PART I
Image Sensing Systems, Inc. (referred to in this
report as we, us, our and the Company) develops and markets video image processing
products for use in traffic applications such as intersection control, highway, bridge and tunnel traffic management and traffic
data collection.
We are the leading provider of software-based computer
enabled detection, or CED, products and solutions for the intelligent transportation systems, or ITS, industry. Our family of
products, which we market as Autoscope® and RTMS®, provides end users with the tools needed to optimize traffic flow,
enhance driver safety, regulate air quality and address emerging security/surveillance concerns. Our technology analyzes signals
from sophisticated sensors and transmits the information to management systems and controllers or directly to users.
CED is a process in which software rather than humans
examines outputs from various types of sophisticated sensors to determine what is happening in a field of view. In the ITS
industry, CED is a critical component of managing congestion and traffic flow. In many markets, it is not possible to build roads,
bridges and highways quickly enough to accommodate increasing automobile ownership. For example, in 2007 there were approximately
3.0 million vehicles in Moscow, and the number of vehicles is expected to increase by 50% to 4.5 million vehicles by 2012. In
China, 7.0 million vehicles were introduced in 2006, with this figure increasing by 133% to 16.3 million additional vehicles
expected in 2014. We believe this growing use of vehicles worldwide will make CED-based ITS solutions increasingly necessary to complement existing and new
roadway infrastructure to manage traffic flow and optimize throughput.
We believe our CED solutions are technically superior
to those of our competitors because they have a higher level of accuracy, limit the occurrence of false detection, are generally
easier to install with lower costs of ownership, work effectively in a multitude of light and weather conditions, and provide end
users the ability to manage inputs from a variety of sensors for a number of tasks. It is our view that the technical advantages
of our products make our solutions ideally suited for use in ITS as well as adjacent markets. We believe that the market for CED
is increasingly favoring converged solutions that include ITS, security/surveillance and environmental management, which we expect
to increase demand for CED products such as ours.
We believe the strength of our distribution channels
positions us to increase the penetration of our technology-driven solutions in the marketplace. We market our Autoscope products
in North America, the Caribbean and Latin America through an exclusive agreement with Econolite, which we believe is the leading
distributor of ITS intersection control products in North America and the Caribbean. We market our Autoscope products outside of
North America, the Caribbean and Latin America and our RTMS products through a combination of distribution and direct sales
channels, including our wholly-owned subsidiaries in Hong Kong, Poland and the United Kingdom. Our end users primarily include
governmental agencies and municipalities, and, as of December 31, 2007, we had sold over 80,000 instances in more than 60
countries.
In December 2007, we completed the EIS asset purchase.
EIS was a leading provider of radar-based detection solutions. On a pro forma basis for 2007, our revenues, including revenues
from the EIS asset purchase, increased approximately 82% compared with our stand-alone revenues for 2006. In addition to the
increased scale we gained through the EIS asset purchase, the addition of EIS RTMS radar products enables us to provide a
wider array of CED products to our end users and support the introduction of hybrid product offerings to help drive market demand.
Industry Overview
The Intelligent Transportation Systems
Market.
The market for ITS is large and growing. According to a December 2007 report by Global Industry Analysts, Inc.,
total ITS sales in the United States and Europe for 2007 were approximately $3.4 billion and $2.8 billion, respectively, and total
global ITS sales were approximately $8.7 billion. Global Industry Analysts expects total global ITS sales to reach $12.5 billion
by the end of 2010, representing a compound annual growth rate of 11.6% for the period from 2000 to 2010.
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ITS encompasses a broad range of
information processing and control electronics technologies that, when integrated into roadway infrastructure, help monitor and
manage traffic flow, reduce congestion and enhance driver safety. The ITS market has been built around the detection of conditions
that impact the proper operation of roadway infrastructure. ITS applications include a wide array of traffic management systems,
such as traffic signal control, automatic number plate recognition and variable messaging signs. ITS technologies include video
vehicle detection, inductive loop detection, sensing technologies, floating cellular data, computational technologies and wireless
communications.
In traffic management applications, CED
products are used for automated vehicle detection and are a primary data source upon which ITS solutions are built. Traditionally,
automated vehicle detection is performed using inductive wire loops buried in the pavement. However, in-pavement loop detectors
are costly to install, difficult to maintain, expensive to repair and not capable of wide-area vehicle detection without
installations of multiple loops.
Above-ground CED solutions for ITS offer
several advantages to in-pavement loop detectors. Above-ground CED solutions tend to have lower total cost of ownership than
in-pavement loop detectors because above-ground CED solutions are non-destructive to road surfaces, do not require closing
roadways to install or repair, and are capable of wide-area vehicle detection with a single device, thus enabling one input device
to do the work of many in-pavement loops. Due to their location above ground, CED solutions have no exposure to the wear and tear
associated with expanding and contracting pavement and the vibration and compaction caused by traffic. Furthermore, in the event
of malfunction or product failure, above-ground CED solutions can be serviced and repaired without shutting down the roadway. Each
of these factors results in greater up-time and increased reliability of above-ground CED solutions compared to in-pavement loop
detectors. Above-ground CED solutions also tend to offer a broader set of detection capabilities and a wider field of view than
in-pavement loop detectors. For example, unlike in-pavement loops, above-ground CED solutions can detect smoke and debris. In
addition, a single unit video- or radar-based CED system can detect and measure a variety of data points, including vehicle
presence, counts, speed, length, time occupancy, headway and flow rate as well as environmental factors and obstructions to the
roadway. An equivalent installation using loops would require many installations per lane.
We believe our Autoscope and RTMS
products are competitive with and can take market share from in-pavement loop detectors. We believe the U.S. ITS video detection
market sales in 2007 were approximately $110 to $130 million and growing at approximately 20% per year. We believe that we are the
leader in the U.S. video detection market in terms of unit sales, and we estimate that U.S. sales of the in-pavement loop
detectors our products can supplant were approximately $500 million in 2007.
We believe that several trends are
driving the growth in ITS and adjacent market segments:
Proliferation of Traffic.
In
many countries, there has been a surge in the number of vehicles on roadways. Due to the growth of emerging economies and elevated
standards of living, more people desire and are able to afford automobiles. For example, in 2006 there were 7.0 million new
vehicles introduced in China and the number is expected to be 7.5 million in 2007 and 16.3 million by 2014. The number of vehicles utilizing the worlds
roadway infrastructure is growing at a quicker pace than new roads, bridges and highways are being constructed. The population of
the United States has grown by about 30% or 70 million from 1982 to 2007, while highway miles have increased by approximately
5% in the same period. Between 1970 and 2005, the number of registered highway vehicles in the U.S. increased from 111 million to
247 million. Overall, the growth in roadway infrastructure is failing to match the surge in the number of vehicles using it.
CED-based traffic management and control systems attempt to solve the problem by monitoring high traffic areas and analyzing data
that can be used to mitigate traffic problems.
The Demographics of Urbanization.
