| JMAR TECHNOLOGIES INC Item 1A RISK FACTORS Our ability to achieve our operating and financial goals is subject to a number of risks, including risks relating to our business operations, our ability to finance our operations, and technical risks associated with our new products |
| If any of the risks actually occur, our business, operating results, prospects or financial condition could be materially and adversely affected |
| Additional risks not presently known to us or that we currently deem immaterial may also affect our business operations |
| Our continuing decline in revenues and our net and operating losses are significant and could have an adverse impact on our stock price |
| Our revenues for the years ended December 31, 2005, 2004 and 2003 were dlra9cmam163cmam520, dlra10cmam059cmam839 and dlra17cmam296cmam508, respectively |
| Our continuing product development efforts may lead to increased expenditures which may increase the amount of our losses |
| Failure to achieve significant sales of our new products in the future and continued losses will reduce our shareholders’ equity, could adversely impact the continued listing of our stock on the NASDAQ Capital Market, and could have a significant adverse impact on our stock price |
| Our cash requirements are significant and if we do not generate sufficient funds from operations or obtain additional financing we may be unable to continue our present product development activities |
| Our cash requirements have been and will continue to be significant |
| Our cash used in operating activities for the years ended December 31, 2005, 2004 and 2003 was dlra4cmam604cmam174, dlra4cmam458cmam323 and dlra5cmam541cmam874, respectively |
| These negative cash flows are primarily related to operating losses, discontinued operations, and fluctuations in working capital items |
| We will continue to use cash in 2006 for 1) product development efforts, and to acquire or license products, technologies or businesses; 2) corporate costs, primarily related to the cost of being a public company; 3) preferred stock dividends; and 4) other working capital needs |
| We completed a dlra3dtta63 million financing in December 2005 and January 2006 (December 2005 Offering), but we will require additional financing in 2007 to complete or accelerate the development of some of our high value emerging new products and for working capital requirements |
| The Company’s Working Capital Line (Line) with Laurus Master Fund (Laurus) expired March 21, 2006 |
| On March 28, 2006, the Company renewed its Working Capital Line with Laurus |
| Also on March 28, 2006, the Company issued a new Series of Preferred Stock to Laurus in exchange for dlra6cmam393cmam980 of the dlra7cmam850cmam000 Series F, G and H Preferred Stock, resulting in a deferral until August 2007 through August 2008 of the redemption payments originally due under the Company’s Series F-H Preferred Stock |
| These redemption payments were originally due starting August 2006 through February 2007 |
| Management believes that with the dlra3dtta63 million financing and the transactions with Laurus, the Company has adequate resources to fund working capital requirements and product development through December 31, 2006 |
| You will experience additional dilution if the Company is not successful in selling its new products in 2006 and 2007 |
| We intend to continue to invest significant funds in our new product development programs and we will need to raise additional funds in order to continue our product development and sales and marketing activities and for other working capital needs in 2007 |
| In such event, we would expect to seek to raise such capital through the sale of our equity securities, and, as a result, shareholders will experience significant further dilution |
| The failure to maintain shareholder’s equity above dlra2dtta5 million or market capitalization of dlra35 million or to sustain a minimum share price of dlra1dtta00 per share could result in delisting of our shares on the NASDAQ Stock Market |
| In order to retain our listing on the NASDAQ Capital Market, we are required to maintain (i) stockholders’ equity of dlra2dtta5 million, or (ii) market value of common stock of dlra35 million |
| As of December 31, 2005, our shareholder’s equity was dlra4cmam555cmam228 |
| As of April 5, 2006, the market value of our common stock was approximately dlra30 million |
| Although our shareholders’ equity is currently in excess of the dlra2dtta5 million minimum requirement to maintain our listing, continued losses without increases in equity could cause us to fall below this NASDAQ requirement, and if the market value of our common stock is below dlra35 million at that time, we would be required to come into compliance or face delisting |
| In order to retain our listing on the NASDAQ Capital Market, we must also maintain a minimum bid price of dlra1dtta00 per share for at least 30 consecutive trading days |
| Our stock traded below this dlra1dtta00 minimum in the March-May, 2003 timeframe and traded below dlra1dtta00 in March and April, 2006 |
| 12 _________________________________________________________________ [48]Table of Contents The failure to maintain our listing on the NASDAQ Capital Market would have an adverse effect on our stock price and our ability to attract additional capital needed to sustain our operations |
| Our outstanding preferred stock has a liquidation preference of dlra7cmam850cmam000, which is in excess of our total stockholders’ equity |
| Our currently outstanding Convertible Preferred Stock has a total Stated Value of dlra7cmam850cmam000 as of March 27, 2006 |
| Upon the dissolution, liquidation or winding up of the Corporation, whether voluntary or involuntary, the holders of the Companyapstas Preferred Stock are entitled to receive, before any payment or distribution shall be made on the common stock out of the assets of the Corporation available for distribution to the stockholders, the Stated Value per share of the Companyapstas Preferred Stock then outstanding and all accrued and unpaid dividends |
