UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q
 
(Mark One)

 
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2009

 
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE EXCHANGE ACT

For the transition period from _________ to _________

Commission file number 001-15757

IMAGEWARE SYSTEMS, INC.
(Exact Name of Registrant as Specified in Its Charter)

Delaware
  
33-0224167
(State or Other Jurisdiction of Incorporation or
  
(IRS Employer Identification No.)
Organization)
    

10883 Thornmint Road
San Diego, CA 92127
(Address of Principal Executive Offices)

(858) 673-8600
(Registrant’s Telephone Number, Including Area Code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x  No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer o
  
Accelerated filer o
     
Non-accelerated filer o
  
Smaller reporting company x
(Do not check if a smaller reporting company)
    

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-12 of the Exchange Act).  Yes o  No x

The number of shares of Common Stock, with $0.01 par value, outstanding on May 19, 2010 was 23,238,777.

 
 
 

IMAGEWARE SYSTEMS, INC. INDEX

PART I.
FINANCIAL INFORMATION                                                                                                                           
3
       
 
ITEM 1.
FINANCIAL STATEMENTS
3
       
   
   Condensed Consolidated Balance Sheets as of June 30, 2009 (unaudited) and December 31, 2008
3
   
   Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2009 and 2008 (unaudited)
4
   
   Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2009 and 2008 (unaudited)
5
   
   Condensed Consolidated Statements of Comprehensive Loss for the three and six months ended June 30, 2009 and 2008 (unaudited)
6
   
   Notes to unaudited Condensed Consolidated Financial Statements
7
       
 
ITEM 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
20
       
 
ITEM 4T.
Controls and Procedures
32
       
PART II.
OTHER INFORMATION                                                                                                                           
32
       
 
ITEM 1A.
Risk Factors                                                                                                           
32
       
 
ITEM 6.
Exhibits                                                                                                           
35
       
   
SIGNATURES                                                                                                                                          
36

 
 
2
 
PART I

FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

IMAGEWARE SYSTEMS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In Thousands, except share and per share data)

   
June 30,
2009
    
December 31,
2008
  
   
(Unaudited)
        
ASSETS
            
Current Assets:
            
Cash
  
$
273
    
$
171
  
Accounts receivable, net of allowance for doubtful accounts of $28 (unaudited) and $28 at June 30, 2009 and December 31, 2008, respectively
    
499
      
503
  
Costs and estimated earnings in excess of billings on uncompleted contract
    
120
      
—
  
Inventory
    
24
      
19
  
Other current assets
    
168
      
191
  
Total Current Assets
    
1,084
      
884
  
                 
Property and equipment, net
    
59
      
108
  
Other assets
    
42
      
37
  
Pension assets
    
697
      
682
  
Intangible assets, net of accumulated amortization
    
102
      
110
  
Goodwill
    
3,416
      
3,416
  
Total Assets
  
$
5,400
    
$
5,237
  
                 
LIABILITIES AND SHAREHOLDERS’ EQUITY
                
                 
Current Liabilities:
                
Accounts payable
  
$
2,367
    
$
2,388
  
Deferred revenue
    
887
      
872
  
Billings in excess of costs and estimated earnings on uncompleted contract
    
—
      
279
  
Accrued expenses
    
1,973
      
1,530
  
Notes payable to related parties
    
110
      
98
  
Secured note payable, net of discount
    
818
      
—
  
Additional financing obligation, net of discount
    
877
      
—
  
Total Current Liabilities
    
7,032
      
5,167
  
                 
Pension obligation
    
1,117
      
1,102
  
Total Liabilities
    
8,149
      
6,269
  
                 
Shareholders’ equity:
                
Preferred stock, authorized 4,000,000 shares:
                
Series B convertible redeemable preferred stock, $0.01 par value; designated 750,000 shares, 389,400 shares issued, and 239,400 shares outstanding at June 30, 2009 and December 31, 2008; liquidation preference $658 and $632 at June 30, 2009 and  December 31, 2008, respectively
    
2
      
2
  
Series C convertible non-redeemable preferred stock, $0.01 par value; designated 3,500 shares, 2,500 shares issued, and 2,200 shares outstanding at June 30, 2009 and December 31, 2008; liquidation preference $2,691and $2,604 at June 30, 2009 and December 31, 2008, respectively
    