Accelerated worldwide urbanization drives the creation and expansion of middle classes and produces heightened demand for
automobiles. Currently, there are over 400 cities in the world with over 1 million people. Since automobiles can be
introduced to a metropolitan area faster than roadway infrastructure can be constructed, the result is continuously worsening
traffic. Because expanding the roadway infrastructure is slow and costly to implement, and often environmentally undesirable,
government agencies are
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increasingly turning to technology-based congestion solutions that optimize performance and throughput of existing
and new roadway infrastructure. Detection is the requisite common denominator for any technology-based solution.
The Melding of Large City Service
Domains.
Large cities require a wide range of service domains, including traffic, security/surveillance and environmental
protection. These cities are increasingly turning to centralized management of these service domains, employing a command and
control model that requires sharing and integrating data across service domains to operate effectively. For example, data
collected for the traffic management service domain is relevant to all of the other service domains. This means that each CED
sensor can supply information to multiple domain services. In turn, we believe the sharing of detection information across service
domains will increase the level of sophistication required to process and interpret that information.
Advances in Wireless Technology
Create the Ubiquitous Network.
Businesses and government entities, motivated by the need for improved productivity and
functionality, are increasingly adopting pervasive, networked information systems. The internet and widely available broadband
networks, including recent advances in wireless technologies such as mesh networks, have greatly reduced the deployment costs of
adding broadly distributed CED solutions to existing information systems. We believe that lower cost of deployment will increase
demand for CED.
The Ascendancy of CED.
Electronics of all sorts are becoming smaller and less costly to manufacture, while becoming more capable of performing certain
complicated tasks than humans. CED solutions benefit from these trends. Of particular significance is the evolving concept of
hybrid detection in which two or more sensing types such as radar and video are combined in a common CED device in which the
weaknesses of each are synergistically offset by the strengths of the other. By leveraging a common digital signal processor and
network interface, we believe the incremental cost of a hybrid device will be significantly lower than deploying multiple,
single-sensor CED devices. This makes the concepts of rich sensing and instrumenting the city through CED
solutions cost effective, which we believe will result in extensive proliferation of sophisticated sensors and detection devices.
Solutions for Adjacent Markets.
We
believe that the adjacent markets of ITS, security/surveillance and environmental management are converging, and that this
convergence will accelerate as CED systems become more cost-effective when a single CED unit can be used for multiple purposes.
Because the CED technologies involved are closely related, we believe our CED technology can be adapted to or is already capable
of addressing these adjacent markets. According to Civitas Group, the global market for homeland security is estimated in 2006 to
have been approximately $55.0 billion; whereas National Defense Magazine states that the environmental management market was
$520.0 billion in 2002. Both are growing.
We believe that environmental management
systems will become a necessity, especially in large cities where the costs of air pollution are being increasingly borne by city
residents. Long traffic delays ensure that idling vehicles have adverse effects on urban areas. In conjunction with video
detection for ITS, CED products can help governmental agencies reduce air pollution and energy consumption by controlling traffic
flow and reducing travel time, accidents and delays. We believe that the convergence of traffic, security/surveillance and
environmental management should drive significant continued CED demand growth.
Our Competitive Strengths
We are the leading provider of
software-based CED products and solutions for the ITS industry. We have the following competitive strengths that we expect will
continue to enhance our leadership position in ITS and adjacent industries:
Leading Proprietary Technologies.
Over
the last two decades, we have developed a proprietary portfolio of complex software algorithms and applications that we have
continuously enhanced and refined. These algorithms, which include our advanced signal processing technologies, allow our video
and radar detection products to capture and analyze objects in diverse weather and lighting conditions and to balance the accuracy
of positive detection and the avoidance of false detections. Due to the strength of these proprietary technologies, we believe we
command premium pricing and, as a result, have achieved, on average, annual double-digit revenue growth over the last five years.
CED technologies similar to ours are also difficult to develop and refine in a
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commercially viable manner. We therefore believe we are well positioned to quickly introduce next-generation
products to market and continue our historically strong growth.
Proven Ability to Develop, Enhance and Market
New Products.
We are developing and enhancing our product offerings. Over the last two decades, we have demonstrated the
ability to lead the market with new products and product enhancements. For example, we were the first company to provide our end
users with a fully integrated color camera, zoom lens and machine vision processor in our Autoscope Solo system. Additionally, EIS
was one of the first companies to introduce radar-based technology solutions for ITS applications, and it has continued to lead
the market with technology enhancements and new products, such as RTMS. We have successfully collaborated with our long-term
channel partners to market these new products. We believe that developing, enhancing and marketing new products with our partners
translates into strong organic revenue growth and high levels of profitability.
Leading Distribution Channel.
We have
maintained a relationship with Econolite for the distribution of our Autoscope products in North America and the Caribbean since
1991 and in Latin America since 2002. We believe that Econolite is the leading distributor of ITS control products in North
America and the Caribbean. In our view, this relationship enhances our ability to commercialize and market new products and allows
us to focus on our core business of advanced signal processing software algorithms. Although we expect our percentage of revenue
attributable to Econolite to somewhat lessen over the next few years due to international diversification, we expect that our
revenue dollars attributable to Econolite will continue to grow.
Broad Product Portfolio.
Our product
portfolio leverages our core software-based algorithms for CED to enable end users to detect and monitor objects in a designated
field of view. We believe that our family of Autoscope and RTMS products allows us to offer a broad product portfolio that meets
the needs of our end users. Additionally, our intention is to use our broad product portfolio to offer hybrid products that
satisfy traffic, security/surveillance and environmental management requirements.
Experienced Management Team and Engineering
Staff.
We recently transitioned to a new management team charged with executing our growth strategy. Our management team
is highly experienced in the ITS and software industries. Additionally, we believe that the continuity of our engineering staff
allows us to continuously develop improved products.
Strong Financial Performance.
Over the
past five years, we have grown our revenue organically at an average double-digit compound annual growth rate. During this time,
we maintained average net margins approaching 25%. As of December 31, 2007, we had $23.2 million in shareholders equity. Our
financial performance and strength gives us the ability to take advantage of favorable market trends without the restrictions that
often handicap other nimble, leading-edge technology companies similar to us in size.
Our Growth Strategy
As part of our growth strategy, we seek
to:
Enhance and Extend Our Technology Leadership in
ITS.
We believe we have established ourselves as the leading provider of CED in the ITS market segment. We believe that we
now have an opportunity to accelerate our growth while maintaining our traditionally high level of profitability. We believe we
will do this by improving the accuracy and functionality of our products, opportunistically expanding our product offering into
adjacent markets, as well as expanding our portfolio and channels through licensing or selected acquisitions. We intend to develop
and introduce hybrid CED products, which we believe will take advantage of our technical leadership in ITS and further
differentiate us from our competitors.
Expand into Adjacent Markets.
Our core
skill is the implementation of software-based CED products and solutions. Over the past two decades, we have been developing and
refining our complex signal processing software algorithms. We believe that our core software skills can be effectively utilized
more broadly as markets, including security/surveillance and environmental management systems, converge. We believe that a driver
of this convergence is that CED systems will become more cost-effective when a single CED unit can be used for multiple purposes.
As a result, our objective is to become the leading supplier of critical CED components to third party
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management systems, particularly those that exploit the convergence of traffic, security/surveillance and
environmental management systems. To do this, we are integrating this concept into our long-range engineering development road-map
and will evaluate the use of technology licensing, acquisition and channel strategies that support this vision.
