ITEM
2
— MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS.
Company Overview
We are an
Internet security software and technology company with patented
technology for various types of secure network communications,
including 5G and 4G LTE network security. Our patented Secure
Domain Names and GABRIEL Connection Technology™, are the foundation
for our new VirnetX One™ platform that protects communications
using Zero Trust Network Access (“ZTNA”). Our technology generates
secure connections on a “zero-click” or “single-click” basis,
significantly simplifying the deployment of secure real-time
communication solutions by eliminating the need for end-users to
enter any encryption information. Our portfolio of intellectual
property is the foundation of our business model. We currently own
approximately 205 total patents and pending applications, including
72 U.S. patents/patent applications and 133 foreign
patents/validations/pending applications. Our patent portfolio is
primarily focused on securing real-time communications over the
Internet, and related services, and is used in all our technology
and products, some of which were acquired by our principal
operating subsidiary; VirnetX, Inc., from Leidos, Inc., or Leidos,
(f/k/a Science Applications International Corporation, or SAIC) in
2006.
Our product
portfolio includes sophisticated technologies, products and
services that are available for sale worldwide. On March 1, 2022,
we launched War Room™ software, and on April 7, 2022, we launched
VirnetX Matrix™ software on our next-generation, VirnetX One™
platform. This new platform builds upon our patented Secure Domain
Names and GABRIEL Connection Technology™ to further enhance the
security and efficiency of our patented secure communication links.
Our VirnetX One™ platform is a security-as-a-service platform that
protects enterprise applications, services, and infrastructure from
cyber-attacks.
Our new War
Room™ software product provides an industry leading, safe, and
secure video conferencing meeting environment where sensitive
communications and data is invisible to those not authorized to
view it. War Room™ validates permissions of all the users, and
devices requesting access to any secure meeting room prior to
granting access. We believe our War Room™ will be an attractive
solution for government agencies as well as all professional
sectors such as legal, financial, and medical where limiting access
to confidential data is a critical requirement.
Our VirnetX Matrix™ product provides industry's best safeguards for
applications and contemporary remote workforce from sophisticated
hackers and mitigates threats by enabling corporate applications to
be invisible from unauthorized users. We believe our VirnetX
Matrix™ software will be an attractive solution for all businesses,
cloud and on-premise application service providers, and OEMs,
looking to improve visibility and management of their networks to
mitigate morphing attacks on their networks and for real time
access and control of their users.
Our GABRIEL
Collaboration Suite™ is a set of communication applications and
tools that use our GABRIEL Secure Communication Platform™. It
enables seamless and secure cross platform communications between
devices that are enrolled in our “VIRNETX SECURED” network and have
our software installed. Our GABRIEL Collaboration Suite™ is
available for download and free trial, for Android, iOS, Windows,
Linux, and Mac OS X platforms, at https://virnetx.com.
We have an
ongoing licensing program under which we offer licenses to a
portion of our patent portfolio, technology, and software,
including our secure domain name registry service, to domain
infrastructure providers, communication service providers as well
as to system integrators. Our GABRIEL Connection Technology™
License is offered to original equipment manufacturer (“OEM”)
customers who want to adopt the GABRIEL Connection Technology™ as
their solution for establishing secure connections using secure
domain names within their products. We have developed GABRIEL
Connection Technology™ Software Development Kit (“SDK”) to assist
with rapid integration of these techniques into existing software
implementations. Customers who want to develop their own
implementation of the VirnetX patented techniques for supporting
secure domain names, or other techniques that are covered by our
patent portfolio for establishing secure communication links, can
purchase a patent license. The number of patents licensed, and
therefore the cost of the patent license to the customer, will
depend upon which of the patents are used in a particular product
or service. These licenses will typically include an initial
license fee, as well as an ongoing royalty.
We expect to
continue to launch new and enhanced security platforms, software
products, and services based on our GABRIEL Connection Technology™.
We expect to provide updates to new and existing customers as they
are released to the public. Many small and medium businesses have
installed our software products in their corporate networks. We
intend to continue to expand our customer base with targeted
promotions and direct sales initiatives.
Our
employees include the core development team behind our patent
portfolio, technology, and software. Some members of this team have
worked together for over twenty years and were on same team that
invented and developed this technology while working at Leidos. The
team has continued its research and development work and expanded
the set of patents we acquired in 2006 from Leidos, into a larger
patent portfolio. This portfolio now serves as the foundation of
our products, services, and our licensing business. It is expected
to generate most of our future revenue in license fees and
royalties. We intend to continue our efforts to develop new
products and technologies and further strengthen and expand our
patent portfolio. We intend to continue using an outsourced and
leveraged model to maintain efficiency and manage costs as we grow
our licensing business by, for example, offering incentives to
early licensing targets or asserting our rights for use of our
patents.
New
Accounting Pronouncements
In December
2019, the Financial Accounting Standards Board (“FASB”) issued
Accounting Standards Update (“ASU”) 2019-12 Income Taxes (Topic
740). The amendments in this ASU simplify the accounting for income
taxes by removing certain exceptions to the general principles in
Topic 740. The amendments also improve consistent application of
and simplify U. S. GAAP for other areas of Topic 740 by clarifying
and amending existing guidance. The amendments in this ASU are
effective for fiscal years, and interim periods within those fiscal
years, beginning after December 15, 2020. We adopted this ASU on
January 1, 2021 with no material impact on our financial position,
results of operations or cash flows.
Results of
Operation
Three
Months Ended March 31, 2022
Compared with the Three Months Ended March 31, 2021
(in
thousands, except per share amounts)
Revenue
We
recognized revenue of $5 in both the three months ended March 31,
2022 and March 31. 2021.
Licensing Costs
Accrued
licensing costs of $9,438 were reversed during the three months
ended March 31, 2021, as a result of the McKool award; these
licensing costs were reduced an additional $4, during March 31,
2022. (See Note 7 — Litigation).
Research and Development Expenses
Our research
and development expenses increased by $75 to $1,227 for the three
months ended March 31, 2022. Our research and development expenses
were $1,152 for the three months ended March 31, 2021,
respectively. The increase in 2022 was primarily due to the
addition of staff and higher engineering employee benefits.
Selling, General and Administrative Expenses
Our selling,
general and administrative expenses decreased by $38,758 to $3,185
for the three months ended March 31, 2022, from $41,943 for the
three months ended March 31, 2021, respectively. The decrease is
primarily due to $38,284 disputed legal fees accrued to McKool in
2021 (See Note — 7 Litigation),
Liquidity and Capital Resources
As of March
31, 2022, our cash and cash equivalents totaled approximately
$136,408 and our short-term investments totaled approximately
$28,728, compared to cash and cash equivalents of approximately
$142,018 and short-term investments of approximately $27,254 at
December 31, 2021, respectively. Working capital was $164,771 at
March 31, 2022, and $168,471 at December 31, 2021.
We expect
that our cash and cash equivalents and short-term investments as of
March 31, 2022, will be sufficient to fund our current level of
operating expense, including legal expenses and provide related
working capital for the foreseeable future. Over the longer term,
we expect to derive the majority of our future revenue from license
fees and royalties associated with our patent portfolio,
technology, software and secure domain name registry in the United
States and other markets around the world.
Income
Taxes
For the
three months ended March 31, 2022, we recognized income tax benefit
of $1,059 on loss before taxes of $4,379, which is an effective tax
rate of 24.45%. The effective tax rate was higher than the
statutory federal income tax rate primarily due to the effect of
research and development tax credits. For the three months ended
March 31, 2021, income tax benefit was $7,193 on loss before taxes
of $33,636 and an effective tax rate of 21.38%. The effective tax
rate was higher than the statutory federal income tax rate
primarily due to the effect of research and development tax
credits.
Contractual Obligations
There have
been no material changes to the contractual obligations disclosed
in our Annual Report on Form 10-K for the fiscal year ended
December 31, 2021.
Off-Balance Sheet Arrangements
None.
