10QSB 1 form10qsb.txt FORM 10-QSB UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-QSB [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended December 31, 2006 Or [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _____________ __, ____ to _____________ __, ____ Commission File Number: 000-30191 KRONOS ADVANCED TECHNOLOGIES, INC. (Exact name of registrant as specified in its charter) Nevada 87-0440410 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 464 Common Street, Suite 301, Belmont, MA 02478 (Address of principal executive offices) (Zip Code) (617) 364-5089 (Registrant's telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. X Yes __No Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check one): Large accelerated filer ___ Accelerated filer ___ Non-accelerated filer X Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). __ Yes X No Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. As of February 16, 2007, there were 231,142,803 shares outstanding of the issuer's common stock. 1 PART I FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS The following comprise our (unaudited) consolidated financial statements for the six months ended December 31, 2006. 2
KRONOS ADVANCED TECHNOLOGIES, INC. CONSOLIDATED BALANCE SHEETS December 31, 2006 June 30, Assets (Unaudited) 2006 ---------------- ---------------- Current Assets Cash $ 53,849 $ 598,323 Accounts Receivable 55,936 10,000 Other Current Assets 50,773 58,028 ---------------- ---------------- Total Current Assets 160,558 666,351 ---------------- ---------------- Net Property and Equipment 7,043 5,597 Other Assets Intangibles 1,846,689 1,983,908 ---------------- ---------------- Total Other Assets 1,846,689 1,983,908 ---------------- ---------------- Total Assets $ 2,014,290 $ 2,655,856 ================ ================ Liabilities and Stockholders' Deficit Current Liabilities Accrued expenses and payables to directors and officers $ 34,781 $ 8,843 Accounts payable 385,697 204,632 Accrued interest expenses 677,019 879,144 Accrued expenses 188,009 41,111 Deferred revenue - 20,000 Notes payable, current portion 2,503,809 1,815,000 Notes payable to directors and officers 202,307 256,544 ---------------- ---------------- Total Current Liabilities 3,991,622 3,225,274 ---------------- ---------------- Long Term Liabilities Notes payable 1,716,667 2,575,000 ---------------- ----------------- Total Long Term Liabilities 1,716,667 2,575,000 ---------------- ----------------- Total Liabilities 5,708,289 5,800,274 ---------------- ----------------- Stockholders' Deficit Common stock, authorized 500,000,000 shares of $0.001 par value Issued and outstanding - 195,468,102 and 144,499,657, respectively 195,468 144,500 Capital in excess of par value 28,942,121 27,828,241 Accumulated deficit (32,831,588) (31,117,159) ---------------- ---------------- Total Stockholders' Deficit (3,693,999) (3,144,418) ---------------- ---------------- Total Liabilities and Stockholders' Deficit $ 2,014,290 $ 2,655,856 ================ ================
The accompanying notes are an integral part of these financial statements. 3
KRONOS ADVANCED TECHNOLOGIES, INC. CONSOLIDATED STATEMENTS OF OPERATIONS Three months ended December 31, Six months ended December 31, ------------------------------- ------------------------------ 2006 2005 2006 2005 --------- --------- --------- --------- (Unaudited) (Unaudited) (Unaudited) (Unaudited) Sales $ 102,282 $ 22,500 $ 121,482 $ 37,500 Cost of sales 82,036 8,449 91,619 8,449 ----------- ----------- ----------- ---------- Gross Profit 20,246 14,051 29,863 29,051 ----------- ----------- ----------- ---------- Selling, General and Administrative expenses Compensation and benefits 375,271 214,459 712,992 529,502 Research and development 5,389 34,931 34,997 139,925 Professional services 82,392 19,209 185,103 102,249 Depreciation and amortization 118,840 167,769 227,690 339,590 Insurance 29,700 37,144 83,844 74,288 Facilities 25,221 29,409 52,266 46,595 Other selling general and administrative expenses 180,568 96,991 273,445 199,830 ----------- ----------- ----------- ---------- Selling, General and Administrative expenses 817,381 599,912 1,570,337 1,431,979 ----------- ----------- ----------- ---------- Net Operating Loss (797,135) (585,861) (1,540,474) (1,402,928) Interest Expense (74,722) (146,932) (173,955) (303,075) ----------- ----------- ----------- ---------- Net Loss $ (871,857) $ (732,793) $(1,714,429) $(1,706,003) =========== =========== =========== =========== Basic and Diluted Loss Per Share $ (0.00) $ (0.01) $ (0.01) $ (0.02) =========== =========== =========== =========== Weighted average shares outstanding 183,008,781 81,740,895 166,082,956 78,889,818 =========== ========== =========== ==========
