SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB
(Mark One)
[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the Fiscal Year Ended December 31, 2004
or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the Transition Period From _______________ to ________________.
Commission file number 000-25727
IKONICS CORPORATION
(Exact name of registrant as specified in its charter)
Minnesota 41-0730027
(State or other jurisdiction of (I.R.S. employer
incorporation or organization) identification no.)
4832 Grand Avenue
Duluth, Minnesota 55807
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (218) 628-2217
Securities registered under Section 12(b) of the Act: None
Securities registered under Section 12(g) of the Act: Common Stock, par
value $.10 per share
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 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 [ ]
Check if disclosure of delinquent filers pursuant to Item 405 of Regulation
S-B is not contained in this form, and no disclosure will be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. [ ]
The issuer's revenues for its most recent fiscal year were: $13,682,449
The aggregate market value of the voting stock held by non-affiliates of
the registrant as of February 28, 2005 was $8,245,093.50, based on the closing
price for the issuer's Common Stock on such date as reported on the Nasdaq
SmallCap Market. For purposes of determining this number, all officers and
directors of the issuer are considered to be affiliates of the issuer, as well
as individual stockholders holding more than 10% of the issuer's outstanding
Common Stock. This number is provided only for the purpose of this report on
Form 10-KSB and does not represent an admission by either the issuer or any such
person as to the status of such person.
State the number of shares outstanding of each of the issuer's classes of
common equity, as of the latest practical date: Common Stock, $.10 par value -
1,942,745 issued and outstanding as of February 28, 2005.
Transitional Small Business Disclosure Format (check one): Yes [ ] No [X]
This Annual Report on Form 10-KSB contains forward-looking statements
within the meaning of the safe harbor provisions of Section 21E of the
Securities Exchange Act of 1934, as amended, relating to future events or the
future financial performance of the Company. Forward-looking statements are only
predictions or statements of intention subject to risks and uncertainties and
actual events or results could differ materially from those projected. Factors
that could cause actual results to differ include the risks, uncertainties and
other matters set forth below under the caption "Factors that May Affect Future
Results" and the matters set forth under the captions "Business" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," as well as those discussed elsewhere in this Annual Report on Form
10-KSB.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Company's definitive proxy statement for its 2005 Annual
Meeting of Shareholders are incorporated by reference in Part III.
PART I
ITEM 1. BUSINESS
GENERAL
IKONICS Corporation ("IKONICS" or the "Company") was incorporated in
Minnesota as Chroma-Glo, Inc. in 1952 and changed its name to The Chromaline
Corporation in 1982. In December 2002, the Company changed its name to IKONICS
Corporation. The Company develops, manufactures and sells light sensitive liquid
coatings ("emulsions") and films, as well as distributes ink jet receptive films
for commercial and industrial applications in the United States and abroad. The
Company also markets ancillary chemicals, equipment and other consumables to
provide a full line of products and services to its customers. The Company's
products serve the screen printing and abrasive etching markets. The screen
printing products represent the Company's largest product line. These products
are used by screen printers to create stencil images. These images produce basic
designs for fabric decoration and product identification, as well as complex
designs for compact discs and electronic circuits. The abrasive etching products
are used by consumers to create architectural glass, art pieces and awards, and
in various industrial applications. The Company also sells a line of ink jet
receptive films used for the creation of photopositives and photonegatives. In
2004, the Company launched two new business ventures. The first, called IkonSign
Etch, markets a complete system that allows customers the ability to produce a
broad array of high quality sign products. The second launch called IKONImage
plans to use the Company's technology and low cost etching services to bring
unique products to market and to provide low cost etching services for the
Company's customers. Over 85% of the Company's products are consumables.
PRODUCTS
IKONICS' core technology is the use of photochemicals to create and
transfer images. This technology is similar to photographic film technology
except that the Company uses organic polymers or natural protein rather than
silver to make the product photo-reactive ("light sensitive"). The products
IKONICS targets at the screen printing industry are light sensitive films and
light sensitive emulsions used by customers to create an image on a printing
screen; the equivalent of a printing plate in other types of printing processes.
In the abrasive etching market, the Company's products are also films and
emulsions. These products are used to create a stencil by decorators of glass
and other hard surfaces, including crystal, marble, metals, wood, stone and
plastics. The stencil is applied directly to the article to be decorated by the
sand blasting process through a self-adhesive feature or with a separate
adhesive. The open areas of the stencil permit the sand blast grit to erode the
surface while the closed areas of the stencil repel the sand blast grit,
protecting areas of the surface being decorated.
All of IKONICS' light sensitive products are sensitive to ultraviolet
radiation. The Company uses different chemicals to create sensitivity to light,
including a molecule which it developed internally and patented.
DISTRIBUTION
The Company currently has approximately 200 domestic and international
distributors. The Company also sells its products through direct sales to
certain end users who do not require the services of a distributor to service
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their account. In addition, IKONICS markets and sells its products through
magazine advertising, trade shows and the internet.
IKONICS has a diverse customer base both domestically and abroad and does
not depend on one or a few customers for a material portion of its revenues. In
2004, no one customer accounted for more than 10% of revenues.
QUALITY CONTROL IN MANUFACTURING
In March 1994, IKONICS became the first firm in northern Minnesota to
receive ISO 9001 certification. ISO 9000 is a series of worldwide standards
issued by the International Organization for Standardization that provide a
framework for quality assurance. ISO 9001 is the most comprehensive standard of
the ISO 9000 series. The Company was recertified in 1997, 2000 and 2003.
IKONICS' quality function goal is to train all employees properly in both their
work and in the importance of their work. Internal records of quality-related
graphs and tables are reviewed regularly and discussions are held among
management and employees regarding how improvements might be realized. The
Company has rigorous materials selection procedures and also uses environmental
testing and screen print equipment tailored to fit customers' needs.
RESEARCH AND DEVELOPMENT/INTELLECTUAL PROPERTY
IKONICS spent 4.2% of sales ($575,000) on research and development in 2004
and 5.2% ($632,000) in 2003. In its research program, IKONICS has developed
unique light sensitive molecules which have received two U.S. patents. These
patents expire in 2011 and 2014, respectively. In addition, the Company holds a
number of other patents related to its photopolymer chemistry that expire
between 2005 and 2020. The Company also has seven United States patent
applications pending. There can be no assurance that any patent granted to the
Company will provide adequate protection to the Company's intellectual property.
Within IKONICS, steps are taken to protect the Company's trade secrets,
including physical security, confidentiality and non-competition agreements with
employees and confidentiality agreements with vendors. In its product
development program, IKONICS is fully equipped to simulate customer uses of its
products. The Company's facilities include a walk-in environmental chamber which
simulates customer uses and storage conditions of IKONICS products for different
climatic zones.
In addition to its patents, the Company has various trademarks including
the "IKONICS," "Chromaline," "PhotoBrasive," "Accuart," and "Nichols"
trademarks.
RAW MATERIALS
The primary raw materials used by IKONICS in its production are
photopolymers, polyester films, polyvinylacetates, polyvinylalcohols and water.