ITEM
3
— QUANTITATIVE AND
QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Interest Rate Risk
We invest
our excess cash primarily in highly liquid instruments including
time deposits, money market, and U.S. agency and treasury
securities. We seek to limit the amount of our credit exposure to
any one issuer.
Investments
in fixed rate instruments carry a degree of interest rate risk.
Fixed rate securities may have their fair market value adversely
impacted due to a rise in interest rates. Due in part to these
factors, our income from investments may decrease in the
future.
We
considered the historical volatility of short-term interest rates
and determined that it was reasonably possible that an adverse
change of 100 basis points could be experienced in the near term
but would have an immaterial impact in the fair value of our
marketable securities, which generally mature within eighteen
months of March 31, 2022.
Other
Market Risks
We
considered the historical volatility of our stock prices and
determined that it was reasonably possible that the fair market
value of our stock price could increase or decrease substantially
in the near term and could have a material impact to our
consolidated balance sheets and statement of operations with
respect to future stock-based compensation costs and other equity
transactions.
ITEM 4
— CONTROLS AND PROCEDURES.
Under the
supervision and with the participation of our management, including
our Chief Executive Officer and Chief Financial Officer, we
conducted an evaluation of the effectiveness of the design and
operation of our disclosure controls and procedures, as defined in
Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of
1934, as amended, as of March 31, 2022.
The purpose
of this evaluation was to determine whether as of March 31, 2022
our disclosure controls and procedures were effective to provide
reasonable assurance that the information we are required to
disclose in our filings with the SEC, (i) is recorded, processed,
summarized and reported within the time periods specified in the
SEC’s rules and forms and (ii) accumulated and communicated to our
management, including our Chief Executive Officer and Chief
Financial Officer, as appropriate to allow timely decisions
regarding required disclosure.
Based on
their evaluation, our Chief Executive Officer and Chief Financial
Officer have concluded that as of March 31, 2022, our disclosure
controls and procedures were effective.
Changes in
Internal Control Over Financial Reporting.
We began remediating the deficiency in our internal controls
over financial reporting during the quarter ended March 31, 2022.
We made these changes to address a material weakness that resulted
in the restatement of our December 31, 2021 consolidated financial
statements. Specifically we modified our supervisory review
procedures over our tax professionals who perform the accounting
and reporting of deferred taxes, to include detailed discussions
with our tax professionals of current operations and changes in
accounting standards and tax law that could affect our
calculations, and detailed review including walkthrough of
infrequent transactions and complex matters affecting deferred tax
calculations. The remediation plan also includes training in
deferred taxes for our accounting professionals. Our goal is to
remediate this deficiency by the end of 2022, subject to conclude
through testing, that the enhanced control is operating
effectively.
We have not
experienced any material impact to our internal controls over
financial reporting despite the fact that most of our employees are
working remotely due to the COVID-19 pandemic. We are continually
monitoring and assessing the impact of the COVID-19 outbreak on our
internal controls to minimize the impact on their design and
operating effectiveness.
PART II — OTHER
INFORMATION
ITEM
1 — LEGAL PROCEEDINGS
–
(See Note 7 — Litigation in the “Notes to Condensed Consolidated
Financial Statements”)
Our operations and financial
results are subject to various risks and uncertainties, including
those described below, which could adversely affect our business,
financial condition, results of operations, cash flows, and the
trading price of our common and capital stock. You should carefully
consider the risks and uncertainties described below in addition to
the other information set forth in this Report, including in
“Management’s Discussion and Analysis of Financial Condition and
Results of Operations” and our consolidated financial statements
and related notes, before making any investment in our common
stock. The risks and uncertainties described below are not the only
ones we face. Additional risks and uncertainties not presently
known to us or that we currently believe to be immaterial may also
adversely affect our business. If any of these risk factors occur,
you could lose substantial value or your entire investment in our
shares.
Summary Risk
Factors
An investment in our common stock
involves a high degree of risk, and the following is a summary of
key risk factors when considering an investment. You should read
this summary together with the more detailed description of each
risk factor contained in the subheadings further below.
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We are involved and will continue to be involved in litigation
defending our patent portfolio, which can be time-consuming and
costly, and we cannot anticipate the results.
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We may not be able to capitalize on market opportunities
related to our product strategy, our licensing strategy or our
patent portfolio.
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If we are not able to adequately protect our patent rights,
our business would be negatively impacted.
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Because our business is conducted or expected to be conducted
in an environment that is subject to rapid change, we may be
subject to various developments in regulation, law, and consumer
preferences to which we may not be able to adapt
successfully.
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Our exposure to outside influences beyond our control,
including new legislation, court rulings or actions by the USPTO
could adversely affect our licensing and enforcement activities and
results of operations.
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New legislation, regulations or court rulings related to
enforcing patents could harm our business and operating
results.
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Privacy and data security concerns, and data collection and
transfer restrictions and related domestic or foreign regulations
may limit the use and adoption of our solutions and adversely
affect our business.
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If we are unable to expand our revenue sources or establish,
sustain, grow, or replace relationships with a diversified customer
base, our revenues may be limited.
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We have limited technical resources and are at an early stage
in commercialization of our software products.
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Our international expansion will subject us to additional
costs and risks, and our plans may not be successful.
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Risks
Related to Our Business and Our Financial Reporting
We may not generate significant sales revenues from our new
software products and services.
In March and April 2022, we launched War Room™ and VirnetX Matrix™
on our VirnetX One™ platform. During this year, we expect to launch
these products in Asia Pacific and Europe. We also intend to
continue to introduce new products on our VirnetX One™ platform in
the future. The introduction and launch of new products is subject
to significant costs, risks of slow market acceptance, and variable
costs of customer acquisition. While, we believe our software
products will be attractive to all businesses, government agencies,
cloud and on-premise application service providers, and OEMs, if we
are unable to overcome these risks, we may never generate
significant revenue from the sales of these products.
We
are involved and will continue to be involved in litigation
defending our patent portfolio, which can be time-consuming and
costly, and we cannot anticipate the results.
We spend a significant amount of
our financial and management resources to pursue our current
litigation. We believe that this litigation and others that we may
pursue in the future could continue for years and consume
significant financial and management resources. The counterparties
to our litigation include large, well-financed companies with
substantially greater resources than us. Patent litigation is
risky, and the outcome is uncertain, and we cannot assure you that
any of our current or future litigation matters will result in a
favorable outcome for us. In addition, even if we obtain favorable
interim rulings or verdicts, they may be inconsistent with the
ultimate resolution of the dispute. Furthermore, any awards we
receive may be subject to obligations to Leidos and fee
arrangements with outside counsel. Also, we cannot assure you that
we will not be exposed to claims or sanctions against us which may
be costly or impossible for us to defend. Unfavorable or adverse
outcomes may result in losses, exhaustion of financial resources or
other adverse effects, which could encumber our ability to develop
and commercialize our products.
We
may not be able to capitalize on market opportunities related to
our licensing strategy or our patent portfolio.
A large part of our business
strategy includes licensing our patents and technology to other
companies in order to reach a larger end-user base than we could
reach through direct sales and marketing efforts; as such, our
business strategy and revenues may depend on intellectual property
licensing fees and royalties for the majority of our revenues. We
currently derive minimal revenue from licensing activities, and
royalties, and we cannot assure you that we will successfully
capitalize on our market opportunities or that this portion of our
business strategy will succeed.
Although to date we have entered
into a limited number of settlement and license agreements, we may
not be successful in entering into further licensing relationships,
or if we are successful in entering into such relationships, the
acquisition of them may be expensive, and they, as well as our
existing settlement and our existing and pending license agreements
may not generate the financial results, we expect.
Factors that may affect our
ability to execute our current business strategy include, but are
not limited to, the following:
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Third parties may challenge the validity of our patents;
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The pendency of our various litigations may cause potential
licensees not to do business with us;
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Our patents may expire before we can make our business
strategy successful;
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We face, and we expect to continue to face, intense
competition from new and established competitors who may have
superior products and services or better marketing, financial or
other capacities than we do; and
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It is possible that one or more of our potential customers or
licensees develops or otherwise sources products or technologies
similar to, competitive with or superior to ours.