Increase the Scope of Our Distribution and
Direct Sales.
We have made substantial investments in product adjustments to tailor our solutions to the differing needs
of our international end users. We have also invested in the expansion of our European and Asian subsidiaries. We believe that
markets in Eastern Europe, the Asia/Pacific region, the Middle East, Africa and South America, which have historically lagged
North America and Western Europe in their use of CED, have recently begun to increase the adoption of CED in their traffic,
security/surveillance and environmental management systems. We intend to continue to refine our product offerings through
engineering development, technology licensing and/or acquisitions to take advantage of the accelerated pace of adoption of CED
throughout the developing world.
Grow Through Complementary Acquisitions.
We intend to pursue strategic acquisitions that extend our technology leadership, breadth of product offerings and market share in
ITS and adjacent market segments. We expect to target acquisitions that will serve as a platform for additional growth
opportunities, including new product offerings, technology enhancements and the introduction of new sales and distribution
channels. We intend to employ a selective and disciplined approach when evaluating acquisition opportunities.
Our Products and Solutions
Our vehicle and traffic detection
products are critical components of many ITS applications, including intersection control, highway management and tunnel safety.
Our Autoscope video systems and RTMS radar systems convert sensory input collected by video cameras and radar units into vehicle
detection and traffic data used to operate, monitor and improve the efficiency of roadway infrastructure. At the core of each
product line are proprietary digital signal processing algorithms and sophisticated embedded software that analyze sensory input
and deliver actionable data to integrated ITS applications. Between ISS and EIS, we spent approximately $2.8 million, $3.3 million
and $2.1 million on research and development in 2007, 2006 and 2005, respectively, to develop and enhance our Autoscope and RTMS
technology. We believe our digital signal processing software algorithms represent a foundation on which support for additional
sensory inputs such as audio, chemical, smoke, weather and vibration sensors may be added in the future. A diagram displaying our
fundamental product architecture is shown below.
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The Image Sensing Product Architecture
Autoscope
.
Our Autoscope
system processes video input from a traffic scene in real time and extracts the required traffic data, including vehicle presence,
counts, speed, length, time occupancy (percent of time the detection zone is occupied), average headway (time interval between
vehicles) and flow rate (vehicles per hour per lane). Autoscope supports a variety of standard video cameras or can be purchased
with an integrated video camera. For intersections, the system communicates with the intersection signal controller, which changes
the traffic lights based on the data provided. In highway applications, the system gathers vehicle count and flow rates and
detects anomalous incidents, such as stopped or wrong-way vehicles. In tunnel safety applications, Autoscope provides alerts to
operators upon detecting stopped, wrong-way or slow moving vehicles and upon detecting pedestrians, debris or smoke. In any
application, the data may also be transmitted to a traffic management center via the internet or other standard communication
means and processed in real time to assist in traffic management and stored for later analysis for traffic planning purposes.
All systems come with the latest Autoscope software
suite, which provides a communications server and applications software for configuring, monitoring and maintaining system
installations. Using a computer mouse, desired detection zones within a cameras field of view are programmed to specify
where and what type of traffic data is collected. The applications software graphical user interface is currently
available in 15 languages. A translation kit is available to translate the graphical user interface into other local languages as may be necessary or
desired.
The Autoscope system runs on our Terra platform, which
we introduced in April 2007. Enhancements to the Terra platform include the use of the Texas Instruments DaVinci dual core
advanced RISC
TM
machine and digital signal processor, digital MPEG-4 streaming, high speed Ethernet interface, web
browser maintenance and data and video over power line communications.
The Terra platform comes in the following two
varieties:
Autoscope Solo Terra
. The Autoscope
Solo Terra is an integrated color zoom camera and machine vision processing computer contained in one compact housing unit that is
situated on roadway infrastructure overlooking the traffic scene. The Solo Terra provides the best performance of our platforms
due to the high-quality video
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resulting from the integration of camera and processor. The Solo Terra is our leading Autoscope offering in the
North American market.
Autoscope RackVision Terra
. The Autoscope
RackVision Terra allows end users to use standard video cameras (both new or previously installed) with Autoscope technology. The
RackVision Terra consists of a machine vision processing computer that is located in an intersection signal controller, control
hub, incident management center or traffic management center that receives video from a separate camera. The RackVision Terra is
our top selling Autoscope product in international markets.
Sales of and royalties from the Autoscope system have
generated substantially all of our revenues since our inception.
RTMS
.
Our RTMS systems use radar to
measure vehicle presence, volume, occupancy, speed and classification information for roadway monitoring applications. Data is
transmitted to a central computer at a traffic management center via the internet or other standard communication means, including
wireless. Data can be processed in real-time to assist in traffic management and stored for later analysis for traffic planning
purposes.
RTMS is an integrated radar transmitter/receiver and
special purpose computer contained in a compact, self-contained unit. The unit is typically situated on roadway poles and
side-fired, making it especially well suited for highway detection applications.
Comparison of Video and Radar Detection.
Video detection is best suited to applications in which the ability to act on complex and detailed information is desired.
However, video can encounter difficulties in poorly-lit environments, adverse weather conditions (such as fog or driving snow), in
situations in which vehicles are obscured (for example, by other vehicles), or in extraordinarily dirty environments in which
airborne particulates obscure the view. Also, despite the compensating factors of using high-quality color video, video can be
susceptible to false detections due to shadows or reflections. Radar is less able to distinguish fine details than video but is
considerably less affected by adverse environmental conditions and to some degree can see through certain kinds of obstructions.
It also does not recognize shadows or visual reflections.
We believe that by combining video and radar sensors
and algorithmically comparing their outputs, we will be able to offer our end users products that provide superior accuracy.
Hybrid CED detectors should be able to coalesce the strengths of each type of sensor to overcome the others limitations. The
result is improved overall performance in a broader range of circumstances.
Distribution, Sales and Marketing
We market and sell our products globally. As of
December 31, 2007, we had supplied systems for more than 80,000 instances in more than 60 countries. Together with our partners,
we offer a combination of high-performance CED technology and experienced local support. Our end users primarily consist of
federal, state, city and county departments of transportation, road commissions and port, highway, tunnel and other transportation
authorities. The decision-makers within these governmental entities typically are traffic planners and government engineers, who
in turn often rely on consulting firms that perform planning and feasibility studies for the governmental entities. Our products
sometimes are sold directly to system integrators or other suppliers of systems and services who are operating under subcontracts
in connection with major road construction contracts.
Autoscope North American, Caribbean and Latin
American Sales
.
We have granted Econolite an exclusive right to market and distribute the Autoscope system in North
America, the Caribbean and Latin America. The agreement with Econolite grants it a first refusal right that arises when we make a
proposal to Econolite to extend the license to additional products in North America, the Caribbean and Latin America and a first
negotiation right that arises when we make a proposal to Econolite to include rights corresponding to Econolites rights
under our current agreement in countries not in these territories. Econolite provides the marketing and technical support needed
for its sales in these territories. Econolite pays us a royalty on the revenue derived from its sales of the Autoscope system. We
cooperate in marketing Autoscope products with Econolite for North America, the Caribbean and Latin America and provide
second-tier technical support. We have the right to terminate our agreement with Econolite if it does not meet minimum annual
sales levels or if Econolite fails to make payments as
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required by the agreement. The initial term of the agreement was 15 years, ending in 2006. In 2001, we signed a
five-year extension of our agreement with Econolite, extending its original term to June 2011. The agreement is automatically
renewable for additional one-year periods unless terminated by either party upon 60 days notice.
