owns several patents in the area covering various corrosion inhibiting technologies and also applied for new patent applications for proprietary new corrosion inhibiting technologies, to which NTIC and its other joint venture partners in the rest of the world will have rights. NTIC is also seeking additional patent protection covering various host materials into which its corrosion inhibiting additives and other protective features can be incorporated and proprietary new process technologies and chemical formulations outside the area of corrosion protection. NTIC owns several patents outside the area of corrosion protection both in the U.S. and in PCT countries of relevance to NTIC.
In addition to seeking patent protection, NTIC has also pursued protection of its trademarks in North America, South America, both Western and Eastern Europe, and Asia primarily covering countries where NTIC has a joint venture presence. NTIC owns the following U.S. registered trademarks: NTI®, NTI Globe Design, ZERUST®, EXCOR®, COR TAB®, PLASTABS®, MATCH-TECH®, COR/SCI®, NIC®, Natur-Tec and Polymer Energy. NTIC also has a registered trademark on the use of the color yellow with respect to corrosion inhibiting packaging. In addition, NTIC has applied for six new trademarks in the U.S. The NTI®, ZERUST®, The ZERUST People®, Excor®, Color Yellow, NTI ASEAN®, MATCH-TECH®, Natur-Tec and Polymer Energy® marks as well as other marks have also been registered in the European Union with several new applications pending.
NTIC requires its employees, consultants and advisors having access to its confidential information, including trade secrets, to execute confidentiality agreements upon commencement of their employment or consulting relationships with NTIC. These agreements generally provide that all confidential information NTIC develops or makes known to the individual during the course of the individuals employment or consulting relationship with NTIC must be kept confidential by the individual and not disclosed to any third parties. NTIC also requires all of its employees and consultants who perform research and development for NTIC to execute agreements that generally provide that all inventions developed by these individuals during their employment with NTIC will be NTICs proprietary intellectual property rights.
Backlog
NTIC had order backlog of $321,000 as of August 31, 2006 compared to $255,000 as of August 31, 2005. These are orders that are held by NTIC pending release instructions from the customers to be used in just-in-time production. Customers generally place orders on an as needed basis and expect delivery within a relatively short period of time.
Availability of Raw Materials
NTIC does not carry excess quantities of raw materials or purchased parts because of widespread availability for such materials and parts from various suppliers.
Employees
As of August 31, 2006, NTIC had 44 full-time employees located in the United States, consisting of 15 in administration, nine in sales and marketing, 14 in research and development and lab, five in production and one person responsible for international coordination. There are no unions representing NTICs employees and NTIC believes that its relations with employees are good.
Forward-Looking Statements
This report contains not or incorporates by reference only historical information, but also forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E
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of the Securities Exchange Act of 1934, as amended, and are subject to the safe harbor created by those sections. In addition, NTIC or others on its behalf may make forward-looking statements from time to time in oral presentations, including telephone conferences and/or web casts open to the public, in press releases or reports, on NTICs Internet web sites or otherwise. All statements other than statements of historical facts included in this report that address activities, events or developments that NTIC expects, believes or anticipates will or may occur in the future are forward-looking statements including, in particular, the statements about NTICs plans, objectives, strategies and prospects regarding, among other things, its financial condition, results of operations and business. NTIC has identified some of these forward-looking statements with words like believe, may, could,
might, forecast, possible, potential, project, will, should, expect, intend, plan, predict, anticipate, estimate, approximate or continue and other words and terms of similar meaning. These forward-looking statements may be contained in the notes to NTICs consolidated financial statements and elsewhere in this report, including under the caption Managements Discussion and Analysis of Financial Condition and Results of Operations.