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If we
are not able to adequately protect our patent rights, our business
would be negatively impacted.
We believe our patents are valid,
enforceable, and valuable. Notwithstanding this belief, third
parties may make claims of infringement or invalidity claims with
respect to our patents and such claims could give rise to material
cost for defense or settlement or both, jeopardize or substantially
delay a successful outcome of litigation we are or may become
involved in, divert resources away from our other activities, limit
or cease our revenues related to such patents, or otherwise
materially and adversely affect our business. Similar challenges
could also prevent us from obtaining additional patents in the
future. Additionally, several of our patents are currently, and
other patents may in the future be, subject to USPTO post-grant
inter partes review proceedings (“IPR”) which may result in all, or
part of these patents being invalidated, or the claims of our
patents being limited. Unfavorable or adverse outcomes in our
litigation or IPRs may result in losses, exhaustion of financial
resources, reduction in our ability to enforce our intellectual
property rights, or other adverse effects, which could encumber our
ability to develop and commercialize our products. Even if we are
successful in enforcing our intellectual property rights, our
patents may not ultimately provide us with any competitive
advantages and may be less valuable than we currently expect. These
risks may be heightened in countries other than the United States
where laws regarding patent protection are less developed and may
be negatively affected by the fact that legal standards in the
United States and elsewhere for protection of intellectual property
rights in Internet-related businesses are uncertain and still
evolving. In addition, there are a significant number of United
States and foreign patents and patent applications in our areas of
interest, and we expect that significant litigation in these areas
will continue and will add uncertainty to the value of certain
patents and other intellectual property rights in our areas of
interest. If we are unable to protect our intellectual property
rights or otherwise realize value from them, our business would be
negatively affected.
We can provide no assurances that the
licensing of our essential security patents under FRAND will be
successful.
At the request of the European
Telecommunications Standards Institute (“ETSI”), and the Alliance
for Telecommunications Industry Solutions (“ATIS”), we agreed to
update our licensing declaration to ETSI and ATIS under their
respective Intellectual Property Rights policies. This was in
response to our Statement of Patent Holder identifying a group of
our patents and patent applications that we believe are or may
become essential to certain developing specifications in the 3rd
Generation Partnership Project Long Term Evolution (“LTE”), Systems
Architecture Evolution project. We will make available a
non-exclusive patent license under FRAND (fair, reasonable and non-
discriminatory terms, and conditions, with compensation) for the
patents identified by us that are or become essential to applicants
desiring to implement the Technical Specifications identified by
us, as set forth in the updated licensing declaration under the
ATIS and ETSI Intellectual Property Rights policies. Our licensing
declarations under the ATIS and ETSI Intellectual Property Rights
policies may limit our flexibility in determining royalties and
license terms for certain of our patents. Consequently, we cannot
assure you that the licensing of the essential security patents
will be successful or that third parties will be willing to enter
into licenses with us on reasonable terms or at all, which could
have an adverse effect on our business and harm our competitive
position.
Because our business is conducted or expected to be conducted in an
environment that is subject to rapid change, we may be subject to
various developments in regulation, law, and consumer preferences
to which we may not be able to adapt successfully.
The current regulatory
environment for our products and services remains unclear. We can
give no assurance that our planned product offerings will be in
compliance with laws and regulations of local, state, United States
federal or foreign authorities. Further, we can give no assurance
that we will not unintentionally violate such laws or regulations
or that such laws or regulations will not be modified, or that new
laws or regulations will be enacted in the future which would cause
us to be in violation of such laws or regulations. For example,
Voice-Over-Internet Protocol (“VoIP”) services are not currently
subject to all the same regulations that apply to traditional
telephony, but it is possible that similar regulations may be
applied to VoIP in the future and that these could result in
substantial costs to us which could adversely affect the
marketability of our products and planned products related to VoIP.
For further example, the use of the Internet and private Internet
Protocol (“IP”) networks for communication is largely unregulated
within the United States, but may become regulated in the future;
additionally, several foreign governments have enacted measures
that could restrict or prohibit voice communications services over
the Internet or private IP networks.
Our business depends on the
growth of instant messaging, VoIP, mobile services, streaming
video, file transfer and remote desktop and other next-generation
Internet-based applications. A decline in the use of these
applications due to complexity or cost relative to alternate
traditional or newly developed communications channels, or
development of alternative technologies, could cause a material
decline in the number of users in these areas.
More aggressive domestic or
international regulation of the Internet in general, and Internet
telephony providers and services specifically may materially and
adversely affect our business, financial condition, operating
results, and future prospects.
Our
exposure to outside influences beyond our control, including new
legislation, court rulings or actions by the USPTO, could adversely
affect our licensing and enforcement activities and results of
operations.
Our licensing and enforcement
activities are subject to numerous risks from outside influences,
including the following:
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New legislation, regulations or rules related to obtaining
patents or enforcing patents could significantly increase our
operating costs and decrease our revenue. For instance, the United
States Supreme Court has modified some tests used by the USPTO in
granting patents during the past 20 years which may decrease the
likelihood that we will be able to obtain patents and increase the
likelihood of challenge of any patents we obtain or license. In
addition, in 2012 the United States enacted sweeping changes to the
United States patent system under the Leahy-Smith America Invents
Act, including changes that transition the United States from a
“first-to-invent” system to a “first to file” system and alter the
processes for challenging issued patents;
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More patent applications are filed each year resulting in
longer delays in getting patents issued by the USPTO;
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Federal courts are becoming more crowded, and as a result,
patent enforcement litigation is taking longer; and
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As patent enforcement becomes more prevalent, it may become
more difficult for us to voluntarily license our patents.
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New
legislation, regulations or court rulings related to enforcing
patents could harm our business and operating results.
Intellectual property is the
subject of intense scrutiny by the courts, legislatures, and
executive branches of governments around the world. Various patent
offices, governments or intergovernmental bodies may implement new
legislation, regulations or rulings that impact the patent
enforcement process, or the rights of patent holders and such
changes could negatively affect licensing efforts and/or
litigations. For example, limitations on the ability to bring
patent enforcement claims, limitations on potential liability for
patent infringement, lower evidentiary standards for invalidating
patents, increases in the cost to resolve patent disputes and other
similar developments could negatively affect our ability to assert
our patent or other intellectual property rights.
It is impossible to determine the
extent of the impact of any new laws, regulations or initiatives
that may be proposed, or whether any of the proposals will become
enacted as laws. Compliance with any new or existing laws or
regulations could be difficult and expensive, affect the manner in
which we conduct our business and negatively impact our business,
prospects, financial condition, and results of operations.
If we
experience security breaches or incidents, we could be exposed to
liability and our reputation and business could suffer.