The purchasing staff at the Company's headquarters leads in the identification
of both domestic and foreign sources for raw materials and negotiates price and
terms for all domestic and foreign markets. IKONICS' involvement in foreign
markets has given it the opportunity to become a global buyer of raw materials
at lower overall cost. The Company has a number of suppliers to the Company's
operations. Some suppliers provide a significant amount of key raw materials to
the Company, but the Company believes alternative sources are available for most
materials. For those raw materials where an alternative source is not readily
available, the Company is developing contingency raw material replacement plans.
To date, there have been no significant shortages of raw materials. The Company
believes it has good supplier relations.
COMPETITION
The Company competes in its markets based on product development
capability, quality, reliability, availability, technical support and price. The
screen printing market is much larger than the decorative sand blasting market,
however, the abrasive etching market is currently experiencing faster growth.
IKONICS has two primary competitors in its screen printing film business, both
of which are foreign-owned entities. They are larger than IKONICS and possess
greater resources than the Company in many areas. The Company has numerous
competitors in the market for screen print emulsions many of whom are larger
than IKONICS and possess greater resources. The market for the Company's
abrasive etching products has one significant competitor. IKONICS considers
itself to be the leader in this market.
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GOVERNMENT REGULATION
The Company is subject to a variety of federal, state and local industrial
laws and regulations, including those relating to the discharge of material into
the environment and protection of the environment. The governmental authorities
primarily responsible for regulating the Company's environmental compliance are
the Environmental Protection Agency, the Minnesota Pollution Control Agency and
the Western Lake Superior Sanitary District. Failure to comply with the laws
promulgated by these authorities may result in monetary sanctions, liability for
environmental clean-up and other equitable remedies. To maintain compliance, the
Company may make occasional changes in its waste generation and disposal
procedures.
These laws and regulations have not had a material effect upon the capital
expenditures or competitive position of the Company. The Company believes that
it complies in all material respects with the various federal, state and local
regulations that apply to its current operations. Failure to comply with these
regulations could have a negative impact on the Company's operations and capital
expenditures and such negative impact could be significant.
EMPLOYEES
As of February 28, 2005, the Company had approximately 69 full-time
employees, 65 of whom are located at the Company's headquarters in Duluth,
Minnesota and four of whom are outside technical sales representatives in
various locations around the United States. None of the Company's employees are
subject to a collective bargaining agreement and the Company believes that its
employee relations are good.
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ITEM 2. PROPERTY
The Company primarily conducts its operations in Duluth, Minnesota. The
administrative, sales, research and development, quality and manufacturing
activities are housed in a 60,000 square-foot, four-story building, including a
basement level. The building is approximately seventy years old and has been
maintained in good condition. Shipping and distribution for the Company operates
from a 5,625 square-foot warehouse adjacent to the existing plant building that
was constructed in 1997. These facilities are owned by the Company with no
existing liens or leases. The Company also leases warehouse space at two
locations in Superior, Wisconsin.
ITEM 3. LEGAL PROCEEDINGS
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders by the registrant
during the fourth quarter of the fiscal year covered by this report.
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PART II
ITEM 5. MARKET FOR COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND SMALL BUSINESS
ISSUER PURCHASES OF EQUITY SECURITIES
The Company's Common Stock is traded on the Nasdaq SmallCap Market under
the symbol IKNX. The following table sets forth, for the fiscal quarters
indicated, the high and low bid prices for the Company's Common Stock as
reported on the Nasdaq Small Cap Market for the periods indicated. The
quotations reflect inter-dealer prices without retail mark-up, mark-down or
commission, and may not represent actual transactions. Prices have been
retroactively adjusted for the 3-for-2 stock split approved by the Company's
Board of Directors on April 29, 2004 as if it happened on the earliest date
presented.
HIGH LOW
----- -----
FISCAL YEAR ENDED DECEMBER 31, 2004:
First Quarter ...................... $8.30 $4.20
Second Quarter ..................... 7.67 4.48
Third Quarter ...................... 7.00 5.06
Fourth Quarter ..................... 8.00 5.61
FISCAL YEAR ENDED DECEMBER 31, 2003:
First Quarter ...................... $4.17 $2.03
Second Quarter ..................... 3.85 2.60
Third Quarter ...................... 4.16 3.28
Fourth Quarter ..................... 5.56 3.70
As of February 28, 2005, the Company had approximately 670 shareholders.
The Company has never declared or paid any dividends on its Common Stock.
The Company did not make any purchases of its equity securities during the
years ended December 31, 2004 and 2003.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following management discussion and analysis focuses on those factors
that had a material effect on the Company's financial results of operations and
financial condition during 2004 and 2003 and should be read in connection with
the Company's audited financial statements and notes thereto for the years ended
December 31, 2004 and 2003.
FACTORS THAT MAY AFFECT FUTURE RESULTS
Certain statements made in this Annual Report on Form 10-KSB, including
those summarized below, are forward-looking statements within the meaning of the
safe harbor provisions of Section 21E of the Securities Exchange Act of 1934, as
amended, that involve risks and uncertainties, and actual results may differ.
Factors that could cause actual results to differ include those identified
below.
- The Company's expectation that its selling, general and administrative
expenses will increase in 2005 as a result of costs required to comply
with Section 404 of the Sarbanes-Oxley Act of 2002 and related
regulations--The amount of these costs will depend on the quality of
the Company's internal controls and the amount of remediation work
required for any significant deficiencies or material weaknesses
identified as part of the compliance process. The results of this
compliance process are important to the Company because effective
internal controls are critical to the production of reliable financial
reports and in helping to prevent financial fraud.
- The Company's belief that the quality of its receivables is high and
that strong internal controls are in place to maintain proper
collections--This belief may be impacted by domestic economic
conditions, by economic, political, regulatory or social conditions in
foreign markets, or by the failure of the Company to properly
implement or maintain internal controls.
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- The belief that the Company's current financial resources, cash
generated from operations and the Company's capacity for debt and/or
equity financing will be sufficient to fund current and anticipated
business operations and capital expenditures. The belief that the
Company's low debt levels and available line of credit make it
unlikely that a decrease in product demand would impair the Company's
ability to fund operations--Changes in anticipated operating results,
credit availability, equity market conditions or the Company's debt
levels may further enhance or inhibit the Company's ability to
maintain or raise appropriate levels of cash.
- The Company's expectation that capital expenditures will be funded
with cash generated from operating activities--This expectation may be
affected by changes in the Company's anticipated capital expenditure
requirements resulting from unforeseen required maintenance or
repairs. The funding of planned or unforeseen expenditures may also be
affected by changes in anticipated operating results resulting from
decreased sales or increased operating expenses.
- The Company's belief that its vulnerability to foreign currency
fluctuations and general economic conditions in foreign countries is
not significant--This belief may be impacted by economic, political
and social conditions in foreign markets, changes in regulatory and
competitive conditions, a change in the amount or geographic focus of
the Company's international sales, or changes in purchase or sales
terms.
- The Company's plans to continue to invest in research and development
efforts, expedite internal product development and invest in
technological alliances, as well as the expected focus and results of
such investments--These plans and expectations may be impacted by
general market conditions, unanticipated changes in expenses or sales,
delays in the development of new products, technological advances, the
ability to find suitable and willing technology partners or other
changes in competitive or market conditions.