| In the event of a dissolution, liquidation or winding up of the Corporation, holders of common stock may lose their entire investment |
| If our product development programs are not successful, it will harm our business |
| The development of sophisticated laser-based systems and sensors, such as our BioSentry, X-ray Microscope and our X-ray Nano Probe products, is a lengthy and capital intensive process and is subject to unforeseen risks, delays, problems and costs |
| We have had limited success in past product development efforts, including the failure to achieve market acceptance of our Collimated Plasma Lithography (CPL) products and in our efforts to establish a standard semiconductor products business |
| We cannot assure you that we will be able to successfully develop our new products, or that unanticipated technical or other problems will not occur which would result in delays in our development programs |
| Achieving market acceptance for our new products requires a significant effort to convince customers to adopt our products and technologies over other alternative products and technologies |
| In the case of each of our new product development efforts, this requires demonstrating that our products have superior performance to the alternative products and technologies and are more cost-effective |
| In addition to the expenditures required to complete and commercialize these products, this will require substantial technical, marketing and sales efforts and the expenditure of significant funds to create customer awareness of and demand for our products |
| We cannot assure you that our new products will achieve significant market acceptance in the future or result in significantly increased levels of revenues |
| In addition to the technical performance of our BioSentry and other products, the success of the BioSentry and other product lines is dependent in part on the Company’s estimates of the potential market for such systems |
| Because many of the expected markets for a detection system such as the BioSentry, as well as for the Company’s X-ray source-related products, do not presently exist, the Company has had to make a number of assumptions about the size and needs of such markets |
| As a result, the Company’s estimates about the size and nature of the expected markets for the BioSentry and other products may be inaccurate and the ultimate markets, and the actual sales of products into those markets, could be significantly less than the Company’s current estimates reflect |
| If the actual markets for the Company’s new products are not of the magnitude expected, or if they do not develop at the rate the Company expects, the Company’s revenues and financial condition will be adversely affected |
| We depend on third party suppliers of various components for our equipment business and our business will be harmed if the supply of key components is interrupted or discontinued |
| Our Research Division, Vermont Operation, and our Sensor Products Group (BioSentry) are dependent on third party suppliers for components used in the development and manufacture of our products |
| If certain key components are delayed or unavailable, we might have to reengineer our products, resulting in delays and increased costs, or we may have to pay other suppliers more to obtain those components, which could adversely affect our business |
| In addition, our cost models contemplate that multiple suppliers and greater volume purchases will bring down the manufacturing costs to make our new systems more competitively priced |
| Although we anticipate having multiple sources of supply for the components used in our future production systems, there are no assurances that additional suppliers will materialize |
| In particular, our X-ray Microscope and X-ray Nano Probe products require certain X-ray optics called zone plates that are difficult and expensive to manufacture |
| We have identified suppliers of zone plates and have also initiated an effort to manufacture zone plates in-house |
| If we cannot obtain these zone plates when needed at an acceptable cost, then we will need to rely on other optics, which would involve additional re-engineering and related delays and additional costs which could adversely affect our business |
| Our BioSentry product development effort also relies on certain complex optics |
| If we cannot obtain these complex optics when needed at an acceptable cost, then we may have to redesign the product, which would involve additional re-engineering and related delays and additional costs which could adversely affect our business |
| 13 _________________________________________________________________ [49]Table of Contents The success of our business is dependent on our ability to compete effectively, particularly against larger, more established companies with greater resources |
| The markets for our products are highly competitive and are characterized by rapid technological change and evolving industry standards |
| For example, although we are not aware of any products in the market for detecting and classifying microorganisms similar to our BioSentry product, water utilities and other water industry customers currently employ other products and technologies, such as filters and ultraviolet disinfection systems, to remove or neutralize microorganisms from the water supply |
| Our X-ray Microscope and X-ray Nano Probe products provide alternative “soft” X-rays for the microscopy and materials processing markets |
| Currently, the intended users of soft X-rays must pay for time on large synchrotrons to perform their intended processes |
| Alternatively, for biological experimentation, other technologies are available, such as transmission electron microscopy, to perform the types of analyses performed by our new X-ray Microscope product |