RTMS North American, Caribbean and Latin
American Sales
.
We market the RTMS system to a network of distributors covering countries in North America, the Caribbean
and Latin America. We provide technical support to these distributors from our office in Toronto.
European and Asian Sales
.
We market
Autoscope and RTMS to a network of distributors covering countries in Europe, the Middle East, Africa and Asia through
wholly-owned subsidiaries that have offices in Hong Kong, Poland and the United Kingdom. Technical support to these distributors
is provided by our wholly-owned subsidiaries in Europe and Asia, with second-tier support provided by our Toronto office or our
corporate headquarters in St. Paul, Minnesota.
Competition
We compete with companies that develop, manufacture
and sell traffic management devices using machine vision and radar sensing technologies as well as other above-ground CED
technologies based on laser, infrared and acoustic sensors. We also compete with providers of in-pavement loop detectors and
estimate that more than 80% of the traffic management systems currently in use in the U.S. use in-pavement loop detectors. For
competition with other above-ground CED products, we typically compete on performance and functionality, and to a lesser extent on
price. When competing against providers of loop detectors, we compete principally on ease of installation and the total cost of
ownership over a multi-year period, and to a lesser extent on functionality.
Among the companies that provide direct competition to
the Autoscope system worldwide are Traficon N.V., Quixote Corporation, Iteris, Inc. and Citilog S.A. Among the companies that
provide direct competition to RTMS worldwide are Wavetronix, LLC and Xtralis, LLC. All of these companies have working
installations of their machine vision or radar systems in the U.S. and other parts of the world. To our knowledge, however, these
companies do not have as many installations as we have. In addition, there are local companies providing direct competition in
specific markets such as Korea, China and Japan. We are aware that these and other companies will continue to develop technologies
for use in traffic management and surveillance. One or more of these technologies could in the future provide increased
competition for our Autoscope and RTMS systems.
Other potential competitors of which we are aware
include Siemens AG, Cognex Corp., Matsushita Electric Industrial Co., Ltd. (Panasonic), Sumitomo Corporation, Omron Electronics
LLC and 3M Company. These companies have machine vision or radar capabilities and have substantially more financial,
technological, marketing, personnel and research and development resources than we have.
Manufacturing
We currently have the Autoscope family of products for
sale in North America, the Caribbean and Latin America manufactured through agreements with Econolite and Wireless Technology,
Inc., or WTI. In 1991, we appointed Econolite as our exclusive licensee to manufacture and sell the Autoscope system and related
technology and to sell the products in North America and the Caribbean. In 2002, we granted Econolite an exclusive license to sell
Autoscope products in Latin America, and we granted WTI a non-transferable license to use any of our intellectual property as
needed to manufacture Autoscope products for our use and Econolites use. In Europe and Asia, we engage contract
manufacturers to manufacture the Autoscope family of products. Econolite provides a one-year warranty on the Autoscope system and
must provide all service required under this warranty. WTI provides Econolite a limited two-year warranty on material and
workmanship on the products it manufactures. The terms of the warranties vary for overseas manufacturers.
For RTMS products, we engage contract manufacturers to
produce subassemblies based on our designs. These subassemblies are then shipped to our facilities in Toronto, where we perform
final assembly, testing and calibration and packaging of finished units for shipment. For most RTMS products, we provide a two-year
warranty. We also perform warranty and post-warranty repairs of RTMS units in Toronto.
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Most of the hardware components used to manufacture
our products are standard electronics components that are available from multiple sources. Although some of the components used in
our products are obtained from single-source suppliers, we believe other component vendors are available should the necessity
arise. To our knowledge, our contract manufacturing and component vendors in Europe and Asia comply with the European directive on
RoHS, which is the restriction of the use of certain hazardous substances in electrical and electronic equipment.
Intellectual Property
To protect our rights to our proprietary know-how,
technology and other intellectual property, it is our policy to require all employees and consultants to sign confidentiality
agreements that prohibit the disclosure of confidential information to any third parties. These agreements also require disclosure
and assignment to us of any discoveries and inventions made by employees and consultants while they are devoted to our business
activities. In addition, in the EIS asset purchase, we acquired six patent applications on file with the U.S. Patent and Trademark
Office relating to the RTMS products and technology. We also rely on trade secret, copyright and trademark laws to protect our
intellectual property.
We intend to protect our intellectual property assets
and will actively seek, when appropriate, protection for owned or licensed products and proprietary information by means of U.S.
and foreign copyrights, trademarks, patents and contractual arrangements. We have registered trademark rights to
Autoscope and Autoscope Solo in 29 countries, including the U.S. and most European countries, and we also
have registered RTMS in the U.S.
We entered into a license agreement with the
University of Minnesota in 1991. Under the agreement, the University granted us the exclusive right to make, have made, use, sell
and lease any product that incorporated knowledge, information, know-how, software and devices in the possession of the
University, including a patent held by the University, related to a video vehicle detection system developed by the University,
including improvements to the technology. The patent expired in July 2006. The expiration of the University patent in July 2006
made the technology covered by the patent available to the public, allowing others to use the technology to design, manufacture
and sell a product which could compete with our Autoscope product. However, since 1991, we have extensively added to the
technology and product design to include our own intellectual property, and we have made extensive moderations and revisions to
the University technology. We also developed our own techniques to made the technology commercially feasible. Consequently, we
believe that the expiration of the University patent is not a threat to our business.
Employees
As of February 1, 2008, we had 80 employees. Of these,
21 employees were employed by our overseas subsidiaries in Hong Kong, the United Kingdom and Poland. None of our employees is
represented by a union. We believe our employee relations are good.
Cautionary Statement
This Annual Report on Form 10-K contains
forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange of 1934, as amended. Forward-looking statements represent our expectations or beliefs concerning future events
and can be identified by the use of forward-looking words such as believes, may, will,
should, intends, plans, estimates, or anticipates or other comparable
terminology. Forward-looking statements are subject to risks and uncertainties that may cause our actual results to differ
materially from the results discussed in the forward-looking statements. Some factors that might cause these differences include
the factors listed below. Although we have attempted to list these factors comprehensively, we wish to caution investors that
other factors may prove to be important in the future and may affect our operating results. New factors may emerge from time to
time, and it is not possible to predict all of these factors, nor can we assess the affect each factor or combination of factors
may have on our business.
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We further caution you not to unduly rely on any
forward-looking statements, because they reflect our views only as of the date the statements were made. We undertake no
obligation to publicly update or revise any forward-looking statements whether as a result of new information, future events or
otherwise.
Item
1A. Risk Factors
Historically, substantially all of our revenue has been generated from sales of our Autoscope family of
products, and if we do not maintain the market for these products, our business will be harmed.