- The Company's efforts to grow its international business--These
efforts may be impacted by economic, political and social conditions
in current and anticipated foreign markets, regulatory conditions in
such markets, unanticipated changes in expenses or sales, changes in
competitive conditions or other barriers to entry or expansion.
- The Company's belief as to future activities that may be undertaken to
expand the Company's business--Actual activities undertaken may be
impacted by general market conditions, competitive conditions in the
Company's industry, unanticipated changes in the Company's financial
position or the inability to identify attractive acquisition targets
or other business opportunities.
CRITICAL ACCOUNTING POLICIES
The Company prepares its financial statements in conformity with accounting
principles generally accepted in the United States of America. Therefore, the
Company is required to make certain estimates, judgments and assumptions that
the Company believes are reasonable based upon the information available. These
estimates and assumptions affect the reported amounts of assets and liabilities
at the date of the financial statements and the reported amounts of revenues and
expenses during the periods presented. The accounting policies which IKONICS
believes are the most critical to aid in fully understanding and evaluating its
reported financial results include the following:
Accounts Receivable. The Company performs ongoing credit evaluations of its
customers and adjusts credit limits based upon payment history and the
customer's current credit worthiness, as determined by review of the current
credit information. The Company continuously monitors collections and payments
from its customers and maintains a provision for estimated credit losses based
upon historical experience and any specific customer collection issues that have
been identified. While such credit losses have historically been within
expectations and the provisions established, the Company cannot guarantee that
it will continue to experience the same collection history that has occurred in
the past. The general payment terms are net 30-45 days for domestic customers
and net 60-90 days for foreign customers.
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Inventory. Inventories are valued at the lower rate of cost or market value
using the last in, first out (LIFO) method. The Company monitors its inventory
for obsolescence and records reductions in cost when required.
Deferred Tax Assets. At December 31, 2004, the Company had approximately
$208,000 of deferred tax assets. The deferred tax assets result primarily due to
timing differences in intangible assets and property and equipment. The Company
has recorded a $46,000 valuation allowance to reserve for items that will more
likely than not be realized. The Company has determined that it is more likely
than not that the remaining deferred tax assets will be realized and that an
additional valuation allowance for such assets is not currently required.
Revenue Recognition. The Company recognizes revenue on products when title
passes which is usually upon shipment. Freight billed to customers is included
in sales. Shipping costs are included in cost of goods sold.
RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 2004 COMPARED TO YEAR ENDED DECEMBER 31, 2003
Sales. The Company's net sales increased 13% to $13.7 million in 2004,
compared to net sales of $12.1 million in 2003. New products, increasing market
share, a strong Euro and economic growth in Asia and North America all
contributed to the sales increase.
Cost of Goods Sold. Cost of goods sold was $7.6 million, or 55.2% of sales,
in 2004 and $6.6 million, or 54.5% of sales, in 2003. The increase in cost of
goods sold reflects price increases for some raw materials during the year.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased to $4.5 million, or 33.1% of sales, in 2004
from $4.2 million, or 34.5% of sales, in 2003. The increase reflects start-up
costs for the new IkonSign Etch and IkonImage businesses, and higher payroll
related expenses. Professional services related to external reporting and
compliance were also higher in 2004. Selling, general and administrative
expenses are expected to increase in 2005 as a result of costs required to
comply with Section 404 of the Sarbanes-Oxley Act of 2002 and related
regulations.
Research and Development Expenses. Research and development expenses were
$575,000, or 4.2% of sales, in 2004 compared to $632,000, or 5.2% of sales, in
2003. The reduction was mostly due to the expiration and non-renewal of a
service contract with an outside contractor.
Loss on Investment. The Company wrote down the value of its investment in
Apprise Technologies by $74,666 in the second quarter of 2003. This resulted
from the offering price for shares of Apprise Technologies being below the value
carried on the Company's books and the determination that the decline was other
than temporary.
Interest Income. Interest income decreased to $14,000 in 2004, compared to
$16,000 for 2003. The decrease was primarily due to a general decline in
interest rates.
Income Taxes. Income taxes were $273,000, or an effective rate of 26.5%,
for 2004 compared to $129,000, or an effective rate of 20.3%, for 2003. The
lower effective tax rate during 2003 relates to a higher level of tax benefits
during that period from the extraterritorial income exclusion on foreign sales.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its operations principally with funds generated
from operations. These funds have been sufficient to cover the Company's normal
operating expenditures, annual capital requirements, and research and
development expenditures.
Cash and cash equivalents were $2,737,000 and $1,508,000 at December 31,
2004 and December 31, 2003, respectively. The Company generated $1,262,000 in
cash from operating activities during 2004 compared to the generation of
$1,401,000 in cash from operating activities during 2003. Cash provided by
operating activities is
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primarily the result of net income adjusted for non-cash depreciation,
amortization, loss on investment, provision for doubtful accounts, and certain
changes in working capital components.
During 2004, trade receivables decreased by $216,000, net of a decrease in
the allowance for doubtful accounts. The decrease in receivables reflects
improved collections partially offset by higher sales. The Company believes that
the quality of its receivables is high and that strong internal controls are in
place to maintain proper collections. Inventory levels increased by $394,000,
reflecting higher raw material levels primarily due to increased raw materials
for the Company's Accuart and Accublack product line to support sales growth.
Accounts payable increased by $272,000, reflecting timing of payments to
suppliers. Accrued expenses increased by $74,000 due to the timing of payroll
and other payments.
The Company's net cash used for investing activities was $255,000 and
$277,000 during 2004 and 2003, respectively. During 2004, the Company spent
$270,000 on plant equipment upgrades to improve efficiency and safety, reduce
operating costs, update facilities and vehicles. During the fourth quarter of
2004, the Company exercised warrants for the purchase of 244,585 shares of
Apprise Technologies for an aggregate exercise price of $85,000. The Company
also incurred $9,000 in patent application costs that it records as an asset and
amortizes upon successful completion of the application process. During 2003,
the Company purchased $245,000 in capital equipment and business software and
spent $60,000 on patent application costs. The Company received $108,000 during
2004 from the sale of marketable securities compared to $106,000 from the sale
of marketable securities in 2003.
During 2004, $223,000 in proceeds from financing activities were received
from the exercise of options to purchase 58,355 shares of common stock.
A bank line of credit exists providing for borrowings of up to $1,250,000.
Borrowings under this line of credit are collateralized by accounts receivable
and inventory and bear interest at 2.25 percentage points over the 30-day LIBOR
rate. The Company did not utilize this line of credit during the year and there
were no borrowings outstanding as of December 31, 2004. The line of credit was
also not utilized during 2003 and there were no borrowings outstanding under
this line as of December 31, 2003.
The Company believes that current financial resources, its line of credit,
cash generated from operations and the Company's capacity for debt and/or equity
financing will be sufficient to fund current and anticipated business
operations. The Company also believes that its low debt levels and available
line of credit make it unlikely that a decrease in demand for the Company's
products would impair the Company's ability to fund operations.
CAPITAL EXPENDITURES
The Company spent $270,000 on capital expenditures during 2004. This
spending included plant equipment upgrades to improve efficiency and safety,
reduce operating costs, update facilities and vehicles.
