9,373,025 for the year ended December 31, 2000 from $8,954,805 for the year
ended December 31, 1999. The slight increase was due to an increase in sales and
marketing expenses during the second half of the year associated with sales
efforts in the automotive telematics market, as well as increases in overall
sales and marketing salaries. We implemented a cost reduction plan aimed at
cutting costs that are not integral to the execution of Andrea's overall
strategy, and to ensure conservative spending during the current period of
economic uncertainty. Included in our cost reduction initiatives was a reduction
in work-force which was implemented during February of 2001, representing a
reduction of approximately 25% of Andrea's then total workforce.
Other Income (Expense)
Other income for the year ended December 31, 2000 was $204,774 compared to other
expense of $26,258 for the year ended December 31, 1999. The increase is due to
interest earned on higher cash balances throughout 2000, coupled with other
miscellaneous income generated during 2000.
Provision for Income Taxes
We did not record income tax expense for the year ending December 31, 2000 in
light of the net loss recorded for the period. Furthermore, the realization of a
portion of our reserved deferred tax assets, if and when realized, will not
result in a tax benefit in the consolidated statement of operations, but will
result in an increase in additional paid in capital as they are related to tax
benefits associated with the exercise of stock options. We will be continually
re-assessing its reserves on deferred income tax assets in future periods on a
quarterly basis. The determination as to the realization of additional reserves
is, and will be, based on Andrea's expectations of future earnings. To the
extent Andrea's management believes that, more likely than not, previously
reserved deferred tax assets will be realized, Andrea will reduce the reserve
accordingly. See Note 12 to our Consolidated Financial Statements.
Net Loss
Net loss for the year ended December 31, 2000 was $9,574,352 compared to a net
loss of $7,176,993 for the year ended December 31,1999. The net loss for the
year ended December 31, 2000 principally reflects the factors described above.
Management's Discussion and Analysis of
Financial Condition and Results of Operations
--------------------------------------------------------------------------------
(Continued)
LIQUIDITY AND CAPITAL RESOURCES
Andrea's principal sources of funds have historically been, and are expected to
continue to be, gross cash flows from operations and proceeds from the sale of
convertible notes, preferred stock or other securities to certain financial
institutions or potential industry partners. At December 31, 2001, we had cash
and cash equivalents of $3,724,130 compared with $9,151,835 at December 31,
2000. The balance of cash and cash equivalents at December 31, 2001, is
primarily a result of Andrea's issuance and sale in a private placement of
$7,500,000 of its Series C Redeemable Convertible Preferred Stock (the "Series C
Preferred Stock") in October 2000. Andrea is using the net proceeds from the
issuance of the Series C Preferred Stock primarily for costs associated with:
1. research and development,
2. creating and maintaining strategic alliances, which includes, among
other things, sales and marketing salaries, substantial travel costs to
market our products and technologies, product fulfillment costs and
technical assistance, and other general support costs for existing and
potential partners,
3. payment of certain debt obligations,
4. professional fees, and
5. general working capital requirements.
In connection with the acquisition of Lamar, of the aggregate cash consideration
to be paid by Andrea, $1,000,000 was paid on May 5, 1998, the closing date, and
$500,000 was paid on each of the six, twelve, twenty-four and thirty-six month
anniversaries of the closing date. The final payment was paid on May 5, 2001.
Working capital at December 31, 2001 was $5,630,915 compared to $15,035,051 at
December 31, 2000. The decrease in working capital reflects decreases in total
current assets and total current liabilities of $9,405,948, and $1,812,
respectively. The decrease in total current assets reflects decreases in cash
and cash equivalents of $5,427,705, a decrease in accounts receivable of
$1,409,567, and a decrease in inventory of $2,895,309 partially offset by
increase in prepaid expenses and other current assets of $326,633. The decrease
in current liabilities primarily reflects a decrease in accounts payable of
$960,500 and a decrease in our current portion of long-term debt of $517,244,
partially offset by an increase in other current liabilities of $976,208
($258,221 of this amount relates to deferred revenue charges) and an increase in
accrued restructuring charges of $499,724.
The decrease in cash of $5,427,705 reflects $4,544,799 of net cash used in
operating activities, $203,893 of net cash used in investing activities and
$679,013 of net cash used in financing activities.
The cash used in operating activities, excluding non-cash charges, is primarily
attributable to the $13,630,109 net loss for the year ended December 31, 2001, a
$1,203,147 increase in prepaid expenses and other current assets, a $238,677
increase in other assets, and a $960,500 decrease in accounts payables partially
offset by a $1,409,567 decrease in accounts receivable, a $321,970 decrease in
inventory, a $595,516 increase in other current liabilities and a $783,288
increase in other liabilities. The increase in prepaid expenses
and other current assets primarily includes the recognition of increased
premiums for prepaid property taxes and insurance, as well as increases in other
service costs. The increase in other current liabilities and other liabilities
reflects $1,000,000 of deferred revenue charges, which will be recognized over a
three-year period beginning in March 2002. The decrease in accounts receivable
primarily reflects the level of sales during the year ending December 31, 2001,
as well as the timing of collection of such sales. The decrease in accounts
payable as well as the decrease in inventory primarily reflect differences in
the timing related to both the payments for and the acquisition of raw materials
as well as for other services in connection with ongoing efforts related to our
various product lines.
The cash used in investing activities is attributable to capital expenditures
consisting of manufacturing dies and molds and, to a lesser extent, upgrades in
our existing computer systems.
The net cash used in financing activities reflects the payment of the final
installment payment to the former shareholders of Lamar as well as payments to
the debt we assumed in connection with the acquisition of Lamar, partially
offset by the exercises of employee stock options.
We believe that it will be necessary to raise additional working capital to
support operations. In December 1995, April 1996, August 1996 and June 1998,
Andrea raised working capital through the issuance of convertible subordinated
debentures. In June 1999, Andrea raised $7.5 million through the issuance and
sale of Series B Preferred Stock. In October 2000, Andrea raised $7.5 million
through the issuance and sale of Series C Preferred Stock. Furthermore, in
accordance with EITF Issue 00-27, "Application of EITF Issue No. 98-5 to Certain
Convertible Instruments," Andrea recorded a one time non-cash charge of
$7,500,000 to accumulated deficit. This pronouncement values the economic
benefit of the contingent beneficial conversion feature that the holders of the
Series C Preferred Stock received when the conversion price of the Series C
Preferred Stock was reset from $7.0565 to $1.44 in July 2001. This charge
represents the maximum charge under this standard and, accordingly, there will
be no additional charges to equity at later reset dates. Andrea has incurred
significant losses in each of the last three
Andrea Electronics Corporation 2001 Annual Report
Page 16/17
--------------------------------------------------------------------------------
fiscal years. In the year ended December 31, 2001, Andrea incurred losses from
operations, excluding the impact of restructuring charges, of $9.3 million, and
used $4.5 million in cash from its operating activities. Management expects that
operating losses and negative cash flows will continue at least through Fiscal
2002 as Andrea continues to market its Andrea Anti-Noise products, Aircraft
Communication products and Andrea DSP Microphone and Software Technologies.
Notwithstanding, in December 2001 and March 2002, we entered into two agreements
with Analog Devices, Inc. whereby Analog Devices is obligated to pay us a total
of $5 million in license fees during calendar 2002. Through the date of this
Form 10-K, and in accordance with our agreements, we have received
$1 million of these license fees. If Andrea fails to develop revenues from sales
of its products to generate adequate funding from operations or fails to obtain
additional financing through capital or funding, it will be required to either
further reduce its operating expenses and/or operations or may result it
relinquishing its products, technologies or markets. Such financing may not be
available on acceptable terms, or at all. We cannot assure that demand will
continue for any of our products, including future products related to our
Andrea Digital Signal Processing Microphone and Software Technologies, or, that
if such demand does exist, that we will be able to obtain the necessary working
capital to increase production and marketing resources to meet such demand on
favorable terms, or at all.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
Goodwill and Other Intangible Assets
In July 2001, the FASB issued Statements of Financial Accounting Standards No.
141, "Business Combinations" and No. 142, "Goodwill and other Intangible
Assets." SFAS No. 141 requires all business combinations initiated after June
30, 2001 to be accounted for using the purchase method. Under SFAS No. 142,
goodwill and intangible assets with indefinite lives are no longer amortized but
are reviewed annually (or more frequently, if impairment indicators arise) for
impairment. Separable intangible assets that are not deemed to have indefinite
lives will continue to be amortized over their useful lives (but with no maximum
life).
Andrea has adopted this standard effective January 1, 2002, and, accordingly,
those intangible assets that will continue to be classified as goodwill or as
other intangibles with indefinite lives will no longer be amortized. Other
intangible assets, which do not have indefinite lives (such as core
technology--Note 4), will continue to be amortized. Andrea has made a
preliminary assessment of its intangible assets to identify goodwill separately
from other identifiable intangibles. No adjustment was deemed necessary,
although the intangible asset "Workforce in Place" will be reclassified as
goodwill pursuant to SFAS No. 142. In accordance with the SFAS No. 142,
intangible assets, including purchased goodwill, will be evaluated periodically
for impairment. Based upon the results of Andrea's transitional impairment
testing, there will be no material impact on the combined financial results
related to Andrea's intangible assets or purchased goodwill. Amortization of
goodwill and other intangible assets, relating to the assets that will no longer
be amortized, was approximately $1,128,186 for the year ended December 31, 2001.
Long-Lived Assets
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets." This statement supersedes SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of," and Accounting Principles Board Opinion No. 30, "Reporting
Results of Operations--Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions." The Statement retains the fundamental provisions of SFAS No. 121
for recognition and measurement of impairment, but amends the accounting and
reporting standards for segments of a business to be disposed of. The provisions
of this statement are required to be adopted no later than fiscal years
beginning after December 31, 2001, with early adoption encouraged. Andrea is
currently evaluating the impact of the adoption of SFAS No. 144, which Andrea
expects will not be material.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our principal source of financing activities is the issuance of convertible
debt with financial institutions. We are affected by market risk exposure
primarily through any amounts payable in stock, or cash by us under convertible
securities. A significant rise in interest rates could materially adversely
affect our financial condition and results of operations. We do not utilize
derivative financial instruments to hedge against changes in interest rates or
for any other purpose. In addition, substantially all transactions by us are
denominated in U.S. dollars. As such, we have shifted foreign currency exposure
onto our foreign customers. As a result, if exchange rates move against foreign
customers, we could experience difficulty collecting unsecured accounts
receivable, the cancellation of existing orders or the loss of future orders.
The foregoing could materially adversely affect our business, financial
condition and results of operations.
Consolidated Balance Sheets
--------------------------------------------------------------------------------
December 31,
2001 2000
----------------------------------------------------------------------------------------------------------------------------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 3,724,130 $ 9,151,835
Accounts receivable, net of allowance for doubtful
accounts of $176,292 and $186,121, respectively 2,094,146 3,503,713
Inventories, net 3,389,729 6,285,038
Prepaid expenses and other current assets 547,892 221,259
----------------------------------------------------------------------------------------------------------------------------------
Total current assets 9,755,897 19,161,845
PROPERTY AND EQUIPMENT, net 811,392 1,393,760
DEFERRED INCOME TAXES 1,806,615 1,806,615
GOODWILL, net (Note 4) 12,317,843 13,403,836
OTHER INTANGIBLE ASSETS, net (Note 4) 8,467,616 9,243,917
OTHER ASSETS, net 860,296 2,262,893
----------------------------------------------------------------------------------------------------------------------------------
Total assets $ 34,019,659 $ 47,272,866
----------------------------------------------------------------------------------------------------------------------------------
LIABILITIES AND SHARE HOLDERS' EQUITY
CURRENT LIABILITIES:
Trade accounts payable $ 1,147,160 $ 2,107,660
Current portion of long-term debt (Note 9) 158,802 676,046
Accrued restructuring charges (Note 3) 499,724 --
Other current liabilities (Note 8) 2,319,296 1,343,088
----------------------------------------------------------------------------------------------------------------------------------
Total current liabilities 4,124,982 4,126,794
LONG-TERM DEBT (Note 9) 37,619 195,867
OTHER LIABILITIES 783,288 --
----------------------------------------------------------------------------------------------------------------------------------
Total liabilities 4,945,889 4,322,661
----------------------------------------------------------------------------------------------------------------------------------
SERIES B REDEEMABLE CONVERTIBLE PREFERRED STOCK, net, $.01 par value; authorized:
1,000 shares; issued and outstanding: 249 and 500 shares, respectively (Notes 10 and 19);
liquidation value: $2,490,000 and $5,000,000, respectively 2,421,009 4,830,060
----------------------------------------------------------------------------------------------------------------------------------
SERIES C REDEEMABLE CONVERTIBLE PREFERRED STOCK, net, $.01 par value; authorized:
1,500 shares; issued and outstanding: 750 and 750 shares, respectively (Note 11);
liquidation value: $7,500,000 7,364,011 7,332,665
----------------------------------------------------------------------------------------------------------------------------------
COMMITMENTS AND CONTINGENCIES (Note 15)
SHAREHOLDERS' EQUITY:
Preferred stock, $.01 par value; authorized: 4,997,500 shares; none issued and outstanding -- --
Common stock, $.50 par value; authorized: 70,000,000 shares; issued and outstanding:
16,308,968 and 13,897,572 shares, respectively 8,154,484 6,948,786
Additional paid-in capital 55,754,228 46,711,609
Deferred stock compensation (52,334) --
Accumulated deficit (44,567,628) (22,872,915)
----------------------------------------------------------------------------------------------------------------------------------
Total shareholders' equity 19,288,750 30,787,480
----------------------------------------------------------------------------------------------------------------------------------
Total liabilities and shareholders' equity $ 34,019,659 $ 47,272,866
==================================================================================================================================
The accompanying notes are an integral part of these consolidated balance
sheets.
Andrea Electronics Corporation 2001 Annual Report
Page 18/19
Consolidated Statements of Operations
--------------------------------------------------------------------------------
For the Years Ended December 31,
2001 2000 1999
----------------------------------------------------------------------------------------------------------------
NET SALES--OPERATING $ 10,258,875 $15,567,664 $17,112,487
SALES RETURNS--RESTRUCTURING (Note 3) (337,499) -- --
----------------------------------------------------------------------------------------------------------------
Net sales 9,921,376 15,567,664 17,112,487
COST OF SALES--OPERATING 7,401,605 11,279,649 11,908,751
COST OF SALES--RESTRUCTURING (Note 3) 2,573,339 -- --
----------------------------------------------------------------------------------------------------------------
Cost of sales 9,974,944 11,279,649 11,908,751
Gross (deficit) margin (53,568) 4,288,015 5,203,736
RESEARCH AND DEVELOPMENT EXPENSES 3,462,340 4,694,116 3,399,666
RESTRUCTURING CHARGES (Note 3) 1,552,892 -- --
GENERAL, ADMINISTRATIVE AND SELLING EXPENSES 8,724,784 9,373,025 8,954,805
----------------------------------------------------------------------------------------------------------------
Loss from operations (13,793,584) (9,779,126) (7,150,735)
----------------------------------------------------------------------------------------------------------------
OTHER INCOME (EXPENSE):
Interest income 193,087 416,393 246,882
Interest expense (51,746) (233,880) (306,843)
Rent and miscellaneous income 22,134 22,261 33,703
----------------------------------------------------------------------------------------------------------------
163,475 204,774 (26,258)
----------------------------------------------------------------------------------------------------------------
LOSS BEFORE PROVISION FOR INCOME TAXES (13,630,109) (9,574,352) (7,176,993)
PROVISION FOR INCOME TAXES (Note 14) -- -- --
----------------------------------------------------------------------------------------------------------------
Net loss (13,630,109) (9,574,352) (7,176,993)
NON-CASH CHARGE ATTRIBUTABLE TO PREFERRED STOCK
BENEFICIAL CONVERSION FEATURE (Note 11) 7,500,000 -- --
PREFERRED STOCK DIVIDENDS 564,604 351,209 195,843
----------------------------------------------------------------------------------------------------------------
Net loss attributable to common shareholders $(21,694,713) $(9,925,561) $(7,372,836)
================================================================================================================
PER SHARE INFORMATION (Note 5):
Net Loss Per Share--Basic and Diluted $ (1.43) $ (.72) $ (.56)
================================================================================================================
Shares used in computing net loss per share--Basic and Diluted 15,190,834 13,748,945 13,229,559
================================================================================================================
The accompanying notes are an integral part of these consolidated statements.
Consolidated Statements of Shareholders' Equity
--------------------------------------------------------------------------------
For the Three Years Ended December 31, 2001
Additional Total
Shares Common Paid-In Deferred Stock Accumulated Shareholders'
Outstanding Stock Capital Compensation Deficit Equity
------------------------------------------------------------------------------------------------------------------------------------
BALANCE, December 31, 1998 13,210,038 $6,605,019 $42,548,399 $ -- $ (5,574,518) $ 43,578,900
Exercise of stock options, net of related costs 32,500 16,250 93,785 -- -- 110,035
Issuance of warrants in connection with
Series B Redeemable Convertible
Preferred Stock (Note 10) -- -- 348,457 -- -- 348,457
Preferred stock dividends -- -- -- -- (195,843) (195,843)
Net loss -- -- -- -- (7,176,993) (7,176,993)
------------------------------------------------------------------------------------------------------------------------------------
BALANCE, December 31, 1999 13,242,538 6,621,269 42,990,641 -- (12,947,354) 36,664,556
Conversion of Series B Redeemable
Convertible Preferred Stock 371,909 185,955 2,231,447 -- -- 2,417,402
Exercise of stock options, net of related costs 283,125 141,562 1,489,521 -- -- 1,631,083
Preferred stock dividends -- -- -- -- (351,209) (351,209)
Net loss -- -- -- -- (9,574,352) (9,574,352)
------------------------------------------------------------------------------------------------------------------------------------
BALANCE, December 31, 2000 13,897,572 6,948,786 46,711,609 -- (22,872,915) 30,787,480
Conversions of Series B Redeemable
Convertible Preferred Stock 2,308,896 1,154,448 1,411,636 -- -- 2,566,084
Exercise of stock options, net of related costs 27,500 13,750 2,733 -- -- 16,483
Preferred stock dividends -- -- -- -- (564,604) (564,604)
Restricted stock grant, net of related
current year amortization 75,000 37,500 96,000 (28,529) -- 104,971
Stock option grant to consultant, net of
related current year amortization -- -- 32,250 (23,805) -- 8,445
Beneficial conversion charge attributable
to Series C Redeemable Convertible
Preferred Stock (Note 11) -- -- 7,500,000 -- (7,500,000) --
Net loss -- -- -- -- (13,630,109) (13,630,109)
------------------------------------------------------------------------------------------------------------------------------------
BALANCE, December 31, 2001 16,308,968 $8,154,484 $55,754,228 $ (52,334) $(44,567,628) $ 19,288,750
====================================================================================================================================
The accompanying notes are an integral part of these consolidated statements.
Andrea Electronics Corporation 2001 Annual Report
Page 20/21
Consolidated Statements of Cash Flows
--------------------------------------------------------------------------------
For the Years Ended December 31,
2001 2000 1999
---------------------------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(13,630,109) $(9,574,352) $(7,176,993)
Adjustments to reconcile net loss to net cash used in operating activities:
Non-cash interest expense -- 39,964 93,023
Depreciation and amortization 3,800,147 3,644,392 3,390,987
Non-cash stock compensation expense 113,416 -- --
Non-cash charges related to Restructuring (Note 3) 4,463,730 -- --
(Increase) decrease in:
Accounts receivable, net 1,409,567 (733,010) 2,097,079
Inventories 321,970 838,709 890,576
Prepaid expenses and other current assets (1,203,147) (287,544) (242,559)
Other assets (238,677) (257,657) (563,619)
Increase (decrease) in:
Trade accounts payable (960,500) (27,213) (87,039)
Other current liabilities 595,516 (323,798) (947,508)
Other liabilities 783,288 -- --
---------------------------------------------------------------------------------------------------------------------------------
Net cash used in operating activities (4,544,799) (6,680,509) (2,546,053)
---------------------------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment (203,893) (369,970) (834,135)
---------------------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (203,893) (369,970) (834,135)
---------------------------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payment of debt obligations (Notes 4 and 9) (695,496) (596,840) (514,122)
Net proceeds from Series B Redeemable Convertible Preferred Stock (Note 10) -- -- 7,500,000
Net proceeds from Series C Redeemable Convertible Preferred Stock (Note 11) -- 7,500,000 --
Payment of convertible notes -- (1,485,077) --
Proceeds from issuance of common stock upon exercise of stock options,
net of related costs 16,483 1,631,083 110,035
---------------------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities (679,013) 7,049,166 7,095,913
---------------------------------------------------------------------------------------------------------------------------------
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (5,427,705) (1,313) 3,715,725
CASH AND CASH EQUIVALENTS, beginning of year 9,151,835 9,153,148 5,437,423
---------------------------------------------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS, end of year $ 3,724,130 $ 9,151,835 $ 9,153,148
=================================================================================================================================
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Non-cash investing and financing activities:
Beneficial conversion charge attributable to Series C Redeemable Convertible
Preferred Stock (Note 11) $ 7,500,000 $ -- $ --
=================================================================================================================================
Conversion of Series B Redeemable Convertible Preferred Stock into common
stock (Note 10) $ 2,566,084 $ 2,417,402 $ --
=================================================================================================================================
Issuance of warrants in connection with Series B Redeemable Convertible
Preferred Stock $ -- $ -- $ 348,457
=================================================================================================================================
Cash paid for:
Interest $ 31,749 $ 212,859 $ 49,601
=================================================================================================================================
Income taxes $ 33,838 $ 47,675 $ 29,479
=================================================================================================================================
The accompanying notes are an integral part of these consolidated statements.
Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------
December 31, 2001
1. ORGANIZATION AND BUSINESS
Andrea Electronics Corporation, incorporated in the State of New York in 1934,
(together with its subsidiaries, "Andrea") has been engaged in the electronic
communications industry since its inception. Andrea is presently focused on the
development, manufacture and marketing of its Andrea Anti-Noise family of
electronic headsets and handsets with noise canceling and noise reducing
properties. Noise cancellation enhances voice-activated computing, computerized
speech recognition, and computer and Internet telephony. In addition, Andrea is
currently developing and marketing a new line of digital signal processing
("DSP") products to further its role in technology enhanced communications, and
in May 1998, acquired Lamar Signal Processing, Ltd. ("Lamar"), an Israeli
corporation engaged in the development of DSP, noise cancellation microphone
solutions (Note 4). Prior to Andrea's entry into the voice-activated computing
market in the 1990s, its primary business was selling intercom systems for
military and industrial use. Andrea continues to manufacture these systems and
is seeking to apply its knowledge of the military and industrial markets to
develop applications of its Andrea Anti-Noise technologies for these markets.
As of December 31, 2001, Andrea had working capital of $5,630,915 and cash and
cash equivalents of $3,724,130. During 2001, Andrea's operating activities used
approximately $4,544,799 of cash. Andrea plans to improve its cash flows during
2002, primarily through performance of its current licensing arrangements (see
Note 12). Management believes that with this plan to improve its cash flows,
existing cash and cash equivalents, and cash flows from licensing arrangements
(Note 12), there will be sufficient liquidity to continue operating and meet its
current obligations until at least the end of the first quarter of 2003.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
The financial statements include the accounts of Andrea and its subsidiaries.
All intercompany balances and transactions have been eliminated in
consolidation.
Cash and Cash Equivalents
Cash and cash equivalents include cash and highly liquid investments with
original maturities of three months or less.
Concentration of Credit Risk
Andrea is a manufacturer of audio communications equipment for several
industries. Andrea primarily generates sales from its noise canceling and active
noise canceling products as well as through sales to the federal government.
Sales of noise canceling and active noise canceling products were significant to
one customer and its affiliates, accounting for approximately 37% of total
accounts receivable at December 31, 2000, and approximately 22%, 44% and 49% of
the total sales for 2001, 2000 and 1999, respectively. Deferred revenues
relating to a licensing agreement were significant to one customer, accounting
for 48% of total accounts receivable at December 31, 2001. Sales to the federal
government and related subcontractors aggregated approximately 33% and 25% of
total accounts receivable at December 31, 2001 and 2000, respectively, and
approximately 17%, 18% and 23% of the total sales for 2001, 2000 and 1999,
respectively.
Inventories
Inventories are stated at the lower of cost (on a first-in, first-out) or market
basis.
Property and Equipment
Property, plant and equipment is stated at cost less accumulated depreciation
and amortization. Depreciation and amortization are provided using the
straight-line method over the estimated useful lives of the assets, which are as
follows:
Leasehold improvements shorter of lease term or estimated useful life
Machinery and equipment 3-7 years
Expenditures for maintenance and repairs that do not materially prolong the
normal useful life of an asset are charged to operations as incurred.
Improvements that substantially extend the useful lives of the assets are
capitalized. Upon sale or other disposition of assets, the cost and related
accumulated depreciation and amortization are removed from the accounts and the
resulting gain or loss, if any, is reflected in the statement of operations.
Intangible Assets
Patents and trademarks associated with Andrea's proprietary technology are
carried at cost less accumulated amortization, which is calculated on a
straight-line basis over the estimated useful lives of the assets, not to exceed
17 years. The recoverability of carrying values of intangible assets is
evaluated on a recurring basis. Patents and trademarks approximated $500,000 and
$1,286,000, net of accumulated amortization of approximately $44,000 and
$181,000, at December 31, 2001 and 2000, respectively, and are included in other
assets on the accompanying consolidated balance sheets. Goodwill and other
intangible assets associated with Andrea's acquisition (Note 4) are carried at
cost less accumulated amortization, which is calculated on a straight-line basis
over 7-15 years.
Long-Lived Assets
Andrea accounts for its long-lived assets in accordance with Statement of
Financial Accounting Standards No. 121, "Accounting
Andrea Electronics Corporation 2001 Annual Report
Page 22/23
--------------------------------------------------------------------------------
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of," for purposes of determining and measuring impairment of its long-lived
assets (primarily intangible assets). Andrea's policy is to periodically review
the value assigned to its enterprise level goodwill and other intangible assets,
resulting from its acquisition of Lamar (Note 4) to determine if it has been
permanently impaired by adverse conditions which may affect Andrea or Lamar. If
Andrea identifies a permanent impairment such that the carrying amount of
Andrea's enterprise level goodwill or other intangible assets is not recoverable
using the sum of an undiscounted cash flow projection (gross margin dollars from
product sales), a new cost basis for the impaired asset(s) will be established.
This new cost basis will be net of any recorded impairment. Considerable
management judgment is necessary to estimate undiscounted future operating cash
flows and, accordingly, actual results could vary significantly from such
estimates. As of December 31, 2001, management believes that no impairment
exists for any of its long-lived assets.
Revenue Recognition
Revenue is recognized upon shipment and acceptance of goods. Andrea reports its
sales levels on a net sales basis, with net sales being computed by deducting
from gross sales the amount of actual sales returns and the amount of reserves
established for anticipated sales returns.
Barter Transactions
Andrea records barter transactions at the estimated fair market value of the
services received. Deferred charges relating to a barter transaction
approximated $273,000 and $670,000 as of December 31, 2001 and 2000,
respectively, after giving effect to the restructuring charge (Note 3), and are
included in other assets. The deferred charges are being amortized over the
lesser of the period of benefit or the program period, not to exceed five years.
Andrea did not engage in any barter transactions during 2001, 2000 or 1999.
Income Taxes
Andrea accounts for income taxes in accordance with SFAS No. 109, "Accounting
for Income Taxes." This pronouncement established financial accounting and
reporting standards for the effects of income taxes that result from Andrea's
activities during the current and preceding years. It requires an asset and
liability approach for financial accounting and reporting for income taxes.
The provision for income taxes is based upon income, if any, after adjustment
for those permanent items that are not considered in the determination of
taxable income. Deferred income taxes result when Andrea recognizes revenue or
expenses for income tax purposes in a different year than for financial
reporting purposes (Note 14).
Stock-Based Compensation
Andrea complies with the provisions of SFAS No. 123, "Accounting for Stock-Based
Compensation," by continuing to apply the provisions of Accounting Principles
Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees," and
Financial Accounting Standards Board Interpretation No. 44, "Accounting for
Certain Transactions Involving Stock Compensation," while providing the required
pro forma disclosures as if the fair value method had been applied (Note 16).
Research and Development
Andrea expenses all research and development costs as incurred.
Advertising Expenses
In accordance with Statement of Position 93-7, "Reporting on Advertising Costs,"
Andrea charges all media costs of newspaper and magazine advertisements as well
as trade show costs to the consolidated statements of operations when
advertisements are run and trade shows are attended. Prepaid advertising at
December 31, 2001 and 2000, which primarily represents costs for media services
purchased but not yet incurred, is included in prepaid expenses and other
current assets in the accompanying consolidated balance sheets. Total
advertising and marketing expenses for the years ended December 31, 2001, 2000
and 1999 approximated $400,000, $500,000 and $500,000, respectively.
Fair Value of Financial Instruments
Andrea calculates the fair value of financial instruments and includes this
additional information in the notes to financial statements when the fair value
is different than the book value of those financial instruments. When the fair
value approximates book value, no additional disclosure is made. Andrea uses
quoted market prices whenever available to calculate these fair values. When
quoted market prices are not available, Andrea uses standard pricing models for
various types of financial instruments which take into account the present value
of estimated future cash flows. As of December 31, 2001 and 2000, the carrying
value of all financial instruments approximated fair value.
Comprehensive Income
Andrea follows the provisions of SFAS No. 130, "Reporting Comprehensive Income,"
which requires companies to report all changes in equity during a period, except
those resulting from investment by owners and distribution to owners, in a
financial statement for the period in which they are recognized. Comprehensive
income is the total of net income and all other non-owner
Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------
December 31, 2001 (Continued)
changes in equity (or other comprehensive income) such as unrealized
gains/losses on securities available-for-sale, foreign currency translation
adjustments and minimum pension liability adjustments. Comprehensive and other
comprehensive income must be reported on the face of the annual financial
statements or, in the case of interim reporting, in the footnotes to the
financial statements. Andrea's operations did not give rise to items includible
in comprehensive loss which were not already included in net loss. Accordingly,
Andrea's comprehensive loss is the same as its net loss for all periods
presented.
Derivative Instruments
In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities." This
statement establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities. SFAS No. 133, as amended by SFAS No. 137
and SFAS No. 138 is effective for all fiscal years beginning after June 15, 2000
and will not require retroactive restatement of prior period financial
statements. This statement requires the recognition of all derivative
instruments as either assets or liabilities in the balance sheet measured at
fair value. Derivative instruments will be recognized as gains or losses in the
period of change. While Andrea operates in international markets, it does so
presently without the use of derivative instruments or engagement in hedging
activities and, accordingly, the adoption of this standard by Andrea in the
first quarter of 2001 did not have a material effect on its consolidated
financial statements.
Recently Issued Accounting Pronouncements
Goodwill and Other Intangible Assets
In July 2001, the FASB issued Statements of Financial Accounting Standards No.
141, "Business Combinations" and No. 142, "Goodwill and other Intangible
Assets." SFAS No. 141 requires all business combinations initiated after June
30, 2001 to be accounted for using the purchase method. Under SFAS No. 142,
goodwill and intangible assets with indefinite lives are no longer amortized but
are reviewed annually (or more frequently, if impairment indicators arise) for
impairment. Separable intangible assets that are not deemed to have indefinite
lives will continue to be amortized over their useful lives (but with no maximum
life).
Andrea has adopted this standard effective January 1, 2002, and, accordingly,
those intangible assets that will continue to be classified as goodwill or as
other intangibles with indefinite lives will no longer be amortized. Other
intangible assets, which do not have indefinite lives (such as core
technology--Note 4), will continue to be amortized. Andrea has made a
preliminary assessment of its intangible assets to identify goodwill separately
from other identifiable intangibles. No adjustment was deemed necessary,
although the intangible asset "Workforce in Place," will be reclassified as
goodwill pursuant to SFAS No. 142. In accordance with the SFAS No. 142,
intangible assets, including purchased goodwill, will be evaluated periodically
for impairment. Based upon the results of Andrea's transitional impairment
testing, there will be no material impact on the combined financial results
related to Andrea's intangible assets or purchased goodwill. Amortization of
goodwill and other intangible assets, relating to the assets that will no longer
be amortized, was approximately $1,128,186 for the year ended December 31, 2001.
Long-Lived Assets
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets." This statement supersedes SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of ," and Accounting Principles Board Opinion No. 30, "Reporting
Results of Operations--Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions." The Statement retains the fundamental provisions of SFAS No. 121
for recognition and measurement of impairment, but amends the accounting and
reporting standards for segments of a business to be disposed of. The provisions
of this statement are required to be adopted no later than fiscal years
beginning after December 31, 2001, with early adoption encouraged. Andrea is
currently evaluating the impact of the adoption of SFAS No. 144, which Andrea
expects will not be material.
Reclassifications
Certain prior year amounts have been reclassified to conform to the current year
presentation.
Use of Estimates
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amount of assets and liabilities and
disclosure of contingent assets and liabilities at the dates of the financial
statements and the reported amounts of revenues and expenses during the
reporting periods. Actual results could differ from those estimates.
Andrea Electronics Corporation 2001 Annual Report
Page 24/25
--------------------------------------------------------------------------------
3. RESTRUCTURING
During the fourth quarter of fiscal 2001, Andrea recorded restructuring charges
in connection with exiting a PC headset channel, or customer-type, within the
Anti-Noise Product segment. The restructuring charge is recorded as accrued
restructuring charges or as a reduction of assets, as applicable. Andrea expects
to settle all of its remaining obligations related to the restructuring by the
end of fiscal 2002. Following is a summary of the charges recorded in the
consolidated statement of earnings for fiscal 2001:
Operating
Net Sales Cost of Sales Expenses Total
---------------------------------------------------------------------------------------------------------------------
Inventory $ -- $2,573,339/(b)/ $ -- $2,573,339
Trademarks and fixed assets -- -- 1,114,190/(c)/ 1,114,190
Anticipated sales returns 337,499/(a)/ -- -- 337,499
Reduction of deferred barter costs -- -- 276,477/(c)/ 276,477
Support services and facility closures -- -- 162,225/(c)/ 162,225
---------------------------------------------------------------------------------------------------------------------
Total $337,499 $2,573,339 $1,552,892 $4,463,730
=====================================================================================================================
(a) Represents estimated sales returns activity related to exiting this
specific customer channel.
(b) Represents the historical cost of inventory to be written-off, which we do
not expect to sell as a result of exiting this activity.
(c) Represents costs associated with exiting certain agreements, as well as
impairment charges associated with abandoning related assets as a result of
exiting this activity and its supporting activities and its supporting
activities.
4. ACQUISITION OF BUSINESS
On May 5, 1998, Andrea acquired all of the outstanding shares of capital stock
of Lamar (the "Acquisition"). The consideration paid by Andrea for the
Acquisition was approximately 1,800,000 shares of restricted common stock,
$1,000,000 in cash and $2,000,000 in notes payable. The cash was recorded at
stated value. Both the notes payable and the shares issued were discounted to
reflect the appropriate value of the consideration paid taking into account the
underlying restrictions, arriving at the values of $1,615,000 and $23,129,532,
respectively. Of the approximately 1,800,000 shares issued to the sellers,
one-third became freely transferable on the first anniversary of the closing; an
additional one-third became transferable on the second anniversary; and the last
one-third on the third anniversary. Of the aggregate cash consideration to be
paid by Andrea, the last note payment was made by Andrea during 2001. The
Acquisition was accounted for under the purchase method of accounting and,
accordingly, the operating results of Lamar have been included in the
consolidating operating results since the date of acquisition. The purchase, for
aggregate consideration of $27.6 million, including costs associated with the
acquisition of Lamar of $1.4 million, resulted in intangible assets of $27.3
million. The goodwill and other intangibles, together with their respective
useful lives, consist of the following:
Net Value at Net Value at Estimated
December 31, 2001 December 31, 2000 Useful Life
---------------------------------------------------------------------------------------------------------------------
Goodwill $12,317,843 $13,403,836 15 years
Other Intangible Assets:
Core Technology $ 8,326,586 $ 9,060,694 15 years
Workforce in Place 141,030 183,223 7 years
---------------------------------------------------------------------------------------------------------------------
Total Other Intangible Assets $ 8,467,616 $ 9,243,917
=====================================================================================================================
As described in Note 2, Andrea has adopted the provisions of SFAS No. 141 and
142 effective January 1, 2002. Consequently, the intangible asset "Workforce in
Place" will be reclassified as goodwill, which will no longer amortize, while
the intangible asset "Core Technology" will continue to amortize.
Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------
December 31, 2001 (Continued)
5. NET LOSS PER SHARE
Andrea follows the provisions of SFAS No. 128, "Earnings Per Share." In
accordance with this statement, basic net loss per common share is computed by
dividing net loss by the weighted-average number of common shares outstanding.
Diluted net loss per common share is computed by dividing net loss by the
weighted-average number of common shares and dilutive common share equivalents
and convertible securities then outstanding.
The following chart provides a reconciliation of information used in calculating
the per share amounts:
For the Year Ending December 31, 2001 2000 1999
============================================================================================================================
Numerator:
Net loss $ (13,630,109) $ (9,574,352) $ (7,176,993)
Less: Non-cash charge attributable to preferred stock beneficial
conversion feature (7,500,000) -- --
Preferred stock dividends (564,604) (351,209) (195,843)
----------------------------------------------------------------------------------------------------------------------------
Net loss applicable to common shareholders $ (21,694,713) $ (9,925,561) $ (7,372,836)
============================================================================================================================
Denominator:
Weighted-average common shares outstanding--Basic and Diluted 15,190,834 13,748,945 13,229,559
============================================================================================================================
Net loss per share--Basic and Diluted $ (1.43) $ (.72) $ (.56)
============================================================================================================================
6. INVENTORIES, NET
Inventories, net, consists of the following:
December 31, 2001 2000
============================================================================================================================
Raw materials $ 2,000,375 $ 2,476,886
Work-in-process 130,167 842,267
Finished goods 1,845,720 3,447,896
----------------------------------------------------------------------------------------------------------------------------
3,976,262 6,767,049
Less: reserve for obsolescence (586,533) (482,011)
----------------------------------------------------------------------------------------------------------------------------
$ 3,389,729 $ 6,285,038
============================================================================================================================
7. PROPERTY AND EQUIPMENT, NET
Property and equipment, net, consists of the following:
December 31, 2001 2000
============================================================================================================================
Leasehold improvements $ 79,485 $ 79,485
Machinery and equipment 4,303,596 4,377,987
----------------------------------------------------------------------------------------------------------------------------
4,383,081 4,457,472
Less: accumulated depreciation and amortization (3,571,689) (3,063,712)
----------------------------------------------------------------------------------------------------------------------------
$ 811,392 $ 1,393,760
============================================================================================================================
Depreciation and amortization of property and equipment was $741,443, $906,719
and $723,705 for the three years ended December 31, 2001, 2000 and 1999,
respectively.
Andrea Electronics Corporation 2001 Annual Report
Page 26/27
--------------------------------------------------------------------------------
8. OTHER CURRENT LIABILITIES
Other current liabilities consists of the following:
December 31, 2001 2000
========================================================================================
Accrued professional, and other service fees $1,164,067 $ 857,495
Accrued interest and dividend expense 721,607 393,015
Deferred revenue--current portion (Note 12) 258,221 --
Accrued other 175,401 92,578
----------------------------------------------------------------------------------------
$2,319,296 $1,343,088
========================================================================================
9. LONG - TERM DEBT
Long-term debt consists of the following:
December 31, 2001 2000
========================================================================================
Notes payable to sellers, net/(a)/ $ -- $ 484,997
Bank note/(b)/ 196,421 386,916
----------------------------------------------------------------------------------------
196,421 871,913
Less: Current portion (158,802) (676,046)
----------------------------------------------------------------------------------------
$ 37,619 $ 195,867
========================================================================================
(a) As part of the aggregate purchase price of the Acquisition (Note 4), Andrea
issued $2,000,000 in non-interest bearing promissory notes (the "Promissory
Notes") to the former shareholders of Lamar, which has been fully paid as
of December 31, 2001.
(b) In connection with the Acquisition (Note 4), Andrea assumed the outstanding
obligations of Lamar which, at December 31, 2001, includes Israeli
government-guaranteed loans in the amount of $196,421, bearing interest at
8.7% per annum. These loans are part of a $1,000,000 government-guaranteed
credit facility approved for Lamar, which is subject to the implementation
of an investment program in accordance with Israeli law. The approval
associated with the investment program requires certain conditions to be
met, as defined. In the event Lamar fails to meet the conditions, immediate
repayment may be required. At December 31, 2001, Andrea's management
believes that Lamar was in compliance with those conditions.
Scheduled maturities of long-term debt are as follows:
2002 $158,802
2003 21,092
2004 16,527
---------------------------------------------------------------
Total $196,421
===============================================================
10. SERIES B REDEEMABLE CONVERTIBLE PREFERRED STOCK
On June 22, 1999, Andrea issued and sold in a private placement $7,500,000 of
Series B Redeemable Convertible Preferred Stock (the "Series B Preferred
Stock"), and a warrant covering 75,000 shares of Andrea's common stock. Each of
the 750 shares of Series B Preferred Stock (par value $0.01 per share) has a
stated value of $10,000 plus dividends of 4% per annum, which sum is convertible
into common stock (par value $0.50 per share) at a conversion price equal to the
lower of $8.775 (the "Maximum Conversion Price") and the average of the two
lowest closing bid prices of the common stock during the 15 consecutive trading
days immediately preceding a conversion date (the "Market Price"), subject to
certain adjustments, including anti-dilution. The 4% dividends may, at the
option of Andrea, be paid in cash. The warrant has an exercise price of $8.775
per share and expires on June 18, 2004.
The Series B Preferred Stock becomes convertible into Andrea's common stock
according to a vesting schedule, with 12.5% of the shares having become
convertible on October 17, 1999, 12.5% of the shares having become convertible
on November 17, 1999, 12.5% of the shares having become convertible on December
17, 1999, and an additional 12.5% becoming convertible at the end of next five
succeeding 30-day periods. The vesting schedule will lapse for conversions
occurring at the Maximum Conversion Price and upon the occurrence of certain
extraordinary events, as defined. As of December 31, 2001, Andrea has 6,925,632
shares of its common stock reserved for issuance upon conversion of the shares
of the Series B Preferred Stock.