—
      
—
  
Series D convertible non-redeemable preferred stock, $0.01 par value; designated 3,000 shares, 2,198 shares issued, and 2,198 shares outstanding at June 30, 2009 and December 31, 2008; liquidation preference $2,515 and $2,428 at June 30, 2009 and December 31, 2008, respectively
    
—
      
—
  
Common stock, $.01 par value, 50,000,000 shares authorized; 18,163,487 (unaudited) and 18,163,487 shares issued at June 30, 2009 and December 31, 2008, respectively, and 18,156,783 (unaudited) and 18,156,783 shares outstanding at June 30, 2009 and December 31, 2008, respectively
    
180
      
180
  
Additional paid in capital
    
86,833
      
86,007
  
Treasury stock, at cost - 6,704 shares
    
(64
)
    
(64
)
Accumulated other comprehensive (loss) income
    
9
      
44
  
Accumulated deficit
    
(89,709
)
    
(87,201
)
Total Shareholders’ equity (deficit)
    
(2,749
) 
    
(1,032
) 
                 
Total Liabilities and Shareholders’ Equity
  
$
5,400
    
$
5,237
  

The accompanying notes are an integral part of these condensed consolidated financial statements.
 
 
3
 
 

IMAGEWARE SYSTEMS, INC.
 
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In Thousands, except share and per share amounts)
(Unaudited)
 
   
Three Months Ended
June 30,
    
Six Months Ended
June 30,
  
   
2009
    
2008
    
2009
    
2008
  
Revenues:
                        
Product
  
$
999
    
$
1,020
    
$
1,674
    
$
1,797
  
Maintenance
    
646
      
647
      
1,285
      
1,253
  
     
1,645
      
1,667
      
2,959
      
3,050
  
Cost of revenues:
                                
Product
    
317
      
270
      
601
      
409
  
Maintenance
    
199
      
289
      
408
      
604
  
Gross profit
    
1,129
      
1,108
      
1,950
      
2,037
  
                                 
Operating expenses:
                                
General and administrative
    
595
      
944
      
1,204
      
2,045
  
Sales and marketing
    
451
      
548
      
880
      
1,214
  
Research and development
    
553
      
731
      
1,141
      
1,628
  
Depreciation and amortization
    
30
      
194
      
63
      
395
  
     
1,629
      
2,417
      
3,288
      
5,282
  
Loss from operations
    
(500
)
    
(1,309
)
    
(1,338
)
    
(3,245
)
                                 
Interest expense (income), net
    
233
      
—
      
348
      
(5
) 
Change in fair value of additional financing obligation
    
397
      
—
      
503
      
—
  
Loss on debt modification
    
340
      
—
      
340
          
Other expense (income), net
    
(11
)
    
(15
) 
    
(21
)
    
(43
) 
Loss from continuing operations before income taxes
    
(1,459
)
    
(1,294
)
    
(2,508
)
    
(3,197
)
                                 
Income tax expense (benefit)
    
—
      
—
      
—
      
—
  
                                 
Loss from continuing operations
    
(1,459
)
    
(1,294
)
    
(2,508
)
    
(3,197
)
                                 
Discontinued operations:
                                
Gain (loss) from operations of discontinued Digital Photography component
    
—
      
7
      
—
      
7
  
Income tax benefit (expense)
    
—
      
—
      
—
      
—
  
Gain (loss) on discontinued operations
    
—
      
7
      
—
      
7
  
                                 
Net loss
    
(1,459
)
    
(1,287
)
    
(2,508
)
    
(3,190
)
Preferred dividends
    
(100
)
    
(84
)
    
(200
)
    
(169
)
Beneficial conversion feature on preferred stocks
    
—
      
—
      
—
      
(1,794
)
Net loss available to common shareholders
  
$
(1,559
)
  
$
(1,371
)
  
$
(2,708
)
  
$
(5,153
)
                                 
Basic and diluted loss per common share - see note 2
                                
Loss from continuing operations
  
$
(0.08
)
  
$
(0.07
)
  
$
(0.14
)
  
$
(0.18
)
Discontinued operations
    
—
      
—
      
—
      
—
  
Preferred dividends
    
(0.01
)
    
(0.01
)
    
(0.01
)
    
(0.01
)
Beneficial conversion feature on preferred stocks
    
—
      
—
      
—
      
(0.10
)
Basic and diluted loss per share available to common shareholders
  
$
(0.09
)
  
$
(0.08
)
  
$
(0.15
)
  
$
(0.29
)
                                 
Weighted-average shares (basic and diluted)
    
18,156,783
      
18,087,528
      
18,156,783
      
17,962,113
  

 
The accompanying notes are an integral part of these condensed consolidated financial statements.