We expect to retain certain
confidential and proprietary customer information in our secure
data centers and secure domain name registry, as well as personal
data and other confidential and proprietary information relating to
our business. It will be critical to our business strategy that our
facilities and infrastructure remain secure and are perceived by
the marketplace to be secure. Our secure domain name registry
operations will also depend on our ability to maintain our computer
and telecommunications equipment in effective working order and to
reasonably protect our systems against interruption, and
potentially depend on protection by other registrars in the shared
registration system. The secure domain name servers that we will
operate will be critical hardware to our registry services
operations. Therefore, we expect to have to expend significant time
and money to maintain or increase the security of our products,
facilities, and infrastructure. Security technologies are
constantly being tested by computer professionals, academics and
“hackers.” Advances in computer capabilities and the techniques for
attacking security solutions, new discoveries in the field of
cryptography or other events or developments could result in
compromises or breaches of our security measures and could make
some or all our products obsolete or unmarketable. Likewise, we may
need to dedicate engineering and other resources to eliminate
security vulnerabilities and may find it necessary or appropriate
to repair or replace products already sold or licensed to our
customers. Despite the security measures that we and our service
providers utilize, our infrastructure and that of our service
providers may be vulnerable to physical break-ins, ransomware,
computer viruses, other malicious code attacks by hackers, phishing
attacks, social engineering, or similar disruptive problems. It is
possible that we may have to expend additional financial and other
resources to address such problems. The COVID-19 pandemic is
increasing vulnerability to cyber-attacks, as more individuals and
companies work online, which increases these risks. As a provider
of Internet security software and technology, we may be the target
of dedicated efforts by hackers and other third parties to overcome
or defeat our security measures. Any physical or electronic
break-in or other security breach or incident or compromise
impacting our products or any information stored at our secure data
centers and domain name registration systems, including any
compromise due to human error or employee or contractor
malfeasance, may jeopardize the security of information stored on
our premises or in the computer systems and networks of our
customers. In such an event, we could face significant liability
and current or potential customers could be reluctant to use our
services. Additionally, any such data security incident, or the
perception that one has occurred could also result in adverse
publicity, harm to our reputation and competitive position, and
therefore adversely affect the market’s perception of the security
of electronic commerce and communications over IP networks as well
as the security or reliability of our services.
A security breach or other
security incident could require a substantial level of financial
resources to address and otherwise respond to, may be difficult to
identify or address in a timely manner, and could result in claims,
investigations, inquiries, and other proceedings or actions by
private parties or governmental entities that may divert
management’s attention and require the expenditure of significant
time and resources, and which may cause us to incur substantial
fines, penalties, or other liability and related legal and other
costs. Any actual or perceived security breach or other security
incident may also harm our reputation and make it more difficult or
impossible for us to successfully market to others. Any of the
foregoing matters could harm our operating results and financial
condition.
Privacy and data security concerns, and data collection and
transfer restrictions and related domestic or foreign regulations
may limit the use and adoption of our solutions and adversely
affect our business.
Personal privacy, information
security, and data protection are significant issues in the United
States, Europe, and many other jurisdictions where we have
operations or offer our products. The regulatory framework
governing the collection, processing, storage and use of
confidential and proprietary business information and personal data
is rapidly evolving. The United States federal and various state
and foreign governments have adopted or proposed requirements
regarding the collection, distribution, use, security and storage
of personally identifiable information and other data relating to
individuals, and federal and state consumer protection laws are
being applied to enforce regulations related to the online
collection, use and dissemination of data.
Further, many foreign countries
and governmental bodies, including the European Union (“EU”), where
we conduct business, have laws and regulations concerning the
collection and use of personal data obtained from their residents
or by businesses operating within their jurisdiction. These laws
and regulations often are more restrictive than those in the United
States. Laws and regulations in these jurisdictions apply broadly
to the collection, use, storage, disclosure, and security of data
that identifies or may be used to identify or locate an individual,
such as names, email addresses and, in some jurisdictions, IP
addresses.
We also expect that there will
continue to be new proposed laws, regulations and industry
standards concerning privacy, data protection and information
security in the United States, the EU, and other jurisdictions. For
example, the European Commission adopted a General Data Protection
Regulation (the “GDPR”) that became fully effective on May 25,
2018, superseding prior EU data protection legislation, imposing
more stringent EU data protection requirements, and providing for
greater penalties for noncompliance. The United Kingdom has enacted
a Data Protection Act and legislation referred to as the UK GDPR
that substantially implements the GDPR. We are evaluating
obligations imposed on us by the GDPR and we may be required to
incur substantial expense in order to make significant changes to
our product and business operations in connection with obtaining
and maintaining compliance with the GDPR and similar legislation,
such as the UK GDPR and UK Data Protection Act, all of which may
adversely affect our revenue and product sales. California has
enacted legislation, the California Consumer Privacy Act (the
“CCPA”) that, among other things, requires covered companies to
provide disclosures to California consumers, and afford such
consumers abilities to opt-out of certain sales of personal
information. Additionally, the California Privacy Rights Act
(the “CPRA”), was approved by California voters in the November
2020 election. The CPRA significantly modifies the CCPA, creating
obligations relating to consumer data which began on January 1,
2022, with implementing regulations expected on or before July 1,
2022, and enforcement beginning July 1, 2023. Additionally, other
U.S. states continue to propose, and in certain cases adopt,
privacy-focused legislation. For example, in March 2021, Virginia
enacted the Virginia Consumer Data Protection Act, which becomes
effective on January 1, 2023, in June 2021, Colorado enacted the
Colorado Privacy Act, which takes effect July 1, 2023, and in March
2022, Utah enacted the Utah Consumer Privacy Act, which takes
effect December 31, 2023. We cannot yet fully determine the impact
these or future laws, regulations and standards may have on our
business, but they may require us to modify our data processing
practices and policies and to incur substantial costs and expenses
in an effort to comply. Privacy, data protection and information
security laws and regulations are often subject to differing
interpretations, may be inconsistent among jurisdictions, and may
be alleged to be inconsistent with our current or future practices.
Additionally, we may be bound by contractual requirements
applicable to our collection, use, processing, and disclosure of
various types of data, including personal data, and may be bound
by, or voluntarily comply with, self-regulatory or other industry
standards relating to these matters. These and other requirements
could reduce demand for our products, increase our costs, impair
our ability to grow our business, or restrict our ability to store
and process data or, in some cases, impact our ability to offer our
service in some locations and may subject us to liability. Any
failure or perceived failure to comply with applicable laws,
regulations, industry standards, and contractual obligations may
adversely affect our business. Further, in view of new or modified
federal, state, or foreign laws and regulations, industry
standards, contractual obligations and other legal obligations, or
any changes in their interpretation, we may find it necessary or
desirable to fundamentally change our business activities and
practices or to expend significant resources to modify our product
and otherwise adapt to these changes. We may be unable to make such
changes and modifications in a commercially reasonable manner or at
all, and our ability to develop new products and features could be
limited.
The costs of compliance with and
other burdens imposed by laws, regulations and standards may limit
the use and adoption of our service and reduce overall demand for
it, or lead to significant fines, penalties, or liabilities for any
noncompliance. Privacy, information security, and data protection
concerns, whether valid or not valid, may inhibit market adoption
of our platform, particularly in certain industries and foreign
countries.
We
expect that we will experience long and unpredictable sales cycles,
which may impact our operating results.
The sales cycle between initial
customer contact and execution of a contract or license agreement
with a customer or purchaser of our products can vary widely. We
expect that our sales cycles will be long and unpredictable due to
several factors, including but not limited to:
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The need to educate potential customers about our patent
rights and our product and service capabilities;
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The impact of the COVID-19 pandemic on our potential customers
and their business operations, including their budgetary
constraints and resources devoted to adopting new products.
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Our customers’ willingness to invest potentially substantial
resources and modify their network infrastructures to take
advantage of our products;
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Our customers’ budgetary constraints;
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The timing of our customers’ budget cycles;
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Delays caused by customers’ internal review processes;
and
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Long sales cycles that may increase the risk that our
financial resources are exhausted before we are able to generate
significant revenue.
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In addition, potential customers
of our products include local, state, federal and foreign
government authorities. Sales to government authorities can be
extended and unpredictable. Government authorities generally have
complex budgeting, purchasing, and regulatory processes that govern
their capital spending, and their spending is likely to be
adversely impacted by economic conditions, including impacts from
the COVID-19 pandemic. In addition, in many instances, sales to
government authorities may require field trials and may be delayed
by the time it takes for government officials to evaluate multiple
competing bids, negotiate terms, and award contracts.
For these reasons, the sales
cycle associated with our products is subject to a number of
significant risks that are beyond our control. Consequently, if
customer orders are not realized or delayed, our revenues and
results of operations could be materially and adversely
affected.
If we
are unable to expand our revenue sources or establish, sustain,
grow, or replace relationships with a diversified customer base,
our revenues may be limited.