Historically, substantially all of our revenue has
been generated from sales of, or royalties from the sales of, the Autoscope Vehicle Detection System. We anticipate that revenue
from the sale of the Autoscope system will continue to account for a substantial portion of our revenue for the foreseeable
future. As such, any decline in sales of our Autoscope system would have a material adverse impact on our business, financial
condition and results of operations.
The features and functions in our products have not been as widely utilized as traditional products offered
by our competitors, and the failure of our end users to provide greater demand for the features and functions in our products
could adversely affect our business and growth prospects.
Machine vision and radar technologies have not been
utilized in the traffic management industry as extensively as other more traditional technologies, mainly in-pavement loop
detectors. Our financial success and growth prospects depend on the continued development of the market for advanced technology
solutions for traffic management and the acceptance of our Autoscope and RTMS systems, and future systems we may develop, as
reliable, cost-effective alternatives to traditional vehicle detection systems. We cannot assure you that we will be able to
utilize our technology profitably in other products or markets. If our end users do not continue to increase their demand for the
features and functions provided by our Autoscope and RTMS systems, or hybrid or other systems we may develop, our business and
growth prospects could be adversely affected.
If governmental entities elect not to use our products due to budgetary constraints, project delays or other
reasons, our revenue may fluctuate severely or be substantially diminished.
The Autoscope and RTMS systems are sold primarily to
governmental entities for use in large traffic control projects using advanced technologies. We expect that we will continue to
rely substantially on revenue and royalties from sales of the Autoscope and RTMS systems to governmental entities. In addition to
normal business risks, it often takes considerable time before governmental traffic control projects are developed to the point at
which a purchase of the Autoscope and RTMS systems would be made, and a purchase of our products also may be subject to a
time-consuming approval process. Additionally, governmental budgets and plans may change without warning. Other risks of selling
to governmental entities include dependence on appropriations and administrative allocation of funds, changes in governmental
procurement legislation and regulations and other policies that may reflect political developments, significant changes in
contract scheduling, intense competition for government business and termination of purchase decisions for the convenience of the
governmental entity. Substantial delays in purchase decisions by governmental entities, or governmental budgetary constraints,
could cause our revenue and income to drop substantially or to fluctuate significantly between fiscal periods.
If Econolites sales volume decreases or if it fails to pay royalties to us in a timely manner or at
all, our financial results will suffer.
We have an agreement with Econolite under which
Econolite is the exclusive distributor of the Autoscope system in North America, the Caribbean and Latin America. The agreement
also grants Econolite a first refusal right that arises when we make a proposal to Econolite to extend the license to additional
products in North America, the Caribbean and Latin America and a first negotiation right that arises when we make a proposal to
Econolite to include rights corresponding to Econolites rights under our current agreement in countries not in these
territories. In exchange for its rights under the agreement, Econolite pays us royalties for sales of the Autoscope system. Since
2002, more than 70% of our revenue has consisted of royalties resulting from sales made by Econolite, including 71% in 2007, 77%
in 2006 and 78% in 2005. Econolites account receivable represented 71% of our accounts receivable at December 31, 2007 and
69% of our accounts receivable at December 31, 2006. We
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Table of Contents
expect that Econolite will continue to account for a significant portion of our revenue for the foreseeable
future. Any decrease in Econolites sales volume could significantly reduce our royalty revenue and adversely impact
earnings. A failure by Econolite to make royalty payments to us in a timely manner or at all will harm our financial condition. In
addition, we believe sales of our products are a material part of Econolites business, and any significant decrease in
Econolites sales of the other products it sells could harm Econolite, which could have a material adverse effect on our
business and prospects.
Increased competition may make it difficult for us to acquire and retain end users. If we are unsuccessful
in developing new applications and product enhancements, our products may become noncompetitive or obsolete.
Competition in the area of advanced traffic management
and surveillance is growing. Some of the companies that may compete with us in the business of developing and implementing traffic
control systems have substantially more financial, technological, marketing, personnel and research and development resources than
we have. Therefore, they may be able to respond more quickly than we can to new or changing opportunities, technologies, standards
or end user requirements. If we are unable to compete successfully with these companies, the market share for our products will
decrease, and competitive pressures may seriously harm our business.
Additionally, the market for vehicle detection is
continuously seeking more advanced technological solutions to traffic management and control problems. Technologies such as
embedded loop detectors, pressure plates, pneumatic tubes, radars, lasers, magnetometers, acoustics and microwaves that have been
used as traffic sensing devices in the past will be enhanced for use in the traffic management industry, and new technologies may
be developed. We are aware of several companies that are developing traffic management devices using machine vision technology or
other advanced technology. We expect to face increasingly competitive product developments, applications and enhancements. New
technologies or applications in traffic control systems may provide our end users with alternatives to the Autoscope and RTMS
systems and could render our solutions noncompetitive or obsolete. If we are unable to increase the number of our applications and
develop and commercialize product enhancements and applications in a timely manner that responds to changing technology and
satisfies the needs of our end users, our business and financial results will suffer.
Our dependence on third parties for manufacturing and marketing our products may prevent us from meeting
customers needs in a timely manner.
We do not have, and do not intend to develop in the
near future, internal capabilities to manufacture our products. We have entered into agreements with Econolite and Wireless
Technology, Inc., or WTI, to manufacture the Autoscope system and related products for sales in North America, the Caribbean and
Latin America. The hardware components for our RTMS products are made by manufacturers in Taiwan and Canada, and the components
are assembled and tested in Canada. In addition, we work with suppliers, some of whom are overseas, to manufacture Autoscope and
RTMS products that need to comply with the European Unions regulatory RoHS directive on the restriction of the use of
certain hazardous substances in electrical and electronic equipment. If Econolite, WTI and our suppliers are unable to manufacture
our products in the future, we may be unable to identify other manufacturers able to meet product and quality demands in a timely
manner or at all. Our inability to find suitable manufacturers for our products could result in delays or reductions in product
shipments, which in turn may harm our business reputation and results of operations. In addition, we have granted Econolite the
exclusive right to market the Autoscope system and related products in North America, the Caribbean and Latin America.
Consequently, our revenue depends to a significant extent on Econolites marketing efforts. Econolites inability to
effectively market the Autoscope system, or the disruption or termination of that relationship, could result in reduced revenue
and market share for our products.
We and our third party manufacturers obtain some of the components of our products from a single source, and
an interruption in the supply of those components may prevent us from meeting customers needs in a timely manner and could
therefore reduce our sales.
Although substantially all of the hardware components
incorporated into the Autoscope and RTMS systems are standard electronics components that are available from multiple sources, we
and our third party manufacturers obtain some of the components from a single source. The loss or interruption of any of these
supply sources could
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Table of Contents
force us or our manufacturers to identify new suppliers, which could increase our costs, reduce our sales and
profitability, or harm our customer relations by delaying product deliveries.
We may face increased competition if we fail to adequately protect our intellectual property rights, and
efforts to protect our intellectual property rights may result in costly litigation.