Commitments for capital expenditures include ongoing manufacturing
equipment upgrades, development equipment to modernize the capabilities and
processes of IKONICS' laboratory, and research and development to improve
measurement and quality control processes. These commitments are expected to be
funded with cash generated from operating activities.
INTERNATIONAL ACTIVITY
The Company markets its products to approximately 83 countries in North
America, Europe, Latin America, Asia and other parts of the world. Foreign sales
were approximately 31% of total sales during 2004 and 32% of total sales in
2003. Fluctuations of certain foreign currencies have not significantly impacted
the Company's operations because the Company's foreign sales are not
concentrated in any one region of the world. The Company believes its
vulnerability to uncertainties due to foreign currency fluctuations and general
economic conditions in foreign countries is not significant.
The Company's foreign transactions are primarily negotiated, invoiced and
paid in U.S. dollars while a portion is transacted in Euros. IKONICS has not
implemented a hedging strategy to reduce the risk of foreign
9
currency translation exposures, which management does not believe to be
significant based on the scope and geographic diversity of the Company's foreign
operations as of December 31, 2004.
FUTURE OUTLOOK
IKONICS has invested on average over 4% of its sales dollars for the past
few years in research and development. The Company plans to maintain its efforts
in this area and expedite internal product development as well as form
technological alliances with outside experts to ensure commercialization of new
product opportunities.
In addition to its traditional emphasis on domestic markets, the Company
will continue efforts to grow its business internationally by attempting to
develop new markets and expanding market share where it has already established
a presence.
Other future activities undertaken to expand the Company's business may
include acquisitions, building expansion and additions, equipment additions, new
product development and marketing opportunities.
RECENT ACCOUNTING PRONOUNCEMENTS
In December 2004, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 123 (revised 2004) "Share-Based
Payment" (SFAS 123R). SFAS 123R replaces FASB Statement No. 123 "Accounting for
Stock-Based Compensation", and supersedes APB Opinion No. 25 "Accounting for
Stock Issued to Employees." The statement establishes standards for accounting
for share-based payment transactions. Share-based payment transactions are those
in which an entity exchanges its equity instruments for goods or services, or in
which an entity incurs liabilities in exchange for goods or services, that are
based on the fair value of the entity's equity instruments or that may be
settled by the issuance of those equity instruments. SFAS 123R covers a wide
range of share-based compensation arrangements including share options,
restricted share plans, performance-based awards, share appreciation rights and
employee share purchase plans. SFAS 123R requires a public entity to measure the
cost of employee services received in exchange for an award of equity
instruments based on the fair value of the award on the grant date (with limited
exceptions). That cost will be recognized in the entity's financial statements
over the period during which the employee is required to provide services in
exchange for the award. The statement will be effective for the Company's first
quarter of 2006. FAS 123(R) allows two methods for determining the effects of
the transition. The Company has not yet completed its study of the transition
methods, made any decisions about how it will adopt FAS 123(R), or determined
what option-pricing model is most appropriate for future awards.
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ITEM 7. FINANCIAL STATEMENTS
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Stockholders and Board of Directors
IKONICS Corporation
Duluth, Minnesota
We have audited the balance sheets of IKONICS Corporation as of December 31,
2004 and 2003, and the related statements of operations, stockholders' equity
and comprehensive income and cash flows for the years then ended. 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 the standards of the Public Company
Accounting Oversight Board (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 IKONICS Corporation as of
December 31, 2004 and 2003, and the results of its operations and its cash flows
for the years then ended in conformity with U.S. generally accepted accounting
principles.
/s/ McGladrey & Pullen, LLP
Duluth, Minnesota
January 21, 2005
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IKONICS CORPORATION
BALANCE SHEETS
DECEMBER 31, 2004 AND 2003
2004 2003
---------- ----------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $2,737,460 $1,507,794
Marketable securities 124,358 221,907
Trade receivables, less allowance for doubtful accounts of $75,000
in 2004 and $100,000 in 2003 (Note 11) 1,642,904 1,859,480
Inventories (Notes 1 and 11) 2,201,282 1,807,233
Prepaid expenses and other assets 57,345 73,260
Deferred income taxes (Note 3) 143,000 128,000
---------- ----------
Total current assets 6,906,349 5,597,674
---------- ----------
PROPERTY, PLANT, AND EQUIPMENT, at cost:
Land and building 1,466,898 1,406,377
Machinery and equipment 2,442,295 2,337,166
Office equipment 1,239,811 1,185,098
Vehicles 175,406 191,628
---------- ----------
5,324,410 5,120,269
Less accumulated depreciation 4,295,580 4,010,110
---------- ----------
1,028,830 1,110,159
INTANGIBLE ASSETS, less accumulated amortization of $109,728 in
2004 and $85,154 in 2003 (Note 4) 292,349 308,017
DEFERRED INCOME TAXES (Note 3) 65,000 66,000
INVESTMENTS IN NON-MARKETABLE EQUITY SECURITIES (Note 1) 197,460 112,834
---------- ----------
$8,489,988 $7,194,684
========== ==========
12
IKONICS CORPORATION
BALANCE SHEETS
DECEMBER 31, 2004 AND 2003
2004 2003
---------- ----------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 536,391 $ 264,744
Accrued compensation 263,510 227,318
Other accrued expenses (Note 10) 245,702 207,506
Income taxes payable 30,169 126,766
---------- ----------
Total current liabilities 1,075,772 826,334
---------- ----------
COMMITMENTS AND CONTINGENCIES (Notes 9 and 10)
STOCKHOLDERS' EQUITY:
Preferred stock, par value $.10 per share; authorized 250,000 shares:
issued none
Common stock, par value $.10 per share; authorized 4,750,000 shares:
issued and outstanding 1,930,545 shares in 2004 and 1,872,190
shares in 2003 (Note 2) 193,055 187,219
Additional paid-in capital 1,477,815 1,207,083
Retained earnings 5,745,662 4,987,311
Accumulated other comprehensive loss (2,316) (13,263)
---------- ----------
Total stockholders' equity 7,414,216 6,368,350
---------- ----------
$8,489,988 $7,194,684
========== ==========
See notes to financial statements.
13
IKONICS CORPORATION
STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 2004 AND 2003
2004 2003
----------- -----------
NET SALES (Note 6) $13,682,449 $12,105,127
COSTS AND EXPENSES:
Cost of goods sold 7,556,713 6,601,263
Selling, general and administrative 4,533,294 4,181,486
Research and development 575,065 631,658
----------- -----------
12,665,072 11,414,407
----------- -----------
INCOME FROM OPERATIONS 1,017,377 690,720
LOSS ON INVESTMENT -- (74,666)
INTEREST INCOME 13,974 16,362
----------- -----------
INCOME BEFORE INCOME TAXES 1,031,351 632,416
FEDERAL AND STATE INCOME TAXES (Note 3) 273,000 129,000
----------- -----------
NET INCOME $ 758,351 $ 503,416
=========== ===========
EARNINGS PER COMMON SHARE (Note 2):
Basic $ 0.40 $ 0.27
=========== ===========
Diluted $ 0.38 $ 0.27
=========== ===========
WEIGHTED AVERAGE COMMON SHARES
ASSUMED OUTSTANDING (Note 2):
Basic 1,906,771 1,872,190
=========== ===========
Diluted 1,982,814 1,895,106
=========== ===========
See notes to financial statements.