| While we believe that our new X-ray products will provide certain functions that the current competitive products and technologies cannot provide (eg, lower capital and operating expense; more rapid performance), there is a risk that our intended customers may not view these benefits as outweighing the features of established products and technologies (which include better resolution in the case of transmission electron microscopes or lower costs in the case of optical microscopes) |
| Further development by others of new or improved products, processes or technologies may make our products obsolete or less competitive |
| Our ability to compete is dependent on our ability to continually enhance and improve our products and to successfully develop and market new products |
| Many of our competitors have greater financial, managerial and technical resources than we have |
| We cannot assure you that we will successfully differentiate ourselves from our competitors, that the relevant markets will consider our products to be superior to our competitors’ products or that we will be able to adapt to evolving markets and technologies, develop new products or achieve and maintain technological advantages |
| A substantial portion of our current revenue depends on sales to a few customers |
| We have relied on funding from the US Department of Defense for a significant portion of our research and development activities in the past and expect significantly less funding of our new product developments from the government in the future |
| To date, our CPL development program has received in excess of dlra62 million in funding under DARPA contracts over the past 10 years, with dlra3dtta5 million and dlra3dtta7 million received in 2005 and 2004, respectively |
| In 2005, approximately 82 percent of our revenues was derived as the prime contractor or subcontractor for three government contracts |
| One of the contracts is issued to our Research Division by the US Army Research Laboratory sponsored by DARPA for further development of our CPL system (DARPA Contract) |
| In February, 2005, we received the last dlra3dtta5 million in funding under the DARPA Contract |
| No further program funding related to the DARPA Contract is included in the United States Government’s budget and we expect no further funding under this contract after the receipt of the dlra3dtta5 million |
| We continue to receive funding from the Government under a separate DARPA/NAVAIR contract (NAVAIR Contract) for the procurement of X-ray masks and for the fabrication of certain X-ray optics, to be used in our X-ray Microscope and X-ray Nano Probe product development programs |
| The funding for the NAVAIR Contract has been Congressionally mandated and is subject to the risk of losing Congressional support |
| The DOD’s overall budget, and our participation therein, is subject to reduction based upon a number of factors, including general budgetary constraints, shifting priorities of the specific governmental agency which sponsors the funding and our own performance under our contracts with the Government |
| We do not expect to receive funding from government sources at similar levels in the future |
| The Company is relying on the sale of its new products in 2006 and beyond, together with financing transactions, which could include strategic alliances, to support continued product development and operations |
| To the extent we continue to invest in product development, these expenditures will increase our losses accordingly |
| A major source of revenue has been the subcontract between JMAR’s Microelectronics Division and General Dynamics Advanced Information Systems (GDAIS) to enhance and maintain the semiconductor wafer fabrication processes installed at the McClellan Air Force Base in Sacramento for the DMEA This work, which started in 1998, has resulted in a new subcontract each year out of funds available in the DMEA’s budget as an element of the Department of Defense’s Advanced Technology Support Program |
| The Company received dlra3dtta5 million in contracts in 2004, dlra2dtta3 million in letter contracts in 2005 and the final approximately dlra1dtta9 million against a dlra4dtta2 million contract finalized in February 2006 |
| In March 2006, GDAIS informed the Company that DMEA does not want to provide the additional funding required to support the costs imposed by both JMAR and GDAIS on the DMEA Contract and that the funding will only be sufficient to provide for one contractor |
| Unless DMEA and GDAIS change their positions, JMAR will not receive additional subcontract funding for the remainder of 2006 and beyond |
| The Company is not hopeful that this decision will change |
| The viability of the Microelectronics Division is dependent on continued funding from GDAIS/DMEA In light of this recent development, the Company is evaluating the cost control and organizational actions it needs to take in response to the probability that the funding will not be continued |
| 14 _________________________________________________________________ [50]Table of Contents Declines in our operating performance and other factors adversely affecting the valuation of our business units could ultimately result in an impairment of our goodwill |
| As of December 31, 2005, there was dlra4cmam415cmam932 in goodwill reflected on our balance sheet, all of which is related to our Vermont Operations/Research Division business unit |
| We assess potential impairments to our goodwill when there is evidence that events or changes in circumstances indicate that the carrying value may not be recoverable |
| We assess potential impairments to goodwill annually and when there is evidence that events or changes in circumstances indicate that an impairment condition may exist |