Our success depends in large measure on the protection
of our proprietary technology rights. We rely on trade secret, copyright and trademark laws, and confidentiality agreements with
employees and third parties, all of which offer only limited protection. Although we acquired six patent applications filed with
the U.S. Patent and Trademark Office, or USPTO, in the EIS asset purchase, we cannot assure you that the scope of these or any
future patents relating to our products will exclude competitors or provide competitive advantages to us. We also cannot assure
you that we will become aware of all instances in which others develop similar products, duplicate any of our products, reverse
engineer or misappropriate our proprietary technology. If our proprietary technology is misappropriated, our business and
financial results could be adversely affected. Litigation may be necessary in the future to enforce our intellectual property
rights, to protect our trade secrets or to determine the validity and scope of the proprietary rights of others. In addition, we
may be the subject of lawsuits by others who claim we violate their intellectual property rights. Even if the result is favorable,
litigation could result in substantial costs and the diversion of management resources, either of which could harm our
business.
As described above, although we have acquired six
patent applications filed with the USPTO, we have not applied for patent protection in all countries in which we market and sell
the Autoscope and RTMS systems. Consequently, our proprietary rights in the technology underlying the Autoscope and RTMS systems
in countries other than the U.S. will be protected only to the extent that trade secret, copyright or other non-patent protection
is available and to the extent we are able to enforce our rights. The laws of other countries in which we market our products may
afford little or no effective protection of our proprietary technology, which could harm our business.
The expiration of the University of Minnesota patent for certain aspects of our Autoscope system may result
in additional competition, which could adversely affect our revenue and earnings.
The patent rights for certain aspects of the
underlying technology for the Autoscope system previously owned by the University of Minnesota expired in July 2006. Other
businesses may choose to use the University patent technology to develop a product that competes with the Autoscope system, and
this competition could adversely impact our revenue and earnings.
We plan to continue introducing new products and technologies and may not realize the degree or timing of
benefits we initially anticipated, which could adversely affect our business and results of operations.
We regularly invest substantial amounts in research
and development efforts that pursue advancements in a range of technologies, products and services. Our ability to realize the
anticipated benefits of these advancements depends on a variety of factors, including meeting development, production,
certification and regulatory approval schedules; execution of internal and external performance plans; availability of
supplier-produced parts and materials; performance of suppliers and vendors; achieving cost efficiencies; validation of innovative
technologies; and the level of end user interest in new technologies and products. These factors involve significant risks and
uncertainties. We may encounter difficulties in developing and producing these new products and may not realize the degree or
timing of benefits initially anticipated. In particular, we cannot predict with certainty whether, when or in what quantities our
current or potential end users will have a demand for products currently in development or pending release. Moreover, as new
products are announced, sales of current products may decrease as end users delay making purchases until such new products are
available. Any of the foregoing could adversely affect our business and results of operations.
We price our products at a premium compared to other technologies. As such, we may not be able to quickly
respond to emerging low-cost competitors, and our inability to do so could adversely affect revenue and
profitability.
We price our products at a premium as compared to less
sophisticated technologies. As the technological sophistication of our competitors and the size of the market increases, competing
low-cost developers of machine vision
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products for traffic are likely to emerge and grow stronger. If end users prefer low-cost alternatives over our
products, our revenue and profitability could be adversely affected.
Our revenue could be adversely affected by the emergence of local competitors and local biases in
international markets.
Our experience indicates that local officials that
purchase traffic management products in the international markets we serve favor products that are developed and manufactured
locally. As local competitors to our products emerge, local biases could erode our revenue in Europe and Asia and adversely affect
our sales and revenue in those markets.
Failure to predict technological convergence could harm our business and could reduce our
sales.
With our Autoscope and RTMS product families, we
currently utilize only certain detection technologies available in the ITS field. If we fail to predict convergence of technology
preferences in the market for ITS, or fail to acquire complementary businesses or products that broaden our current product
offerings, we may fail to capture certain segments of the market, which could harm our business and reduce our sales.
We sell our products internationally and are subject to various risks relating to such international
activities, which could harm our international sales and profitability.
During 2007, 2006 and 2005, 27%, 23% and 22% of our
total revenue, respectively, was attributable to international sales. We sell outside of the U.S. through our agreement with
Econolite, through our wholly-owned subsidiaries and through our distributor network. By doing business in international markets,
including Canada, we are exposed to risks separate and distinct from those we face in our domestic operations. Our international
business may be adversely affected by changing economic conditions in foreign countries. Because most of our sales are currently
denominated in U.S. dollars, if the value of the U.S. dollar increases relative to foreign currencies, our products could become
more costly to the international consumer and therefore less competitive in international markets, which could adversely affect
our profitability. Furthermore, although currently only a small percentage of our sales are denominated in non-U.S. currency, this
percentage may increase in the future, in which case fluctuations in exchange rates could affect demand for our products. Engaging
in international business inherently involves a number of other difficulties and risks, including:
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export restrictions and controls relating to
technology;
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pricing pressure that we may experience
internationally;
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required compliance with existing and new foreign
regulatory requirements and laws;
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laws and business practices favoring local
companies;
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longer payment cycles;
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difficulties in enforcing agreements and collecting
receivables through foreign legal systems;
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political and economic instability;
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potentially adverse tax consequences, tariffs and
other trade barriers;
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international terrorism and anti-American sentiment;
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difficulties and costs of staffing and managing
foreign operations;
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changes in currency exchange rates; and
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difficulties in enforcing intellectual property
rights.
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Our exposure to each of these risks may increase our
costs, lengthen our sales cycle and require significant management attention. We cannot assure you that one or more of these
factors will not harm our business.
Our inability to comply with European and Asian regulatory restrictions over hazardous substances and
electronic waste could restrict product sales in those markets and reduce profitability in the future.
The European Union has finalized the Waste Electrical
and Electronic Equipment, or WEEE, directive, which makes producers of electrical goods financially responsible for specified
collection, recycling, treatment and disposal of past and future covered products. This directive must now be enacted and
implemented by individual
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European Union governments, and certain producers are to be financially responsible under the WEEE legislation.
This may impose on us requirements, which, if we are unable to meet them, could adversely affect our ability to market our
products in European Union countries, and sales revenues and profitability would suffer as a consequence. In addition, the
European Parliament has enacted a directive for the restriction of the use of certain hazardous substances in electrical and
electronic equipment, or RoHS. This legislation governs restriction of the use of such substances as mercury, lead, cadmium and
hexavalent cadmium. If we are unable to have our product manufactured in compliance with the RoHS directive, we would be unable to
market our products in European Union countries, and sales revenues and profitability would suffer. In addition, various Asian
governments could adopt their own versions of environment-friendly electronic regulations similar to the European directives, RoHS
and WEEE. This could require new and unanticipated manufacturing changes, product testing and certification requirements, thereby
increasing cost, delaying sales and lowering revenue and profitability.
Our inability to manage growth effectively could seriously harm our business.
Growth and expansion of our business could
significantly strain our capital resources as well as the time and abilities of our management personnel. Our ability to manage
growth effectively will require continued improvement of our operational, financial and management systems and the successful
training, motivation and management of our employees. If we are unable to manage growth successfully, our business and operating
results will suffer.
Our business operations will be severely disrupted if we lose key personnel or if we fail to attract and
retain qualified personnel.