We currently generate revenue
from a limited number of customers that have entered settlement and
license agreements. Our software products and services currently
generating limited revenue, and it will take time for us to grow
our installed user base and generate new customers. Additionally,
there is no guarantee that we will be able to derive revenue from
new customers, sustain or increase revenue from existing customers
or replace customers from whom we currently generate revenue. As a
result, our revenue may be limited or static.
We
have limited technical resources and are at an early stage in
commercialization of our VirnetX One™ platform and software
products.
Part of our business includes the
internal development of commercial products we seek to monetize.
This aspect of our business may require significant capital, time
and resources and we cannot guarantee that it will be successful or
meet our expectations. As such, we have a small technical team,
which may limit our ability to rapidly adapt our product to
customer requirements or add new product features to maintain our
competitive edge and drive adoption. Based on the scale of our
technical resources, our limited historical financial data upon
which to base our projected revenue or planned operating expenses
related to our software products and services, we may not be able
to effectively:
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Generate revenues or profit from product sales;
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Drive adoption of our products;
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Attract and retain customers for our products;
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Provide appropriate levels of customer training and support
for our products;
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Implement an effective marketing strategy to promote awareness
of our products;
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Focus our research and development efforts in areas that
generate returns on our efforts;
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Anticipate and adapt to changes in our market; or
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Protect our products from any system failures or other
breaches.
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In addition, a high percentage of
our expenses are and will continue to be fixed. Accordingly, if we
do not generate revenue as and when anticipated, our losses may be
greater than expected and our operating results will suffer.
Our products
are highly technical and may contain undetected errors, which could
cause harm to our reputation and adversely affect our
business.
Our products are highly technical
and complex and, when deployed, may contain errors or defects.
Despite testing, some errors in our products may only be discovered
after a product has been installed and used by customers. Any
errors or defects discovered in our products after commercial
release could result in failure to achieve market acceptance, loss
of revenue or delay in revenue recognition, loss of customers and
increased service and warranty cost, any of which could adversely
affect our business, operating results, and financial condition. In
addition, we could face claims for product liability, tort, or
breach of warranty, including claims relating to changes to our
products made by our channel partners. The performance of our
products could have unforeseen or unknown adverse effects on the
networks over which they are delivered as well as on third-party
applications and services that utilize our services, which could
result in legal claims against us, harming our business.
Furthermore, we expect to provide implementation, consulting, and
other technical services in connection with the implementation and
ongoing maintenance of our products, which typically involves
working with sophisticated software, computing, and communications
systems. We expect that our contracts with customers will contain
provisions relating to warranty disclaimers and liability
limitations, which may not be upheld. Defending a lawsuit,
regardless of its merit, is costly and may divert management’s
attention and adversely affect the market’s perception of us and
our products. In addition, if our business liability insurance
coverage proves inadequate or future coverage is unavailable on
acceptable terms or at all, our business, operating results, and
financial condition could be adversely impacted.
Malfunctions of third-party communications infrastructure, hardware
and software expose us to a variety of risks that we cannot
control.
Our business will depend upon,
among other things, the capacity, reliability, security, and
unimpeded access of the infrastructure owned by third parties that
we will use to deploy our offerings. We have no control over the
operation, quality, or maintenance of a significant portion of that
infrastructure or whether those third parties will upgrade or
improve their equipment. We depend on these companies to maintain
the operational integrity of our connections. If one or more of
these companies is unable or unwilling to supply or expand its
levels of service to us in the future, our operations could be
severely interrupted. Also, to the extent that the number of users
of networks utilizing our current or future products suddenly
increases, the technology platform and secure hosting services
which will be required to accommodate a higher volume of traffic
may result in slower response times or service interruptions.
System interruptions or increases in response time could result in
a loss of potential or existing users and, if sustained or
repeated, could reduce the appeal of the networks to users. In
addition, users depend on real-time communications; outages caused
by increased traffic could result in delays and system failures.
These types of occurrences could cause users to perceive that our
solution does not function properly and could therefore adversely
affect our ability to attract and retain licensees, strategic
partners, and customers.
System failure or interruption or our failure to meet increasing
demands on our systems could harm our business.
The success of our license and
service offerings will depend on the uninterrupted operation of
various systems, secure data centers and other computer and
communication networks that we establish. To the extent, the number
of users of networks utilizing our future products suddenly
increases, the technology platform and hosting services which will
be required to accommodate a higher volume of traffic may result in
slower response times, service interruptions or delays or system
failures. Our systems and operations will also be vulnerable to
damage or interruption from, among other things:
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Power loss, transmission cable cuts and other
telecommunications failures;
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Damage or interruption caused by fire, earthquake, and other
natural disasters;
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Computer viruses or software defects; and
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Physical or electronic break-ins, sabotage, intentional acts
of vandalism, terrorist attacks and other events beyond our
control.
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System interruptions or failures
and increases or delays in response time could result in a loss of
potential or existing users and, if sustained or repeated, could
reduce the appeal of the networks to users. These types of
occurrences could cause users to perceive that our solution does
not function properly and could therefore adversely affect our
ability to attract and retain licensees, strategic partners, and
customers.
Any significant problem with our
systems or operations could result in lost revenue, customer
dissatisfaction or lawsuits against us. A failure in the operation
of our secure domain name registration system could result in the
inability of one or more registrars to register and maintain secure
domain names for a period of time. A failure in the operation or
update of the master directory that we plan to maintain could
result in deletion or discontinuation of assigned secure domain
names for a period of time. The inability of the registrar systems
we establish, including our back-office billing and collections
infrastructure, and telecommunications systems to meet the demands
of an increasing number of secure domain name requests could result
in substantial degradation in our customer support service and our
ability to process registration requests in a timely manner.
Our
ability to sell our solutions will be dependent on the quality of
our technical support, and our failure to deliver high-quality
technical support services could have a material adverse effect on
our sales and results of operations.
If we do not effectively assist
our customers in deploying our products, succeed in helping our
customers quickly resolve post deployment issues and provide
effective ongoing support, or if potential customers perceive that
we may not be able achieve to the foregoing, our ability to sell
our products would be adversely affected, and our reputation with
current and potential customers could be harmed. In addition, as we
expand our operations internationally, our technical support team
will face additional challenges, including those associated with
delivering support, training, and documentation in languages other
than English. Our failure to deliver and maintain high-quality
technical support services to our customers could result in
customers choosing to use our competitors’ products and support
services instead of ours in the future.
Telephone carriers have petitioned governmental agencies to enforce
regulatory tariffs, which, if granted, would increase the cost of
online communication, and such increase in cost may impede the
growth of online communication and adversely affect our
business.
Use of the Internet has
over-burdened existing telecommunications infrastructures, and many
high traffic areas have begun to experience interruptions in
service. As a result, certain local telephone carriers have
petitioned governmental agencies to enforce regulatory tariffs on
IP-telephony traffic that crosses over their traditional telephone
networks. If the relief sought in these petitions is granted, the
costs of communicating via online could increase substantially,
potentially adversely affecting the growth in the use of online
secure communications. Any of these developments could have an
adverse effect on our business.
Our
international expansion will subject us to additional costs and
risks, and our plans may not be successful.
We expect to expand our presence
internationally in Japan and elsewhere through third party
arrangements such as international partnerships, joint ventures and
potentially establishing international subsidiaries and offices.
Our international expansion may present challenges and risks,
including those inherent in international operations, to us and may
require significant attention from management. For example, the
COVID-19 pandemic has and could continue to disrupt and slow our
international expansion and partnership efforts, as our
international partners’ businesses could continue to be disrupted.
We may not be successful in our international partnerships,
expansion efforts, and we may incur significant operating expenses
in our efforts to expand internationally.
The global
COVID-19 pandemic may harm our business, financial condition, and
results of operations.