14
IKONICS CORPORATION
STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME
YEARS ENDED DECEMBER 31, 2004 AND 2003
ACCUMULATED
COMMON STOCK ADDITIONAL OTHER
-------------------- PAID-IN RETAINED COMPREHENSIVE TOTAL
SHARES AMOUNT CAPITAL EARNINGS LOSS EQUITY
--------- -------- ---------- ---------- ------------- ----------
BALANCE AT DECEMBER 31, 2002 (Note 2) 1,872,190 $187,219 $1,207,083 $4,483,895 $(11,534) $5,866,663
Net income -- -- -- 503,416 -- 503,416
Unrealized loss on available-for-sale securities -- -- -- -- (1,729) (1,729)
----------
Total comprehensive income 501,687
--------- -------- ---------- ---------- -------- ----------
BALANCE AT DECEMBER 31, 2003 1,872,190 187,219 1,207,083 4,987,311 (13,263) 6,368,350
Net income -- -- -- 758,351 -- 758,351
Unrealized gain on available-for-sale securities -- -- -- -- 10,947 10,947
----------
Total comprehensive income -- -- -- -- -- 769,298
Exercise of stock options 58,355 5,836 217,100 -- -- 222,936
Tax benefit resulting from stock option exercises -- -- 53,632 -- -- 53,632
--------- -------- ---------- ---------- -------- ----------
BALANCE AT DECEMBER 31, 2004 1,930,545 $193,055 $1,477,815 $5,745,662 $ (2,316) $7,414,216
========= ======== ========== ========== ======== ==========
See notes to financial statements.
15
IKONICS CORPORATION
STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 2004 AND 2003
2004 2003
---------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 758,351 $ 503,416
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation 351,418 339,041
Amortization 24,574 24,188
Gain on sale of property and equipment -- (5,500)
Loss on investment -- 74,666
Provision for doubtful accounts 593 81,254
Deferred income taxes (14,000) 6,000
Tax benefit from stock option exercise 53,632 --
Changes in working capital components:
(Increase) decrease in:
Trade receivables 215,983 (6,965)
Inventories (394,049) (35,328)
Prepaid expenses and other assets 15,915 16,677
Income taxes refund receivable -- 122,469
(Decrease) increase in:
Accounts payable 271,647 (52,485)
Accrued expenses 74,388 206,557
Income taxes payable (96,597) 126,766
---------- ----------
Net cash provided by operating activities 1,261,855 1,400,756
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment (270,089) (244,573)
Proceeds on sale of property and equipment -- 5,500
Purchase of intangibles (8,906) (60,454)
Investment in non-marketable equity securities (84,626) --
Purchases of marketable securities -- (83,980)
Proceeds from sale of marketable securities 108,496 106,438
---------- ----------
Net cash used in investing activities (255,125) (277,069)
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from exercise of stock options 222,936 --
---------- ----------
NET INCREASE IN CASH AND CASH EQUIVALENTS 1,229,666 1,123,687
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 1,507,794 384,107
---------- ----------
CASH AND CASH EQUIVALENTS AT END OF YEAR $2,737,460 $1,507,794
========== ==========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid (refunded) for income taxes $ 330,188 $ (126,514)
========== ==========
Cash paid for interest $ -- $ --
========== ==========
See notes to financial statements.
16
IKONICS CORPORATION
NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2004 AND 2003
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Description of Business - IKONICS Corporation (the Company) develops and
manufactures high-quality photochemical imaging systems for sale primarily
to a wide range of printers and decorators of surfaces. Customers'
applications are primarily screen printing and abrasive etching. The
Company's principal markets are throughout the United States. In addition,
the Company sells to Western Europe, Latin America, Asia, and other parts
of the world. The Company extends credit to its customers, all on an
unsecured basis, on terms that it establishes for individual customers.
Forty percent and fifty-one percent, respectively, of the Company's
accounts receivable at December 31, 2004 and 2003 are due from foreign
customers. The foreign receivables are composed primarily of open credit
arrangements with terms ranging from 45 to 90 days. No receivable from a
single customer exceeded 10% of total receivables at December 31, 2004 or
December 31, 2003. No single customer represented greater than 10% of total
revenue in 2004 or in 2003.
A summary of the Company's significant accounting policies follows:
Cash Equivalents - The Company considers all highly liquid debt instruments
purchased with a maturity of three months or less to be cash equivalents.
Cash equivalents consist of putable variable rate municipal bonds backed by
a letter of credit and money market funds in which the carrying value of
both instruments approximates market value because of the short maturity of
these instruments.
Marketable Securities - Marketable securities are classified as
available-for-sale and consist primarily of municipal revenue bonds that
will be held for indefinite periods of time, including securities that may
be sold in response to changes in market interest or prepayment rates,
needs for liquidity, or changes in the availability or yield of alternative
investments. These securities are carried at fair market value with changes
in fair value recorded in comprehensive income.
The majority of these municipal bonds have been in a continuous loss
position for over 12 months. The fair value of municipal bonds that have
been in continuous loss for 12 months or more at December 31, 2004 is
$75,521 with unrealized losses of $4,100. The unrealized losses are
generally due to changes in interest rates, and, as such, are considered to
be temporary by the Company.
Trade Receivables - Trade receivables are carried at original invoice
amount less an estimate made for doubtful receivables based on a review of
all outstanding amounts on an on-going basis. Management determines the
allowance for doubtful accounts by regularly evaluating individual customer
receivables and considering a customer's financial condition, credit
history, and current economic conditions. Trade receivables are written off
when deemed uncollectible. Recoveries of trade receivables previously
written off are recorded when received. Accounts are considered past due if
payment is not received according to agreed-upon terms.
17
Inventories - Inventories are stated at the lower of cost or market using
the last-in, first-out (LIFO) method. If the first-in, first-out cost
method had been used, inventories would have been approximately $348,000
and $264,000 higher than reported at December 31, 2004 and 2003,
respectively. The major components of inventories are as follows:
2004 2003
---------- ----------
Raw materials $1,260,457 $ 928,949
Work-in-progress 268,419 231,269
Finished goods 1,019,952 911,419
Reduction to LIFO cost (347,546) (264,404)
---------- ----------
Total inventories $2,201,282 $1,807,233
========== ==========
Depreciation - Depreciation of property and equipment is computed using the
straight-line method over the following estimated useful lives:
Years
-----
Building 15-40
Machinery and equipment 5-10
Office equipment 5-10
Vehicles 3
Intangibles Assets- Intangible assets consist primarily of patents,
licenses and covenants not to compete arising from business combinations.
Intangible assets are amortized on a straight-line basis over their
estimated useful lives or terms of their agreement. Intangible assets with
finite lives are assessed for impairment whenever events or circumstances
indicate the carrying value may not be fully recoverable by comparing the
carrying value to future undiscounted cash flows. To the extent there is
impairment, analysis is performed based on several criteria, including, but
not limited to, revenue trends, discounted operating cash flows and other
operating factors to determine the impairment amount. No impairment
adjustments to intangible assets were made during the two-year period ended
December 31, 2004.