Our technology depends upon the knowledge, experience
and skills of our key management and scientific and technical personnel. Additionally, our ability to continue technological
developments and to market our products, and thereby develop a competitive edge in the marketplace, depends in large part on our
ability to attract and retain qualified scientific and technical personnel. Competition for qualified personnel is intense, and we
cannot assure you that we will be able to attract and retain the individuals we need, especially if our business expands and
requires us to employ additional personnel. In addition, the loss of personnel or our failure to hire additional personnel could
materially and adversely affect our business, operating results and ability to expand. The loss of key personnel, including Ken
Aubrey and Dan Manor, or our inability to hire and retain qualified personnel, will harm our business.
Our operating costs tend to be fixed, while our revenue tends to be seasonal, thereby resulting in operating
results that fluctuate from quarter to quarter.
Our expense levels are based in part on our product
development efforts and our expectations regarding future revenues and, in the short-term, are generally fixed. Our quarterly
revenues, however, have varied significantly in the past, with our first quarter historically being the weakest due to weather
conditions in North America, Europe and northern Asia that make roadway construction more difficult. Additionally, our
international revenues have a significant large project component, resulting in a varying revenue stream. We expect the
seasonality of our revenue and the fixed nature of our operating costs to continue in the foreseeable future. Therefore, we may be
unable to adjust our spending in a timely manner to compensate for any unexpected revenue shortfall. As a result, if anticipated
revenues in any quarter do not occur or are delayed, our operating results for the quarter would be disproportionately affected.
Operating results also may fluctuate due to factors such as the demand for our products, product life cycle, the development,
introduction and acceptance of new products and product enhancements by us or our competitors, changes in the mix of distribution
channels through which our products are offered, changes in the level of operating expenses, end user order deferrals in
anticipation of new products, competitive conditions in the industry, and economic conditions generally. No assurance can be given
that we will be able to achieve or maintain profitability on a quarterly or annual basis in the future.
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As of February 29, 2008, we had $5.5 million invested in auction rate securities. The auctions for these
securities recently failed, which adversely affects their liquidity. If we must record an impairment on the recorded value of
these securities or recognize a loss on their disposition, our financial condition would be adversely affected.
After December 31, 2007, we invested a portion of our
excess cash in auction rate securities and, as of February 29, 2008, we had $5.5 million of these securities in our investment
portfolio. All of these auction rate securities have contractual maturities from 2031 to 2047. Further, all of these securities
are collateralized by student loans, and approximately 97% of the collateral in the aggregate is guaranteed by the U.S. government
under the Federal Family Education Loan Program. In February 2008, we experienced failed auctions for our entire auction rate
securities portfolio, resulting in our inability to sell these securities in the short term. A failed auction results in a lack of
liquidity in the securities but does not signify a default by the issuer. Upon an auction failure, the interest rates do not reset
at a market rate but instead reset based on a formula contained in the security, which generally is higher than the current
market rate. If we need to access these funds, we will not be able to do so without the possible loss of principal or until a
future auction for these investments is successful, they are redeemed by the issuer or they mature. We cannot predict if or when a
successful auction or redemption may take place.
EIS is party to a lawsuit involving assets that we acquired from EIS in December 2007. If the assets are
determined to infringe a third partys patent and EIS and its affiliates fail to fulfill their obligation to indemnify us or
our affiliates, or if our losses from the allegedly infringing technology exceed the obligations of EIS and its affiliates to
indemnify us, our business could suffer.
In 2005, a third party sued EIS for patent
infringement alleging infringement of the patent held by the third party on automatic lane calibration. The allegedly infringing
technology is part of the assets we purchased in the EIS asset purchase. In October 2007, the court entered a final judgment
dismissing the third partys claim of patent infringement, but the third party could appeal the courts order. Under the
EIS asset purchase agreement, EIS agreed to defend this litigation at its own expense, we are not responsible for any liabilities
of EIS or its affiliates arising before the closing of the EIS asset purchase on December 6, 2007, and EIS and its affiliates
are obligated to indemnify us and our affiliates for any losses we or our affiliates incur in connection with the litigation or
disputed technology. However, if the EIS technology we acquired is finally determined to infringe the third party patent and EIS
and its affiliates fail to satisfy their indemnification obligations to us or our affiliates, or if our losses from the allegedly
infringing technology exceed the obligation of EIS or its affiliates to indemnify us, our business could suffer.
Our stock is thinly traded and our stock price is volatile.
Our common stock is thinly traded, with 3,476,781
shares of our 3,927,806 outstanding shares held by non-affiliates as of March 1, 2008. Based on the trading history of our
common stock and the nature of the market for publicly traded securities of companies in evolving high-tech industries, we believe
there are several factors that have caused and are likely to continue to cause the market price of our common stock to fluctuate
substantially. The fluctuations may occur on a day-to-day basis or over a longer period of time. Factors that may cause
fluctuations in our stock price include announcements of large orders obtained by us or our competitors, substantial cutbacks in
government funding of highway projects or of the potential availability of alternative technologies for use in traffic control and
safety, quarterly fluctuation in our financial results or the financial results of our competitors, consolidation among our
competitors, fluctuations in stock market prices and volumes, and the volatility of the stock market.
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Table of Contents
We may not be successful in implementing our acquisition strategy. Future acquisitions could result in
disruptions to our business by, among other things, distracting management time and diverting financial resources. Further, if we
are unsuccessful in integrating acquired companies into our business, it could materially and adversely affect our financial
condition and operating results.
Part of our continuing business strategy is to acquire
or invest in companies, products or technologies that complement our current products, enhance our market coverage or technical
capabilities or offer growth opportunities. As part of this strategy, in December 2007, we completed the EIS asset purchase. We
may not be able to identify suitable acquisition candidates or investment partners or products in the future or, if we do, we may
not be able to make such acquisitions on commercially acceptable terms or at all. For any acquisitions, including the EIS asset
purchase, a significant amount of managements time and financial resources may be required to complete the acquisition and
integrate the acquired business into our existing operations. Even with this investment of management time and financial
resources, an acquisition, including the EIS asset purchase, may not produce the revenue, earnings or business synergies
anticipated. Acquisitions involve numerous other risks, including assumption of unanticipated operating problems or legal
liabilities, problems integrating the purchased operations, technologies or products, diversion of managements attention
from our core businesses, restrictions on the manner in which we may use purchased companies or assets imposed by acquisition
agreements, adverse effects on existing business relationships with suppliers and customers, incorrect estimates made in the
accounting for acquisitions and amortization of acquired intangible assets that would reduce future reported earnings (such as
goodwill impairments), ensuring acquired companies compliance with the requirements of the Sarbanes-Oxley Act, and potential
loss of customers or key employees of acquired businesses. We cannot assure you that any acquisitions, investments, strategic
alliances or joint ventures, including the EIS asset purchase, will be completed in a timely manner or achieve anticipated
synergies, will be structured or financed in a way that will enhance our business or creditworthiness, or will meet our strategic
objectives or otherwise be successful. In addition, we may not be able to secure the financing necessary to consummate future
acquisitions, and future acquisitions and investments could involve the issuance of additional equity securities or the incurrence
of additional debt, which could increase dilution or harm our financial condition or creditworthiness.
Our directors and executive officers have substantial control over us and could limit the ability of our
other shareholders to influence the outcome of key transactions, including changes of control.