The accompanying notes are an integral part of these financial statements. 4 KRONOS ADVANCED TECHNOLOGIES, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS For the six months ended December 31, ------------------------------------- 2006 2005 -------- --------- (Unaudited) (Unaudited) CASH FLOWS FROM OPERATING ACTIVITIES Net loss from operations $ (1,714,429) $ (1,706,003) Adjustments to reconcile net loss to net cash used in operations Depreciation and amortization 227,690 339,590 Accrued interest converted to notes payable 130,476 - Options issued for compensation/services 114,848 61,560 Change In Accounts receivable (45,936) (10,000) Prepaid expenses and other assets (2,743) (7,138) Deferred revenue (20,000) - Accounts payable 189,003 (236,795) Accrued expenses and other liabilities (37,227) 244,435 ------------ ------------ Net cash Used in Operations (1,158,318) (1,314,351) CASH FLOWS FROM INVESTING ACTIVITIES Purchases of property and equipment (2,194) (2,100) Investment in patent protection (79,725) (88,316) ------------ ------------ Net cash Used in Investing Activities (81,919) (90,416) ------------ ------------ CASH FLOWS FROM FINANCING ACTIVITIES Issuance of common stock 1,050,000 1,410,000 Repayment of short-term borrowings (354,237) (1,130,677) Proceeds from long-term borrowings - 175,000 Debt acquisition costs - (20,000) ------------ ------------ Net cash Provided by Financing Activities 695,763 434,323 ------------ ------------ NET DECREASE IN CASH (544,474) (970,444) CASH Beginning of period 598,323 1,554,906 ------------ ------------ End of period $ 53,849 $ 584,462 ============ ============ Supplemental disclosure of cash flow information: Interest paid in cash $ 194,000 $ 2,738 ============ ============ Taxes paid in cash $ - $ - ============ ============ The accompanying notes are an integral part of these financial statements. 5 KRONOS ADVANCED TECHNOLOGIES, INC. NOTES TO CONSOLIDATED INTERIM FINANCIAL STATEMENTS (UNAUDITED) NOTE 1 - BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Kronos Advanced Technologies, Inc. (the "Company") have been prepared in accordance with generally accepted accounting principles for interim financial information. Accordingly, they do not include all the information and notes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments necessary to present fairly the information set forth therein have been included. Operating results for the six months ended December 31, 2006 are not necessarily indicative of the results that may be experienced for the fiscal year ending June 30, 2007. These consolidated financial statements are those of the Company and its wholly-owned subsidiary. All significant inter-company accounts and transactions have been eliminated in the preparation of the consolidated financial statements. The accompanying consolidated financial statements should be read in conjunction with the Kronos Advanced Technologies, Inc. Form 10-KSB for the fiscal year ended June 30, 2006, which was filed on September 28, 2006. NOTE 2 - REALIZATION OF ASSETS AND GOING CONCERN The accompanying consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America, which contemplate continuation of the Company as a going concern. The Company has sustained losses from operations in recent years, and such losses have continued through the current period ended December 31, 2006. In addition, the Company has used, rather than provided cash in its operations. The Company is currently using its resources to attempt to raise capital necessary to commercialize its technology and develop viable commercial products, and to provide for its working capital needs. In view of the matters described in the preceding paragraph, recoverability of a major portion of the asset amounts shown in the accompanying balance sheet is dependent upon continued operations of the Company, which in turn is dependent upon the Company's ability to meet its financing requirements on a continuing basis, to maintain present financing and to succeed in its future operations. The consolidated financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or amounts and classification of liabilities that might be necessary should the Company be unable to continue in existence. Management has taken the following steps with respect to its operating and financial requirements: EOL. In December 2005, Kronos executed a non-exclusive License Agreement with EOL LLC, a Russian Federation corporation ("EOL"). Based in Korolev, Moscow Region, Russia, EOL is leveraging the Kronos technology to produce, market, and distribute Kronos commercial air purification products, bacteriological and virus destruction devices in select Commonwealth of Independent States. The agreement comes after successful completion of multiple tests in Eastern Europe, which found the Kronos technology capable of decontaminating rooms infected with