Upon the announcement of a major transaction, as defined in Andrea's certificate
of incorporation, the investors have the right to require Andrea to redeem all
or a portion of the investor's Preferred Shares at a redemption price equal to
the greater of 120% of the stated value plus any accrued dividends or the
Notes to Consolidated Financial Statements
-------------------------------------------------------------------------------
December 31, 2001 (Continued)
Market Price on the day of announcement. In addition, upon the occurrence of
certain triggering events, as defined, and depending on Andrea's control over
such events, the investor may have the right to require Andrea to i) redeem all
or a portion of the Preferred Shares at a redemption price equal to the greater
of 120% of the stated value plus any accrued dividends or the Market Price on
the day of announcement, or ii) pay a penalty equal to 1% of the remaining
principal amount outstanding for a period not to exceed 20 days in any 365 day
period, and adjust the Maximum Conversion Price, as defined.
Andrea is actively seeking to obtain additional capital and funding which, if
successful, could involve the triggering of the redemption rights. If such
redemption rights are triggered and Andrea has insufficient funds to satisfy the
redemption, Andrea will be required to obtain a waiver from the holders of the
Series B Preferred Stock. If the Series B Preferred Stock holders do not consent
to such a waiver, Andrea's efforts to obtain additional funding and capital will
be materially adversely affected and its ability to continue its current
operations will be materially adversely affected.
For the year ending December 31, 2001, the following number of shares of Series
B Preferred Stock, together with related accrued dividends, were converted:
Number of
Series B Number of
Date of Preferred Stock Conversion Common
Conversion Converted Price Shares
============================================================================
January 11, 2001 100 $1.875 566,824
January 18, 2001 52 1.875 294,961
August 16, 2001 65 .985 717,029
November 2, 2001 34 .510 730,082
---------------------------------------- ----------
Total 251 2,308,896
======================================== ==========
The original value of the warrants upon issuance was $348,457. As of December
31, 2001, the Series B Preferred Stock is recorded net of the unaccreted present
value of the warrants of $68,991. Due to the redemption features discussed
above, the Series B Preferred Stock is presented outside of stockholders' equity
in the accompanying consolidated balance sheet. Subsequent to December 31, 2001,
40 and 37 shares of the Series B Preferred Stock, together with related accrued
dividends, were converted into 747,657 and 805,075, respectively, shares of
common stock (Note 19).
11. SERIES C REDEEMABLE CONVERTIBLE PREFERRED STOCK
On October 10, 2000, Andrea issued and sold in a private placement $7,500,000 of
Series C Redeemable Convertible Preferred Stock (the "Series C Preferred
Stock"). Each of the 750 shares of Series C Preferred Stock (par value $0.01 per
share) has a stated value of $10,000 plus dividends of 5% per annum, which sum
is convertible into Common Stock (par value $0.50 per share) at a conversion
price which was initially equal to $7.0565 or 110% of the average of the two
lowest closing bid prices of the Common Stock during the 5 consecutive trading
days immediately preceding the issuance date for the first nine months. The
conversion price will be reset every six months thereafter to the lesser of the
then existing conversion price and the average of the two lowest closing bid
prices of the Common Stock during the 5 consecutive trading days immediately
preceding the six-month reset dates or, for the period beginning on the day two
years after the initial issuance and ending on the maturity of the Series C
Preferred Stock (October 10, 2002), the least of: (i) the then existing
conversion price, (ii) the average of the two lowest closing bid prices of the
Common Stock during the 15 consecutive trading days immediately preceding such
two year date and (iii) the closing bid price on the day of conversion, subject
in each case to certain adjustments. The current conversion price is $0.765. The
5% dividend amount may, at the option of Andrea, be paid in cash or in shares of
Andrea's Common Stock. The Series C Preferred Stock is convertible or redeemable
at maturity by Andrea, based upon certain circumstances at that time, and is
redeemable by the holder upon certain events. As of December 31, 2001, Andrea
has 10,890,411 shares of its common reserved for issuance upon conversion of the
shares of the Series C Preferred Stock. Andrea has the right to require the
conversion of the Series C Preferred Stock after one year upon the satisfaction
of certain conditions. During the 18-month period beginning on October 10, 2000,
the investors may exercise an option to purchase up to an additional $2,500,000
million of Andrea's Series C Preferred Stock, subject to the closing bid price
of Andrea's Common Stock being no less than $7.0565 as of the date of such
exercise. These additional Preferred Shares would be identical in all material
respects to those purchased at Initial Issuance and, consequently, a contingent
beneficial conversion feature exists which may result in the Investor obtaining
a conversion price for such additional Preferred Shares which, at the time of
the exercise of the option, could be less than the market price
Andrea Electronics Corporation 2001 Annual Report
Page 28/29
--------------------------------------------------------------------------------
of the Common Stock at such date. In accordance with the provisions of Emerging
Issues Task Force Issue No. 98-5, "Accounting for Convertible Securities with
Beneficial Conversion Features or Contingently Adjustable Conversion Ratios,"
Andrea may be required to record, at the time of exercise for such additional
Preferred Shares, a charge to accumulated deficit as a result of this beneficial
conversion right.
In accordance with EITF Issue 00-27, "Application of EITF Issue No. 98-5 to
Certain Convertible Instruments," Andrea recorded a one time non-cash charge of
$7,500,000 to accumulated deficit. This pronouncement values the economic
benefit of the contingent beneficial conversion feature that the holders of the
Series C Preferred Stock received when the conversion price of the Series C
Preferred Stock was reset from $7.0565 to $1.44 in July 2001. This charge
represents the maximum charge under this standard and, accordingly, there will
be no additional charges to equity at later reset dates.
The original value of the deal costs upon issuance was $175,000. As of December
31, 2001, the Series C Preferred Stock is recorded net of the unaccreted present
value of the deal costs of $135,989. Due to the redemption features discussed
above, the Series C Preferred Stock is presented outside of stockholders' equity
in the accompanying consolidated balance sheet.
Upon the announcement of a major transaction or upon certain triggering events,
as defined, the investor has the right to require Andrea to redeem all or a
portion of the investor's Series C Preferred Shares at a redemption price equal
to the greater of (i) 120% of the Liquidation Value, as defined, or (ii) the
product of the applicable conversion rate in effect on the date of the major
transaction or the triggering event and the closing bid price of Common Stock of
Andrea on the trading day immediately preceding the major transaction or
triggering event or the closing bid price of Andrea's Common Stock on the date
the holder's delivery to Andrea of notice. In addition, if Andrea is unable to
effect such redemption (i) interest will accumulate on the value of the Series C
Preferred Shares that Andrea is unable to redeem at the rate of 2% per month and
(ii) the holders of the Series C Preferred Stock are entitled to void their
redemption notices and receive a reset of their applicable conversion price.
On March 25, 2002, Andrea announced that a triggering event had occurred and
that as a result of the trigger, the investor had the right to require Andrea to
redeem all of the Series C Preferred Shares. The investor has agreed, in a
Waiver Agreement, to waive its right to receive the aggregate Triggering Event
Redemption Price (as defined in a Certificate of Amendment) (together with any
interest and related cash payments or penalties thereon) the investor was
otherwise entitled to as a result of the existing triggering event until April
7, 2007. In addition, the investor agreed to waive, until April 7, 2007, its
right to receive the aggregate Triggering Event Redemption Price, as defined,
(together with any interest and related cash payments or penalties thereon) with
respect to (1) any future Triggering Event relating to additional registration
failures, provided that the existing registration statements remain effective
and available to the investor for the number of shares currently covered by such
registration statements (less any future sales made pursuant to such
registration statements), and (2) any future Triggering Event relating to the
delisting of Andrea's common stock, provided that the Common Stock is thereafter
authorized for trading on the OTC BB. In addition, the investor agreed to waive,
until April 1, 2007, Andrea's obligation to register any additional shares and
Andrea's obligation to make certain cash payments, if any, for its failure to
register any additional shares. Finally, the investor acknowledged that no
Maturity Date Redemption Price (as defined) is due on October 10, 2002. The
investor's waivers described above shall be null and void immediately, however,
upon the earlier of April 7, 2007, if such Triggering Event Redemption Price is
not paid on April 7, 2007, the first date on which Andrea fails to comply in any
material respect with the terms of the Waiver Agreement, and related agreements
entered into between Andrea and the investor (the "Agreements"), and the first
date on which Andrea is insolvent.
As consideration for the Waiver, Andrea agreed to grant the investor a security
interest in all of Andrea's assets; however, the investor agreed to have its
lien on the Andrea's assets subordinated to (1) any lien granted in the future
to a non-affiliated third party in connection with a strategic transaction with
a financing component, provided that such third-party lien relates only to the
amount of the financing component of such transactions, and (2) any lien granted
in the future to a bank or other similar institution pursuant to any asset based
financing transaction. In addition, the investor agreed to release its lien in
connection with any sale of any assets subject to investor's lien, provided the
investor receives a lien on the proceeds of the sale. The investor acknowledged
Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------
December 31, 2001 (Continued)
that its lien in any portion of Andrea's intellectual property is
effectively subordinate to the interest of any current or future licensee of
such intellectual property, as any interest the investor may have in such
intellectual property cannot be greater than Andrea's interest therein.
Given that the waiver granted by the investor does not cover all triggering
events set forth in the Certificate of Amendment and that the waiver will be
null and void in the event Andrea fails to comply in any material respect with
the terms of the Agreements, among other things, there is a risk that the
investor could declare a triggering event that would trigger the redemption
rights.
If such redemption rights are triggered and Andrea has insufficient funds to
satisfy the redemption, Andrea will be required to obtain a new waiver from the
holders of the Series C Preferred Stock. If the Series C Preferred Stock holders
do not consent to such a waiver, Andrea's efforts to obtain additional funding
and capital will be materially adversely affected and its ability to continue
its current operations will be materially adversely affected.
12. LICENSING AGREEMENT
In December 2001 and March 2002, we entered into two agreements with Analog
Devices, Inc to be their provider of noise canceling technologies for use with
certain of their computer audio product offerings. These license agreements
relate to Andrea Electronics' high performance noise canceling technologies that
enable clear voice communications and high-performance audio in small
home-office and regular office environments. Under our agreements with Analog
Devices, they are obligated to pay us a total of $5 million in license fees
during calendar 2002. Through March 2002, and in accordance with our agreements,
we have received $1 million of these license fees. The license agreement
executed in December 2001, as amended, was for $1 million of the aforementioned
license fees, and is recorded as an account receivable and deferred revenue
($258,221 of which is classified as current and $741,779 classified as
long-term) in the accompanying consolidated balance sheets. All license revenues
will be recognized on a straight-line basis over their respective three-year
periods.
13. RETIREMENT PLAN
Andrea has a defined contribution profit sharing plan that is qualified under
Section 401(k) of the Internal Revenue Code and is available to substantially
all of its employees. Andrea's contributions, which serve to match a portion of
participant contributions, were $0, $67,118 and $153,360 for the years ended
December 31, 2001, 2000 and 1999, respectively.
14. INCOME TAXES
Income tax provision (benefit) consists of the following:
Year Ended December 31, 2001 2000 1999
============================================================================================================================
Federal:
Current $ -- $ -- $ --
Deferred (3,258,874) (2,940,564) (2,447,011)
State and Local:
Current -- -- --
Deferred (479,246) (432,436) (359,855)
Adjustment to valuation allowance related to net deferred tax assets 3,738,120 3,373,000 2,806,866
----------------------------------------------------------------------------------------------------------------------------
$ -- $ -- $ --
============================================================================================================================
A reconciliation between the effective rate for income taxes and the amount
computed by applying the statutory Federal income tax rate to loss before income
taxes is as follows:
Year Ended December 31, 2001 2000 1999
===============================================================================================
Tax provision at statutory rate 34% 34% 34%
State and local taxes 5% 5% 5%
Change in valuation allowance for net deferred tax assets (39%) (39%) (39%)
-----------------------------------------------------------------------------------------------
-- -- --
===============================================================================================
Andrea Electronics Corporation 2001 Annual Report
Page 30/31
--------------------------------------------------------------------------------
The tax effects of temporary differences that give rise to significant portions
of the deferred tax asset, net, at December 31, 2001 and 2000, are as follows:
2001 2000
========================================================================================
Long-term deferred tax assets:
Reserve for accrued expenses and trade credit $ 866,000 $ 490,000
Allowance for doubtful accounts 69,000 73,000
Reserve for restructuring charges 303,000 188,000
Reserve for obsolescence 229,000 188,000
NOL carryforward 15,937,000 12,386,000
----------------------------------------------------------------------------------------
17,404,000 13,137,000
Less: valuation allowance (15,597,385) (11,330,385)
----------------------------------------------------------------------------------------
Deferred tax asset, net $ 1,806,615 $ 1,806,615
========================================================================================
As of December 31, 2001, Andrea had net operating loss and credit carryforwards
of approximately $43,000,000 expiring in varying amounts beginning in 2006
through 2021. The determination that the net deferred tax asset of $1,806,615 at
December 31, 2001 and 2000 is realizable, is based on Andrea's expectations of
future earnings. Included in the remaining fully reserved deferred tax asset of
approximately $15.6 million, is approximately $4.9 million related to tax
benefits associated with the exercise of stock options, which will not result in
a tax benefit in the consolidated statement of operations in future periods but,
rather, will result in further increases to additional paid-in capital, if and
when realized.
15. COMMITMENTS AND CONTINGENCIES
Leases
Andrea's corporate headquarters is located in Melville, New York, where Andrea
leases space for manufacturing, research and development, sales and executive
offices from an unrelated party. The lease is for approximately 40,000 square
feet and expires in June 2008. Rent expense under this operating lease was
approximately $562,000, $540,000 and $507,000 for the years ended December 31,
2001, 2000 and 1999, respectively. As of December 31, 2001, the minimum future
lease commitments, under this lease and all other noncancellable operating
leases, are as follows:
2002 $ 778,306
2003 776,487
2004 769,311
2005 683,832
2006 711,185
Thereafter 339,190
----------------------------------------------------------------
Total $4,058,311
================================================================
Employment Agreements
Andrea has entered into employment agreements with the officers and Chairman of
the Company. During 2002, Andrea will be negotiating terms to employment
contracts that expire at the end of 2002 and in the first half of 2003. The
future minimum cash commitments under these agreements are as follows:
Number of Aggregate
Fiscal Year Individuals Annual Amount
================================================================================
2002 3 $525,000
2003 3 116,000
Legal Proceedings
Andrea is presently engaged in a lawsuit filed in the U.S. District Court for
the Eastern District of New York by NCT Group, Inc. ("NCT") and its subsidiary
NCT Hearing Products, Inc. NCT alleges that we: engaged in unfair competition by
misrepresenting the scope our patents, specifically, U.S. Pat. Nos. 5,732,143,
5,825,897 and 6,061,456 thereby tortuously interfering with prospective
contractual rights between NCT and its existing and potential customers; made
false and disparaging statements about NCT and its products; and falsely
advertised Andrea's ANR products. The complaint requests a declaration that
these patents are invalid and unenforceable and that NCT's products do not
infringe upon these patents and seeks to enjoin Andrea from engaging in these
alleged activities and seeks compensatory damages of not less than $5 million,
punitive damages of not less than $50 million and plaintiffs' costs and
attorneys' fees.
Andrea has filed and served an answer to the NCT complaint, denying the
allegations and asserting affirmative defenses and counterclaims. Our
counterclaims, as amended, allege that NCT has willfully infringed the above
mentioned patents, and that NCT has engaged in trademark infringement, false
designation of origin, and unfair competition. The counterclaims seek injunctive
Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------
December 31, 2001 (Continued)
relief with respect to the allegations of patent infringement, trademark
infringement, false designation of origin and unfair competition. Andrea is also
seeking exemplary and punitive damages, prejudgment interest on all damages,
costs, reasonable attorneys' fees and expenses.
During the third quarter of 2001, the court held a "Markman Hearing" to
determine the meaning of the claims in the three Andrea patents. Andrea is
unable to anticipate when the Court will issue a decision on this question. If
this suit is ultimately resolved in favor of NCT, Andrea could be materially
adversely affected. Andrea believes, however, that NCT's allegations are without
merit and intend to vigorously defend itself and to assert against NCT the
claims described above. This litigation has been dormant from its inception
until the present time.
In addition to the litigation noted above, Andrea is from time to time subject
to routine litigation incidental to its business. While it is not feasible to
predict or determine the final outcome of the claims against Andrea, management
believes that the results of the above noted litigation and other pending legal
proceedings will not have a material adverse effect on Andrea`s financial
condition, results of operations or liquidity.
16. STOCK PLANS
In 1991, the Board of Directors of Andrea (the "Board") adopted the 1991
Performance Equity Plan ("1991 Plan"), which was approved by the shareholders.
The 1991 Plan, as amended, authorizes the granting of awards, the exercise of
which would allow up to an aggregate of 4,000,000 shares of Andrea's common
stock to be acquired by the holders of those awards. The awards can take the
form of stock options, stock appreciation rights, restricted stock, deferred
stock, stock reload options or other stock-based awards. Awards may be granted
to key employees, officers, directors and consultants. Stock options granted to
employees and directors under the 1991 Plan were granted for terms of up to 10
years at an exercise price equal to the market value at the date of grant and
are exercisable in whole or in part at stated times from the date of grant up to
four years from the date of grant.
In 1998, the Board adopted the 1998 Stock Option Plan ("1998 Plan"), which was
subsequently approved by the shareholders. The 1998 Plan, as amended, authorizes
the granting of awards, the exercise of which would allow up to an aggregate of
4,375,000 shares of Andrea's common stock to be acquired by the holders of those
awards. Similar to the 1991 Plan, the awards can take the form of stock options,
stock appreciation rights, restricted stock, deferred stock, stock reload
options or other stock-based awards. Awards may be granted to key employees,
officers, directors and consultants.
During the year ended December 31, 2001, Andrea awarded 75,000 shares of
restricted stock under the 1991 Plan, with a weighted-average fair market value
at the date of grant of $1.82 per share. These restricted shares vest one year
from the date of grant. Compensation expense related to these awards was
$104,971 for the year ended December 31, 2001.