| Factors adversely affecting the business unit’s future potential revenues and cash flow, as well as factors adversely affecting the Company’s market capitalization, will adversely affect the valuation of the Company’s goodwill and could lead to an impairment of the Company’s goodwill |
| A significant impairment loss would cause a further increase in our net losses with a corresponding reduction in our shareholders’ equity |
| Our BioSentry product may be subject to various governmental approvals that may limit our ability to market and sell our product |
| In some cases, the use of our BioSentry product by the water utility industry, the commercial water bottling industry and others may require approval by governmental regulators prior to the commercial use of such units by our customers |
| In other cases, the acceptance of our BioSentry product may be enhanced by certification or other approvals by industry groups or government regulators |
| In the case of Olivenhain Municipal Water District (OMWD), one of our customers, our agreement with OMWD to purchase BioSentry production units is dependent upon the determination by a state regulator that the BioSentry unit may be implemented in lieu of an earlier mandate that the utility employ other means to reduce the concentration of certain microorganisms in its water |
| The failure to obtain approval of various state and federal agencies could adversely impact the sale of our BioSentry products |
| Our quarterly operating results may fluctuate significantly |
| As a result, we may fail to meet or exceed the expectations of securities analysts and investors, which could cause our stock price to decline |
| Our quarterly revenues and operating results have fluctuated in the past and may continue to vary from quarter to quarter due to a number of factors, including the risk factors set forth in this section |
| If our operating results do not meet the expectations of securities analysts or investors, our stock price may decline |
| If we lose key personnel or are unable to attract and retain additional, highly skilled personnel required for the expansion of our activities, our business will suffer |
| Our success is substantially dependent on the efforts of certain key personnel |
| In particular, our new X-ray-based product development efforts rely on the skill of several key laser and laser plasma scientists and engineers and our BioSentry product development effort relies on the skills of several key technical personnel in the areas of scattered-light-based detection systems, algorithms used to interpret the results of scattered light and microorganism morphology, as well as personnel experienced in the water industry |
| The loss of such personnel would adversely affect our business and prospects |
| In such event, we cannot assure you that we would be able to employ qualified persons on terms favorable to us |
| In seeking and retaining qualified personnel, we are required to compete with companies having greater financial and other resources than we have |
| Since our future success is dependent upon our ability to retain or attract qualified personnel, our failure to do so could have an adverse impact on our business |
| Asserting, defending and maintaining intellectual property rights is difficult and costly and the failure to do so could harm our ability to compete and the results of our operations |
| We rely, to a significant extent, on patents, trade secrets and confidentiality agreements to protect our proprietary technology |
| We cannot assure you as to the breadth or degree of protection which existing or future patents, if any, may afford us, or that patents will not be circumvented or invalidated, or that our products do not and will not infringe on patents or violate proprietary rights of others |
| In the event a patent infringement claim is asserted against us, or we are required to enforce our rights under an issued patent, the cost of such actions may be very high, whether or not we are successful |
| While we are unable to predict what such costs, if any, will be if we are obligated to pursue patent litigation, our ability to fund our operations and to pursue our business goals may be substantially impaired |
| 15 _________________________________________________________________ [51]Table of Contents Our BioSentry™ product uses scattered light to detect particles in fluids |
| This field is the subject of substantial patent activity |
| We have entered into License Agreements with PointSource Technologies, The LXT Group and NASA, covering the license of technologies related to the BioSentry product area |
| Although JMAR believes that the patents and technology licenses from PointSource, LXT and NASA, as well as the technology that we have developed in-house, provide adequate coverage for our current BioSentry product, we can give you no assurances that the technologies that we want or need to use in the future in this field may not infringe on the patents or proprietary rights of others |
| If we need to use technologies owned by third parties in connection with our BioSentry products and cannot license them on reasonable terms, our ability to develop, manufacture and commercialize our BioSentry products will be adversely impacted, which would adversely affect our business and our stock price |
| If our outstanding options and warrants are exercised and if our preferred stock is converted it will result in substantial dilution |
| As of December 31, 2005, we had outstanding 38cmam823cmam158 shares of common stock |
| Substantially all of the outstanding shares of the Company’s common stock are freely tradable without restriction or further registration under the Securities Act |
| Affiliates may sell the shares they own pursuant to Rule 144, subject to certain notice filing and volume limitations |
| As of December 31, 2005, there were 9cmam783cmam848 shares of common stock subject to issuance upon exercise of outstanding options and warrants |