airborne viruses and bacteria. Under the terms of the five-year agreement, EOL will provide Kronos a fixed percentage royalty on every product sold, as well as upfront licensing and quarterly maintenance fees. The initial medical products are currently being marketed in Russia and planned to be marketed beginning in 2007 in Ukraine, Kazakhstan, Moldova and Byelorussia. During the three months ended December 31, 2006, Kronos earned $98,000 in revenue from the sale of power supplies and other electrical components and the providing of engineering services to EOL. In August 2006, the Russian Research Institute of Medical Equipment began the process for product certification of the EOL's Kronos-based TreeTM air purification device for use in medical facilities, including a successful clinical trial of EOL products in the Pulmonary Department of Municipal Hospital #2 in Moscow. In October 2006, Scientific Institution of Health Care, Central Clinical Hospital #2 in Moscow completed a second clinical trial. As a result of these clinical trials, the Russian Research Institute approved the Kronos-based TreeTM air purification device for use in hospitals and other healthcare facilities. The device received Category I approval, which means the product has met the strictest regulations required for a device to be used in operating rooms and other areas that require a sterile environment. In November 2006, following the Russian Research Institute approval, the Ministry of Health Care and Social Development of the Russian Federation issued a Registration Certificate that designates the Kronos-based TreeTM air purification device for medical use. 6 DESA. In June 2006, the Company executed a License Agreement with DESA IP, LLC ("DESA"), a wholly owned subsidiary of DESA LLC. DESA is a global provider of hearth, heating and zone comfort products. DESA is the first U.S. company to license the technology for embedded applications, which represents another step forward in the commercialization and globalization of Kronos' proprietary air movement, filtration and decontamination technology. This License Agreement provides DESA the opportunity to embed the Kronos electrostatic air movement technology within fireplaces, hearth systems, zone heaters and mounted electric fans and heaters. DESA will be seeking to take advantage of the silence, energy efficiency and, in select applications, air filtration benefits of the Kronos technology. DESA has the rights to distribute these products across thirty-four countries in North America, Europe and the former Eastern Block region. In October 2006, DESA approved Kronos' designs for the first Kronos-based product and committed to the funding of the product development by Kronos. By February 2007, various prototype configurations were under test and evaluation by Kronos and DESA. Global Appliance Manufacturers. In October 2006, a leading global home appliance manufacturer committed to fund 20% of the cost for Kronos to manufacturer a silent kitchen range hood product. In addition, the customer has committed to a 120 day testing and evaluation period on a non-exclusive basis. This next generation range hood device will represent the culmination of more than 12 months of product design and development effort by Kronos to apply our technology to this unique embedded residential application. The product was shipped to the customer in October 2006 for testing and evaluation. In January 2007, the prototype design was modified based on customer input and a revised unit was shipped to the customer. In February 2007, a second leading global home appliance manufacturer committed to purchase additional prototype devices for their testing and evaluation. Washington Technology Center. In December 2004, Kronos and the University of Washington were awarded a Phase I grant for a research and technology development project entitled "Heat Transfer Technology for Microelectronics and MEMS" by the Washington Technology Center ("WTC"). The objective of the project is to develop a novel energy-efficient heat transfer technology for cooling microelectronics. In January 2006, Kronos and the University of Washington conducted a successful bench scale demonstration of micron cooling of a MEMS chip. In June 2006, the Company and the University of Washington were awarded a Phase II grant for continued funding in its novel cooling system for microelectronics and computer chips. The Washington Technology Center is contributing $100,000 as a Phase II grant for the project. Kronos will provide $35,000 in funding, $38,000 in in-kind services, including use of the Kronos Research and Product Development Facility. NOTE 3 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Accounting Method. The Company's consolidated financial statements are prepared using the accrual