NTIC wishes to caution readers not to place undue reliance on any forward-looking statement that speaks only as of the date made and to recognize that forward-looking statements are predictions of future results, which may not occur as anticipated. Actual results could differ materially from those anticipated in the forward-looking statements and from historical results, due to the risks and uncertainties described under the heading Risk Factors below, as well as others that NTIC may consider immaterial or does not anticipate at this time. Although NTIC believes that the expectations reflected in its forward-looking statements are reasonable, NTIC does not know whether its expectations will prove correct. NTICs expectations reflected in its forward-looking statements can be affected by inaccurate assumptions NTIC might make or by known or unknown risks and uncertainties, including those described below under the heading Risk
Factors. The risks and uncertainties described under the heading Risk Factors below are not exclusive and further information concerning NTIC and its business, including factors that potentially could materially affect its financial results or condition, may emerge from time to time. NTIC assumes no obligation to update forward-looking statements to reflect actual results or changes in factors or assumptions affecting such forward-looking statements. NTIC advises you, however, to consult any further disclosures it may make on related subjects in its Annual Reports on Form 10-KSB, Quarterly Reports on Form 10-QSB and Current Reports on Form 8-K NTIC files with or furnishes to the Securities and Exchange Commission.
Risk Factors
The following are the most significant factors known to NTIC that could materially adversely affect its business, financial condition or operating results.
Over 20 percent of NTICs consolidated net sales, not including corporate joint venture sales, are generated outside of the U.S. and NTIC intends to continue to expand its international operations. NTICs international operations require management attention and financial resources and expose NTIC to difficulties presented by international economic, political, legal, accounting and business factors.
NTIC offers direct on-site technical support on rust and corrosion issues in over 50 countries, and operates a marketing, distribution, and technical network through joint ventures in North America, South America, Europe, Asia and the Middle East. NTICs consolidated net sales, not including the corporate joint venture sales, outside the United States were 20.3% and 21.7% of its total consolidated net sales for fiscal 2006 and 2005, respectively. One of NTICs strategic objectives is to expand its international operations. NTIC has recently entered into joint ventures in Australia, the Ukraine, Thailand and the United Arab Emirates. The expansion of NTICs existing international operations and entry into
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additional international markets requires management attention and financial resources. Many of the countries in which NTIC sells its products directly or indirectly through its corporate joint ventures, are, to some degree, subject to political, economic and/or social instability. NTICs international operations expose NTIC and its joint venture partners, representatives, agents and distributors to risks inherent in operating in foreign jurisdictions. These risks include:
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difficulties in managing and staffing international operations and the required infrastructure costs including legal, tax, accounting, information technology;
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the imposition of additional U.S. and foreign governmental controls or regulations, new trade restrictions and restrictions on the activities of foreign agents, representatives and distributors, the imposition of costly and lengthy export licensing requirements and changes in duties and tariffs, license obligations and other non-tariff barriers to trade;
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the imposition of U.S. and/or international sanctions against a country, company, person or entity with whom NTIC does business that would restrict or prohibit continued business with the sanctioned country, company, person or entity;
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pricing pressure that NTIC or its corporate joint ventures may experience internationally;
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laws and business practices favoring local companies;
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currency exchange rate fluctuations;
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longer payment cycles and difficulties in enforcing agreements and collecting receivables through certain foreign legal systems;
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difficulties in enforcing or defending intellectual property rights; and
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multiple, changing and often inconsistent enforcement of laws and regulations.
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NTIC cannot assure you that one or more of the factors listed above will not harm its business. Any material decrease in NTICs international sales could adversely influence NTICs operating results.
NTICs liquidity and financial position rely on dividend distributions from its corporate joint ventures, which if such dividends cease or are reduced could adversely affect NTICs liquidity and financial position.
NTICs liquidity and financial position rely on dividend distributions from its corporate joint ventures. During fiscal 2006, NTIC received approximately $900,000 in dividends received from its corporate joint ventures. Because NTIC typically owns only 50% of its joint venture entities, NTIC does not control the decisions of these entities regarding whether to pay dividends and how much in dividends should be paid in any given year. Thus, NTIC cannot guarantee that any of its joint ventures will pay dividends in any given year. The failure of NTICs joint ventures to declare dividends in amounts typically expected by NTIC could adversely affect NTICs liquidity and financial position.