Andrea accounts for stock-based awards granted to employees and directors under
APB Opinion No. 25, under which no compensation cost has been recognized for
stock options granted at market value (Note 2). Had compensation cost for these
stock options been determined consistent with SFAS No. 123, Andrea's net loss
and net loss per share would have been as follows:
Year Ended December 31, 2001 2000 1999
===========================================================================================================
Net loss attributable to common shareholders:
As Reported $(21,694,713) $ (9,925,561) $ (7,372,836)
Pro Forma (22,592,192) (11,954,665) (11,338,178)
Basic and diluted net loss per share:
As Reported $ (1.43) $ (.72) $ (.56)
Pro Forma (1.49) (.87) (.86)
Andrea Electronics Corporation 2001 Annual Report
Page 32/33
--------------------------------------------------------------------------------
The effects of applying SFAS No. 123 in this pro forma disclosure are not
indicative of future amounts. Option activity during 2001, 2000 and 1999 is
summarized as follows:
Year Ended December 31, 2001 2000 1999
==============================================================================================================================
Weighted- Weighted- Weighted-
Average Average Average
Shares Exercise Price Shares Exercise Price Shares Exercise Price
------------------------------------------------------------------------------------------------------------------------------
Outstanding at beginning of period 4,964,875 $ 7.57 4,300,000 $ 8.04 3,082,500 $ 9.06
Granted 622,000 1.27 1,233,000 6.27 1,345,000 5.42
Exercised (27,500) 0.68 (283,125) 5.82 (32,500) 5.67
Forfeited (578,375) 7.97 (225,625) 12.01 (65,000) 10.93
Cancelled (767,875) 11.37 (59,375) 9.92 (30,000) 9.52
------------------------------------------------------ ---------- ----------
Outstanding at end of period 4,213,125 6.36 4,964,875 7.57 4,300,000 8.04
====================================================== ========== ==========
Exercisable at end of period 2,381,375 7.70 2,157,250 7.85 1,439,750 7.34
====================================================== ========== ==========
Weighted-average fair value of options
granted $ 1.13 $ 4.39 $ 4.14
==================================================================== ======== ========
The fair values of the stock options granted were estimated on the date of
grant using the Black-Scholes option-pricing model with the following
weighted-average assumptions:
2001 2000 1999
==============================================================================================================================
Expected life in years 3 5 6
Risk-free interest rates 4.16% 6.19% 5.92%
Volatility 153% 83% 77%
Dividend yield 0% 0% 0%
==============================================================================================================================
The following table summarizes information about stock options outstanding at
December 31, 2001:
Options Outstanding Options Exercisable
------------------------------------------------------------------------------------------------------------------------------
Weighted-Average
Range of Number Remaining Weighted-Average Number Weighted-Average
Exercise Prices Outstanding Contractual Life Exercise Price Exercisable Exercise Price
==============================================================================================================================
$ 0.68 to $ 1.01 320,000 6.35 $ 0.69 120,000 $ 0.68
1.02 to 1.53 2,000 9.52 1.51 -- --
1.54 to 2.32 385,000 9.23 1.77 -- --
2.33 to 3.49 10,000 8.93 3.30 2,500 3.30
3.50 to 5.25 15,000 4.58 5.00 15,000 5.00
5.26 to 7.89 2,583,500 7.12 5.98 1,346,250 5.83
7.90 to 11.84 457,625 6.52 8.87 457,625 8.87
11.85 to 17.78 440,000 6.36 14.26 440,000 14.26
----------------------------------------------------------------------------------------------------
$ 0.68 to $17.78 4,213,125 7.10 $ 6.36 2,381,375 $ 7.70
====================================================================================================
Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------
December 31, 2001 (Continued)
17. SEGMENT INFORMATION
Andrea follows the provisions of SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information." Reportable operating segments are
determined based on Andrea's management approach. The management approach, as
defined by SFAS No. 131, is based on the way that the chief operating
decision-maker organizes the segments within an enterprise for making operating
decisions and assessing performance. While Andrea's results of operations are
primarily reviewed on a consolidated basis, the chief operating decision-maker
also manages the enterprise in three segments: (i) Andrea Anti-Noise Products,
(ii) Aircraft Communication Products, and (iii) Andrea DSP Microphone and
Software Products. Our Andrea Anti-Noise Products include our noise cancellation
and active noise cancellation computer headset products and related computer
peripheral products. Our Andrea DSP Microphone and Software Products primarily
include products based on the use of some, or all, of the following
technologies: Andrea Digital Super Directional Array microphone technology
(DSDA), Andrea Direction Finding and Tracking Array microphone technology
(DFTA), Andrea PureAudio noise filtering technology, and Andrea EchoStop, an
advanced acoustic echo cancellation technology. For the year ended December 31,
2001, our Andrea Anti-Noise Products segment reflects the inclusion of
restructuring charges of approximately $4.5 million (Note 3). The following
represents selected consolidated financial information for Andrea's segments for
the years ended December 31, 2001, 2000 and 1999:
Aircraft Andrea DSP
Andrea Anti- Communication Microphone and
Segment Data Noise Products Products Software Products Total
=============================================================================================================================
2001 $ 4,318,579 $ 4,916,616 $ 686,181 $ 9,921,376
Income (loss) from operations (6,905,641) 1,572,596 (8,460,539) (13,793,584)
Depreciation 399,739 127,051 214,653 741,443
-----------------------------------------------------------------------------------------------------------------------------
2000
Net sales $ 11,974,410 $ 2,923,031 $ 670,223 $ 15,567,664
Income (loss) from operations 636,060 (426,947) (9,988,239) (9,779,126)
Depreciation 409,541 193,197 275,426 878,164
-----------------------------------------------------------------------------------------------------------------------------
1999
Net sales $ 13,310,138 $ 3,802,349 $ -- $ 17,112,487
Income (loss) from operations 1,312,588 591,502 (9,054,825) (7,150,735)
Depreciation 274,058 123,503 486,165 883,726
=============================================================================================================================
Management of Andrea assesses assets and non-operating income statement data on
a consolidated basis only, and Andrea has not restated any other prior period
information, as it would be impracticable. International revenues are based on
the country in which the end-user is located. For the years ended December 31,
2001, 2000 and 1999, and as of each respective year-end, sales and accounts
receivable by geographic area are as follows:
Geographic Data 2001 2000 1999
=============================================================================================================================
Sales:
United States $ 8,198,267 $ 10,877,234 $ 11,187,773
Europe 486,063 1,788,065 3,803,160
Other foreign 1,237,046 2,902,365 2,121,554
-----------------------------------------------------------------------------------------------------------------------------
$ 9,921,376 $ 15,567,664 $ 17,112,487
=============================================================================================================================
Accounts receivable:
United States $ 1,994,022 $ 2,055,056 $ 1,975,971
Europe 11,735 754,155 529,052
Other foreign 88,389 694,502 265,680
-----------------------------------------------------------------------------------------------------------------------------
$ 2,094,146 $ 3,503,713 $ 2,770,703
=============================================================================================================================
Andrea Electronics Corporation 2001 Annual Report
Page 34/35
--------------------------------------------------------------------------------
18. QUARTERLY RESULTS (UNAUDITED)
The following table sets forth unaudited financial data for each of Andrea's
last eight fiscal quarters:
Year Ended December 31, 2001 Year Ended December 31, 2000
====================================================================================================================================
First Second Third Fourth First Second Third Fourth
Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter
------------------------------------------------------------------------------------------------------------------------------------
Income Statement Data:
Sales--Operating $ 2,615,639 $ 2,617,929 $ 2,937,199 $ 2,088,108 $ 3,201,484 $ 3,181,268 $ 5,318,936 $ 3,865,976
Sales Reserve--Restructuring/(1)/ -- -- -- (337,499) -- -- -- --
Net Sales 2,615,639 2,617,929 2,937,199 1,750,609 3,201,484 3,181,268 5,318,936 3,865,976
Cost of Sales--Operating 1,919,354 1,872,758 2,105,848 1,503,645 2,399,175 2,366,353 3,772,311 2,741,810
Cost of Sales--Restructuring/(1)/ -- -- -- 2,573,339 -- -- -- --
Total Cost of Sales 1,919,354 1,872,758 2,105,848 4,076,984 2,399,175 2,366,353 3,772,311 2,741,810
Gross Profit 696,285 745,171 831,351 (2,326,375) 802,309 814,915 1,546,625 1,124,166
Restructuring Charges, not
included above/(1)/ -- -- -- 1,552,892 -- -- -- --
Loss from Operations (2,615,958) (2,444,968) (2,060,117) (6,672,541) (2,489,467) (2,527,636) (2,092,278) (2,669,745)
Net Loss (2,546,487) (2,367,680) (2,069,151) (6,646,791) (2,484,621) (2,476,013) (2,045,438) (2,568,280)
Preferred Stock Dividends 146,285 143,613 140,755 133,951 91,377 60,410 60,577 138,845
Non-Cash Charge Attributable to
Beneficial Conversion -- -- 7,500,000 -- -- -- -- --
Feature/(2)/
Net Loss Attributable to
Common Shareholders (2,692,772) (2,511,293) (9,709,906) (6,780,742) (2,575,998) (2,536,423) (2,106,015) (2,707,125)
Basic and Diluted Loss per Share (0.18) (0.17) (0.64) (0.42) (0.19) (0.18) (0.15) (0.19)
(1) Restructuring Charges (Note 3)--The net loss applicable to Common
Shareholders reflects the impact of restructuring charges associated with
exiting a specific PC headset customer type, or channel, within the
Anti-Noise Product business segment as follows:
Sales returns $ 337
Cost of sales $ 2,573
Restructuring charges $ 1,553
-------------------------------------
Total $ 4,463
=====================================
(2) Non-cash charge attributable to beneficial conversion feature--The net loss
applicable to Common Shareholders reflects the intrinsic value of the
realization, during the third quarter of 2001, of a contingent beneficial
conversion feature related to the Company's Series C Redeemable Convertible
Preferred Stock.
19. SUBSEQUENT EVENT--CONVERSION OF SERIES B REDEEMABLE SECURITIES
Subsequent to December 31, 2001, 77 shares of Series B Redeemable Convertible
Preferred Stock (Note 10), with aggregate net book value of $749,149, were
converted into 1,552,732 shares of common stock at an average conversion price
of $0.55 per share.
Report of Independent Public Accountants
--------------------------------------------------------------------------------
To Andrea Electronics Corporation:
We have audited the accompanying consolidated balance sheets of Andrea
Electronics Corporation (a New York corporation) and subsidiaries as of December
31, 2001 and 2000, and the related consolidated statements of operations,
shareholders' equity and cash flows for each of the three years in the period
ended December 31, 2001. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Andrea Electronics Corporation
and subsidiaries as of December 31, 2001 and 2000, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2001 in conformity with accounting principles generally accepted in
the United States.
/S/ Arthur Andersen LLP
Melville, New York
March 28, 2002
Corporate Information
--------------------------------------------------------------------------------
BOARD OF DIRECTORS:
Douglas J. Andrea
Chairman of the Board of Directors
Christopher P. Sauvigne
President & Chief Executive Officer
Gary A. Jones
Director
James M. Griffin
Director
Jack Lahav
Director
John R. Croteau
Director
Louis Libin
Director
Scott Koondel
Director
CORPORATE OFFICERS:
Christopher P. Sauvigne
President & Chief Executive Officer
Richard A. Maue
Executive Vice President,
Chief Financial Officer &
Corporate Secretary
INDEPENDENT PUBLIC ACCOUNTANTS:
Marcum & Kliegman LLP
130 Crossways Park Drive
Woodbury, NY 11797
GENERAL COUNSEL:
Muldoon, Murphy & Faucette LLP
5101 Wisconsin Avenue, N.W.
Washington DC 20016
INTELLECTUAL PROPERTY COUNSEL:
Frommer Lawrence & Haug LLP
745 Fifth Avenue
New York, NY 10151
TRANSFER AGENT:
Continental Stock Transfer & Trust Co.
2 Broadway
New York, NY 10004
MARKET FOR ANDREA ELECTRONICS COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS:
Andrea's common stock is listed on the American Stock Exchange under the
symbol "AND." The table below sets forth the high and low sales prices for
Andrea's Common Stock as reported by the American Stock Exchange. On March
27, 2002, there were approximately 534 holders of record of Andrea's
Common Stock.
Quarter Ended High Low
=======================================================
March 31, 2000 17.75 7.00
June 30, 2000 11.63 5.75
September 30, 2000 9.25 5.31
December 31, 2000 7.65 1.80
March 31, 2001 3.90 1.52
June 30, 2001 2.29 1.36
September 30, 2001 1.70 .46
December 31, 2001 1.00 .50
=======================================================
No common stock dividends were paid in 2001 or 2000.
WWW.ANDREAELECTRONICS.COM
Andrea Electronics Corporation Worldwide Headquarters
45 Melville Park Road
Melville, NY 11747
phone/ 631.719.1800
fax/ 631.719.1824
Andrea Digital Technologies, Inc.
1382 West State Road
Pleasant Grove, UT 84062
[LOGO] ANDREA Lamar Signal Processing, Ltd.
P.O. Box 273
Yoqneam Ilit 20692
Israel
Appendix B
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 2002
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 (NO FEE REQUIRED) For the transition period
from ____________ to ____________
Commission file number 1-4324
--------
ANDREA ELECTRONICS CORPORATION
----------------------------------------------------
(Exact name of registrant as specified in its charter)
New York 11-0482020
----------------------------------- --------------------------------------
(State or other jurisdiction of (I.R.S. employer identification no.)
incorporation or organization)
45 Melville Park Road, Melville, New York 11747
------------------------------------------ --------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: 631-719-1800
--------------------------------------
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 Rule 12b-2 of the Exchange Act). Yes __ No X
Indicate the number of shares outstanding of each of the registrant's classes of
common equity, as of the latest practicable date: As of November 12, 2002, there
are 20,043,864 common shares outstanding.
ITEM 1. FINANCIAL STATEMENTS
ANDREA ELECTRONICS CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
September 30, December 31,
2002 2001
----------------- -----------------
(unaudited) (audited)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 4,711,370 $ 3,724,130
Accounts receivable, net of allowance for doubtful accounts of $70,848 and
$176,292 558,858 2,094,146
Inventories 3,617,130 3,389,729
Prepaid expenses and other current assets 398,737 547,892
------------ ------------
Total current assets 9,286,095 9,755,897
PROPERTY AND EQUIPMENT, net 586,152 811,392
DEFERRED INCOME TAXES - 1,806,615
GOODWILL 12,458,872 12,317,843
INTANGIBLE ASSETS 8,397,648 8,969,950
OTHER ASSETS 285,811 357,962
------------ ------------
Total assets $ 31,014,578 $ 34,019,659
============ ============
LIABILITIES, REDEEMABLE SECURITIES,
AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Trade accounts payable $ 959,765 $ 1,147,160
Current portion of long-term debt 31,364 158,802
Accrued restructuring charges 388,593 499,724
Deferred revenue 1,666,680 258,221
Other current liabilities 2,780,712 2,061,075
------------ ------------
Total current liabilities 5,827,114 4,124,982
LONG-TERM DEBT 21,681 37,619
DEFERRED REVENUE 2,796,634 741,779
OTHER LIABILITIES 34,871 41,509
------------ ------------
Total liabilities 8,680,300 4,945,889
------------ ------------
COMMITMENTS AND CONTIGENCIES - -
SERIES B REDEEMABLE CONVERTIBLE PREFERRED STOCK, net, $.01 par value; authorized:
1,000 shares; issued and outstanding: 86 and 249 shares, respectively;
liquidation value: $860,000 and $2,490,000, respectively 839,546 2,421,009
------------ ------------
SERIES C REDEEMABLE CONVERTIBLE PREFERRED STOCK, net, $.01 par value; authorized:
1,500 shares; issued and outstanding: 750 shares; liquidation value:
$7,500,000 7,383,615 7,364,011
------------ ------------
SHAREHOLDERS' EQUITY:
Preferred stock, $.01 par value; authorized: 4,997,500 shares; none issued
and outstanding - -
Common stock, $.50 par value; authorized: 70,000,000 shares; issued and
outstanding: 20,011,948 and 16,308,968 shares, respectively 10,005,974 8,154,484
Additional paid-in capital 54,479,117 54,642,571
Deferred stock compensation (95,857) (52,334)
Accumulated deficit (50,278,117) (43,455,971)
------------- -------------
Total shareholders' equity 14,111,117 19,288,750
------------ ------------
Total liabilities, redeemable securities, and shareholders' equity $ 31,014,578 $ 34,019,659
============ ============
See Notes to Condensed Consolidated Financial Statements
ANDREA ELECTRONICS CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
For the Three Months Ended For the Nine Months Ended
------------------------------------ ------------------------------------
September 30, September 30,
2002 2001 2002 2001
-------------- -------------- ------------- ------------
REVENUES
Net product revenues $1,009,676 $2,937,199 $4,402,993 $8,170,767
License revenues 360,353 - 536,686 -
----------- ----------- ----------- -----------
Total revenues, net $1,370,029 $2,937,199 $4,939,679 $8,170,767
COST OF SALES 671,631 2,105,848 2,984,500 5,897,960
----------- ----------- ----------- -----------
Gross profit 698,398 831,351 1,955,179 2,272,807
RESEARCH AND DEVELOPMENT EXPENSES 884,772 774,108 2,677,128 2,654,392
GENERAL, ADMINISTRATIVE AND SELLING EXPENSES 1,391,966 2,117,360 4,314,416 6,739,458
----------- ----------- ----------- -----------
Loss from operations (1,578,340) (2,060,117) (5,036,365) (7,121,043)
------------ ------------ ------------ ------------
OTHER (EXPENSE) INCOME:
Interest (expense) income, net (30,756) (3,365) (13,538) 117,505
Other 14,809 (5,669) 34,372 20,220
----------- ----------- ----------- -----------
(15,947) (9,034) 20,834 137,725
------------ ------------ ----------- -----------
LOSS BEFORE PROVISION FOR INCOME TAXES (1,594,287) (2,069,151) (5,015,531) (6,983,318)
PROVISION FOR INCOME TAXES 1,806,615 - 1,806,615 -
----------- ----------- ----------- -----------
Net loss $(3,400,902) $(2,069,151) $(6,822,146) $(6,983,318)
============ ============ ============ ============
PREFERRED STOCK DIVIDENDS 115,328 140,755 357,854 430,653
NON-CASH CHARGE ATTRIBUTABLE TO BENEFICIAL
CONVERSION FEATURE - 7,500,000 - 7,500,000
----------- ----------- ----------- -----------
Net loss attributable to
common shareholders $(3,516,230) $(9,709,906) $(7,180,000) $(14,913,971)
============ ============ ============ =============
PER SHARE INFORMATION:
Net Loss Per Share:
Basic and Diluted $(.18) $(.64) $(.39) $(1.00)
============ ============ ============ =============
Shares used in computing net loss per share:
Basic and Diluted 19,216,925 15,137,578 18,356,233 14,848,707
=========== =========== =========== ============
See Notes to Condensed Consolidated Financial Statements
-2-
ANDREA ELECTRONICS CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
For the Nine Months Ended September 30, 2002
(UNAUDITED)
Shares Additional Deferred Stock
Outstanding Common Stock Paid-In Capital Compensation
----------- ------------ --------------- --------------
BALANCE, January 1, 2002 16,308,968 $8,154,484 $54,642,571 $(52,334)
Conversions of Series B Redeemable
Convertible Preferred Stock, net
of related costs 3,365,480 1,682,740 91,450 -
Preferred stock dividends - - (357,854) -
Employee Stock Grant 337,500 168,750 60,750 (229,500)
Option Grant to Consultants - - 42,200 (42,200)
Amortization of deferred stock compensation - - - 200,589
Amortization of Option Grant to Consultants - - - 27,588
Net loss - - - -
----------- ------------ -------------- -------------
BALANCE, September 30, 2002 20,011,948 $10,005,974 $54,479,117 $(95,857)
=========== ============ ============== =============
Total
Accumulated Shareholders'
Deficit Equity
------------- ------------
BALANCE, January 1, 2002 $(43,455,971) $19,288,750
Conversions of Series B Redeemable
Convertible Preferred Stock, net
of related costs - 1,774,190
Preferred stock dividends - (357,854)
Employee Stock Grant - -
Option Grant to Consultants - -
Amortization of deferred stock compensation - 200,589
Amortization of Option Grant to Consultants - 27,588
Net loss (6,822,146) (6,822,146)
------------- ------------
BALANCE, September 30, 2002 $(50,278,117) 14,111,117
============= ============
See Notes to Condensed Consolidated Financial Statements
-3-
ANDREA ELECTRONICS CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
For the Nine Months Ended
September 30,
----------------------------------
2002 2001
------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(6,822,146) $(6,983,318)
Adjustments to reconcile net loss to net cash provided by (used in)
operating activities:
Non-cash stock compensation expense 228,177 5,760
Depreciation and amortization 936,081 2,048,841
Deferred income taxes 1,806,615 -
Change in:
Accounts receivable, net 1,535,288 1,729,912
Inventories, net (227,401) 156,714
Prepaid expenses and other current assets 149,155 (209,062)
Other assets 72,151 62,183
Trade accounts payable (187,395) (370,386)
Accrued restructuring charges (111,131) -
Deferred revenue 3,463,314 -
Other current and long-term liabilities 567,476 245,143
----------- -----------
Net cash provided by (used in) operating activities 1,410,184 (3,314,213)
----------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (132,686) (108,313)
Patents and trademarks (146,882) (361,661)
------------ ------------
Net cash used in investing activities (279,568) (469,974)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments of debt obligations (143,376) (601,717)
Proceeds from issuance of common stock upon exercise of stock options,
net of related costs - 16,483
----------- -----------
Net cash used in financing activities (143,376) (585,234)
------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 987,240 (4,369,421)
CASH AND CASH EQUIVALENTS, beginning of period 3,724,130 9,151,835
----------- -----------
CASH AND CASH EQUIVALENTS, end of period $ 4,711,370 $ 4,782,414
=========== ===========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Non-cash investing and financing activities:
Conversion of Series B Redeemable Convertible Preferred Stock and
related accrued dividends into common stock $ 1,774,190 $2,204,740
=========== ==========
Stock grant to employees $ 229,500 $ 32,250
=========== ==========
Option grant to consultant $ 42,400 $ -
=========== ==========
See Notes to Condensed Consolidated Financial Statements
-4-
ANDREA ELECTRONICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation - The accompanying condensed consolidated financial
statements include the accounts of Andrea Electronics Corporation and its
subsidiaries ("Andrea"). All intercompany balances and transactions have
been eliminated in consolidation.
These unaudited, condensed consolidated financial statements have been
prepared in accordance with the instructions for Form 10-Q and accordingly,
they do not include all of the information and footnotes normally provided
in annual financial statements.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America, requires
management to make estimates and assumptions that affect the reported
amounts of assets, liabilities, revenues and expenses reported in those
financial statements. In the opinion of management, all adjustments
(consisting of normal recurring accruals) considered necessary for a fair
presentation have been included.
Management Estimates - Among other things, estimates are used in accounting
for allowances for bad debts, inventory obsolescence, restructuring
reserves, product warranty, depreciation, deferred income taxes, expected
realizable values for assets (primarily goodwill and intangible assets),
contingencies, revenue recognition as well as the recording and
presentation of our convertible preferred stock. Estimates and assumptions
are periodically reviewed and the effects of any material revisions are
reflected in the consolidated financial statements in the period that they
are determined to be necessary. Actual results could differ from those
estimates and assumptions.
Andrea believes that adequate disclosures are made to keep the information
fairly presented. The results of operations for any interim period are not
necessarily indicative of the results to be expected for the fiscal year.
For further information, refer to the consolidated financial statements and
accompanying footnotes included in Andrea's annual report on Form 10-K for
the year ended December 31, 2001.
Reclassifications - Certain prior year amounts have been reclassified to
conform to the current year presentation.
Revenue Recognition - Non software-related revenue is recognized upon
shipment. Andrea reports such sales levels on a net sales basis, with net
sales being computed by deducting from gross sales, the amount of actual
sales returns and the amount of reserves established for anticipated
returns. With respect to license revenues, Andrea recognizes revenue in
accordance with Statement of Position ("SOP") 97-2, "Software Revenue
Recognition," as amended, and Staff Accounting Bulletin ("SAB") No. 101
"Revenue Recognition in Financial Statements." License revenue is
recognized based on the terms and conditions of individual contracts (see
Note 10). In addition, fee-based services are performed on a
time-and-material basis or on a fixed-fee basis, under separate service
arrangements.