 
 
4
 
 

IMAGEWARE SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands)
(Unaudited)

   
Six Months Ended
June 30,
  
   
2009
    
2008
  
Cash flows from operating activities
            
Net loss
  
$
(2,508
)
  
$
(3,190
)
Adjustments to reconcile net loss to net cash used in operating activities
                
Depreciation and amortization
    
63
      
395
  
Change in fair value of additional financing obligation
    
503
      
—
  
Loss on debt modification
    
340
      
—
  
Non cash interest and amortization of debt discount and debt issuance costs
    
224
      
—
  
Stock based compensation
    
265
      
178
  
Change in assets and liabilities
                
Accounts receivable, net
    
5
      
(65
) 
Inventory, net
    
(5
)
    
(53
) 
Other assets
    
22
      
(10
)
Pension assets
    
(16
)
    
(65
)
Accounts payable
    
(21
) 
    
828
  
Accrued expenses
    
444
      
165
  
Deferred revenue
    
15
      
182
  
Billings in excess of costs and estimated earnings on uncompleted contracts
    
(399
) 
    
531
  
Pension obligation
    
15
      
65
  
Total adjustments
    
1,455
      
2,151
  
Net cash used in operating activities
    
(1,053
)
    
(1,039
)
                 
Cash flows from investing activities
                
Purchase of property and equipment
    
(6
)
    
(68
)
Acquisition of business, net of cash acquired
    
—
      
(187
) 
Net cash used in investing activities
    
(6
)
    
(255
)
                 
Cash flows from financing activities
                
Proceeds from issuance of notes payable with warrants
    
1,350
      
—
  
Dividends paid
    
—
      
(25
) 
Financing issuance costs of notes payable
    
(154
) 
    
—
  
Proceeds from exercised stock purchase warrants
    
—
      
542
  
                 
Net cash provided by financing activities
    
1,196
      
517
  
Effect of exchange rate changes on cash
    
(35
)
    
(51
)
Net increase (decrease) in cash
    
102
      
(828
) 
                 
Cash at beginning of period
    
171
      
1,044
  
                 
Cash at end of period
  
$
273
    
$
216
  
                 
Supplemental disclosure of cash flow information:
                
Cash paid for interest
  
$
—
    
$
—
  
Cash paid for income taxes
  
$
—
    
$
—
  
Summary of non-cash investing and financing activities:
                
Additional financing obligation
  
$
292
    
$
—
  
Warrants issued with notes payable
  
$
345
    
$
—
  
Warrants issued pursuant to debt modification
  
$
209
    
$
—
  
Beneficial conversion feature of Series C and D preferred stock
  
$
—
    
$
1,794
  

 
The accompanying notes are an integral part of these condensed consolidated financial statements.

 
 
5
 
 

IMAGEWARE SYSTEMS, INC
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(In Thousands)
(Unaudited)

   
Three Months Ended
June 30,
    
Six Months Ended
June 30,
  
   
2009
    
2008
    
2009
    
2008
  
Net loss
  
$
(1,459
)
  
$
(1,287
)
  
$
(2,508
)
  
$
(3,190
)
                                 
Foreign currency translation adjustment
    
(37
)
    
(12
)
    
(35
)
    
(51
)
Comprehensive loss
  
$
(1,496
)
  
$
(1,299
)
  
$
(2,543
)
  
$
(3,241
)
 
 
The accompanying notes are an integral part of these condensed consolidated financial statements.