Fluctuations in foreign currency exchange rates could result in declines in our reported consolidated net sales and net earnings.
Because the functional currency of NTICs foreign operations and investments in its foreign corporate joint ventures and holding companies is the applicable local currency, NTIC is exposed to foreign
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currency exchange rate risk arising from transactions in the normal course of business since NTICs fees for technical support and other services and dividend distributions from these foreign entities are paid in foreign currencies. NTICs reported consolidated net sales and net income are subject to fluctuations in foreign exchange rates. NTICs principal exchange rate exposure is with the Euro, the Japanese yen, Korean won and the English pound against the U.S. dollar. NTIC does not hedge against its foreign currency exchange rate risk. Since NTICs investments in its corporate joint ventures and holding companies are accounted for using the equity method, any changes in foreign currency exchange rates would be reflected as a foreign currency translation adjustment and would not change the equity in income of joint ventures and holding companies reflected in NTICs consolidated statements of income.
Approximately 26.6% of NTICs consolidated net sales for the fiscal year ended August 31, 2006 were dependent upon a single customer, the loss of which would adversely affect NTICs financial condition and consolidated operating results.
One of NTICs North American customers accounted for, in the aggregate, approximately 26.6% of NTICs consolidated net sales for the fiscal year ended August 31, 2006. If NTIC were to lose this customer or if this customer were to substantially decrease its purchases of NTICs products, NTICs financial condition and consolidated operating results would be adversely affected.
NTICs compliance with U.S. generally accepted accounting principles and any changes in such principles might adversely affect NTICs operating results and financial condition. Any requirement to consolidate NTICs corporate joint ventures or subject them to compliance with Sarbanes-Oxley Act of 2002 could adversely affect NTICs operating results and financial condition.
NTIC adopted accounting policy FASB Interpretation No. 46R (FIN 46R),
Consolidation of Variable Interest Entities
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a revision of FIN 46
effective as of February 28, 2005. As a result of FIN 46R, NTIC consolidated React-NTI LLC, one of its corporate joint ventures that is 75% owned by NTIC. If the interpretation of FIN 46R were to change and NTIC were required to fully consolidate all of its corporate joint ventures or if NTICs corporate joint ventures otherwise would be required to be Sarbanes-Oxley compliant, NTIC would incur significant additional costs. NTIC estimates that the costs for each of its corporate joint ventures to become Sarbanes-Oxley compliant would range between $150,000 to $500,000 and that annual maintenance expenses would range from $50,000 to $100,000 per year per corporate joint venture thereafter. In addition, other accounting pronouncements issued in the future could have a material
cost associated with NTICs implementation of such new accounting pronouncements.
One of NTICs principal stockholders beneficially owns 25.2% of NTICs outstanding common stock and is affiliated with NTICs President and Chief Executive Officer and thus may be able influence matters requiring stockholder approval and could discourage or otherwise impede a transaction in which a third party wishes to purchase NTICs outstanding shares at a premium.
As of November 17, 2006, Inter Alia Holding Company beneficially owned approximately 25.2% of NTICs outstanding common stock. Inter Alia is an entity owned by, among others, G. Patrick Lynch, NTICs President and Chief Executive Officer and a director, and Philip M. Lynch, NTICs former Chairman of the Board and Chief Executive Officer and current Chairman Emeritus. Messrs. G.P. Lynch and P.M. Lynch share voting and dispositive power of shares of NTICs common stock held by Inter Alia Holding Company. As a result of his share ownership through Inter Alia and his position as President and Chief Executive Officer and a director of NTIC, Mr. G.P. Lynch may be able to influence the affairs and actions of NTIC, including matters requiring stockholder approval, such as the election of directors and approval of significant corporate transactions. The interests of Messrs. G.P. Lynch and Inter Alia may differ from the
interests of NTICs other stockholders. This concentration of ownership may have the
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effect of delaying, preventing or deterring a change in control of NTIC, could deprive NTICs stockholders of an opportunity to receive a premium for their common stock as part of a sale or merger of NTIC and may negatively affect the market price of NTICs common stock. Transactions that could be affected by this concentration of ownership include proxy contests, tender offers, mergers or other purchases of common stock that could give stockholders the opportunity to realize a premium over the then-prevailing market price for shares of NTICs common stock.