2. Deferred Tax Assets - Statement of Financial Accounting Standards ("SFAS")
No. 109 "Accounting for Income Taxes" ("FAS 109") requires that a valuation
allowance be established when it is "more likely than not" that all or a
portion of deferred tax assets will not be realized. A review of all
available positive and negative evidence needs to be considered, including
a company's performance, the market environment in which the company
operates, the length of carryback and carryforward periods, and
expectations of future profits, etc.
FAS 109 further states that forming a conclusion that a valuation allowance
is not needed is difficult when there is negative evidence such as
cumulative losses in recent years. Therefore, cumulative losses weigh
heavily in the overall assessment. Pursuant to a change in circumstances
during the third quarter, which caused a change in our judgment regarding
the realizability of deferred tax assets, and after considering all other
positive and negative evidence (including, in particular, cumulative losses
in recent years) available to us at September 30, 2002, we concluded that
it was appropriate to record a full valuation allowance against our net
deferred tax assets. As a
-5-
result, we recorded an additional valuation allowance of $1.8 million for
the quarter ended September 30, 2002. In addition, we expect to provide a
full valuation allowance on future tax benefits until we can sustain a
level of profitability that demonstrates our ability to utilize the assets,
or other significant positive evidence arises that suggests our ability to
utilize such assets.
3. Earnings Per Common Share - Basic net loss per common share is computed by
dividing net loss attributable to common shareholders by the
weighted-average number of common shares outstanding. Diluted net loss per
common share is computed by dividing net loss attributable to common
shareholders by the weighted-average number of common shares and dilutive
common share equivalents and convertible securities then outstanding. The
following chart provides a reconciliation of information used in
calculating the per share amounts:
For the Three Months Ended For the Nine Months Ended
September 30, September 30,
--------------------------------- ----------------------------------
2002 2001 2002 2001
------------- ------------- ------------- ---------------
Numerator:
Net loss $(3,400,902) $(2,069,151) $(6,822,146) $ (6,983,318)
Preferred stock dividends 115,328 140,755 357,854 430,653
Non-cash charge attributable
to beneficial conversion
feature - 7,500,000 - 7,500,000
------------ ------------ ------------ -------------
Net loss attributable to
common shareholders $(3,516,230) $(9,709,906) $(7,180,000) $(14,913,971)
============ ============ ============ =============
Denominator:
Weighted-average common shares
outstanding - Basic and Diluted/*/ 19,216,925 15,137,578 18,356,233 14,848,707
=========== =========== =========== ============
Net loss per share - Basic and
Diluted $(.18) $(.64) $(.39) $(1.00)
============ ============ ============ ============
*The effect of dilutive securities (stock options, Redeemable Convertible
Preferred Stock and warrants) have not been included herein as their inclusion
would be anti-dilutive.
4. In July 2001, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 141, "Business Combinations" ("FAS 141") and No. 142, "Goodwill and
Other Intangible Assets" ("FAS 142"). FAS 141 requires all business
combinations initiated after September 30, 2001 to be accounted for using
the purchase method. Under FAS 142, goodwill and intangible assets with
indefinite lives are no longer amortized but are reviewed annually (or more
frequently if impairment indicators arise) for impairment. Separable
intangible assets that are not deemed to have indefinite lives will continue
to be amortized over their useful lives (but with no maximum life). Andrea
has adopted FAS 142 effective January 1, 2002, and accordingly, those
intangible assets that continue to be classified as goodwill or as other
intangibles with indefinite lives are no longer amortized. Other intangible
assets, which do not have indefinite lives (such as core technology),
continue to be amortized. As of January 1, 2002, we made an assessment of
our intangible assets to identify goodwill separately from other
identifiable intangibles. No adjustment was deemed necessary, although
-6-
the intangible asset "Workforce in Place", which amounted to $141,029, was
reclassified as goodwill. In accordance with FAS 142, intangible assets,
including purchased goodwill, is evaluated annually for impairment, or more
often if circumstances warrant. We performed initial transitional
impairment testing of goodwill and intangible assets during the first
quarter of fiscal 2002. That effort, and preliminary assessments of our
identifiable intangible assets, indicated that little or no adjustment would
be required upon adoption of this pronouncement. The impairment testing is
performed in two steps: (step one) the determination of impairment, based
upon the fair value of a reporting unit as compared to its carrying value,
and (step two) if there is an impairment, this step measures the amount of
impairment loss by comparing the implied fair value of goodwill with the
carrying amount of that goodwill. FAS 142 required that an entity
complete step one of the transitional goodwill impairment test within six
months of adoption, and that if there is an indication that the carrying
amount of the net assets of a reporting unit exceeds its fair value, step
two must be completed by the end of the fiscal year. In the second
quarter of fiscal 2002, we determined that the carrying
value of this unit might be greater that its fair value. In order to
finalize our determination of fair value, we will require the assistance of
a third-party valuation firm. We anticipate completing this analysis during
the fourth quarter of 2002.
The following table presents adjusted net loss and net loss per share data
restated to include the pro forma retroactive impact of the adoption of FAS
142:
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------------- -------------------------------
2002 2001 2002 2001
------------- ------------- ------------ ---------------
Reported Net Loss attributable to common shareholders $ (3,516,230) $ (9,709,906) $ (7,180,000) $ (14,913,971)
Goodwill and Workforce in Place Amortization - 282,047 - 846,141
-------------- ------------- ------------ ---------------
Adjusted Net Loss $ (3,516,230) $ (9,427,859) $ (7,180,000) $ (14,067,830)
============== ============= ============ ===============
Net Loss Per Share - Basic and Diluted $(.18) $(.64) $(.39) $(1.00)
Goodwill and Workforce in Place Amortization - .02 - .06
-------------- ------------- ------------ ---------------
Adjusted Net Loss Per Common Share $(.18) $(.62) $(.39) $(.94)
============== ============= ============ ===============
Weighted-average common shares outstanding - Basic and
Diluted 19,216,925 15,137,578 18,356,233 14,848,707
============== ============= ============ ===============
The changes in the carrying amount of Goodwill and Intangible assets during the
nine months ended September 30, 2002 were as follows:
Core Trademarks and Workforce in
Goodwill Technology Patents Place Totals
----------- ------------- ---------------- -------------- ------------
Balance as of December 31, 2001 $12,317,843 $ 8,326,587 $ 502,334 $141,029 $21,287,793
Additions during the period - - 146,882 - 146,882
Reclassifications 141,029 - - (141,029) -
Amortization - (550,581) (27,574) - (578,155)
----------- ------------ ---------- --------- ------------
Balance as of September 30, 2002 $12,458,872 $ 7,776,006 $ 621,642 $ - $20,856,520
=========== =========== ========= ========= ===========
-7-
Intangible assets as of September 30, 2002 and December 31, 2001 consisted
of the following:
September 30, December 31,
2002 2001
--------------- -------------
Core Technology $7,776,006 $8,326,587
Trademarks and Patents 621,642 502,334
Workforce in Place - 141,029
---------- ----------
Total Intangible Assets $8,397,648 $8,969,950
========== ==========
Amortization of core technology is expected to be approximately $734,000
a year for the next 11 years. Trademarks and Patents are amortized
using the straight-line method over 17 years.
5. Inventories are stated at the lower of cost (on a first in, first out) or
market.
September 30, December 31,
2002 2001
----------------- ----------------
Raw materials $ 2,308,079 $ 2,000,375
Work-in-process 294,381 130,167
Finished goods 1,794,629 1,845,720
---------------- ----------------
4,397,089 3,976,262
Less: reserve for obsolescence (779,959) (586,533)
---------------- ----------------
$ 3,617,130 $ 3,389,729
================ ================
6. New Accounting Pronouncements - In August
2001, the FASB issued SFAS No. 144 "Accounting for the Impairment or
Disposal of Long-Lived Assets." This statement supersedes SFAS No. 121
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed Of" and Accounting Principles Board Opinion No. 30
"Reporting Results of Operations - Reporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions." The Statement retains the fundamental
provisions of SFAS No. 121 for recognition and measurement of impairment,
but amends the accounting and reporting standards for segments of a
business to be disposed of. The provisions of this statement are required
to be adopted no later than fiscal years beginning after December 31, 2001.
The impact of adopting this standard was not material to the financial
statements.
On April 30, 2002 the FASB issued SFAS No. 145, "Rescission of FASB
Statements No. 4, 44 and 63, Amendments of FASB Statement No. 13, and
Technical Corrections" ("FAS 145"). FAS 145 eliminates the requirement that
gains and losses from the extinguishment of the debt be aggregated and, if
material, classified as an extraordinary item, net of the related income
tax effect and eliminates an inconsistency between the accounting for
sale-leaseback transactions and certain lease modifications that have
economic effects that are similar to sale-leaseback transactions.
Generally, FAS 145 is effective for transactions occurring after May 15,
2002. The adoption of this standard is expected to have no impact to
Andrea.
SFAS No. 146, " Accounting for Costs Associated with Exit of Disposal
Activities" ("FAS 146"), provides guidance on the recognition and
measurement of liabilities for cost associated with the exit of disposal
activities. The provisions of this Statement are effective for exit or
disposal activities that are initiated after December 31, 2002. Andrea is
currently reviewing FAS 146 to determine the impact upon adoption.
7. Restructuring Accrual - During the fourth quarter of fiscal 2001, Andrea
recorded restructuring charges in connection with exiting a PC headset
channel, or customer-type, within the Anti-Noise Headset Product segment.
The restructuring charge was recorded as accrued restructuring charges or
as a reduction of assets, as applicable. During the first nine months of
fiscal 2002, we made payments of $111,131, which reduced the restructuring
-8-
liability that had been established during the fourth quarter of fiscal
2001. As of September 30, 2002, there were no material revisions to the
plan, exit costs, or the anticipated timing of our plan's execution.
8. Series B Redeemable Convertible Preferred Stock - On September 22, 1999,
Andrea issued and sold in a private placement $7,500,000 of Series B
Redeemable Convertible Preferred Stock (the "Series B Preferred Stock"),
and a warrant covering 75,000 shares of Andrea's Common Stock. Each of the
750 shares of Series B Preferred Stock has a stated value of $10,000 plus
dividends of 4% per annum, which sum is convertible into Common Stock at a
conversion price equal to the lower of $8.775 (the "Maximum Conversion
Price") and the average of the two lowest trade prices of the Common Stock
during the 15 consecutive trading days immediately preceding a conversion
date (the "Market Price"), subject to certain adjustments, including
anti-dilution. The 4% dividends may, at the option of Andrea, be paid in
cash. The warrant has an exercise price of $8.775 per share and expires on
June 18, 2004.
All of the Series B Preferred Stock is currently convertible into Andrea's
Common Stock, and Andrea has reserved 3,560,152 shares of Common Stock for
issuance upon conversion.
Upon the announcement of a major transaction, as defined in Andrea's
Certificate of Incorporation, the holders of the Series B Preferred Stock
have the right to require Andrea to redeem all or a portion of the holders'
Series B Preferred Stock at a redemption price equal to the greater of 120%
of the stated value plus any accrued dividends or the Market Price on the
day of announcement. In addition, upon the occurrence of certain triggering
events, and depending on Andrea's control over such events, the holders of
Series B Preferred Stock may have the right to require Andrea to (i) redeem
all or a portion of the Series B Preferred Stock at a redemption price
equal to the greater of 120% of the stated value plus any accrued dividends
or the Market Price on the day of announcement, or (ii) pay a penalty equal
to 1% of the remaining principal amount outstanding for a period not to
exceed 20 days in any 365 day period, and adjust the Maximum Conversion
Price.
Andrea is actively seeking to obtain additional capital and funding which,
if successful, could involve the triggering of the redemption rights. If
such redemption rights are triggered and Andrea has insufficient funds to
satisfy the redemption, Andrea will be required to obtain a waiver from the
holders of the Series B Preferred Stock. If the Series B Preferred Stock
holders do not consent to such a waiver, Andrea's efforts to obtain
additional funding and capital will be materially adversely affected and
its ability to continue its current operations will be materially adversely
affected.
In the nine-month period ended September 30, 2002, the following number of
shares of Series B Preferred Stock, together with related accrued
dividends, were converted:
Number of Series B Number of
Date of Conversion Preferred Stock Conversion Common
Converted Price Shares
------------------------ ---------------------- ---------------- -------------------
January 11, 2002 40 $0.59 747,657
March 15, 2002 37 $0.51 805,075
May 22, 2002 52 $0.655 886,898
September 17, 2002 34 $0.415 925,850
-- -------
Total 163 3,365,480
=== =========
The original value of the warrants upon issuance was $348,457. As of
September 30, 2002, the Series B Preferred Stock is recorded net of the
unaccreted present value of the warrants of $20,454. Due to the redemption
features described above, the Series B Preferred Stock is presented outside
of shareholders' equity in the accompanying condensed consolidated balance
sheets.
-9-
9. Series C Redeemable Convertible Preferred Stock - On October 10, 2000,
Andrea issued and sold in a private placement $7,500,000 of Series C
Redeemable Convertible Preferred Stock (the "Series C Preferred Stock").
Each of the 750 shares of Series C Preferred Stock (par value $0.01 per
share) has a stated value of $10,000 plus dividends of 5% per annum, which
sum is convertible into Common Stock (par value $0.50 per share) at a
conversion price which was initially equal to $7.0565 or 110% of the
average of the two lowest closing bid prices of the Common Stock during the
5 consecutive trading days immediately preceding the issuance date, for the
first nine months. The conversion price reset every six months thereafter
to the lesser of the then existing conversion price or the average of the
two lowest closing bid prices of the Common Stock during the 5 consecutive
trading days immediately preceding the six-month reset dates or, for the
period beginning on the day two years after the initial issuance and ending
on the maturity of the Series C Preferred Stock, the least of: (i) the then
existing conversion price, (ii) the average of the two lowest closing bid
prices of the Common Stock during the 15 consecutive trading days
immediately preceding such two year date or (iii) the closing bid price on
the day of conversion, subject in each case to certain adjustments. The 5%
dividend amount may, at the option of Andrea, be paid in cash or in shares
of Andrea's Common Stock. The Series C Preferred Stock is convertible or
redeemable at maturity by Andrea, based upon certain circumstances at that
time, and is redeemable by the holder upon certain events. As of September
30, 2002, all of the Series C Preferred Stock is currently convertible into
Andrea's Common Stock, and Andrea has reserved 10,890,411 shares of Common
Stock for issuance upon conversion of the shares of the Series C Preferred
Stock. On October 10, 2002, 81.24% of one share of the Series C Preferred
Stock was converted into 31,916 shares of Common Stock at a conversion
price of $0.28.
In accordance with EITF Issue 00-27, "Application of EITF Issue No. 98-5 to
Certain Convertible Instruments", in the third quarter of 2001, Andrea
recorded a non-cash charge of $7,500,000 to accumulated deficit. This
pronouncement values the economic benefit of the contingent beneficial
conversion feature that the holders of the Series C Preferred Stock
received when the conversion price of the Series C Preferred Stock was
reset from $7.0565 to $1.44 in July 2001. This charge represented the
maximum charge under this standard.
The original value of the transaction costs upon issuance was $175,000. As
of September 30, 2002, the Series C Preferred Stock is recorded net of the
unaccreted present value of the transaction costs of $116,385. Due to the
redemption features discussed above, the Series C Preferred Stock is
presented outside of shareholders' equity in the accompanying condensed
consolidated balance sheet.
Upon the announcement of a major transaction or upon certain triggering
events, as defined, the investors have the right to require Andrea to
redeem all or a portion of the investors' Series C Preferred Stock at a
redemption price equal to the greater of (i) 120% of the Liquidation Value,
as defined, or (ii) the product of the applicable conversion rate in effect
on the date of the major transaction or the triggering event and the
closing bid price of the Common Stock of Andrea on the trading day
immediately preceding the major transaction or triggering event or the
closing bid price of Andrea's Common Stock on the date the holder's
delivery to Andrea of notice. In addition, if Andrea is unable to effect
such redemption (i) interest will accumulate on the value of the Series C
Preferred Stock that Andrea is unable to redeem at the rate of 2% per
month and (ii) the holders of the Series C Preferred Stock are entitled to
void their redemption notices and receive a reset of their applicable
conversion price.
On March 15, 2002, Andrea announced that a triggering event had occurred
and that as a result of the trigger, the investor had the right to require
Andrea to redeem all of the Series C Preferred Stock. The investor has
agreed, in a Waiver Agreement, to waive its right to receive the aggregate
Triggering Event Redemption Price (as defined in the Certificate of
Amendment) (together with any interest and related cash payments or
penalties thereon) the investor was otherwise entitled to as a result of
the existing triggering event until April 7, 2007. In addition, the
investor agreed to waive, until April 7, 2007, its right to receive the
aggregate triggering event Redemption Price, as defined, (together with any
interest and related cash payments or penalties thereon) with respect to
(1) any future triggering event relating to additional registration
failures, provided that the existing registration statements remain
effective and available to the investor for the number of shares covered by
such registration statements as of the date of the waiver (less any future
sales made pursuant to such registration statements), and (2) any future
Triggering Event relating to the delisting of Andrea's Common Stock,
provided that the Common Stock is thereafter authorized for trading on the
OTC Bulletin Board. In addition, the investor agreed to waive, until April
-10-
7, 2007, Andrea's obligation to register any additional shares and Andrea's
obligation to make certain cash payments, if any, for its failure to
register any additional shares. Finally, the investor acknowledged that no
Maturity Date Redemption Price (as defined) was due on October 10, 2002.
The investor's waivers described above shall be null and void immediately,
however, upon the earlier of April 7, 2007, if such Triggering Event
Redemption Price is not paid on April 7, 2007, the first date on which
Andrea fails to comply in any material respect with the terms of the Waiver
Agreement, and related agreements entered into between Andrea and the
investor (the "Agreements"), and the first date on which Andrea is
insolvent.
As consideration for the Waiver Agreement, Andrea agreed to grant the
investor a security interest in all of Andrea's assets; however, the
investor agreed to have its lien on Andrea's assets subordinated to (1) any
lien granted in the future to a non-affiliated third party in connection
with a strategic transaction with a financing component, provided that such
third-party lien relates only to the amount of the financing component of
such transactions, and (2) any lien granted in the future to a bank or
other similar institution pursuant to any asset-based financing
transaction. In addition, the investor agreed to release its lien in
connection with any sale of any assets subject to the investor's lien,
provided the investor receives a lien on the proceeds of the sale. The
investor acknowledged that its lien in any portion of Andrea's intellectual
property is effectively subordinate to the interest of any current or
future licensee of such intellectual property, as any interest the investor
may have in such intellectual property cannot be greater than Andrea's
interest therein.
Given that the waiver granted by the investor does not cover all triggering
events set forth in the Certificate of Amendment and that the Waiver
Agreement will be null and void in the event Andrea fails to comply in any
material respect with the terms of the Agreements, among other things,
there is a risk that the investor could declare a triggering event that
would trigger the redemption rights.
If such redemption rights are triggered and Andrea has insufficient funds
to satisfy the redemption, Andrea will be required to obtain a new waiver
from the holders of the Series C Preferred Stock. If the Series C Preferred
Stockholders do not consent to such a waiver, Andrea's efforts to obtain
additional funding and capital will be materially adversely affected and
its ability to continue its current operations will be materially adversely
affected.
10. In December 2001 and March 2002, Andrea entered into two agreements with
Analog Devices, Inc. ("Analog Devices"). These license agreements relate to
Andrea's high performance noise canceling technologies that enable clear
voice communications and high-performance audio in small home-office and
regular office environments. Under our agreements with Analog Devices, they
paid us a total of $5 million in license fees during the first nine months
of 2002. The unamortized portion of the license agreements, as amended, is
recorded as deferred revenue ($1,666,680 of which is classified as current
and $2,796,634 classified as long-term as of September 30, 2002) in the
accompanying condensed consolidated balance sheets. All license revenues
are being recognized on a straight-line basis over three-years, $3 million
of which started to be recognized during the first quarter of 2002, and $2
million which started in the third quarter of 2002.
11. Commitments And Contingencies-
Leases - Andrea's corporate headquarters is located in Melville, New York,
where Andrea leases space for manufacturing, research and development,
sales and executive offices from an unrelated party. The lease is for
approximately 40,000 square feet and expires in June 2008. For the three
months and nine months ended September 30, 2002, rent expense under this
operating lease was approximately $148,000 and $435,000, respectively. As
of September 30, 2002, the minimum future lease commitments, under this
lease and all other noncancellable operating leases, are as follows:
-11-
2002 (fourth quarter of 2002) $ 192,954
2003 768,195
2004 744,021
2005 657,530
2006 683,832
Thereafter 1,050,375
----------------
Total $ 4,096,907
================
Legal Proceedings - As previously reported in Andrea's Annual Report on
Form 10-K for the year ended December 31, 2001, Andrea was engaged in a
lawsuit filed in the U.S. District Court for the Eastern District of New
York by NCT Group, Inc. ("NCT") and its subsidiary NCT Hearing Products,
Inc. Andrea filed and served an answer to the NCT complaint, denying the
allegations and asserting affirmative defenses and counterclaims. Effective
July 29, 2002, Andrea executed a non-cash settlement of the lawsuit with
NCT which dismissed both NCT's claims and Andrea's counterclaims.