Investments in Non-Marketable Equity Securities - Investments in
Non-Marketable Equity Securities consist of a $197,460 equity investment in
Apprise Technologies, Inc. This investment is accounted for on the cost
method. During the fourth quarter of 2004, the Company exercised warrants
for the purchase of an additional 244,585 shares for $84,626. The Company
wrote down the value of its initial investment in Apprise Technologies,
Inc. by $74,666 during the second quarter of 2003 since the current
issuance price for shares of Apprise was below the value carried on the
Company's books. One of the Company's directors is the CEO of Apprise
Technologies, Inc.
Fair Value of Financial Instruments - The carrying amounts of financial
instruments, including cash, cash equivalents, accounts receivable,
accounts payable, and accrued liabilities approximate fair value due to the
short maturity of these instruments. The carrying value of the
non-marketable equity securities approximates the estimated fair value
based on management's knowledge of recent sales prices of the
non-marketable equity securities.
Revenue Recognition - The Company recognizes revenue on products when title
passes which is usually upon shipment. Freight billed to customers is
included in sales. Shipping costs are included in cost of goods sold.
Deferred Taxes - Deferred taxes are provided on a liability method whereby
deferred tax assets are recognized for deductible temporary differences and
operating loss and tax credit carryforwards and deferred tax liabilities
are recognized for taxable temporary differences. Temporary differences are
the differences between the reported amounts of assets and liabilities and
their tax bases. Deferred tax assets are reduced by a valuation allowance
when, in the opinion of management, it is more likely than not that some
portion or all
18
of the deferred tax assets will not be realized. Deferred tax assets and
liabilities are adjusted for the effects of changes in tax laws and rates
on the date of enactment.
Comprehensive Income - The Company's comprehensive income consists of net
income and unrealized gains and losses on marketable securities, net of
taxes.
Earnings Per Common Share (EPS) - Basic EPS is calculated using net income
divided by the weighted average of common shares outstanding during the
year. Diluted EPS is similar to Basic except that the weighted average of
common shares outstanding is increased to include the number of additional
common shares that would have been outstanding if the dilutive potential
common shares, such as options, had been issued.
Shares used in the calculation of diluted EPS are summarized below:
2004 2003
--------- ---------
Weighted average common shares outstanding 1,906,771 1,872,190
Dilutive effect of stock options 76,043 22,916
--------- ---------
Weighted average common and common equivalent shares outstanding 1,982,814 1,895,106
========= =========
Options to purchase 195,891 and 252,161 shares of common stock were
outstanding as of December 31, 2004 and 2003, respectively.
Employee Stock Plan - The Company has a stock-based compensation plan,
which is described more fully in Note 7. The Company accounts for this plan
under the recognition and measurement principles of APB Opinion No. 25,
Accounting for Stock Issued to Employees, and related interpretations.
Accordingly, no stock-based employee compensation cost has been recognized,
as all options granted under the plan had an exercise price equal to the
market value of the underlying common stock on the date of grant. The
following table illustrates the effect on net income and earnings per share
had compensation cost been determined based on the grant date fair values
of awards (the method described in FASB Statement No. 123, Accounting for
Stock-Based Compensation):
Years Ended December 31,
------------------------
2004 2003
-------- --------
Net income:
As reported $758,351 $503,416
Deduct total stock-based employee compensation expense
determined under fair value based method for all awards 29,875 79,377
-------- --------
Pro forma $728,476 $424,039
======== ========
Basic earnings per share:
As reported $ 0.40 $ 0.27
Pro forma $ 0.38 $ 0.23
Diluted earnings per share:
As reported $ 0.38 $ 0.27
Pro forma $ 0.37 $ 0.22
Use of Estimates - The preparation of the 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 and liabilities and disclosure
of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
19
Foreign Operations - The Company markets in Europe, Latin America, Asia,
and other parts of the world. Foreign sales approximated 31% of total sales
in 2004 and 32% of total sales in 2003.
Foreign Currency Translation - Foreign currency transactions and
translation adjustments did not have a material effect on the Statements of
Stockholders' Equity and Comprehensive Income and Cash Flows for 2004 and
2003.
2. STOCKHOLDERS' EQUITY
During 2004, the Company declared and paid a three-for two stock split
effected in the form of a 50% stock dividend. All share and per share
information presented has been adjusted retroactively as if the stock split
occurred on the earliest date presented.
3. INCOME TAXES
Income tax expense for the years ended December 31, 2004 and 2003 consists
of the following:
2004 2003
-------- --------
Current:
Federal $248,000 $100,000
State 39,000 23,000
-------- --------
287,000 123,000
Deferred (14,000) 6,000
-------- --------
$273,000 $129,000
======== ========
The expected provision for income taxes, computed by applying the U.S.
federal income tax rate of 35% to income before taxes, is reconciled to
income tax expense as follows:
2004 2003
-------- ---------
Expected provision for federal income taxes $361,100 $ 221,200
State income taxes, net of federal benefit 20,200 13,700
Extraterritorial income exclusion (94,400) (127,800)
Meals and entertainment 18,700 10,200
Tax-exempt interest (9,800) (3,500)
R&D Credit (12,800) (7,600)
Non-marketable equity security valuation allowance -- 28,000
Other (10,000) (5,200)
-------- ---------
$273,000 $ 129,000
======== =========
Deferred tax assets consist of the following as of December 31, 2004 and
2003:
2004 2003
-------- --------
Property and equipment and other assets $ 38,000 $ 35,000
Accrued vacation 15,000 16,000
Other accrued expenses 57,000 57,000
Inventories 44,000 36,000
Allowance for doubtful accounts 27,000 36,000
Allowance for sales returns 7,000 7,000
Intangible assets 27,000 31,000
Capital loss carryforward 46,000 46,000
-------- --------
261,000 264,000
Less valuation allowance (46,000) (46,000)
-------- --------
215,000 218,000
Deferred tax liabilities:
Prepaid expenses 7,000 24,000
-------- --------
$208,000 $194,000
======== ========
20
The deferred tax amounts described above have been included in the
accompanying balance sheet as of December 31, 2004 and 2003 as follows:
Current assets $143,000 $128,000
Noncurrent assets 65,000 66,000
-------- --------
$208,000 $194,000
======== ========
The noncurrent deferred tax assets are net of the valuation allowance. The
Company increased its valuation allowance by $26,000 during 2003 because of
the additional capital loss carryforward which may not be utilized.
4. INTANGIBLE ASSETS
Intangible assets consist primarily of patents, licenses and covenants not
to compete arising from business combinations. Intangible assets are
amortized on a straight-line basis over their estimated useful lives or
terms of their agreement.
Intangible assets at December 31, 2004 and 2003 consist of the following:
December 31, 2004 December 31, 2003
----------------------------- -----------------------------
Gross Carrying Accumulated Gross Carrying Accumulated
Amount Amortization Amount Amortization
-------------- ------------ -------------- ------------
Amortized intangible assets:
Patents $202,077 $ (60,980) $193,171 $(51,197)
Licenses 100,000 (18,750) 100,000 (10,625)
Non-compete agreement 100,000 (29,998) 100,000 (23,332)
-------- --------- -------- --------
$402,077 $(109,728) $393,171 $(85,154)
======== ========= ======== ========
Net intangible assets as December 31, 2004 and 2003 are $292,349 and
$308,017, respectively.