NTIC is currently involved in litigation over its trademark on the use of the color Yellow in corrosion inhibiting packaging, the loss of which could adversely affect NTICs business.
One of NTICs important trademarks for its business is the trademark for the color Yellow. NTIC is currently involved in litigation against a competitor over this trademark. NTIC has also in the past successfully prosecuted infringement claims against other competitors and third parties for their use of the color Yellow. If NTIC were to lose any future litigation over this trademark, NTIC could be in a more difficult position to enforce its rights to this trademark in other countries and against other third parties. NTIC believes that the loss of its trademark for the color Yellow could have an adverse affect on NTICs business.
NTICs business, properties, and products are subject to governmental regulation with which compliance may require NTIC to incur expenses or modify its products or operations and may expose NTIC to penalties for non-compliance. Governmental regulation may also adversely affect the demand for some of NTICs products and its operating results.
NTICs business, properties, and products are subject to a wide variety of international, federal, state and local laws, rules and regulations relating to the protection of the environment, natural resources, and worker health and safety and the use, management, storage, and disposal of hazardous substances, wastes, and other regulated materials. These laws, rules, and regulations may affect the way NTIC conducts its operations, and the failure to comply with these regulations could lead to fines and other penalties. Because NTIC owns and operates real property, various environmental laws also may impose liability on NTIC for the costs of cleaning up and responding to hazardous substances that may have been released on NTICs property, including releases unknown to NTIC. These environmental laws and regulations also could require NTIC to pay for environmental remediation and response costs at third-party locations where NTIC disposed of or recycled
hazardous substances. NTICs future costs of complying with the various environmental requirements, as they now exist or may be altered in the future, could adversely affect its financial condition and operating results. NTIC is also subject to other international, federal and state laws, rules and regulations, the future non-compliance of which may harm NTICs business or may adversely affect the demand for some of its products. Changes in laws and regulations, including changes in accounting standards and taxation changes, including tax rate changes, new tax laws, revised tax law interpretations, also may adversely affect NTICs operating results.
NTIC intends to grow its business through additional joint ventures, alliances and acquisitions, which could be risky and could harm its business.
One of NTICs growth strategies is to expand its business by entering into additional joint ventures and alliances and acquiring businesses, technologies and products that complement or augment NTICs existing products. The benefits of a joint venture, alliance or acquisition may take more time than expected to develop, and NTIC cannot guarantee that any future joint ventures, alliances or acquisitions will in fact produce the intended benefits. In addition, joint ventures, alliances and acquisitions involve a number of risks, including:
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diversion of managements attention;
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difficulties in assimilating the operations and products of an acquired business or in realizing projected efficiencies, cost savings and revenue synergies;
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potential loss of key employees or customers of the acquired businesses or adverse effects on existing business relationships with suppliers and customers;
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adverse impact on overall profitability if acquired businesses do not achieve the financial results projected in NTICs valuation models;
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reallocation of amounts of capital from other operating initiatives and/or an increase in NTICs leverage and debt service requirements to pay the acquisition purchase prices, which could in turn restrict our ability to access additional capital when needed or to pursue other important elements of NTICs business strategy;
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inaccurate assessment of undisclosed, contingent or other liabilities or problems and unanticipated costs associated with the acquisition; and
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incorrect estimates made in the accounting for acquisitions, incurrence of non-recurring charges and write-off of significant amounts of goodwill that could adversely affect NTICs operating results.
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NTICs ability to grow through joint ventures, alliances and acquisitions will depend, in part, on the availability of suitable opportunities at an acceptable cost, NTICs ability to compete effectively for these opportunities and the availability of capital to complete such transactions.