method of accounting. The Company has elected a June 30 fiscal year end. Principles of Consolidation. The consolidated financial statements of the Company include those of the Company and its subsidiary for the periods in which the subsidiary was owned/held by the Company. All significant intercompany accounts and transactions have been eliminated in the preparation of the consolidated financial statements. At December 31, 2006, we had only one subsidiary, Kronos Air Technologies, Inc. Use of Estimates. The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenues and expenses during the periods. Actual results could differ from those estimates. Concentrations of Credit Risk. Financial instruments which can potentially subject the Company to concentrations of credit risk consist principally of trade receivables. The Company manages its exposure to risk through ongoing credit evaluations of its customers and generally does not require collateral. The Company maintains an allowance for doubtful accounts for potential losses and does not believe it is exposed to concentrations of credit risk that are likely to have a material adverse impact on the Company's financial position or results of operations. Cash and Cash Equivalents. The Company considers all highly liquid short-term investments, with a remaining maturity of six months or less when purchased, to be cash equivalents. The Company maintains cash and cash equivalents with high-credit, quality financial institutions. At June 30, 2006 the cash balances held at financial institutions were in excess of federally insured limits. 7 Accounts Receivable. The Company provides an allowance for potential losses, if necessary, on trade receivables based on a review of the current status of existing receivables and management's evaluation of periodic aging of accounts. Accounts receivable are shown net of allowances for doubtful accounts of $0 at December 31, 2006 and June 30, 2006, respectively. The Company charges off accounts receivable against the allowance for losses when an account is deemed to be uncollectable. Property and Equipment. Property and equipment are recorded at cost. Depreciation is provided over the estimated useful lives of the assets, which range from three to seven years. Expenditures for major renewals and betterments that extend the original estimated economic useful lives of the applicable assets are capitalized. Expenditures for normal repairs and maintenance are charged to expense as incurred. The cost and related accumulated depreciation of assets sold or otherwise disposed of are removed from the accounts, and any gain or loss is included in operations. Intangibles. The Company uses assumptions in establishing the carrying value, fair value and estimated lives of its long-lived assets and goodwill. The criteria used for these evaluations include management's estimate of the asset's continuing ability to generate positive income from operations and positive cash flow in future periods compared to the carrying value of the asset, the strategic significance of any identifiable intangible asset in its business objectives, as well as the market capitalization of the Company. Cash flow projections used for recoverability and impairment analysis use the same key assumptions and are consistent with projections used for internal budgeting, and for lenders and other third parties. If assets are considered to be impaired, the impairment recognized is the amount by which the carrying value of the assets exceeds the fair value of the assets. Useful lives and related amortization or depreciation expense are based on its estimate of the period that the assets will generate revenues or otherwise be used by Kronos. Factors that would influence the likelihood of a material change in its reported results include significant changes in the asset's ability to generate positive cash flow, loss of legal ownership or title to the asset, a significant decline in the economic and competitive environment on which the asset depends, significant changes in its strategic business objectives, and utilization of the asset. Income Taxes. Income taxes are accounted for in accordance with the provisions of Statement of Financial Accounting Standards ("SFAS") No. 109. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amounts expected to be realized, but no less than quarterly. Research and Development Expenses. Costs related to research and development are charged to research and development expense as incurred. Net Loss Per Share. Basic loss per share is computed using the weighted average number of shares outstanding. Diluted loss per share is computed using the weighted average number of shares outstanding adjusted for the incremental shares attributed to outstanding options and warrants to purchase common stock, when their effect is dilutive. Revenue Recognition. The Company recognizes revenue in accordance with Staff Accounting Bulletin ("SAB") 104, which requires evidence of an agreement, delivery of the product or services at a fixed or determinable price, and assurance of collection within a reasonable period of time. Further, Kronos Air Technologies recognizes revenue on the sale of the custom-designed contract sales under the percentage-of-completion method of accounting in the ratio that costs incurred to date bear to estimated total costs. For uncompleted contracts where costs and estimated profits exceed billings, the net amount is included as an asset in the balance sheet. For uncompleted contracts where billings exceed costs and estimated profits, the net amount is included as a liability in the balance sheet. Sales are reported net of applicable cash discounts and allowances for returns. Revenue from government grants for research and development purposes is recognized as revenue as long as the Company determines that the government will not be the sole or principal expected ultimate customer for the research and development activity or the products resulting from the research and development activity. Otherwise, such revenue is recorded as an offset to research and development expenses in accordance with the Audit and Accounting Guide, Audits of Federal Government Contractors. In either case, the revenue or expense offset is not recognized until the grant funding is invoiced and any customer acceptance provisions are met or lapse. 8 Stock, Options and Warrants Issued for Services. Issuances of shares of the Company's stock to employees or third-parties for compensation or services is valued using the closing market price on the date of grant for employees and the date services are completed for non-employees. Issuances of options and warrants of the Companies stock are valued using the Black-Scholes option model. Stock Options. In December 2004, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 123R, Share-Based Payment ("SFAS No. 123R"). This Statement is a revision of SFAS No. 123, Accounting for Stock-Based Compensation, and supersedes Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, and its related implementation guidance. SFAS No. 123R focuses primarily on accounting for transactions in which an entity obtains employee services in share-based payment transactions. The Statement requires entities to recognize stock compensation expense for awards of equity instruments to employees based on the grant-date fair value of those awards (with limited exceptions). Kronos elected to implement the provisions of SFAS No. 123R in the fiscal year ended June 30, 2005. Recent Accounting Pronouncements Accounting for Certain Hybrid Financial Instruments. In February 2006, the FASB issued SFAS Statement No. 155, which is an amendment of SFAS Statements No. 133 and 140. This Statement: a) permits fair value remeasurement for any hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation; b) clarifies which interest-only strip and principal-only strip are not subject to the requirements of Statement 133; c) establishes a requirement to evaluate interests in securitized financial assets to identify interests that are freestanding derivatives or that are hybrid financial instruments that contain an embedded derivative requiring bifurcation; d) clarifies that concentrations of credit risk in the form of subordination are not embedded derivatives; and e) amends Statement 140 to eliminate the prohibition on a qualifying special-purpose entity from holding a derivative financial instrument that pertains to a beneficial interest other than another derivative financial instrument. This Statement is effective for financial statements for fiscal years beginning after September 15, 2006. Earlier adoption of this Statement is permitted as of the beginning of an entity's fiscal year, provided the entity has not yet issued any financial statements for that fiscal year. Management believes this Statement will have no impact on the financial statements of the Company once adopted. This statement has not had any impact on the financial statements of the Company since adoption. Accounting for Servicing of Financial Assets. In March 2006, the FASB issued SFAS Statement No. 156, which amends SFAS Statement No. 140. This Statement establishes, among other things, the accounting for all separately recognized servicing assets and servicing liabilities. This Statement amends Statement 140 to require that all separately recognized servicing assets and servicing liabilities be initially measured at fair value, if practicable. This Statement permits, but does not require, the subsequent measurement of separately recognized servicing assets and servicing liabilities at fair value. An