2004 2003
------- -------
Aggregate amortization expense:
For the year ended December 31 $24,574 $24,188
Estimated amortization expense:
For the year ended December 31: 2005 $24,574
2006 24,574
2007 24,574
2008 24,574
2009 24,574
In connection with the license agreements, the Company has agreed to pay
royalties ranging from 3% to 5% on the future sales of products subject to
the agreements.
5. PENSION PLAN
The Company has established a salary deferral plan under Section 401(k) of
the Internal Revenue Code. Such deferrals accumulate on a tax-deferred
basis until the employee withdraws the funds. The Company contributes 5% of
each eligible employee's compensation. Total pension expense for the years
ended December 31, 2004 and 2003 was approximately $149,000 and $138,000,
respectively.
21
6. GEOGRAPHIC INFORMATION
The Company manages and operates its business on the basis of one
reportable segment. See Note 1 for a brief description of the Company's
business. In 2004 and 2003, the Company marketed its products in various
countries throughout the world. The Company is exposed to the risk of
changes in social, political, and economic conditions inherent in foreign
operations, and the Company's results of operations are affected by
fluctuations in foreign currency exchange rates. No single foreign country
accounted for more than 10% of the Company's net sales for 2004 and 2003.
Net sales by geographic area are presented by attributing revenues from
external customers on the basis of where the products are sold.
2004 2003
----------- -----------
Net sales by geographic area:
United States $ 9,391,501 $ 8,190,798
International 4,290,948 3,914,329
----------- -----------
$13,682,449 $12,105,127
=========== ===========
7. STOCK OPTIONS
During 1995, the Company, with the approval of its shareholders, adopted a
stock incentive plan for the issuance of up to 57,750 shares of common
stock. In 1999, the Company, with the approval of its shareholders,
increased the number of shares reserved for issuance under this plan to
305,250 shares and, in 2004, increased the number of shares reserved for
issuance under this plan to 342,750 shares. The plan provides for granting
eligible participants stock options or other stock awards, as described by
the plan, at option prices ranging from 85% to 110% of fair market value at
date of grant. Options granted expire up to seven years after the date of
grant. Such options generally become exercisable over a one to three year
period.
The fair value disclosure in Note 1 was estimated using the Black-Scholes
option pricing model with the following assumptions:
2004 2003
---------- ----------
Dividend yield 0.0% 0.0%
Expected volatility 60.0% 73.5%
Expected life of option five years five years
Risk-free interest rate 3.4% 3.0%
Fair value of each option on grant date $3.77 $2.61
22
A summary of the status of the Company's stock option plan as of December
31, 2004 and 2003 and changes during the years then ended is presented
below:
2004 2003
------------------ ------------------
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
------- -------- ------- --------
Outstanding at beginning of year 252,161 $3.67 225,043 $3.95
Granted 3,000 7.01 50,368 2.87
Exercised (58,355) 3.82 --
Expired and forfeited (915) 3.06 (23,250) 3.83
------- -------
Outstanding at end of year 195,891 3.67 252,161 3.67
======= =======
The following table summarizes information about stock options outstanding
at December 31, 2004:
Options Outstanding Options Exercisable
----------------------------------------- --------------------------
Weighted-
Number Average Weighted- Number Weighted-
Range of Outstanding at Remaining Average Exercisable at Average
Exercise December 31, Contractual Exercise December 31, Exercise
Price 2004 Life (years) Price 2004 Price
------------ -------------- ------------ --------- -------------- ---------
$2.00 - 2.99 64,991 2.90 $2.44 46,247 $2.42
3.00 - 3.99 63,190 1.71 3.17 55,690 3.15
4.00 - 4.99 27,750 0.32 4.49 27,750 4.49
5.00 - 5.99 17,160 1.32 5.45 17,160 5.45
6.00 - 6.99 19,800 0.80 6.10 19,800 6.10
7.00 - 7.99 3,000 4.33 7.01 --
------- -------
195,891 1.82 3.67 166,647 3.76
======= =======
8. CONCENTRATION OF CREDIT RISK
The Company maintains its cash balances primarily in one financial
institution. As of December 31, 2004, the balance exceeded the Federal
Deposit Insurance Corporation coverage. The Company reduces its exposure to
credit risk by maintaining such balances with financial institutions that
have high credit ratings.
Accounts receivable are financial instruments that also expose the Company
to concentration of credit risk. The large number of customers comprising
the Company's customer base and their dispersion across different
geographic areas limits such exposure. In addition, the Company routinely
assesses the financial strength of its customers and maintains an allowance
for doubtful accounts that management believes will adequately provide for
credit losses.
Concentration of credit risk with respect to trade receivables is not
significant. No one customer accounts for more than 10% of total
receivables as of December 31, 2004.
9. LEASE COMMITMENTS
As of December 31, 2004, the Company was obligated under non-cancelable
operating lease agreements for certain equipment. Future minimum lease
payments for non-cancelable operating leases with initial or remaining
terms in excess of one year are as follows:
2005 $11,612
2006 $ 1,161
23
The Company also leases buildings on a month-to-month basis. Total rental
expense for all equipment and building operating leases was $56,052 in 2004
and $54,729 in 2003.
10. CONTINGENCIES
The Company has entered into licensing agreements which require it to make
royalty payments on sales of certain products. Royalty payments range from
3% to 5% of net sales on these products. The Company incurred $103,609 of
expense under these agreements during 2004, as compared to $107,444 during
2003.
In 2003 the Company identified a probable underpayment of sales tax.
Accordingly, in 2003 the Company accrued $160,000 for the future payment of
such unpaid taxes.
11. LINE OF CREDIT
The Company has a $1,250,000 bank line of credit that provides for working
capital financing. This line of credit is subject to annual renewal on each
May 1, is collateralized by trade receivables and inventory, and bears
interest at 225 basis points over 30-day LIBOR. There were no outstanding
borrowings under this line of credit at December 31, 2004 and 2003.
12. ACCOUNTING PRONOUNCEMENTS
In December 2004, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 123 (revised 2004)
"Share-Based Payment" (SFAS 123R). SFAS 123R replaces FASB Statement No.
123 "Accounting for Stock-Based Compensation", and supersedes APB Opinion
No. 25 "Accounting for Stock Issued to Employees." The statement
establishes standards for accounting for share-based payment transactions.
Share-based payment transactions are those in which an entity exchanges its
equity instruments for goods or services, or in which an entity incurs
liabilities in exchange for goods or services, that are based on the fair
value of the entity's equity instruments or that may be settled by the
issuance of those equity instruments. SFAS 123R covers a wide range of
share-based compensation arrangements including share options, restricted
share plans, performance-based awards, share appreciation rights and
employee share purchase plans. SFAS 123R requires a public entity to
measure the cost of employee services received in exchange for an award of
equity instruments based on the fair value of the award on the grant date
(with limited exceptions). That cost will be recognized in the entity's
financial statements over the period during which the employee is required
to provide services in exchange for the award. The statement will be
effective for the Company's first quarter of 2006. FAS 123(R) allows two
methods for determining the effects of the transition. The Company has not
yet completed its study of the transition methods, made any decisions about
how it will adopt FAS 123(R), or determined what option-pricing model is
most appropriate for future awards.