NTIC relies on its independent distributors, manufacturers sales representatives and corporate joint ventures to market and sell its products.
In addition to its direct sales force, NTIC relies on its independent distributors, manufacturers sales representatives and corporate joint ventures to market and sell its products in the United States and internationally. NTICs independent distributors, manufacturers sales representatives and joint venture partners might terminate their relationship with NTIC, or devote insufficient sales efforts to NTICs products. NTIC does not control its independent distributors, manufacturers sales representatives and joint ventures and they may not be successful in implementing NTICs marketing plans. NTICs failure to maintain its existing relationships with its independent distributors, manufacturers sales representatives and joint ventures, or its failure to recruit and retain additional skilled independent distributors, manufacturers sales representatives and joint venture partners could have an adverse
effect on NTICs operations.
NTIC has very limited staffing and will continue to be dependent upon key employees.
NTICs success is dependent upon the efforts of a small management team and staff. NTICs future success will also depend in large part on its ability to identify, attract and retain other highly qualified managerial, technical, sales and marketing and customer service personnel. Competition for these individuals is intense, especially in the markets in which NTIC operates. NTIC may not succeed in identifying, attracting and retaining these personnel. The current management, other than the President and Chief Executive Officer, do not have any material stock ownership in NTIC or any contractual obligation to maintain employment. The loss or interruption of services of any of NTICs key personnel, the inability to identify, attract or retain qualified personnel in the future, delays in hiring qualified personnel, or any employee slowdowns, strikes or similar actions could make it difficult for NTIC to manage its business and
meet key objectives, which could harm NTICs business, financial condition and operating results.
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NTIC relies on its management information systems for inventory management, distribution and other functions. If these information systems fail to adequately perform these functions or if NTIC experiences an interruption in their operation, NTICs business and operating results could be adversely affected.
The efficient operation of NTICs business is dependent on its management information systems. NTIC relies on its management information systems to effectively manage accounting and financial functions; manage order entry, order fulfillment and inventory replenishment processes; and to maintain its research and development data. The failure of management information systems to perform as anticipated could disrupt NTICs business and product development and could result in decreased sales, causing NTICs business and operating results to suffer. In addition, NTICs management information systems are vulnerable to damage or interruption from natural or man-made disasters, terrorist attacks and attacks by computer viruses or hackers, or power loss or computer systems, Internet, telecommunications or data network failure. Any such interruption could adversely affect NTICs business and operating results.
NTICs reliance upon patents, trademark laws, trade secrets and contractual provisions to protect its proprietary rights may not be sufficient to protect its intellectual property from others who may sell similar products.
NTIC holds patents relating to various aspects of its products and believes that proprietary technical know-how is critical to many of its products. Proprietary rights relating to NTICs products are protected from unauthorized use by third parties only to the extent that they are covered by valid and enforceable patents or are maintained in confidence as trade secrets. NTIC cannot be certain that it will be issued any patents from any pending or future patent applications owned by or licensed to NTIC or that the claims allowed under any issued patents will be sufficiently broad to protect its technology. In the absence of patent protection, NTIC may be vulnerable to competitors who attempt to copy NTICs products or gain access to its trade secrets and know-how. NTICs competitors may initiate litigation to challenge the validity of NTICs patents, or they may use their resources to design comparable products that do
not infringe NTICs patents. NTIC may incur substantial costs if its competitors initiate litigation to challenge the validity of is patents or if it initiates any proceedings to protect its proprietary rights and if the outcome of any such litigation is unfavorable to NTIC, its business and operating results could be materially adversely affected.
In addition, NTIC relies on trade secrets and proprietary know-how that it seeks to protect, in part, by confidentiality agreements with its employees, and consultants. These agreements may be breached and NTIC may not have adequate remedies for any such breach. Even if these confidentiality agreements are not breached, NTICs trade secrets may otherwise become known or be independently developed by competitors.
If NTIC is unable to continue to enhance existing products and develop and market new products that respond to customer needs and achieve market acceptance, NTIC may experience a decrease in demand for its products, and its business could suffer.