In December 2019, a novel
coronavirus, COVID-19 was reported in China and in March 2020, the
World Health Organization declared it a pandemic. This contagious
disease outbreak and related variants have continued to spread
across the globe and impact worldwide economic activity and
financial markets. In light of the uncertain and rapidly evolving
situation relating to the spread of COVID-19, we continue to take
precautionary measures intended to minimize the risk of the virus
to our employees, our customers, and other third parties with whom
we interact. We continue to require all employees to work remotely
and have also suspended all non-essential travel worldwide for our
employees. While we have a distributed workforce and our employees
are accustomed to working remotely or working with other remote
employees, our workforce is not fully remote. Our employees and
consultants travel frequently to establish and maintain
relationships with one another, our customers and prospective
customers, partners, and investors. Although we continue to monitor
the situation and may adjust our current policies as more
information and public health guidance becomes available,
temporarily suspending travel and restricting the ability to do
business in person could negatively affect our customer success
efforts, sales and marketing efforts, challenge our ability to
enter into customer contracts in a timely manner, slow down our
recruiting efforts, or create operational or other challenges, any
of which could harm our business, financial condition and results
of operations. Furthermore, if a natural disaster, power outage,
connectivity issue, or other event occurred that impacted our
employees’ ability to work remotely, it may be difficult or, in
certain cases, not possible, for us to continue our business for a
substantial period of time. The increase in remote working may also
result in consumer privacy, IT security and fraud concerns as well
as increase our exposure to potential wage and hour issues. In
addition, the COVID-19 pandemic may disrupt the operations of our
customers, partners, suppliers, and other third-party providers for
an indefinite period of time, including as a result of travel
restrictions, adverse effects on budget planning processes, and/or
business shutdowns, all of which could negatively impact our
business, financial condition, and results of operations. More
generally, despite continued actions taken by governments and
businesses to attempt to contain and treat the disease, and related
variants, including the distribution and administration of
effective vaccines, the COVID-19 pandemic could continue to
adversely affect economies and financial markets globally,
potentially leading to an economic downturn, which could decrease
technology spending and adversely affect our business.
We do
not regularly pay dividends on our common stock and thus
stockholders must look to appreciation of our common stock to
realize a gain on their investments.
Our dividend policy is within the
discretion of our Board of Directors and will depend upon various
factors, including our business, financial condition, results of
operations, capital requirements, and investment opportunities. We
therefore cannot make assurances that our Board of Directors will
determine to pay regular or special dividends in the future.
Accordingly, unless our Board of Directors determines to pay
dividends, stockholders will be required to look to appreciation of
our common stock to realize a gain on their investment, which may
not occur.
The
exercise of our outstanding stock options, warrants, and RSUs and
issuance of new shares would result in a dilution of our current
stockholders’ voting power and an increase in the number of shares
eligible for future resale in the public market which may
negatively impact the market price of our stock.
The exercise of our outstanding
vested stock options, warrants, and RSUs would dilute the ownership
interests of our existing stockholders. As of March 31, 2022, we
had outstanding options, warrants and RSUs to purchase an aggregate
of 6,931,592 shares of common stock representing approximately 9.7%
of our total shares outstanding of which 5,105,969 were vested and
therefore exercisable. To the extent outstanding stock options are
exercised, additional shares of common stock will be issued,
existing stockholders’ percentage voting interests will decline and
the number of shares eligible for resale in the public market will
increase. Such increase may have a negative effect on the value or
market trading price of our common stock.
Because ownership of our common stock is concentrated, investors
may have limited influence on stockholder decisions.
As of March 31, 2022, our
executive officers and directors beneficially owned approximately
14% of our outstanding common stock. In addition, a group of
stockholders that, as of December 31, 2007, held 4,766,666 shares,
or approximately 7% of our outstanding common stock, have entered
into a voting agreement with us that requires them to vote all of
their shares of our voting stock in favor of the director nominees
approved by our Board of Directors at each director election going
forward, and in a manner that is proportional to the votes cast by
all other voting shares as to any other matters submitted to the
stockholders for a vote. However, we cannot be certain how many
shares of our common stock this group of stockholders currently
owns. Because of their beneficial ownership interest, our officers
and directors could significantly influence stockholder actions of
which you disapprove or that are contrary to your interests. This
ability to exercise significant influence could prevent or
significantly delay another company from acquiring or merging with
us.
Our
protective provisions in our amended and restated certificate of
incorporation and bylaws could make it difficult for a third party
to successfully acquire us even if you would like to sell your
stock to them.
We have a number of protective
provisions in our amended and restated certificate of incorporation
and bylaws that could delay, discourage, or prevent a third party
from acquiring control of us without the approval of our Board of
Directors. These protective provisions include:
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A staggered Board of Directors: This means that only one or two
directors (since we have a five-person Board of Directors) will be
up for election at any given annual meeting. This has the effect of
delaying the ability of stockholders to affect a change in control
of us because it would take two annual meetings to effectively
replace a majority of the Board of Directors.
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Blank check preferred stock: Our Board of Directors has the
authority to establish the rights, preferences, and privileges of
our 10,000,000 authorized, but unissued, shares of preferred stock.
Therefore, this stock may be issued at the discretion of our Board
of Directors with preferences over your shares of our common stock
in a manner that is materially dilutive to you. In addition, blank
check preferred stock can be used to create a “poison pill” which
is designed to deter a hostile bidder from buying a controlling
interest in our stock without the approval of our Board of
Directors. We have not adopted such a “poison pill;” but our Board
of Directors has the ability to do so in the future, very rapidly
and without stockholder approval.
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Advance notice requirements for director nominations and for
new business to be brought up at stockholder meetings: Stockholders wishing to submit
director nominations or raise matters to a vote of the stockholders
must provide notice to us within very specific date windows and in
very specific form in order to have the matter voted on at a
stockholder meeting. This has the effect of giving our Board of
Directors and management more time to react to stockholder
proposals generally and could also have the effect of disregarding
a stockholder proposal or deferring it to a subsequent meeting to
the extent such proposal is not raised properly.
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No stockholder actions by written consent: No stockholder or group of
stockholders may take actions rapidly and without prior notice to
our Board of Directors and management or to the minority
stockholders. Along with the advance notice requirements described
above, this provision also gives our Board of Directors and
management more time to react to proposed stockholder
actions.
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Super majority requirement for stockholder amendments to the
bylaws: Stockholder
proposals to alter or amend our bylaws or to adopt new bylaws can
only be approved by the affirmative vote of at least 66 2/3% of the
outstanding shares of our common stock.
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No ability of stockholders to call a special meeting of the
stockholders: Only the
Board of Directors or management can call special meetings of the
stockholders. This could mean that stockholders, even those who
represent a significant percentage of our shares of common stock,
may need to wait for the annual meeting before nominating directors
or raising other business proposals to be voted on by the
stockholders.
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In addition, the provisions of
Section 203 of the Delaware General Corporation Law govern us.
These provisions may prohibit large stockholders, particularly
those owning 15% or more of our outstanding voting stock, from
merging or combining with us for a certain period of time.
These and other provisions in our
amended and restated certificate of incorporation, our bylaws and
under Delaware law could discourage potential takeover attempts,
reduce the price that investors might be willing to pay for shares
of our common stock in the future and result in the market price
being lower than it would be without these provisions.
Our
amended and restated bylaws designate a state or federal court
located within the State of Delaware as the exclusive forum for
substantially all disputes between us and our stockholders, which
could limit our stockholders’ ability to choose the judicial forum
for disputes with us or our directors, officers, or
employees.
Our amended and restated bylaws
provide that, unless we consent in writing to the selection of an
alternative forum, the sole and exclusive forum for (1) any
derivative action or proceeding brought on our behalf, (2) any
action asserting a claim of breach of a fiduciary duty owed by any
of our directors, stockholders, officers, or other employees to us
or our stockholders, (3) any action arising pursuant to any
provision of the Delaware General Corporation Law, or our amended
and restated certificate of incorporation or amended and restated
bylaws or (4) any other action asserting a claim that is governed
by the internal affairs doctrine shall be the Court of Chancery of
the State of Delaware (or, if the Court of Chancery does not have
jurisdiction, another State court in Delaware or the federal
district court for the District of Delaware), in all cases subject
to the court having jurisdiction over indispensable parties named
as defendants.