24
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
ITEM 8A. CONTROLS AND PROCEDURES
As of the end of the period covered by this report, the Company conducted
an evaluation, under the supervision and with the participation of the principal
executive officer and principal financial officer, of the Company's disclosure
control and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the
Securities Exchange Act of 1934 (the "Exchange Act")). Based on this evaluation,
the principal executive officer and principal financial officer concluded that
the Company's disclosure controls and procedures are effective to ensure that
information required to be disclosed by the Company in reports that it files or
submits under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified in SEC rules and forms.
There was no change in the Company's internal control over financial
reporting identified in connection with the evaluation required by Rule
13a-15(d) and Rule 15d-15(d) of the Exchange Act that occurred during the period
covered by this report and that has materially affected, or is reasonable likely
to materially affect, the Company's internal control over financial reporting.
ITEM 8B. OTHER INFORMATION
None.
PART III
ITEM 9. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information included in the Company's definitive proxy statement for
the 2005 Annual Meeting of Shareholders under the captions "Election of
Directors," "Executive Officers" and "Section 16(a) Beneficial Ownership
Reporting Compliance" is incorporated by reference. The following information
completes the Company's response to this Item 9.
The Company has adopted a code of ethics that applies to the Company's
Chief Executive Officer, Chief Financial Officer, Controller and other employees
performing similar functions. This code of ethics is filed as Exhibit 14 to this
report. The Company intends to satisfy the disclosure requirement under Item 10
of Form 8-K regarding an amendment to, or a waiver from, this code of ethics by
posting such information on its Web site which is located at www.ikonics.com.
ITEM 10. EXECUTIVE COMPENSATION
The information included in the Company's definitive proxy statement for
the 2005 Annual Meeting of Shareholders under the captions "Election of
Directors--Director Compensation," "Summary Compensation Table," "Option Grants
in Last Fiscal Year," "Aggregate Option Exercises in Last Fiscal Year and Fiscal
Year-End Option Values" and "Employment Contracts; Termination of Employment and
Change-In-Control Arrangements" is incorporated by reference.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The information included in the Company's definitive proxy statement for
the 2005 Annual Meeting of Shareholders under the captions "Security Ownership
of Principal Shareholders and Management" and "Equity Compensation Plan
Information is incorporated by reference in response to this Item 11.
25
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information included in the Company's definitive proxy statement for
the 2005 Annual Meeting of Shareholders under the caption "Certain Relationships
and Related Transactions" is incorporated by reference.
ITEM 13. EXHIBITS
The following exhibits are filed as part of this Annual Report on Form
10-KSB for the fiscal year ended December 31, 2004:
Exhibit Description
------- -----------
3.1 Restated Articles of Incorporation of Company, as amended.
(Incorporated by reference to the like numbered Exhibit to the
Company's Registration Statement on Form 10-SB filed with the
Commission on April 7, 1999 (Registration No. 000-25727).)
3.2 By-Laws of the Company, as amended. (Incorporated by reference to the
like numbered Exhibit to the Company's Registration Statement on Form
10-SB filed with the Commission on April 7, 1999 (Registration No.
000-25727).)
4 Specimen of Common Stock Certificate. (Incorporated by reference to
the like numbered Exhibit to Amendment No. 1 to the Company's
Registration Statement on Form 10-SB filed with the Commission on May
26, 1999 (Registration No. 000-25727).)
10.1 IKONICS Corporation 1995 Stock Incentive Plan, as amended.
(Incorporated by reference to Exhibit B to the Company's proxy
statement for its 2004 Annual Meeting of Shareholders filed with the
Commission on March 29, 2004 (File No. 000-25727).)
10.2 2005 Bonus Program. (Incorporated by reference to the description of
this Program included in the Current Report on Form 8-K filed with
Commission on February 16, 2005 (File No. 000-25727).)
10.5 Revolving Credit Agreement dated April 30, 1999 between the Company
and M&I Bank. (Incorporated by reference to the like numbered Exhibit
to Amendment No. 1 to the Company's Registration Statement on Form
10-SB filed with the Commission on May 26, 1999 (Registration No.
000-25727).)
14 Code of Ethics. (Incorporated by reference to the like numbered
Exhibit to the Company's Annual Report on Form 10-KSB for the year
ended December 31, 2003 (File No. 000-25727).)
23 Consent of Independent Registered Public Accounting Firm
24 Powers of Attorney.
31.1 Rule 13a-14(a)/15d-14(a) Certifications of CEO.
31.2 Rule 13a-14(a)/15d-14(a) Certifications of CFO.
32 Section 1350 Certifications.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information included in the Company's definitive proxy statement for
the 2005 Annual Meeting of Shareholders under the caption "Audit and Non-Audit
Fees" is incorporated by reference.
26
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized on March 18, 2005.
IKONICS CORPORATION
By /s/ William C. Ulland
-------------------------------------
William C. Ulland, Chairman,
Chief Executive Officer and President
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities indicated on March 18, 2005.
/s/ William C. Ulland
-------------------------------------
William C. Ulland, Chairman,
Chief Executive Officer and President
(Principal Executive Officer)
/s/ Jon Gerlach
-------------------------------------
Jon Gerlach, Chief Financial Officer
and Vice President of Finance
(Principal Financial and
Accounting Officer)
-------------------------------------
Charles H. Andresen* Director
-------------------------------------
Rondi Erickson* Director
-------------------------------------
H. Leigh Severance* Director
-------------------------------------
Gerald W. Simonson* Director
-------------------------------------
David O. Harris* Director
----------
* William C. Ulland, by signing his name hereto, does hereby sign this
document on behalf of each of the above named Directors of the registrant
pursuant to powers of attorney duly executed by such persons.
/s/ William C. Ulland
----------------------------------------
William C. Ulland, Attorney-in-Fact
27
INDEX TO EXHIBITS
Exhibit Description Page
------- ----------- ----
3.1 Restated Articles of Incorporation of Company, as amended... Incorporated by Reference
3.2 By-Laws of the Company, as amended.......................... Incorporated by Reference
4 Specimen of Common Stock Certificate........................ Incorporated by Reference
10.1 IKONICS Corporation 1995 Stock Incentive Plan, as amended... Incorporated by Reference
10.2 2005 Bonus Program.......................................... Incorporated by Reference
10.5 Revolving Credit Agreement dated April 30, 1999
between the Company and M&I Bank............................ Incorporated by Reference
14 Code of Ethics.............................................. Incorporated by Reference
23 Consent of Independent Registered Public Accounting Firm... Filed Electronically
24 Powers of Attorney.......................................... Filed Electronically
31.1 Rule 13a-14(a)/15d-14(a) Certifications of CEO.............. Filed Electronically
31.2 Rule 13a-14(a)/15d-14(a) Certifications of CFO.............. Filed Electronically
32 Section 1350 Certifications................................. Filed Electronically