12. Segment Information- Andrea follows the provisions of SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information"
("FAS 131"). Performance measurement and resource allocation for our
reportable segments are based on many factors. The primary financial
measure is income (loss) from operations, which includes the
revenues, costs and expenses directly attributable to each segment,
as well as an allocation of costs and operating expenses, which are
not managed at a segment level, but are shared services such as, for
example, general corporate functions and corresponding costs that are
determined to be related to the products or services sold for each
segment. Income (loss) from operations for our segments excludes any
provision for income taxes. Reportable operating segments are
determined based on Andrea's management approach. The management
approach, as defined by FAS 131, is based on the way that the chief
operating decision-maker organizes the segments within an enterprise
for making operating decisions and assessing performance. While our
results of operations are primarily reviewed on a consolidated basis,
the chief operating decision-maker also manages the enterprise in
three segments: (i) Andrea Anti-Noise Headset Products, (ii) Aircraft
Communications Products, and (iii) Andrea DSP Microphone and Audio
Software Products. The following represents selected consolidated
financial information for Andrea's segments for the three months
ended September 30, 2002, and 2001:
Andrea DSP
Microphone
Andrea Anti- Aircraft and Audio
Noise Headset Communications Software September 30,
Segment Data Products Products Products 2002
--------------------------------- -------------------- -------------------- --------------- ----------------
Net sales $519,254 $347,116 $503,659 $1,370,029
Income (loss) from operations 25,077 (54,685) (1,548,732) (1,578,340)
Depreciation 41,175 23,177 43,631 107,983
Andrea DSP
Microphone
Andrea Anti- Aircraft and Audio
Noise Headset Communications Software September 30,
Segment Data Products Products Products 2001
------------------------------- ------------------- -------------------- --------------- ----------------
Net sales $1,537,844 $1,201,895 $197,460 $2,937,199
Income (loss) from operations (365,430) 250,098 (1,944,785) (2,060,117)
Depreciation 98,612 27,720 50,756 177,088
-12-
The following represents selected consolidated financial information for
Andrea's segments for the nine months ended September 30, 2002, and 2001:
Andrea DSP
Microphone
Andrea Anti- Aircraft and Audio
Noise Headset Communications Software September 30,
Segment Data Products Products Products 2002
------------------------------- -------------------- -------------------- ---------------- ----------------
Net sales $1,772,156 $2,171,450 $996,073 $4,939,679
Income (loss) from operations (350,312) 320,698 (5,006,751) (5,036,365)
Depreciation 132,172 72,103 153,651 357,926
Andrea DSP
Microphone
Andrea Anti- Aircraft and Audio
Noise Headset Communications Software September 30,
Segment Data Products Products Products 2001
------------------------------ --------------------- -------------------- ------------------ ---------------
Net sales $4,030,262 $3,542,012 $598,493 $8,170,767
Income (loss) from operations (1,861,075) 1,137,319 (6,397,287) (7,121,043)
Depreciation 299,982 100,605 165,835 566,422
International revenues are based on the country in which the end-user is
located. For the three months ended September 30, 2002 and 2001, sales and
accounts receivable by geographic area are as follows:
September 30, September 30,
Geographic Data 2002 2001
------------------ ---------------- ---------------
Sales:
United States $ 1,238,137 $ 2,513,906
Europe 60,526 136,783
Other foreign 71,366 286,510
----------------- -----------------
$ 1,370,029 $ 2,937,199
================= =================
Accounts receivable:
United States $ 433,492 $ 1,576,703
Europe 60,871 102,702
Other foreign 64,495 94,396
----------------- -----------------
$ 558,858 $ 1,773,801
================= =================
For the nine months ended September 30, 2002 and 2001, sales by geographic area
are as follows:
September 30, September 30,
Geographic Data 2002 2001
------------------ ------------------ -----------------
Sales:
United States $ 4,223,722 $ 6,549,833
Europe 239,420 506,755
Other foreign 476,537 1,114,179
------------------ -----------------
$ 4,939,679 $ 8,170,767
================== =================
-13-
The assets and liabilities of Andrea are managed centrally and are reported
internally in the same manner as the consolidated financial statements,
thus no additional information is produced for the Chief Executive or
included herein.
13. Concentration of Credit Risk - Sales of Andrea Anti-Noise Headset products
to one customer and its affiliates were approximately 2% and 40% of the
total sales for the 2002 and 2001 third quarter, respectively, and 7% and
29% for the 2002 and 2001 first nine months, respectively. Sales to the
federal government and related subcontractors were approximately 6% and 14%
of the total sales for the 2002 and 2001 third quarter, respectively, and
18% and 20% for the 2002 and 2001 first nine months, respectively.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Overview of Our Products, Technologies and Markets
We design, develop and manufacture state-of-the-art microphone
technologies and products for enhancing speech-based applications software
and communications that require high quality, clear voice signals. Our
technologies eliminate unwanted background noise to enable the optimum
performance of various speech-based and audio applications.
Andrea's products and technologies optimize the performance of
speech-based applications and audio applications in primarily the following
markets:
. personal computing (primarily for speech recognition applications
and voice communication over the Internet);
. audio and video conferencing;
. in-vehicle communications (to enable untethered, hands-free
communication);
. military and commercial aircraft communications systems; and
. call centers.
Our patented and patent-pending digital noise canceling technologies
enable a speaker to be several feet from the microphone, and free the speaker
from having to hold the microphone (we refer to this capability as "far-field"
microphone use). Our DSDA and DFTA microphone products convert sound received
by an array of microphones in a product into digital signals that are then
processed to cancel background noise from the signal to be transmitted. These
two adaptive technologies represent the core technologies within our portfolio
of far-field technologies. In addition to DSDA and DFTA, Andrea has developed
and commercialized several other digital, far-field noise canceling
technologies, including, among others, Andrea EchoStop, a high-quality acoustic
echo canceller, and Andrea PureAudio, a leading technology for canceling
unwanted stationary noises. All of our digital, far-field microphone
technologies are software-based and operate using either a dedicated DSP or a
general purpose processor (for example, the Pentium) and the software, which
may encompass one or all of our far-field noise canceling technologies, can be
applied to improve the performance of a single microphone or multiple
microphones. In addition, our digital, far-field, noise canceling technologies
can be tailored and implemented into various form factors, for example, into
the monitor of a PC, a rear view mirror, or a personal digital assistant, and
can be used individually or combined depending on particular customer
requirements. We are currently targeting our far-field technologies primarily
at 1) the desktop computing market (primarily through our relationship with
Analog Devices, Inc., 2) the market for personal computers designed for use in
automobiles, trucks and buses to control satellite-based navigation systems and
other devices within vehicles, 3) the market for mobile devices, such as a
personal digital assistants and 4) the military and commercial aircraft
communication systems market. Our far-field, digital noise canceling
technologies and related products, together with implementations of other
high-end audio technologies (for example, our Active Noise Reduction
technology), comprise our Andrea Digital Signal Processing (DSP) Microphone and
Audio Software line of business,
-14-
and sales of such technologies and products during the Third Quarter 2002 and
the Third Quarter 2001 approximated 37% and 7%, respectively, of our total net
revenues. We dedicate the majority of our marketing and research and
development resources to this business segment, as we believe that
communication products will increasingly require high performance, untethered
(hands-free and headset-free) microphone technology.
Our headset microphone products help to ensure clear speech in
personal computer and telephone headset applications. Our Active Noise
Cancellation microphone technology uses electronic circuits that distinguish a
speaker's voice from background noise in the speaker's environment and then
cancels the noise from the signal to be transmitted by the microphone. Our
Active Noise Reduction headphone products use electronic circuits that
distinguish the signal coming through an earphone from background noise in the
listener's environment and then reduces the noise heard by the listener.
Together with our lower-end noise canceling headset products and our call
center headset products that we launched during 2002, these products comprise
our Andrea Anti-Noise Headset line of business. During the fourth quarter 2001,
we recorded restructuring charges relating to repositioning our business plan
for our Andrea Anti-Noise Headset Product business segment as part of our
overall effort to drive high margin product sales and become profitable. The
restructuring focused on exiting from an increasingly unprofitable PC
OEM/retail headset channel within Andrea's Anti-Noise Headset product segment.
This was primarily a result of the increasing competitive nature of the PC
headset market, coupled with Andrea's ongoing strategic efforts to focus on
being primarily a supplier of digital, far-field noise canceling microphone
technologies. This PC OEM/retail headset channel primarily purchased our
lower-end, low margin headset products, and required substantial support which,
when combined with decreasing volumes realized during 2001, became
unprofitable. During the Third Quarter 2002 and the Third Quarter 2001 our
Andrea Anti-Noise Headset Product segment approximated 38% and 52%,
respectively, of our total net revenues.
For several decades prior to our entry into the voice-activated
computing market in the 1990's, our primary business was selling intercom
systems for military aircraft communications. During 2000 and 2001, we dedicated
development efforts aimed at increasing the manufacturability of certain
intercom products as well as to accommodate future implementation of our
digital, far field noise canceling technologies. We refer to this line of
business as our Aircraft Communications line of business, and sales of such
products during the Third Quarter 2002 and Third Quarter 2001 approximated 25%
and 41%, respectively, of our total net revenues.
We are incorporated under the laws of the State of New York and have
been engaged in the electronic communications industry since 1934.
The interim results of operations of Andrea presented in this report
are not necessarily indicative of the actual sales or results of operations to
be realized for the full year.
Our Critical Accounting Policies
Our condensed consolidated financial statements and the notes to our
condensed consolidated financial statements contain information that is
pertinent to management's discussion and analysis. The preparation of financial
statements in conformity with accounting principles generally accepted in the
United States requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosures of contingent
assets and liabilities. In addition to the recording and presentation of our
convertible preferred stock, we believe that the following are some of the more
critical judgment areas in the application of our accounting policies that
affect our financial condition and results of operations. We have discussed
the application of these critical accounting policies with our Audit Committee.
Revenue Recognition - Non license-related revenue is recognized upon
shipment. Andrea reports such sales levels on a net sales basis, with net sales
being computed by deducting from gross sales the amount of actual sales returns
and the amount of reserves established for anticipated returns. With respect to
license revenues, Andrea recognizes revenue in accordance with Statement of
Position ("SOP") 97-2, "Software Revenue Recognition," as amended, and Staff
Accounting Bulletin ("SAB") No. 101 "Revenue Recognition in Financial
Statement." In addition, fee-based services are performed on a time-and
material basis or on a fixed-fee basis, under separate service arrangements. We
recognize license-related revenues primarily based on an evaluation of the
terms of individual
-15-
contracts (see Note 10 of our condensed consolidated financial statements, for
example) considering, specifically, whether 1) significant obligations remain,
2) evidence of an arrangement exists, 3) the fees are fixed or determinable,
and 4) collectibility is reasonably assured.
Accounts Receivable - We are required to estimate the collectibility
of our trade receivables. Judgment is required in assessing the realization of
these receivables, including the current creditworthiness of each customer and
related aging of the past due balances. We evaluate specific accounts when we
become aware of a situation where a customer may not be able to meet its
financial obligations due to a deterioration of its financial viability, credit
ratings or bankruptcy. The reserve requirements are based on the best facts
available to us and reevaluated and adjusted as additional information is
received. Our reserves also are determined by using percentages applied to
certain aged receivable categories. At September 30, 2002 our allowance for
doubtful accounts was approximately $71 thousand.
Inventory - We are required to state our inventories at the lower of
cost or market. In assessing the ultimate realization of inventories, we are
required to make considerable judgments as to future demand requirements and
compare that with our current inventory levels. Our reserve requirements
generally increase as our projected demand requirements decrease due to market
conditions, technological and product life cycle changes as well as longer than
previously expected usage periods. We experienced significant inventory charges
in 2001 due to our change in strategic direction resulting, in part, from
declining market conditions. In connection with our restructuring effort, we
incurred inventory charges of approximately $2.6 million during fiscal 2001.
Inventories of approximately $3.6 million at September 30, 2002, are net of
reserves of approximately $780 thousand. It is possible that additional charges
to inventory may occur in the future if there is further declines in market
conditions, or if additional restructuring actions are taken.
Statement of Financial Accounting Standards, or SFAS, No. 144
"Accounting for the Impairment or Disposal of Long-Lived Assets" ("FAS 144")
supersedes SFAS No. 121 "Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to Be Disposed Of" ("FAS 121") and Accounting Principles
Board Opinion No. 30 "Reporting Results of Operations - Reporting the Effects
of Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions". FAS 144 retains the
fundamental provisions of FAS 121 for recognition and measurement of
impairment, but amends the accounting and reporting standards for segments of a
business to be disposed of. The provisions of this statement require management
judgments regarding the future operating and disposition plans for marginally
performing assets, and estimates of expected realizable values for assets to be
sold. The impact of adopting this standard was not material to the financial
statements.
Under SFAS No. 141, "Business Combinations", and SFAS No. 142,
"Goodwill and Other Intangible Assets" ("FAS 142") requires all business
combinations initiated after June 30, 2001 to be accounted for using the
purchase method. Under FAS 142, goodwill and intangible assets with indefinite
lives are no longer amortized but are reviewed annually (or more frequently if
impairment indicators arise) for impairment. Separable intangible assets that
are not deemed to have indefinite lives will continue to be amortized over
their useful lives (but with no maximum life). Andrea has adopted this standard
effective January 1, 2002, and, accordingly, those intangible assets that
continue to be classified as goodwill or as other intangibles with indefinite
lives are no longer amortized. The adoption of this pronouncement, to date,
resulted in a $846 thousand decrease in amortization expense for the first nine
months of 2002 over the same period in the prior year. Other intangible assets,
which do not have indefinite lives, continue to be amortized. Andrea has made
an assessment of its intangible assets to identify goodwill separately from
other identifiable intangibles. Andrea determined no adjustment was necessary,
although the intangible asset "Workforce in Place" is reclassified as goodwill
pursuant to FAS 142. We performed initial transitional impairment testing of
goodwill and intangible assets during the first quarter of fiscal 2002. That
effort, and preliminary assessments of our identifiable intangible assets,
indicated that little or no adjustment would be required upon adoption of this
pronouncement. The impairment testing is performed in two steps: (step one) the
determination of impairment, based upon the fair value of a reporting unit as
compared to its carrying value, and (step two) if there is an impairment, this
step measures the amount of impairment loss by comparing the implied fair value
of goodwill with the carrying amount of that goodwill. FAS 142 required that an
entity complete step one of the transitional goodwill impairment test within six
months of adoption, and that if there is an indication that the carrying amount
of the net assets of a reporting unit exceeds its fair value, step two must be
completed by the end of the fiscal year. In the second quarter of fiscal 2002,
we determined that the carrying value of our Andrea DSP Microphone and Audio
segment might be
-16-
greater that its fair value. In order to finalize our determination of fair
value, we will require the assistance of a third-party valuation firm. We
anticipate completing this analysis during the fourth quarter of 2002.
Deferred Tax Assets - We currently have significant deferred tax
assets. SFAS No. 109, "Accounting for Income Taxes"("FAS 109"), requires a
valuation allowance be established when it is more likely than not that all or
a portion of deferred tax assets will not be realized. Furthermore, FAS 109
provides that it is difficult to conclude that a valuation allowance is not
needed when there is negative evidence such as cumulative losses in recent
years. Therefore, cumulative losses weigh heavily in the overall assessment.
Accordingly, and after considering recent changes in existing positive evidence,
we recorded a full valuation allowance against our deferred tax assets during
the third quarter ended September 30, 2002, recognizing a $1.8 million, non-cash
charge. In addition, we expect to provide a full valuation allowance on future
tax benefits until we can sustain a level of profitability that demonstrates our
ability to utilize the assets, or other significant positive evidence arises
that suggests our ability to utilize such assets. The future realization of a
portion of our reserved deferred tax assets related to tax benefits associated
with the exercise of stock options, if and when realized, will not result in a
tax benefit in the consolidated statement of operations, but rather will result
in an increase in additional paid in capital. We will continue to re-assess our
reserves on deferred income tax assets in future periods on a quarterly basis.
During 2001, we recorded significant charges in connection with a
restructuring program. The related reserves established in that restructuring
reflect various estimates, primarily those pertaining to inventory and
settlements of contractual obligations. We reassess the reserve requirements
under our restructuring program at the end of each reporting period. Actual
experience may be different from our estimates used and, accordingly,
additional charges related to our restructuring may be incurred.
We are subject to proceedings, lawsuits and other claims, including
proceedings under laws and government regulations related to securities,
environmental, labor, product and other matters. We are required to assess the
likelihood of any adverse judgments or outcomes to these matters, as well as
potential ranges of probable losses. A determination of the amount of reserves
required, if any, for these contingencies is based on an analysis of each
individual issue with the assistance of legal counsel. The amount of any
reserves may change in the future due to new developments in each matter.
The impact of changes in the estimates and judgments pertaining to
revenue recognition, receivables and inventories is directly reflected in our
segments' income (loss) from operations. Although any charges related to our
deferred tax assets are not reflected in our segment results, the long-term
forecasts supporting the realization of those assets and changes in them are
significantly affected by the actual and expected results of each segment.
Cautionary Statement Regarding Forward-Looking Statements
Certain information contained in this Management's Discussion and Analysis of
Financial Condition and Results of Operations for the three months ended
September 30, 2002 (the "2002 Third Quarter") compared to the three months
ended September 30, 2001 (the "2001 Third Quarter") and for the nine months
ended September 30, 2002 (the "2002 First Nine Months") compared to the nine
months ended September 30, 2001 (the "2001 First Nine Months") are
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. The words "anticipates," "believes," "estimates," "expects,"
"intends," "plans," "seeks," variations of such words, and similar expressions
are intended to identify forward-looking statements. We have based these
forward-looking statements on our current expectations, estimates and
projections about our business and industry, our beliefs and certain
assumptions made by our management. Investors are cautioned that matters
subject to forward-looking statements involve risks and uncertainties including
economic, competitive, governmental, technological and other factors that may
affect our business and prospects. These statements are not guarantees of
future performance and are subject to certain risks, uncertainties and
assumptions that are difficult to predict. In order to obtain the benefits of
these "safe harbor" provisions for any such forward-looking statements, we wish
to caution investors and prospective investors about the following significant
factors, which, among others, have in some cases affected our actual results
and are in the future likely to affect our actual results and
-17-
could cause them to differ materially from those expressed in any such
forward-looking statements. These factors include the following:
Because our operating results are subject to significant fluctuation,
period-to-period comparisons of our operating results may not necessarily be
meaningful and you should not rely on them as indications of our future
performance.
Our results of operations have historically been and are subject to
continued substantial annual and quarterly fluctuations. The causes of these
fluctuations include, among other things:
- the volume of sales of our products;
- the cost of development of our products;
- the mix of products we sell;
- the mix of distribution channels we use;
- the timing of our new product releases and those of our
competitors;
- fluctuations in the computer and communications hardware and
software marketplace;
- fluctuations in Department of Defense spending/funding; and
- general economic conditions.
We cannot assure that the level of sales and gross profit, if any,
that we achieve in any particular period will not be significantly lower than in
other periods. Our revenues for the 2002 Third Quarter, were approximately $1.4
million compared to approximately $2.9 million in the 2001 Third Quarter. Net
loss applicable to common shareholders for the 2002 Third Quarter was
approximately $3.5 million, or $0.18 per share on a diluted basis, versus net
loss applicable to common shareholders of approximately $9.7 million, or $0.64
per share on a diluted basis, for the 2001 Third Quarter. In the 2001 Third
Quarter there was a special, one-time, non-cash accumulated deficit charge of
$7.5 million. Our revenues for the 2002 First Nine Months were approximately
$4.9 million compared to approximately $8.2 million in the 2001 First Nine
Months. For the 2002 First Nine Months, we had a net loss attributable to common
shareholders of approximately $7.2 million, or $0.39 per share on a diluted
basis compared to a net loss attributable to common shareholders of $14.9
million, or $1.00 per share on a diluted basis in the 2001 First Nine Months.
Because of increased competition and a shift in business strategy, operating
results are subject to significant fluctuation, period-to-period comparisons of
our operating results may not necessarily be meaningful and you should not rely
on them as indications of our future performance.
In response to significant declines in our sales of Andrea Anti-Noise
Headset Products as a result of increased competition with respect to a
specific customer channel, as well as our overall shift in strategic direction
to primarily deliver digital, far-field microphone solutions, during the fourth
quarter of 2001, we recorded restructuring charges of approximately $4.5
million. This restructuring is expected to result in further decreases in sales,
on a comparable period basis, during the remainder of fiscal 2002. We are
examining additional opportunities for cost-reduction, production efficiencies
and further diversification of our business. But to remain competitive, we
intend to continue incurring substantial research and development, marketing and
general and administrative expenses. We may not be able to easily and quickly
reduce these expenses if our sales revenue continues to fall below our
expectations and, therefore, our net income or loss may be disproportionately
affected by any further reduction in sales revenue. Furthermore, amortization of
our intangible assets has had, and will continue to have, a negative, non-cash
impact on our results of operations (other than goodwill). As a result of these
factors, we expect to continue to accumulate losses and the market price of our
common stock could decline.