| The outstanding Series G Preferred Stock is convertible into shares of common stock at dlra2dtta00 per share and the outstanding Series I Preferred Stock is convertible into shares of common stock at dlra1dtta16 per share |
| Subject to a contractual limitation on total beneficial ownership by Laurus to 4dtta99prca of our common stock, the Series G and I Preferred Stock is convertible into 6cmam240cmam062 shares of Common Stock |
| In connection with an offering of common stock and warrants completed in February, 2005 (February 2005 Offering), certain investors were granted the right to purchase up to 30prca of certain future offerings of our securities on the same terms as are offered in such future offerings |
| This right continues until February, 2007 |
| In connection with the execution of a License Agreement with PointSource Technologies, LLC (PointSource) in January, 2005, affiliates of PointSource (PointSource Investors) were granted the right to purchase approximately 1dtta66prca of certain completed offerings of our securities on the same terms as were offered in such offerings |
| This right must be exercised within 20 days after we give notice to the PointSource Investors of the completion of a securities offering |
| This right continues until July, 2006 |
| To the extent that outstanding options, warrants and other purchase rights are exercised prior to their expiration dates, additional funds will be paid into us at the expense of dilution to the interests of our stockholders |
| Moreover, the terms upon which we will be able to obtain additional equity capital may be adversely affected since the holders of outstanding options and warrants and other securities can be expected to exercise or convert them at a time when we would, in all likelihood, be able to obtain any needed capital on terms more favorable to us than those provided in such securities |
| The sale of the shares issued upon exercise of our outsanding warrants and options and conversion of our Convertible Note and Preferred Stock could adversely affect the market price of our common stock |
| If product liability claims are brought which exceed our liability insurance limits our business would be harmed |
| We may be exposed to potential product liability claims arising out of the use of our products |
| Although we maintain product liability insurance on our current products, we cannot assure you that such insurance will be sufficient to cover potential claims or that the present level of coverage will be available in the future at a reasonable cost |
| A partially or completely uninsured successful claim against us could have a material adverse affect on our business |
| There can be no assurance that as we complete the commercialization and introduction of new products that insurance will be available on economically favorable terms or in amounts adequate to cover the risks associated with these new products |
| We do not presently intend to pay cash dividends to our shareholders |
| We have never paid cash dividends on our common stock and intend, for the foreseeable future, to retain our earnings, if any, to finance our business |
| Future dividend policy will depend on our earnings, capital requirements, financial condition, debt covenants and other factors considered relevant by our Board of Directors |
| 16 _________________________________________________________________ [52]Table of Contents Our ability to use our entire net operating loss carryforward is limited by prior changes in ownership and may be further limited in the future |
| We have federal net operating loss carry-forwards of approximately dlra58 million at December 31, 2005 |
| These NOLs expire incrementally through 2025 |
| Realization of future tax benefits from utilization of our net operating loss carry-forwards for income tax purposes is limited by changes in ownership in 1990, 1992 and 1993 |
| Of the total NOLs, annual limitations of dlra695cmam000 apply to approximately dlra2dtta9 million of the NOLs and the balance is subject to these annual limitations |
| In addition, the net operating losses of acquired companies are also subject to separate change of ownership limitations |
| Due to our taxable losses in the past three years, we have been unable to take advantage of the benefits of these NOLs |
| The realization of the benefits of these NOLs is dependent upon our recognition of taxable income in the future prior to the expiration of the NOLs |
| If we issue shares of preferred stock with greater rights than the common stock, it could result in the decrease in market price of the common stock and could delay or prevent a change in control of us |
| Our Board of Directors is authorized to issue up to 5cmam000cmam000 shares of preferred stock, of which 785cmam000 shares of Series G and I Preferred Stock were outstanding as of March 28, 2006 |
| As a result of prior issuances of a total of 1cmam450cmam000 shares of preferred stock that were subsequently converted into common stock, a total of 2cmam765cmam000 shares of Preferred Stock are available for issuance in the future |
| Our Board of Directors has the power to establish the dividend rates, liquidation preferences, voting rights, redemption and conversion terms and privileges with respect to any series of preferred stock |
| The issuance of any shares of preferred stock having rights superior to those of the common stock may result in a decrease in the value or market price of the common stock |
| Holders of preferred stock may have the right to receive dividends, certain preferences in liquidation and conversion rights |
| The issuance of preferred stock could, under certain circumstances, have the effect of delaying, deferring or preventing a change in control of us without further vote or action by the stockholders and may adversely affect the voting and other rights of the holders of common stock |