However, notwithstanding the
exclusive forum provisions, our amended and restated bylaws
explicitly state that they would not preclude the filing of claims
brought to enforce any liability or duty created under federal
securities laws, including the Securities Act or the Exchange
Act.
Any person or entity purchasing
or otherwise acquiring any interest in any of our securities shall
be deemed to have notice of and consented to this provision. This
exclusive-forum provision may limit a stockholder’s ability to
bring a claim in a judicial forum of its choosing for disputes with
us or our directors, officers, or other employees, which may
discourage lawsuits against us and our directors, officers, and
other employees. If a court were to find this exclusive-forum
provision in our amended and restated bylaws to be inapplicable or
unenforceable in an action, we may incur additional costs
associated with resolving the dispute in other jurisdictions, which
could harm our results of operations.
General Risk Factors
We
may need to raise additional capital to support our business
growth, and this capital may be dilutive, may cause our stock price
to drop or may not be available on acceptable terms, if at
all.
We may need to raise additional
capital, which may not be available to us when needed or may not be
available on terms acceptable to us, to support our business growth
or to respond to business opportunities, challenges, or unforeseen
circumstances, including sales under our past and any future shelf
registration statements. Our ability to obtain additional capital,
if and when required, will depend on our business plans, investor
demand, our operating performance, the condition of the capital
markets, the terms of our current contractual obligations and other
factors.
If we raise additional funds
through the issuance of equity, equity-linked or debt securities,
including those under our past and any future shelf registration
statements, those securities may have rights, preferences, or
privileges senior to the rights of our common stock, and our
existing stockholders may experience dilution. Additionally, we are
unable to predict the future success of any future offerings. Sales
of a substantial number of shares of our common stock in the public
market, or the perception that these sales or other financings
might occur, could depress the market price of our common stock,
and could also impair our ability to raise capital through the sale
of additional equity securities. If we issue debt securities or
incur indebtedness, we could experience increased future payment
obligations and a need to comply with restrictive covenants, such
as limitations on our ability to incur additional debt, limitations
on our ability to acquire, sell or license intellectual property
rights and other operating restrictions that could adversely impact
our ability to conduct our business. If we are unable to obtain
additional capital or are unable to obtain additional capital on
satisfactory terms, our ability to continue to support our business
growth or to respond to business opportunities, challenges, or
other circumstances could be adversely affected, and our business
may be harmed.
The
departure of Kendall Larsen, our Chief Executive Officer and
President, and/or other key personnel could compromise our ability
to execute our strategic plan and materially harm our
business.
Our success depends on the
skills, experience, and performance of our key personnel. Due to
the specialized nature of our business and limited staff, we are
particularly dependent on Kendall Larsen, our Chief Executive
Officer and President. We have no employment agreements with any of
our key executives that prevent them from leaving us at any time.
In addition, we do not maintain key person life insurance for any
of our officers or key employees. The loss of Mr. Larsen, or our
failure to retain other key personnel or plan for the succession of
key personnel, would jeopardize our ability to execute our
strategic plan and materially harm our business.
We
will need to recruit and retain additional qualified personnel to
successfully grow our business.
Our future success will depend,
in part, on our ability to attract and retain qualified
engineering, operations, marketing, sales and executive personnel.
Inability to attract and retain such personnel could adversely
affect our business. Competition for engineering, operations,
marketing, sales, and executive personnel is intense, particularly
in the technology and Internet sectors and in the regions where we
conduct our business. We may need to invest significant amounts of
cash and equity to attract and retain employees and expend
significant time and resources to identify, recruit, train and
integrate such employees, and we may never realize returns on these
investments. Additionally, we can provide no assurance that we will
attract or retain such personnel.
We
have incurred and will continue to incur significant costs as a
result of operating as a public company, and our management will be
required to continue to devote substantial time to various
compliance initiatives.
The Sarbanes-Oxley Act of 2002,
the Dodd-Frank Wall Street Reform and Consumer Protection Act of
2010, as well as other rules implemented by the SEC and the New
York Stock Exchange (“NYSE”), impose various requirements on public
companies, including requiring changes in corporate governance
practices. These and proposed corporate governance laws and
regulations under consideration may further increase our compliance
costs. If compliance with these various legal and regulatory
requirements diverts our management’s attention from other business
concerns, it could have a material adverse effect on our business,
financial condition, and operating results. The Sarbanes-Oxley Act
requires, among other things, that we assess the effectiveness of
our internal control over financial reporting annually and
disclosure controls and procedures quarterly. If we are unable to
assert in any future reporting periods that our internal control
over financial reporting is effective (or if our independent
registered public accounting firm is unable to express an opinion
on the effectiveness of our internal controls), we could lose
investor confidence in the accuracy and completeness of our
financial reports, which would have an adverse effect on our share
price.
Although we believe that we
currently maintain effective control over our disclosures and
procedures and internal control over financial reporting, we may in
the future identify deficiencies regarding the design and
effectiveness of our system of internal control over financial
reporting. If we experience any material weaknesses in our internal
control over financial reporting in the future or are unable to
provide unqualified management or attestation reports about our
internal controls, we may be unable to meet financial and other
reporting deadlines and may incur costs associated with
remediation, and any of which could cause our share price to
decline. Moreover, if we identify deficiencies in our internal
control over financial reporting that are deemed to be material
weaknesses in future periods, the market price of our common stock
could decline, and we could be subject to potential delisting by
the NYSE and review by the NYSE, the SEC, or other regulatory
authorities, which would require the expenditure by us of
additional financial and management resources. As a result, our
shareholders could lose confidence in our financial reporting,
which would harm our business and the market price of our common
stock.
There
are inherent uncertainties involved in estimates, judgments and
assumptions used in the preparation of financial statements in
accordance with U.S. GAAP. Any changes in estimates, judgments and
assumptions could have a material adverse effect on our business,
financial condition, and operating results.
The preparation of financial
statements in accordance with U.S. GAAP involves making estimates,
judgments and assumptions that affect reported amounts of assets
(including intangible assets), liabilities and related reserves,
revenues, expenses, and income. Estimates, judgments, and
assumptions are inherently subject to change in the future, and any
such changes could result in corresponding changes to the amounts
of assets, liabilities, revenues, expenses, and income. Any such
changes could have a material adverse effect on our business,
financial condition, and operating results.
Our
results of operations and financial condition could be materially
affected by the enactment of legislation implementing changes in
the U.S. or foreign taxation of international business activities
or the adoption of other tax reform policies.
As we expand the scale of our
international business activities, any changes in the U.S. or
foreign taxation of such activities may increase our worldwide
effective tax rate and harm our business, results of operations,
and financial condition. For example, the current administration
has proposed to increase the U.S. corporate income tax rate,
increase U.S. taxation of international business operations, and
impose a global minimum tax which has agreement from, many
countries and the Organisation for Economic Cooperation and
Development. Also, starting in fiscal year 2022, the Tax Cuts and
Jobs Act requires taxpayers to capitalize research and development
expenditures and to amortize domestic expenditures over five years
and foreign expenditures over fifteen years. If Congress does not
modify or repeal this provision, it may reduce our cash flows
beginning in fiscal year 2022. Other countries have recently
proposed or recommended changes to existing tax laws or have
enacted new laws that could impact our tax obligations in countries
where we do business or cause us to change the way we operate our
business. The impact of future changes to U.S. and foreign tax law
on our business is uncertain and could be adverse, and we will
continue to monitor and assess the impact of any such changes on
our future tax provisions.
War,
terrorism, other acts of violence, or natural or manmade disasters
may affect the markets in which we operate, our clients and our
service delivery.