Our executive officers and directors and entities
affiliated with them, in the aggregate, beneficially owned 11% of our outstanding common stock as of March 1, 2008. Our executive
officers and directors and their affiliated entities, if acting together, thus are able to control or influence significantly all
matters requiring approval by our shareholders, including the election of directors and the approval of mergers or other
significant corporate transactions. These shareholders may have interests that differ from other shareholders, and they may vote
in a way with which other shareholders disagree and that may be adverse to other shareholders interests. The concentration
of ownership of our common stock may have the effect of delaying, preventing or deterring a change of control of our company,
could deprive our shareholders of an opportunity to receive a premium for their common stock as part of a sale of our company, and
may affect the market price of our common stock. This concentration of ownership of our common stock may also have the effect of
influencing the completion of a change in control that may not necessarily be in the best interests of all of our
shareholders.
Our articles of incorporation and bylaws, Minnesota law and the terms of the EIS asset purchase agreement
may inhibit a takeover that shareholders consider favorable.
Provisions of our articles of incorporation and bylaws
and applicable provisions of Minnesota law may delay or discourage transactions involving an actual or potential change in our
control or change in our management, including transactions in which shareholders might otherwise receive a premium for their
shares or transactions that our shareholders might otherwise deem to be in their best interests. These provisions:
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permit our board of directors to issue up to
5,000,000 shares of preferred stock with any rights, preferences and privileges
as it may designate, including the right to approve an acquisition or other
change in our control;
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provide that the authorized number of directors may
be changed by resolution of the board of directors;
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provide that all vacancies, including newly-created
directorships, may, except as otherwise required by law, be filled by the
affirmative vote of a majority of directors then in office, even if less than
a quorum; and
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eliminate cumulative voting rights, therefore allowing the holders of a majority of the shares of common stock
entitled to vote in any election of directors to elect all of the directors standing for election, if they should so
choose.
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In addition, Section 302A.671 of the Minnesota
Business Corporation Act, or MBCA, generally limits the voting rights of a shareholder acquiring a substantial percentage of our
voting shares in an attempted takeover or otherwise becoming a substantial shareholder of our company unless holders of a majority
of the voting power of the disinterested shares approve full voting rights for the substantial shareholder. Section 302A.673
of the MBCA generally limits our ability to engage in any business combination with certain persons who own 10% or more of our
outstanding voting stock or any of our associates or affiliates who at any time in the past four years have owned 10% or more of
our outstanding voting stock. These provisions may have the effect of entrenching our management team and may deprive shareholders
of the opportunity to sell their shares to potential acquirers at a premium over prevailing prices. This potential inability to
obtain a control premium could reduce the price of our common stock.
The EIS asset purchase agreement also accelerates
earn-out payments we must make to EIS if we are acquired or sell substantially all of our assets before December 6, 2010. The
required acceleration of these payments could negatively affect the ability of our shareholders to obtain a premium over our
prevailing stock price and reduce our stock price generally.
We can issue shares of preferred stock without shareholder approval, which could adversely affect the rights
of common shareholders.
Our articles of incorporation permit our board of
directors to establish the rights, privileges, preferences and restrictions, including voting rights, of future series of our
preferred stock and to issue such stock without approval from our shareholders. The rights of holders of our common stock may
suffer as a result of the rights granted to holders of preferred stock that may be issued in the future. In addition, we could
issue preferred stock to prevent a change in control of our company, depriving common shareholders of an opportunity to sell their
stock at a price in excess of the prevailing market price.
We do not intend to declare dividends on our stock in the foreseeable future.
We currently intend to retain all future earnings for
the operation and expansion of our business and, therefore, do not anticipate declaring or paying cash dividends on our common
stock in the foreseeable future. Any payment of cash dividends on our common stock will be at the discretion of our board of
directors and will depend upon our operating results, earnings, current and anticipated cash needs, capital requirements,
financial condition, future prospects, any contractual restrictions and any other factors deemed relevant by our board of
directors. Therefore, shareholders should not expect to receive dividend income from shares of our common stock.
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tem 1B.
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Unresolved Staff Comments
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None.
We currently lease and occupy 11,564 square feet in
St. Paul, Minnesota for our headquarters. This lease expires on May 31, 2010, and we have the right to renew the lease for
two additional three-year terms. Our office in Toronto, Ontario, Canada consists of approximately 6,200 square feet of space,
and our lease for this space expires in December 2010. We also lease smaller facilities in Hong Kong, the United Kingdom and
Poland. We believe that our facilities are adequate to meet our current and expected needs.
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We
believe that our current space is generally adequate in the United States, Asia
and Europe, and we do not intend to lease significantly more space in 2008.
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tem 3.
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Legal Proceedings
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We
are not currently a party to any material pending legal proceedings.
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tem 4.
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Submission of Matters to a Vote of
Security Holders
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None.
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PART II
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Item 5.
Market for Registrants Common
Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
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Market
Information
Our
common stock is traded on The NASDAQ Capital Market under the symbol ISNS.
The quarterly high and low sales prices for our common stock for our last two
fiscal years are set forth below.
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2007
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2006
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Quarter
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High
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Low
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High
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Low
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First
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$
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18.90
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$
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13.70
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$
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13.50
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$
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11.44
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Second
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19.70
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14.86
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14.91
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11.50
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Third
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16.74
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11.56
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14.25
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11.25
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Fourth
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18.54
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11.65
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14.57
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12.50
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Shareholders
As of February 20, 2008, there were 22 holders of
record of our common stock and approximately 1,868 beneficial holders of our common stock.
Dividends
We have never declared or paid a cash dividend on our
common stock. We currently intend to retain earnings for use in the operation and expansion of our business, and, consequently, we
do not anticipate paying any dividends in the foreseeable future.
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Table of Contents
Comparative Stock Performance Graph
The graph below compares the cumulative total
stockholder return on our common stock with the cumulative total stockholder return of (i) the Dow Jones Wilshire 5000 Index,
and (ii) the Dow Jones Wilshire Electronic Equipment Index, assuming an investment of $100 on December 31, 2002, including
reinvestment of dividends.
Notwithstanding anything to the contrary set forth in
any of our previous or future filings under the Securities Act of 1933 or the Securities Exchange Act of 1934 that might
incorporate future filings by reference, including this Annual Report on Form 10-K, in whole or in part, the
following performance graph and accompanying data shall not be deemed to be incorporated by reference into any such filings
and shall not otherwise be deemed filed under such Acts.
COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*
Among Image Sensing Systems, Inc., The Dow Jones Wilshire 5000 Index
And The Dow Jones Wilshire Electronic Equipment Index
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12/02
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12/03
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12/04
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12/05
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12/06
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12/07
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Image Sensing Systems, Inc.
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$
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100.00
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$
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230.07
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$
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384.97
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$
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303.87
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$
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326.20
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$
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395.90
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Dow
Jones Wilshire 5000
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$
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100.00
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$
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131.64
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$
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148.26
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$
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157.64
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$
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182.66
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$
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193.13
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Dow Jones
Wilshire Electronic Equipment
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$
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100.00
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$
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165.34
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$
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176.81
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$
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186.40
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$
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214.79
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$
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249.70
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