-18-
If we fail to obtain additional capital or maintain access to funds sufficient
to meet our operating needs, we may be required to significantly reduce, sell,
or refocus our operations and our business, results of operations and financial
condition could be materially and adversely effected, and could result in our
delisting from the American Stock Exchange or inability to continue operations.
In recent years, we have sustained significant operating losses. We
have been unable to generate sufficient cash flow from operations to meet our
operating needs and, correspondingly, from time to time during the past several
years, we have raised additional capital from external sources. We expect to
continue to have to raise additional capital from external sources. These
sources may include private or public financings through the issuance of debt,
convertible debt or equity, or collaborative arrangements. Additional capital
and funding may not be available on favorable terms, if at all. Additionally,
we may only be able to obtain additional capital or funds through arrangements
that require us to relinquish rights to our products, technologies or potential
markets, in whole or in part, or result in the sale of Andrea. Additionally,
Andrea's funding and capital raising efforts could trigger change in control
payments due to certain executive officers of Andrea under their employment
contracts, or redemptions of Andrea's Series B and Series C Redeemable
Convertible Preferred Stock. Given our current financial condition and market
conditions, it may be difficult to attract additional financings on favorable
terms, or at all, as compared to prior periods. We have revised our business
strategies to reduce our expenses and capital expenditures, but we still do not
generate sufficient cash flow from operations to meet our operating needs and
we cannot assure you that we will be successful in obtaining financings or
access to additional sources of funding in amounts necessary to continue our
operations. Failure to maintain sufficient access to funding may also result in
our delisting from the American Stock Exchange.
We face the risk that Andrea could be required to redeem the Series B
Redeemable Convertible Preferred Stock.
On June 22, 1999, Andrea issued and sold in a private placement
$7,500,000 of Series B Redeemable Convertible Preferred Stock (the "Series B
Preferred Stock"), and a warrant covering 75,000 shares of Andrea's Common
Stock. Each of the 750 shares of Series B Preferred Stock (par value $0.01 per
share) has a stated value of $10,000 plus dividends of 4% per annum, which sum
is convertible into Common Stock (par value $0.50 per share) at a conversion
price equal to the lower of $8.775 (the "Maximum Conversion Price") and the
average of the two lowest closing bid prices of the Common Stock during the 15
consecutive trading days immediately preceding a conversion date (the "Market
Price"), subject to certain adjustments, including anti-dilution. The 4%
dividends may, at the option of Andrea, be paid in cash. The warrant has an
exercise price of $8.775 per share and expires on June 18, 2004.
Upon the announcement of a major transaction, as defined in Andrea's
Certificate of Incorporation, the investors have the right to require Andrea
to redeem all or a portion of the investor's Preferred Shares at a redemption
price equal to the greater of 120% of the stated value plus any accrued
dividends or the Market Price on the day of announcement. In addition, upon the
occurrence of certain triggering events, as defined, and depending on Andrea's
control over such events, the investors may have the right to require Andrea to
i) redeem all or a portion of the Preferred Shares at a redemption price equal
to the greater of 120% of the stated value plus any accrued dividends or the
Market Price on the day of announcement, or ii) pay a penalty equal to 1% of
the remaining principal amount outstanding for a period not to exceed 20 days
in any 365 day period, and adjust the Maximum Conversion Price, as defined. If
we are forced to redeem the Series B Preferred Stock, we would not have
sufficient cash to satisfy the cost of redemption.
We face the risk that Andrea could be required to redeem the Series C
Redeemable Convertible Preferred Stock.
On October 10, 2000, Andrea issued and sold in a private placement
$7,500,000 of Series C Redeemable Convertible Preferred Stock (the "Series C
Preferred Stock"). The Series C Preferred Stock is convertible or redeemable at
maturity by Andrea, based upon certain circumstances at that time, and is
redeemable by the holder upon certain events, including the announcement of a
major transaction, as defined in the Certificate of Amendment, or upon certain
other triggering events. In the first quarter of 2002, a triggering event
occurred and we obtained a waiver from the Series C Preferred Stock holders of
their redemption right. A final agreement regarding the waiver arrangement was
reached on March 28, 2002. The waiver related to the existing triggering event,
as well as certain possible future triggering events, however, the waiver will
be null and void upon the earlier of April 7, 2007, the first date on which
-19-
Andrea fails to comply in any material respect with the terms of the waiver and
related documents, and the first date on which Andrea is insolvent.
As consideration for the Series C Preferred Stock holder's agreement
to waive its current and, in certain circumstances, any future right to receive
the aggregate Triggering Event Redemption Price for the Series C Preferred
Stock, Andrea agreed to grant a security interest in all of Andrea's assets.
However, the Series C Preferred Stock holder agreed to have its lien on
Andrea's assets subordinated to (1) any lien granted in the future to a
non-affiliated third party in connection with a strategic transaction with a
financing component, provided that such third-party lien relates only to the
amount of the financing component of such transactions, and (2) any lien
granted in the future to a bank or other similar institution pursuant to any
asset based financing transaction. In addition, the Series C Preferred Stock
holder agreed to release its lien in connection with any sale of any assets
subject to its lien, provided they receive a lien on the proceeds of the sale.
The Series C Preferred Stock holder acknowledged that its lien in any portion
of Andrea's intellectual property is effectively subordinate to the interest of
any current or future licensee of such intellectual property, as any interest
the investor may have in such intellectual property cannot be greater than
Andrea's interest therein.
Given that the waiver granted by the Series C Preferred Stock holder
does not cover all triggering events that could require the redemption of the
Series C Preferred Stock, and that the waiver will be null and void in the
event Andrea fails to comply in any material respect with the terms of the
agreements relating to the waiver, among other things, there is a risk that the
Series C Preferred Stock holder could declare a triggering event that would
trigger the redemption rights. If such redemption rights are triggered and
Andrea has insufficient funds to satisfy the redemption, which would be the
case if a redemption occurred at this time, Andrea will be required to obtain a
new waiver from the holder of the Series C Preferred Stock. If no such waiver
can be obtained, Andrea's ability to continue its current operations will be
materially adversely affected and if Andrea has insufficient funds to redeem
the Series C Preferred Stock, it could result in Andrea's inability to meet its
operating obligations and, consequently, delisting from the American Stock
Exchange.
Shares Eligible For Future Sale May Have An Adverse Effect On Market Price; You
May Experience Substantial Dilution.
Sales of a substantial number of shares of our common stock in the
public market could have the effect of depressing the prevailing market price
of our common stock. Of the 70,000,000 shares of common stock presently
authorized, 20,043,864 were outstanding as of November 12, 2002. The number of
shares outstanding does not include 6,632,375 shares of our common stock
reserved for issuance upon exercise of outstanding awards granted under our
1991 Performance Equity Plan and 1998 Stock Plan and shares of our common
stock reserved for further awards under the 1998 Stock Plan; nor does it
include 14,410,947 shares of common stock reserved for issuance upon conversion
of the Series B and Series C convertible preferred stock and exercise of
related warrants.
Conversions of our Series B Preferred Stock and Series C Preferred Stock may
result in substantial dilution to other holders of our common stock.
As of November 12, 2002, we had 86 shares of Series B Preferred Stock
and 749.19 shares of Series C Preferred Stock outstanding. Both the Series B
Preferred Stock and the Series C Preferred Stock are convertible into shares of
common stock, subject to ownership limitations that prohibit the holders of the
preferred stock from owning more than 4.99% of the outstanding shares of common
stock at the time of conversion or 9.99% over the sixty day period prior to the
conversion. These restrictions do not prevent purchasers from converting and
selling some of their holdings and then later converting the rest of their
holdings.
-20-
As the price of our common stock decreases, the number of shares of common
stock issuable upon conversion of our Series B Preferred Stock and Series C
Preferred Stock increases.
The variable conversion price of the Series B Preferred Stock and the
Series C Preferred Stock are functions of the market price of our common stock.
If the price of our common stock decreases over time, the number of shares of
common stock issuable upon conversion of each series will increase.
The following table illustrates the varying amounts of shares of
common stock issuable upon conversion of all 86 shares of Series B Preferred
Stock at the indicated conversion prices (without regard to any limitations on
conversion) and assuming that the 4% dividend is paid in cash:
Number of Shares of Common
Stock Issuable Upon Percentage of Outstanding
Conversion Price Conversion(/1/) Common Stock(/2/)
--------------------- ----------------------------- --------------------------
$0.25 3,440,000 15%
$0.30 2,866,667 13%
$0.35 2,457,143 11%
$0.40 2,150,000 10%
$0.45 1,911,111 9%
$0.50 1,720,000 8%
(1) The holder of Series B Preferred Stock is prohibited from converting its
holdings of the Series B Preferred Stock if after giving effect to such
conversion it would beneficially own in excess of 4.99% or, over the sixty
day period prior to the conversion, 9.99% of the outstanding shares of our
Common Stock following such conversion. The numbers in this column do not
reflect these limitations.
(2) Based on 20,043,864 shares of common stock outstanding as of November 12,
2002.
The following table illustrates, as of any reset date and assuming the
conversion price indicated is lower than the then applicable conversion price on
that date, the varying amounts of shares of common stock that would be issuable
upon conversion of all outstanding 749.19 shares of Series C Preferred Stock at
the indicated conversion prices (without regard to any limitations on
conversion) and assuming that the 5% dividend amount is paid in cash:
Number of Shares of Common
Stock Issuable Upon Percentage of Outstanding
Conversion Price Conversion(/1/) Common Stock(/2/)
--------------------- ----------------------------- --------------------------
$0.25 29,967,504 60%
$0.26 28,814,907 59%
$0.27 27,747,689 58%
$0.28 26,756,700 57%
$0.29 25,834,055 56%
$0.30 24,972,920 55%
(1) The holder of Series C Preferred Stock is prohibited from converting its
holdings of the Series C Preferred Stock if after giving effect to such
conversion it would beneficially own in excess of 4.99% or, over the sixty
day period prior to the conversion, 9.99% of the outstanding shares of our
common stock following such conversion. The numbers in this column do not
reflect these limitations.
(2) Based on 20,043,864 shares of common stock outstanding as of November 12,
2002.
The maximum conversion price of the Series C Preferred Stock is $0.30.
The following table illustrates the varying amounts of shares of Common
Stock that would be issuable upon conversion of all 86 outstanding shares of
Series B Preferred stock and all 749.19 outstanding shares of Series C Preferred
Stock at the indicated conversion prices (without regard to any limitations on
conversion) and assuming that all additional amounts are paid in cash:
Number of Shares of Common
Stock Issuable Upon Percentage of Outstanding
Conversion Price Conversion(/1/)(/2/)(/3/) Common Stock(/4/)
--------------------- ----------------------------- --------------------------
$0.25 33,407,504 63%
-21-
$0.26 32,122,600 62%
$0.27 30,932,874 61%
$0.28 29,828,128 60%
$0.29 28,799,572 59%
$0.30 27,839,586 58%
$0.35 27,430,063 58%
$0.40 27,122,920 58%
$0.45 26,884,031 57%
$0.50 26,692,920 57%
(1) The calculation assumes that the conversion price of the Series B and
Series C Preferred Stock are the same at the assumed conversion prices of
$0.25, $0.26, $0.27, $0.28, $0.29 and $0.30.
(2) The calculation assumes that for any conversion of the Series B Preferred
Stock when the prevailing market price is above $ 0.30, the Series C
Preferred Stock would still be converted at its maximum conversion price of
$ 0.30.
(3) The holders of Series B and Series C Preferred Stock is prohibited from
converting the Series C or Series B Preferred Stock, or from exercising the
warrants issued in connection with the Series B Preferred Stock, if after
giving effect to such conversion it would beneficially own in excess of
4.99% or, over the sixty day period prior to the conversion, 9.99% of the
outstanding shares of our Common Stock following such conversion.
(4) Based on 20,043,864 shares of common stock outstanding as of November 12,
2002.
The conversion rate at November 12, 2002 of the Series B Preferred
Stock and the Series C Preferred Stock was $0.28. If all of the outstanding
shares of the Series B Preferred Stock and the Series C Preferred Stock were
converted on November 12, 2002, we would have issued a total of 33,043,141
shares of common stock. If the market price of our common stock continues to
decline, the conversion rates would increase, resulting in our issuing a greater
number of shares upon conversion of the Series B Preferred Stock and the Series
C Preferred Stock
Sales of an increased number of shares of common stock issued upon conversion of
the Series B Preferred Stock and the Series C Preferred Stock resulting from a
declining market price for our common stock can cause the market price of our
common stock to decline further.
Disregarding the manner in which the shares of common stock issued upon
conversion of the Series B Preferred Stock and the Series C Preferred Stock are
sold as well as any other factors such as reactions to our operating results and
general market conditions which may be operative in the market at such time, an
increase in the number of shares of common stock eligible for sale can cause a
decrease in the market price of our common stock. This decrease could reduce the
conversion prices of the Series B Preferred Stock and the Series C Preferred
Stock, leading to a further increase in the number of shares of common stock
issuable upon future conversions and a further decline in our stock price.
Short sales of our common stock may be attracted by or accompany conversions of
Series B Preferred Stock and Series C Preferred Stock, which sales may cause
downward pressure upon the price of our common stock.
Short sales of our common stock may be attracted by or accompany the
sale of converted common stock, which in the aggregate could cause downward
pressure upon the price of the common stock, regardless of our operating
results, thereby attracting additional short sales of the common stock. The
result of conversions of the Series B and Series C Preferred Stock at declining
conversion prices would be increasing and substantial dilution of the interests
of the other holders of common stock.
If we fail to market and commercialize our Andrea DSP Microphone and Audio
Software products, or continue to develop Andrea Anti-Noise Headset and Andrea
Aircraft Communications products, our revenues may not increase at a high enough
rate to improve our results of operations or may not increase at all.
Our business, results of operations and financial condition depend on
successful commercialization of our Andrea DSP Microphone and Audio Software
products and technologies. We introduced our first Andrea Digital
-22-
Super Directional Array products in 1998 and we are initially targeting these
and our other Andrea DSP Microphone and Audio Software products at the desktop
computer market, the market for in-vehicle computing and the audio and video
conferencing markets, among others. Since we began sales of our initial Andrea
Anti-Noise Headset products in 1995, we have developed and introduced new
products in this line. However, in the fourth quarter of 2001, we also
restructured this business segment which resulted in a significant reduction in
revenues. In addition, we recently developed and introduced a new aircraft
intercom system aimed at increasing overall manufacturability as well as to
enable future implementations of our Andrea DSP Microphone and Audio Software
technologies. The success of these products is subject to the risks frequently
encountered by companies in an early stage of product commercialization,
particularly companies in the computing and communications industries.
If we are unable to obtain market acceptance of Andrea DSP Microphone and Audio
Software products and technologies or if market acceptance of these products and
technologies occurs at a slow rate, then our business, results of operations and
financial condition will be materially and adversely affected.
We, and our competitors, are focused on developing and commercializing
products and technologies that enhance the use of voice, particularly in noisy
environments, for a broad range of computer and communications applications.
These products and technologies have been rapidly evolving and the number of our
competitors has grown, but the markets for these products and technologies are
subject to a high level of uncertainty and have been developing slowly. We,
alone or together with our industry, may be unsuccessful in obtaining market
acceptance of these products and technologies.
If we fail to develop and successfully introduce new products and technologies
in response to competition and evolving technology, we may not be able to
attract new customers or retain current customers.
The markets in which we sell our Andrea Anti-Noise Headset, Andrea DSP
Microphone and Audio Software and our Aircraft Communication products are highly
competitive. We may not compete successfully with any of our competitors. Most
of our current and potential competitors have significantly greater financial,
technology development, marketing, technical support and other resources than we
do. Consequently, these competitors may be able to respond more quickly to new
or emerging technologies and changes in customer requirements, or devote greater
resources to the development, marketing, and sale of their products than we can.
One or more of these competitors may independently develop technologies that are
substantially equivalent or superior to our technology. The introduction of
products incorporating new technologies could render our products obsolete and
unmarketable and could exert price pressures on existing products.
We are currently engaged in the development of digital signal
processing products and technologies for the voice, speech and natural language
interface markets. We may not succeed in developing these new digital signal
processing products and technologies, and any of these new digital signal
processing products or technologies may not gain market acceptance.
In the markets for Aircraft Communications Products, we often compete
with major defense electronics corporations as well as smaller manufacturing
firms, which specialize in supplying products and technologies for specific
military initiatives.
Further, the markets for our products and technologies are
characterized by evolving industry and governmental standards and specifications
that may require us to devote substantial time and expense to adapt our products
and technologies. For example, our Aircraft Communications business segment is
subject to the Federal Aviation Administration (FAA). We may not successfully
anticipate and adapt our products and technologies in a cost effective and
timely manner to changes in technology and industry standards or to
introductions of new products and technologies by others that render our then
existing products and technologies obsolete.
-23-
If our marketing collaborators do not effectively market their products with
which our products are included or incorporated, our sales growth could be
adversely affected.
We have entered into collaborative and distribution arrangements with
software publishers and computer hardware manufacturers relating to the
marketing and sale of Andrea DSP Microphone and Audio Software products through
inclusion or incorporation with the products of our collaborators. Our success
will therefore be dependent to a substantial degree on the efforts of these
collaborators to market their products with which our products are included or
incorporated. Our collaborators may not successfully market these products. In
addition, our collaborators generally are not contractually obligated to any
minimum level of sales of our products or technologies, and we have no control
over their marketing efforts. Furthermore, our collaborators may develop their
own microphone, earphone or headset products that may replace our products or
technologies or to which they may give higher priority.
If we fail to maintain sales of Aircraft Communication Products to the U.S.
Government, we would experience a material adverse effect on our business,
results of operations and financial condition.
We experienced a 71% decline in sales of Aircraft Communication
products in the 2002 Third Quarter when compared to the comparable prior year
period. We are dependent on product sales to the U.S. Government. During the
Third Quarter 2002, the U.S. Government accounted for 6% of our net sales. The
U.S. Government is not obligated to continue to purchase these products and is
free to purchase similar products from our competitors. Our failure to maintain
sales of Aircraft Communication Products to the U.S. Government would have a
material adverse effect on our business, results of operations and financial
condition.
Shortages of, or interruptions in, the supply of more specialized components for
our products could have a material adverse effect on our sales of these
products.
We conduct assembly operations at our facilities in New York and Israel
and through subcontractors (primarily in the Far East) using purchased
components. Some specialized components for the Andrea Anti-Noise Headset,
Aircraft Communications, and Andrea DSP Microphone products, such as
microphones, digital signal processing boards and specialty switches, are
available from a limited number of suppliers (in some cases foreign) and subject
to long lead times. We may not be able to continue to obtain sufficient supplies
of these more specialized components, particularly if the sales of our products
increase substantially or market demand for these components otherwise
increases.
If our subcontractor fails to meet our production and shipment schedules, our
business, results of operations and financial condition would be materially and
adversely affected.
We conduct assembly operations at our facilities in New York and Israel
and through subcontracting. During initial production runs of Andrea Anti-Noise
Headset and Andrea DSP Microphone products, we perform assembly operations at
our New York facility from purchased components. As sales of any particular
product increase, assembly operations are primarily transferred to a
subcontractor in Asia.
Our ability to compete may be limited by our failure to adequately protect our
intellectual property or by patents granted to third parties.
We rely on a combination of patents, patent applications, trade
secrets, copyrights, trademarks, nondisclosure agreements with our employees,
licensees and potential licensees, limited access to and dissemination of our
proprietary information, and other measures to protect our intellectual property
and proprietary rights. However, the steps that we have taken to protect our
intellectual property may not prevent its misappropriation or circumvention. In
addition, numerous patents have been granted to other parties in the fields of
noise cancellation, noise reduction, computer voice recognition, digital signal
processing and related subject matter. We expect that products in these fields
will increasingly be subject to claims under these patents as the numbers of
products and competitors in these fields grow and the functionality of products
overlap. Claims of this type could have an adverse effect on our ability to
manufacture and market our products or to develop new products and technologies,
because the parties holding these patents may refuse to grant licenses or only
grant licenses with onerous royalty requirements. Moreover, the laws of
-24-
other countries do not protect our proprietary rights to our technologies to
the same extent as the laws of the United States.
An unfavorable ruling in any current litigation proceeding or future proceeding
may adversely affect our business, results of operations and financial
condition.
From time to time we are subject to litigation incidental to our
business. For example, we are subject to the risk of adverse claims,
interference proceedings before the U.S. Patent and Trademark Office,
oppositions to patent applications outside the United States, and litigation
alleging infringement of the proprietary rights of others. Litigation to
establish the validity of patents, to assert infringement claims against others,
and to defend against patent infringement claims can be expensive and
time-consuming, even if the outcome is in our favor.
Changes in economic and political conditions outside the United States could
adversely affect our business, results of operations and financial condition.
We generate sales to regions outside the United States, particularly in
Europe and areas in the Americas and Asia. For the three months and nine months
ended September 30, 2002, sales to customers outside the United States accounted
for approximately 10% and 15%, respectively of our net sales. International
sales and operations are subject to a number of risks, including:
. trade restrictions in the form of license requirements;
. restrictions on exports and imports and other government controls;
. changes in tariffs and taxes;
. difficulties in staffing and managing international operations;
. problems in establishing and managing distributor relationships;
. general economic conditions; and
. political and economic instability or conflict.