Our business may be adversely
affected by instability, disruption, or destruction in a geographic
region in which we operate, regardless of cause, including war,
terrorism, riot, civil insurrection, or social unrest, and natural
or manmade disasters, including famine, flood, fire, earthquake,
storm, or pandemic events and spread of disease, such as the
COVID-19 pandemic and the Russian invasion of Ukraine. Such events
may cause our customers to delay their decisions on spending for
the services we provide and give rise to sudden significant changes
in regional and global economic conditions and cycles. These events
may also pose risks to our personnel and to physical facilities and
operations, which could adversely affect our financial
results.
Trading in our common stock is limited and the price of our common
shares may be subject to substantial volatility.
Our common stock is currently
listed on the NYSE and was previously listed on the NYSE American
LLC (formerly the NYSE MKT LLC). Over the past years, the market
price of our common stock has experienced significant fluctuations.
Between April 1, 2021, and March 31, 2022, the reported last
adjusted closing price on the NYSE American LLC, and now NYSE, for
our common stock ranged between $1.63 and $5.59 per share. The
price of our common stock may continue to be volatile as a result
of several factors, some of which are beyond our control. These
factors include, but not limited to, the following:
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Developments or lack thereof in any then-outstanding
litigation;
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Quarterly variations in our operating results;
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Large purchases or sales of common stock or derivative
transactions related to our stock;
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Actual or anticipated announcements of new products or
services by us or competitors;
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General conditions in the markets in which we compete;
and
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General social, political, economic, and financial conditions,
including the significant volatility in the global financial
markets, and impacts from the COVID-19 pandemic.
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In addition, we believe there has
been and may continue to be substantial trading in derivatives of
our stock, including short selling activity or related similar
activities, which are beyond our control, and which may be beyond
the full control of the SEC and Financial Institutions Regulatory
Authority or “FINRA.” While the SEC and FINRA rules prohibit some
forms of short selling and other activities that may result in
stock price manipulation, such activity may nonetheless occur
without detection or enforcement. We have held conversations with
regulators concerning trading activity in our stock; however, there
can be no assurance that should there be any illegal manipulation
in the trading of our stock, it will be detected, prosecuted, or
successfully eradicated. Significant short selling market
manipulation could cause our stock trading price to decline, to
become more volatile, or both.
The
market price of our common stock has been and may continue to be
volatile, and you could lose all or part of your investment.
The trading price of our common
stock has been historically volatile and is likely to continue to
be volatile. Factors that could cause fluctuations in the market
price of our common stock include, but are not limited to the
following:
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Price and volume fluctuations in the overall stock market from
time to time, including fluctuations due to general economic
uncertainty or negative market sentiment;
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Volatility in the market prices and trading volumes of
companies in our industry or companies that investors consider
comparable;
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Changes in operating performance and stock market valuations
of other companies generally, or those in our industry;
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Sales of shares of our common stock by us or our
stockholders;
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Failure of securities analysts to maintain coverage of us,
changes in financial estimates by securities analysts who follow
us, or our failure to meet these estimates or the expectations of
investors;
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The financial projections we may provide to the public, any
changes in those projections or our failure to meet those
projections;
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Announcements by us or our competitors of new products or
services;
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The public’s reaction to our press releases, other public
announcements, and filings with the SEC;
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Rumors and market speculation involving us or other companies
in our industry;
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Actual or anticipated changes in our results of
operations;
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Actual or anticipated developments in our business, our
competitors’ businesses, or the competitive landscape
generally;
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Litigation involving us, our industry or both, or
investigations by regulators into our operations or those of our
competitors;
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Announced or completed acquisitions of businesses or
technologies by us or our competitors;
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New laws or regulations or new interpretations of existing
laws or regulations applicable to our business;
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Changes in accounting standards, policies, guidelines,
interpretations, or principles;
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Any significant change in our management; and
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General economic conditions and slow or negative growth of our
markets, including any economic downturn from the COVID-19
pandemic.
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Further, in recent years the
stock markets have experienced extreme price and volume
fluctuations that have affected and continue to affect the market
prices of equity securities of many companies. These fluctuations
often have been unrelated or disproportionate to the operating
performance of those companies. In addition, the stock prices of
many technology companies have experienced wide fluctuations that
have often been unrelated to the operating performance of those
companies. These broad market and industry fluctuations, as well as
general economic, political and market conditions such as
recessions, government shutdowns, global pandemics (such as the
COVID-19 pandemic), interest rate changes the stability of the EU
(including, but not limited to, effects from the exit of the United
Kingdom or international currency fluctuations, may cause the
market price of our common stock to decline. In the past, following
periods of volatility in the overall market and the market price of
a particular company’s securities, securities class action
litigation has often been instituted against these companies.
We
have broad discretion in how we apply our funds, and we may not use
these funds effectively, which could affect our results of
operations and cause our stock price to decline.
Our management has broad
discretion in the application of our existing cash, cash
equivalents and investments and could spend these funds in ways
that do not improve our results of operations or enhance the value
of our common stock. Pending their use, we may invest our available
funds in a manner that does not produce income or that loses value.
The failure by our management to apply our available funds
effectively could result in financial losses that could cause the
price of our common stock to decline and delay the development of
our products.
In addition, an entity that,
among other things, is or holds itself out as being engaged
primarily, or proposes to engage primarily, in the business of
investing, reinvesting, owning, trading, or holding certain types
of securities would be deemed an Investment Company under the
Investment Company Act of 1940 (the “1940 Act”). If we do not
manage our investments and business in a manner that meets the
requirements for an exemption under the 1940 Act, we may be deemed
to be an investment company under the 1940 Act and subject to
additional limitations on operating our business including
limitations on the issuance of securities, which may make it
difficult for us to raise capital.
The
market price of our common stock may decline because our operating
results may not be consistent and may be difficult to
predict.
Our reported net income has
fluctuated in the past due to several factors. We expect that our
future operating results may also fluctuate due to the same or
similar factors. We had a net loss of $3.3 million for the three
months ended March 31, 2022. We had a net loss of $42.9 million for
the year ended December 31, 2021 and net income of $280.4 million
for the year ended December 31, 2020. As of March 31, 2022, we had
an accumulated deficit of $54.3 million. The following include some
of the factors that may cause our operating results to
fluctuate:
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The outcome of actions to enforce our intellectual property
rights currently in progress or that we may undertake in the
future, and the timing thereof;
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The impact of the COVID-19 pandemic on our sales cycle and
results;
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The amount and timing of receipt of license fees from
potential infringers, licensees, or customers;
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The rate of adoption of our patented technologies;
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The number of new license arrangements we may execute, or that
may expire, within a particular period and the scope of those
licenses, including the number of our patents which are licensed,
the extent of prior infringement of our patent rights, royalty
rates, timing of payment obligations, expiration date etc.;
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The success of a licensee in selling products that use our
patented technologies; and
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The amount and timing of expenses related to our patent
filings and enforcement proceedings, including litigation, related
to our intellectual property rights.
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These fluctuations may make our
business particularly difficult to manage, adversely affect our
business and operating results, make our operating results
difficult for investors to predict and, further, cause our results
to fall below investor’s expectations and adversely affect the
market price of our common stock.
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Exhibit
Number
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Description
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Certification of the President and Chief Executive Officer pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002.
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Certification of the Chief Financial Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
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Certification of the President and Chief Executive Officer pursuant
to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002.
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Certification of the Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
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101
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Interactive
Data Files
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*
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Indicates
management contract or compensatory plan.
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**
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This exhibit
is furnished herewith, but not deemed “filed” for purposes of
Section 18 of the Securities Exchange Act of 1934, as amended, or
otherwise subject to liability under that section. Such
certifications will not be deemed to be incorporated by reference
in any filing under the Securities Act or the Exchange Act, except
to the extent that we explicitly incorporate them by
reference.
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Pursuant to
the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.
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VIRNETX HOLDING CORPORATION
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By:
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/s/ Kendall Larsen
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Name
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Kendall Larsen
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Chief Executive Officer
(Principal Executive Officer)
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By:
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/s/ Katherine Allanson
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Name
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Katherine Allanson
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Chief Financial Officer
(Principal Financial Officer and Principal Accounting
Officer)
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Date: May 13, 2022
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40