One of NTICs strategies is to enhance its existing products and develop and market new products that respond to customer needs. NTIC may not be able to compete effectively with its competitors unless NTIC can keep up with existing or new products in the markets in which it competes. Product development requires significant financial and other resources. Although in the past NTIC has implemented lean manufacturing and other productivity improvement initiatives to provide investment
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funding for new products, NTIC cannot assure you that it will be able to continue to do so in the future. Products improvements and new product introductions also require significant planning, design, development and testing at the technological, product, and manufacturing process levels and NTIC may not be able to timely develop product improvements or new products. NTICs competitors new products may beat NTICs products to market, may be more effective or less expensive than NTICs products or render NTICs products obsolete. Any new products that NTIC may develop may not receive market acceptance or otherwise generate any meaningful net sales or profits for NTIC relative to its expectations, based on, among other things, existing and anticipated investments in manufacturing capacity and commitments to fund advertising, marketing, promotional programs, and research and development.
NTIC faces intense competition in all of its product lines, including from competitors that have substantially greater resources than NTIC does. NTIC cannot assure you it will be able to compete effectively, which would harm its business and operating results.
NTICs products are sold in highly competitive markets throughout the world. The principal competitive factors in NTICs markets are pricing, product innovation, quality and reliability, product support and customer service and reputation. NTIC competes in all of its products with numerous manufacturers, many of who have substantially greater financial, marketing, and other resources than NTIC does. As a result, they may be able to adapt more quickly to new or emerging technologies and changes in customer requirements, or to devote greater resources to the promotion and sale of their products than NTIC can. In addition, competition could increase if new companies enter the market or if existing competitors expand their product lines or intensify efforts within existing product lines. NTICs current products, products under development and its ability to develop new and improved products may be insufficient to enable NTIC to
compete effectively with its competitors. NTIC cannot assure you that it will be able to compete effectively, which would harm its business and operating results.
Recently enacted and future changes in securities laws and regulations have increased and are likely to continue to increase our costs.
Changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of 2002, Securities and Exchange Commission rules and regulations and American Stock Exchange rules, create challenges and compliance requirements for publicly held companies, including NTIC. NTICs efforts to comply with evolving laws, rules, regulations and standards have resulted in, and are likely to continue to result in, increased general and administrative expenses and a diversion of management time and attention from revenue-generating activities to compliance activities. In particular, NTICs efforts to comply with Section 404 of the Sarbanes-Oxley Act of 2002 and the related regulations regarding its assessment of its internal control over financial reporting and its independent registered public accounting firms report on that assessment will require the commitment of significant financial and
managerial resources.
NTIC is exposed to risks relating to evaluations of internal control over financial reporting required by Section 404 of the Sarbanes-Oxley Act.
Changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act and related regulations implemented by the SEC and the American Stock Exchange, are creating uncertainty for public companies, increasing legal and financial compliance costs and making some activities more time consuming. NTIC will be evaluating its internal controls systems to allow management to report on, and its independent registered public accounting firm to attest to, NTICs internal control over financial reporting. NTIC will be performing the system and process evaluation and testing (and any necessary remediation) required to comply with the management certification and auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act. NTIC cannot
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be certain as to the timing of completion of its evaluation, testing and remediation actions or the impact of the same on its operations since there is presently no precedent available by which to measure compliance adequacy. If NTIC is not able to implement the requirements of Section 404 in a timely manner or with adequate compliance, NTIC may be subject to sanctions or investigation by regulatory authorities, including the SEC or the American Stock Exchange. This type of action could adversely affect NTICs financial results or investors confidence in NTIC, and could cause NTICs stock price to decline. In addition, the controls and procedures that NTIC may implement may not comply with all of the relevant rules and regulations of the SEC and the American Stock Exchange. If NTIC fails to develop and maintain effective controls and procedures, it may be unable to provide the required financial information in a timely
and reliable manner.