To date, we have invoiced our international sales in U.S. dollars, and
have not engaged in any foreign exchange or hedging transactions. We may not
continue to be able to invoice all of our sales in U.S. dollars and to avoid
engaging in foreign exchange or hedging transactions. If we are required to
invoice any material amount of international sales in non-U.S. currencies,
fluctuations in the value of non-U.S. currencies relative to the U.S. dollar
may adversely affect our business, results of operations and financial
condition or require us to incur hedging costs to counter such fluctuations.
We face risk from operating in Israel
Our principal research and development facility is located in the State
of Israel and, as a result, certain of our key research and development
employees are located in Israel. Although substantially all of our sales
currently are being made to customers outside Israel, we are nonetheless
directly influenced by the political, economic and military conditions affecting
Israel. Since the establishment of the State of Israel in 1948, a state of
hostility has existed, varying in degree and intensity, between Israel and Arab
countries. Although Israel has entered into various agreements with certain Arab
countries and the Palestinian Authority, and various declarations have been
signed in connection with efforts to resolve some of the economic and political
problems in the Middle East, we cannot predict whether or in what manner these
problems will be resolved.
-25-
If we are unable to attract and retain the necessary managerial, technical and
other personnel necessary for our business, then our business, results of
operations and financial condition will be harmed.
Our performance is substantially dependent on the performance of our
executive officers and key employees. The loss of the services of any of these
executive officers or key employees could have a material adverse effect on our
business, results of operations and financial condition. Our future success
depends on our continuing ability to attract and retain highly qualified
managers and technical personnel. As of the date of this filing, Andrea is in
the process of negotiating contracts with each of Douglas J. Andrea, Chairman of
the Board of Directors, Christopher P. Sauvigne, President and Chief Executive
Officer, Joseph Marash, Chief Technology Officer and Richard A. Maue, Chief
Financial Officer. Competition for qualified personnel is intense and we may not
be able to attract, assimilate or retain qualified personnel in the future.
Results Of Operations
Quarter Ended September 30, 2002 Compared to the Quarter Ended
September 30, 2001 and Nine Months Ended September 30, 2002 Compared to
the Nine Months Ended September 30, 2001.
Sales
Sales for the 2002 Third Quarter were $1,370,029, a decrease of 53%
from sales of $2,937,199 for the 2001 Third Quarter. Sales for the 2002 First
Nine Months were $4,939,679, a decrease of 40% from the 2001 First Nine Months
sales of $8,170,767. The decrease in sales for the 2002 Third Quarter reflects
an approximate 66% decrease in sales of Andrea Anti-Noise Headset Products to
$519,254, or 38% of total sales, an approximate 71% decrease of Aircraft
Communications Product to $347,116, or 25% of total sales, both partially offset
by an approximate 155% increase in sales of our Andrea DSP Microphone and Audio
Software Products, to $503,659 , or 37% of total sales. The decrease in sales
for the 2002 First Nine Months reflects an approximate 56% decrease of Andrea
Anti-Noise Headset Products to $1,772,156, or 36% of total sales, an approximate
39% decrease of Aircraft Communications Product to $2,171,450, or 44% of total
sales, both partially offset by an approximate 66% increase in sales of our
Andrea DSP Microphone and Audio Software Products, to $996,073, or 20% of total
sales.
The primary reason for the decreases in sales of Andrea Anti-Noise
Headset Product is substantially due to our decision, during the fourth quarter
2001, to exit from an unprofitable, PC OEM/retail headset channel within
Andrea's Anti-Noise Headset product segment. This customer channel included IBM,
and for the Third Quarter 2002, sales to IBM and certain of IBM's affiliates,
such sales representing contractual obligations which we accepted during 2001,
accounted for approximately 2% of our total sales, or $27,361. This reflects an
approximate 98% decrease from $1,164,703 for the Third Quarter 2001.
The decreases in our Aircraft Communication Product revenues is
primarily a result of a decrease in U.S. Department of Defense funding which
affected programs where Andrea's products are used, primarily during the 2002
Third Quarter. For the 2002 Third Quarter, sales of our Aircraft Communications
Products to the U.S. Government accounted for approximately 6% of our total
sales.
The increases in sales of Andrea DSP Microphone and Audio Software
Products is primarily due to licensing revenue recognized during the Third
Quarter 2002 associated with our agreements with Analog Devices.
Cost of Sales
Cost of sales as a percentage of sales for the 2002 Third Quarter
decreased to 49% from 72% in the 2001 Third Quarter. Cost of Sales as a
percentage of sales for the 2002 First Nine Months decreased to 60% from 72% for
the 2001 First Nine Months. These decreases primarily reflect the impact of the
significant changes in the composition of our revenues as described under
"Sales" above, in particular, the significant increase in high-margin license
revenues associated with our agreements with Analog Devices (primarily
attributable to the 2002 Third Quarter), coupled with
-26-
the elimination of sales of low-margin Andrea Anti-Noise Headset Products
associated with our restructuring activity in the fourth quarter of 2001.
Research and Development
Research and development expenses for the 2002 Third Quarter increased
14% to $884,772 from $774,108 for the 2001 Third Quarter. Research and
development expenses for the First Nine Months were $2,677,128, an increase of
1% from the 2001 First Nine Months research and development expenses of
$2,654,392. The substantial amount of research and development is a reflection
of our continuing efforts to develop and commercialize DSP microphone and audio
technologies, coupled with, to a lesser extent, efforts in Aircraft
Communication product technologies and Andrea Anti-Noise Headset Product
technologies. For the 2002 Third Quarter, the Andrea DSP Microphone and Audio
Software Technology efforts were $727,378, or 82% of total research and
development expenses, Aircraft Communications technology efforts were $104,766
or 12% of total research and development expenses and Andrea Anti-Noise Headset
Product efforts were $52,628, or 6% of total research and development expenses.
With respect to DSP Microphone and Audio Software Technologies, research efforts
are primarily focused on the pursuit of commercializing a natural
language-driven human/machine interface by developing optimal far-field
microphone solutions for various voice-driven interfaces, incorporating Andrea's
digital super directional array microphone technology ("DSDA") and certain other
related technologies obtained through the acquisition of Lamar in May 1998. We
believe that the acquisition of Lamar significantly reinforces our position in
digital signal processing by extending our marketing programs to other
high-growth industries, including automotive telematics, mobile device markets,
the business videoconferencing market and Internet telephony, among others.
Specifically, the core technology acquired produces noise filtering capabilities
that management believes is preferred to other known digital, far-field noise
canceling technologies in the market, and is unattainable in products using
traditional mechanical solutions. In addition, the nature of a DSP-based
solution, together with the people acquired supporting our technology, offers a
solution that is highly scalable and embeddable, and therefore enables the
technology to be integrated into many different applications and form factors.
We believe that continued research and development spending should provide
Andrea with a competitive advantage.
General, Administrative and Selling Expenses
General, administrative and selling expenses for the 2002 Third Quarter
decreased 34% to $1,391,966 from $2,117,360 for the 2001 Third Quarter. General,
administrative and selling expenses for the 2002 First Nine Months were
$4,314,416 a decrease of 36% from the 2001 First Nine Months general,
administrative and selling expenses of $6,739,458. These decreases are primarily
due to cost reduction efforts, as well as our adoption, on January 1, 2002, of
Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets" ("FAS 142"). Under FAS 142, goodwill and intangible assets
with indefinite lives are no longer amortized but are reviewed for impairment
from time to time. The adoption of this pronouncement resulted in decreases of
$282,047 and $846,141 in amortization expense for the 2002 Third Quarter and
2002 First Nine Months, respectively, when compared to the same periods in the
prior year. Notwithstanding the beneficial impact of this pronouncement to our
2002 Third Quarter and 2002 First Nine Months, goodwill and intangible assets
which are no longer subject to periodic amortization will be reviewed for
impairment as part of a transitional assessment and from time to time (at least
annually) thereafter, and such reviews may result in adjustments that would
negatively impact future operating results.
Other Income (Expense)
Other expense for the 2002 Third Quarter was $15,947 compared to other
expense of $9,034 for the 2001 Third Quarter. Other income for the 2002 First
Nine Months was $20,834 compared to other income of $137,725 for the 2001 First
Nine Months. These declines are a result of unfavorable market conditions for
our invested cash balances experienced in the 2002 First Nine Months.
Provision for Income Taxes
We recorded a full valuation allowance against our net deferred tax
assets during the 2002 Third Quarter, recognizing a $1,806,615 non-cash charge
to provision for income taxes.
-27-
In addition, we expect to provide a full valuation allowance on future tax
benefits until we can sustain a level of profitability that demonstrates our
ability to utilize the assets, or other significant positive evidence arises
that suggests our ability to utilize such assets. The future realization of a
portion of our reserved deferred tax assets related to tax benefits associated
with the exercise of stock options, if and when realized, will not result in a
tax benefit in the consolidated statement of operations, but rather will result
in an increase in additional paid in capital. We will continue to re-assess our
reserves on deferred income tax assets in future periods on a quarterly basis.
Net Income (Loss)
Net loss for the 2002 Third Quarter was $3,400,902 compared to a net
loss of $2,069,151 for the 2001 Third Quarter. Net loss for the 2002 First Nine
Months was $6,822,146 compared to a net loss of $6,983,318 for the 2001 First
Nine Months. The levels of net loss for the 2002 Third Quarter and 2002 First
Nine Months principally reflect the factors described above.
Liquidity And Capital Resources
Andrea's principal sources of funds have historically been, and are
expected to continue to be, gross cash flows from operations and proceeds from
the sale of convertible notes, preferred stock or other securities to certain
financial institutions and potential industry partners. At September 30, 2002,
we had cash and cash equivalents of $4,711,370 compared with $3,724,130 at
December 31, 2001. The balance of cash and cash equivalents at September 30,
2002 is primarily a result of our recently executed license transactions with
Analog Devices, Inc, together with gross cash flows from operations.
Working capital at September 30, 2002, was $3,458,981 compared to
$5,630,915 at December 31, 2001. The decrease in working capital reflects an
increase of total current liabilities of $1,702,132, partially offset by a
decrease in total current assets of $469,802. The decrease in total current
assets reflects an increase in cash and cash equivalents of $987,240, a decrease
in accounts receivable of $1,535,288 (such decrease is primarily a result of our
collection of license fees from Analog Devices, Inc.), an increase in inventory
of $227,401, and a decrease in prepaid expenses and other current assets of
$149,155. The increase in total current liabilities reflects a decrease in trade
accounts payable of $187,395, a decrease in current portion of long-term debt of
$127,438, a decrease of $111,131 in accrued restructuring charges, an increase
of $1,408,459 in deferred revenue and an increase of $719,637 in other current
liabilities.
The increase in cash from December 31, 2001 to the period ending
September 30, 2002 of $987,240 reflects $1,410,184 of net cash provided by
operating activities, $279,568 of cash used in investing activities and $143,376
of cash used in financing activities.
The cash provided by operating activities, excluding non-cash charges,
is primarily comprised of the $6,822,146 net loss for the 2002 Third Quarter, a
$1,535,288 decrease in accounts receivable, a $227,401 increase in inventory, a
$149,155 decrease in prepaid and other current assets, a $72,151 decrease in
other assets, a $187,395 decrease in accounts payable, a $111,131 decrease in
accrued restructuring charges, a $3,463,314 increase in deferred revenue and a
$567,476 increase in other current and long-term liabilities. The change in
accounts receivable and change in deferred revenue primarily reflects the impact
of our license agreements with Analog Devices, Inc. The changes in inventory,
accounts payable and other current and long-term liabilities primarily reflect
differences in the timing related to both the payments for and the acquisition
of raw materials as well as for other services in connection with ongoing
efforts related to Andrea's various product lines.
The cash used in investing activities reflects an increase property and
equipment of $132,686 and an increase in patents and trademarks of $146,882. The
increase in property and equipment primarily relates to capital expenditures
related to manufacturing dies for our Andrea Anti Noise Headset business line
and our Andrea DSP
-28-
Microphone and Audio Software business line. The increase in patents and
trademarks reflects capital expenditures associated with intellectual property
related to our Andrea DSP Microphone and Audio Software business line.
We believe that it will be necessary to raise additional working
capital to support operations. In December 1995, April 1996, August 1996 and
June 1998, Andrea raised working capital through the issuance of convertible
subordinated debentures. In June 1999, Andrea raised $7.5 million through the
issuance and sale of Series B Preferred Stock. In October 2000, Andrea raised
$7.5 million through the issuance and sale of Series C Preferred Stock. Andrea
has incurred significant losses in each of the last three fiscal years. In the
year ended December 31, 2001, Andrea incurred losses from operations, excluding
the impact of restructuring charges, of $9.3 million, and used $4.5 million in
cash from its operating activities. Management currently expects that operating
losses and negative cash flows will continue at least through the first quarter
of Fiscal 2003 as Andrea continues to market its products and technologies.
Notwithstanding, in December 2001 and March 2002, we entered into two agreements
with Analog Devices, Inc. whereby Analog Devices paid us a total of $5 million
in license fees during calendar 2002 (which generated positive operating cash
flow in the 2002 First Nine Months). If we fail to develop revenues from sales
of our products to generate adequate funding from operations, or if we fail to
obtain additional financing through a capital transaction or other type of
funding, we will be required to either significantly reduce our current
operating expenses and/or operations or we may have to relinquish our products,
technologies or markets. We have no commitment for additional financing, and we
may experience difficulty in obtaining additional financing on favorable terms,
if at all. Any financing we obtain may contain covenants that restrict our
freedom to operate our business or may have rights, preferences or privileges
senior to our common stock and may dilute our current shareholders' ownership
interest in Andrea. We cannot assure that demand will continue for any of our
products, including future products related to our Andrea DSP Microphone and
Audio Software Technologies, or, that if such demand does exist, that we will be
able to obtain the necessary working capital to increase production and
marketing resources to meet such demand on favorable terms, or at all.
ITEM 3. Quantitative And Qualitative Disclosures About Market Risk
Our principal source of financing activities is the issuance of
convertible debt with financial institutions. We are affected by market risk
exposure primarily through any amounts payable in stock, or cash by us under
convertible securities. We do not utilize derivative financial instruments to
hedge against changes in interest rates or for any other purpose. In addition,
substantially all transactions by us are denominated in U.S. dollars. As such,
we have shifted foreign currency exposure onto our foreign customers. As a
result, if exchange rates move against foreign customers, we could experience
difficulty collecting unsecured accounts receivable, the cancellation of
existing orders or the loss of future orders. The foregoing could materially
adversely affect our business, financial condition and results of operations.
ITEM 4. CONTROLS AND PROCEDURES
a) Evaluation of disclosure controls and procedures. Andrea
maintains controls and procedures designed to ensure that
information required to be disclosed in the reports that it files
or submits under the Securities Exchange Act of 1934 is recorded,
processed, summarized and reported within the time periods
specified in the rules and forms of the Securities and Exchange
Commission. Based upon their evaluation of those controls and
procedures performed within 90 days of the filing date of this
report, the chief executive officer and the chief financial
officer of Andrea concluded that Andrea's disclosure controls and
procedures were adequate.
b) Changes in internal controls. Andrea made no significant changes
in its internal controls or in other factors that could
significantly affect these controls subsequent to the date of the
evaluation of those controls by the chief executive officer and
chief financial officer.
-29-
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
See "Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations--Cautionary Statement Regarding
Forward-Looking Statements--An unfavorable ruling in any current litigation
proceeding or future proceeding may adversely affect our business, results of
operations and financial condition" and Note 11 to the unaudited condensed
consolidated financial statements in this quarterly report for a discussion of
the legal proceedings of Andrea.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS
On October 11, 2002, at the Annual Meeting of Shareholders of the
Company, the shareholders elected as directors of the Company for terms of one
year, the following individuals Douglas J. Andrea (14,812,643 shares for,
1,888,362 shares withheld); Christopher P. Sauvigne (16,272,476 shares for,
428,529 shares withheld); John R. Croteau (16,305,292 shares for, 395,713 shares
withheld); James M. Griffin (16,184,274 shares for, 516,731 shares withheld);
Gary A. Jones (16,205,492 shares for, 495,513 shares withheld); Scott Koondel
(15,993,945 shares for, 707,060 shares withheld); Jack Lahav (16,302,892 shares
for, 398,113 shares withheld); Louis Libin (16,073,067 shares for, 627,938
shares withheld). The shareholders authorized an amendment to the 1998 Stock
Plan of the Company to increase the number of shares of common stock issuable
thereunder to 5,275,000 shares from 4,375,000 shares (14,388,351 shares for,
2,259,688 shares against, 52,966 shares abstained). In addition, the
shareholders ratified the selection of Marcum & Kliegman LLP as the Company's
independent accountants for the year ending December 31, 2002 (16,471,409 shares
for, 142,015 shares against, and 87,521 shares abstained).
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Reports on Form 8-K
On August 12, 2002, Andrea filed a Current Report on Form 8-K
reporting that Arthur Andersen LLP was no longer its independent
accountant and that PricewaterhouseCoopers LLP had been engaged as
Andrea's independent accountants.
On August 15, 2002, Andrea filed a Current Report on Form 8-K
reporting that it had dismissed PricewaterhouseCoopers LLP as it's
independent accountant.
On August 15, 2002, Andrea filed a Current Report on Form 8-K
reporting that Marcum & Kliegman LLP had been engaged as Andrea's
independent accountants.
-30-
SIGNATURES
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.
ANDREA ELECTRONICS CORPORATION
/s/ Christopher P. Sauvigne Chief Executive Officer and President November 13, 2002
--------------------------------
Christopher P. Sauvigne
/s/ Richard A. Maue Executive Vice President, Chief November 13, 2002
-------------------------------- Financial Officer, and Secretary
Richard A. Maue
CERTIFICATION
I, Christopher P. Sauvigne, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Andrea Electronics
Corporation;
2. Based on my knowledge, this quarterly 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 quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly 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 quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
we have:
a) designed such disclosure controls and procedures 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
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date
of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (or persons
performing the equivalent function):
a) all significant deficiencies in the design or operation of the
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data and
have identified for the registrant's auditors any material
weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
the internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to significant
deficiencies and material weaknesses.
Date: November 13, 2002 /s/ Christopher P. Sauvigne
---------------------------
Christopher P. Sauvigne
-31-
Chief Executive Officer and President
(principal executive officer)
CERTIFICATION
I, Richard A. Maue, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Andrea Electronics
Corporation;
2. Based on my knowledge, this quarterly 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 quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly 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 quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
we have:
a) designed such disclosure controls and procedures 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
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date
of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of the
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data and
have identified for the registrant's auditors any material
weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
the internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to significant
deficiencies and material weaknesses.
Date: November 13, 2002 /s/ Richard A. Maue
-----------------------------------------
Richard A. Maue
Executive Vice President, Chief
Financial Officer and Secretary
(principal financial officer)
-32-
ANDREA ELECTRONICS CORPORATION
Special Meeting of Shareholders
January 31, 2003
9:30 a.m., Eastern time
This proxy is solicited by the board of directors.
The undersigned shareholder(s) of Andrea Electronics Corporation, a New
York corporation ("Company"), hereby appoints Douglas J. Andrea and Christopher
P. Sauvigne, or either of them, with full power of substitution and to act
without the other, as the agents, attorneys and proxies of the undersigned, to
vote the shares standing in the name of the undersigned at the special meeting
of shareholders of the Company to be held on January 31, 2003 and at all
adjournments thereof with all the powers the undersigned would possess if
personally present at such meeting. This proxy will be voted in accordance with
the instructions given below. If no instructions are given, this proxy, properly
signed and dated, will be voted "FOR" all of the following proposals.
1. To approve the amendment to the Restated Certificate of Incorporation of
the Company to increase the authorized shares of common stock from
70,000,000 shares to 200,000,000 shares.
FOR ( ) AGAINST ( ) ABSTAIN ( )
2. To approve the amendment to the Restated Certificate of Incorporation of
the Company to reduce the par value of the Company's common stock from
$0.50 per share to $0.01 per share.
FOR ( ) AGAINST ( ) ABSTAIN ( )
The board of directors recommends a vote "FOR" approval of Proposal 1 and
Proposal 2.
This proxy, properly signed and dated, will be voted as directed, but if no
instructions are specified, this proxy will be voted "FOR" both proposals. If
any other business is presented at the special meeting, including whether or not
to adjourn the meeting, this proxy will be voted by the proxies in their best
judgment. At the present time, the board of directors knows of no other business
to be presented at the special meeting.
( ) The undersigned plan on attending the special meeting.
Dated:____________________________
__________________________________
SIGNATURE OF STOCKHOLDER
__________________________________
SIGNATURE OF CO-HOLDER (IF ANY)
The above signed acknowledges receipt from the Company prior to the
execution of this proxy of a notice of special meeting of stockholders and of a
proxy statement for the special meeting of stockholders.
Please sign exactly as your name appears on this card. When signing as
attorney, executor, administrator, trustee or guardian, please give your full
title. If shares are held jointly, each holder may sign but only one signature
is required.
-----------------------------
PLEASE COMPLETE, DATE, SIGN AND PROMPTLY MAIL THIS PROXY
IN THE ENCLOSED POSTAGE-PAID ENVELOPE.