 
 
6
 

IMAGEWARE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1.  DESCRIPTION OF BUSINESS AND OPERATIONS

ImageWare Systems, Inc. (the “Company”) is a leader in the emerging market for software-based identity management solutions, providing biometric, secure credential, law enforcement and enterprise authorization.  Our “flagship” product is the IWS Biometric Engine.  Scalable for small city business or worldwide deployment, our biometric engine is a multi-biometric platform that is hardware and algorithm independent, enabling the enrollment and management of unlimited population sizes.  Our identification products are used to manage and issue secure credentials, including national IDs, passports, driver licenses, smart cards and access control credentials. Our law enforcement products provide law enforcement with integrated mug shot, fingerprint LiveScan and investigative capabilities. We also provide comprehensive authentication security software.  Biometric technology is now an integral part of all markets we address, and all of our products are integrated into the Biometric Engine Platform.  Elements of the IWS Biometric Engine can be used as investigative tools for law enforcement utilizing multiple biometrics and forensic data elements, and to enhance security and authenticity of public and private sector credentials.

Our biometric technology is a core software component of an organization’s security infrastructure and includes a multi-biometric identity management solution for enrolling, managing, identifying and verifying the identities of people by the physical characteristics of the human body. We develop, sell and support various identity management capabilities within government (federal, state and local), law enforcement, commercial enterprises, and transportation and aviation markets for identification and verification purposes. Our IWS Biometric Engine is a biometric identity management platform for multi-biometric enrollment, management and authentication, managing population databases of virtually unlimited sizes. It is also offered as a Software Development Kit (SDK) based search engine, enabling developers and system integrators to implement a biometric solution or integrate biometric capabilities into existing applications without having to derive biometric functionality from pre-existing applications.  The IWS Biometric Engine combined with our secure credential platform, IWS EPI Builder, provides a comprehensive, integrated biometric and secure credential solution that can be leveraged for high-end applications such as passports, driver licenses, national IDs, and other secure documents. It can also be utilized within our law enforcement systems to incorporate any number of various multiple biometrics into one system.

The Company recently added next generation voice recognition, multilingual speech translation and voice analytics capabilities to our suite of biometric identity management solutions, enabling users to facilitate and improve communication across major language groups globally. The ImageWare Mediator products are offered stand-alone or integrated with our Biometric Engine platform providing an advanced multilingual communications capability. Government, intelligence, defense, public safety and border control customers are able to realize language translation and voice recognition capabilities whereby an English-speaking user can understand and be understood in numerous languages including Spanish, German, French, Korean, Arabic and Polish, among others. ImageWare Mediator products support speech to speech translation, multilingual collaboration, conversational environments, which are represented for both voice and text and include biometric functionality for speaker identification and voice analytics.
 
Our law enforcement solutions enable agencies to quickly capture, archive, search, retrieve, and share digital images, fingerprints and criminal history records on a stand-alone, networked, wireless or Web-based platform. We develop, sell and support a suite of modular software products used by law enforcement and public safety agencies to create and manage criminal history records and to investigate crime. Our IWS Law Enforcement solution consists of six software modules: a Capture and Investigative module, which provides a criminal booking system and related database; a Facial Recognition module, which uses biometric facial recognition to identify suspects; a Suspect ID module, which facilitates the creation of full-color, photo-realistic suspect composites; a Wireless module, which provides access to centrally stored records over the Internet in a connected or wireless fashion; a PDA add-on module, which enables access to centrally stored records while in the field on a handheld Pocket PC compatible device combined with central repository services which allows for inter-agency data sharing on a local, regional, and/or national level; and a LiveScan module, which incorporates LiveScan capabilities into IWS Law Enforcement providing integrated fingerprint and palm print biometric management for civil and law enforcement use.

Our Secure Credential ID solutions empower customers to create secure and smart digital identification documents with complete ID systems. We develop, sell and support software and design systems which utilize digital imaging in the production of photo identification cards and credentials and identification systems. Our products in this market consist of IWS EPI Suite, IWS EPI Builder (SDK) and Identifier for Windows.  These products allow for the production of digital identification cards and related databases and records and can be used by, among others, schools, airports, hospitals, corporations or governments.  We have added the ability to incorporate multiple biometrics into the ID systems with the integration of IWS Biometric Engine to our Secure Credential ID product line.
 
 
7
 
 
Our enterprise authentication software includes the IWS Desktop Security product which is a comprehensive authentication management infrastructure solution providing added layers of security to workstations, networks and systems through advanced encryption and authentication technologies. IWS Desktop Security is optimized to enhance network security and usability, and uses multi-factor authentication meth