entity that uses derivative instruments to mitigate the risks inherent in servicing assets and servicing liabilities is required to account for those derivative instruments at fair value. Under this Statement, an entity can elect subsequent fair value measurement to account for its separately recognized servicing assets and servicing liabilities. By electing that option, an entity may simplify its accounting because this Statement permits income statement recognition of the potential offsetting changes in fair value of those servicing assets and servicing liabilities and derivative instruments in the same accounting period. This Statement is effective for financial statements for fiscal years beginning after September 15, 2006. Earlier adoption of this Statement is permitted as of the beginning of an entity's fiscal year, provided the entity has not yet issued any financial statements for that fiscal year. Management believes this Statement will have no impact on the financial statements of the Company once adopted. Accounting for Uncertainty in Income Taxes. In June 2006, the FSAB issued Interpretation No. 48, "Accounting for Uncertainty in Income Taxes" ("FIN 48"). FIN 48 clarifies the accounting for uncertainty in income taxes recognized in financial statements in accordance with SFAS No. 109, "Accounting for Income Taxes." This Interpretation prescribes a recognition threshold and measurement attribute of tax positions taken or expected to be taken on a tax return. This Interpretation is effective for the first fiscal year beginning after December 15, 2006. Management believes this Statement will have no impact on the financial statements of the Company once adopted. 9 Accounting for the Conversion of an Instrument That Became Convertible upon the Issuer's Exercise of a Call Option. In June 2006, the FSAB ratified Emerging Issues Task Force 05-1, Accounting for the Conversion of an Instrument That Became Convertible upon the Issuer's Exercise of a Call Option ("EITF 05-1"). EITF 05-1 addresses instruments that are currently not convertible to equity but the instrument becomes convertible upon the exercise of the issuer's call option. EITF 05-1 calls for debt extinguishment treatment if the instrument did not contain a substantive conversion feature apart from the right to convert upon the issuer's exercise of its call right at the date of issuance. Conversely, if such substantive conversion feature did exist at issuance date, EITF 05-1 requires conversion treatment for those equity securities issued to satisfy the debt conversion. EITF 05-1 must be applied prospectively as of June 28, 2006. The Company does not expect EITF 05-1 to have a significant impact on its future financial position or results of operations. Fair Value Measurements. In September 2006, the FSAB issued SFAS Statement No. 157. This Statement defines fair value, establishes a framework for measuring fair value according to GAAP, and expands disclosures about fair value measurements. This Statement applies under other accounting pronouncements that require or permit fair value measurements, the Board having previously concluded in those accounting pronouncements that fair value is a relevant measurement attribute. Accordingly, this Statement does not require any new fair value measurements. However, for some entities, the application of this Statement will change current practices. This Statement is effective for financial statements for fiscal years beginning after November 15, 2007. Earlier application is permitted provided that the reporting entity has not yet issued financial statements for that fiscal year. Management is currently evaluating the impact this Statement will have on the financial statements of the Company once adopted. NOTE 4 -- INCOME TAXES The composition of deferred tax assets and the related tax effects at December 31, 2006 and June 30, 2006 are as follows: December 31, 2006 (unaudited) June 30, 2006 --------------- --------------- Benefit from carryforward of capital and net operating losses $ (7,978,000) $ (7,209,000) Other temporary differences (157,000) (157,000) Options issued for services (42,000) (218,000) Less: Valuation allowance 8,177,000 7,584,000 --------------- --------------- Net deferred tax asset $ - $ - =============== =============== The other temporary differences shown above relate primarily to impairment reserves for intangible assets, and accrued and deferred compensation. The difference between the income tax benefit in the accompanying statements of operations and the amount that would result if the U.S. Federal statutory rate of 34% were applied to pre-tax loss is as follows:
December 31, 2006 (Unaudited) June 30,2006 ------------------------------------ --------------------------------------- % of % of Amount Pre-Tax Loss Amount Pre-Tax Loss ------------- ------------ -------------- ------------ Benefit for income tax at: Federal statutory rate $ (583,000) (34.0)% $ (1,360,000) (34.0)% State statutory rate (34,000) (2.0)% (80,000) (2.0)% Non-deductible expenses 24,000 1.4 % 105,000 2.6 % Increase in valuation allowance 593,000 34.6 % 1,335,000 33.4 % ------------------------------------ ----------------------------------------- $ - 0.0 % $ - 0.0 % ==================================== =========================================
The non-deductible expenses shown above related primarily to the amortization of intangible assets and to the accrual of stock options for compensation using different valuation methods for financial and tax reporting purposes. At December 31, 2006, the Company has approximately $19.1 million of unused Federal net operating losses, $2.3 million capital losses and $14.9 million State net operating losses available for carryforward to future years. The benefit from carryforward of such losses will expire in various years through 2026 and could be subject to limitations if significant ownership changes occur in the Company. 10 NOTE 5 - SEGMENTS OF BUSINESS The Company operates principally in one segment of business: The Company licenses, manufactures and distributes air movement and purification devices utilizing the Kronos technology. For the six months ended December 31, 2006 and the fiscal year ended June 30, 2006 the Company operated only in the U.S. NOTE 6 - EARNINGS PER SHARE Weighted average shares outstanding used in the earnings per share calculation were 166,082,956 and 78,889,818 for the six months ended December 31, 2006 and 2005, respectively. As of December 31, 2006, there were outstanding options to purchase 25,144,928 shares of the Company's common stock and outstanding warrants to purchase 42,300,000 shares of the Company's common stock. These options and warrants have been excluded from the earnings per share calculation as their effect is anti-dilutive. As of December 31, 2005, there were outstanding options and warrants to purchase 16,139,568 shares of the Company's common stock and outstanding warrants to purchase 42,300,000 shares of the Company's common stock. These options have been excluded from the earnings per share calculation as their effect is anti-dilutive. NOTE 7 - NOTES PAYABLE The Company had the following obligations as of December 31, 2006 and June 30, 2006,
December 31, 2006 (Unaudited) June 30, 2006 --------------- --------------- Obligation to Cornell Capital(1) $ 1,645,476 $ 1,815,000 Obligation to HoMedics (2) 2,575,000 2,575,000 Obligation to current employees (3) 202,307 256,544 -------------- --------------- 4,422,783 4,646,544 Less: Current portion 2,706,116 2,071,544 --------------- --------------- Total long term obligations net of current portion $ 1,716,667 $ 2,575,000 =============== ===============
(1) This note has a six month term and bears interest at 12%. (2) This note had a 5 year term and bears interest at 6% with no payments required until February 1, 2007. This note along with an obligation by HoMedics to provide Kronos with an additional $750,000 in debt financing was issued along with warrants for the purchase of 40 million shares of the Company's common stock. In February 2007, HoMedics and Kronos executed a Settlement Agreement and General Release whereby HoMedics agreed to receive $1 million in a cash payment to cancel the Loan Agreements and to cancel warrants to purchase 26.5 million shares of the Company's common stock. Payment is due in 120 days or the Settlement Agreement becomes null and void. (3) These notes bear interest at the rate of 12%. They represent obligation to current employees of the Company, which are due and payable in full. NOTE 8 - COMMITMENTS AND CONTINGENCIES In October 2004, Kronos entered into agreements for up to $20.5 million in equity and equity backed debt financing from Cornell Capital Partners LP ("Cornell Capital Partners"). In October 2004, Kronos sold 5 million unregistered shares of Kronos common stock for gross proceeds of $500,000 to Cornell Capital Partners. Cornell Capital Partners committed to provide $4 million pursuant to two Promissory Notes, which was funded as follows: $2 million upon the filing of an SB-2 Registration Statement and $2 million upon the SEC declaring the Registration Statement effective. Kronos executed a Standby Equity Distribution Agreement for $20 million of funding. The Company cannot drawdown any funds under the Standby Equity Distribution Agreement until such time a sit files a registration statement registering additional shares and the registration statement is declared effective by the SEC. In December 2006, Cornell Capital Partners converted and exchanged the second Promissory Note for a convertible debenture issued by Kronos for the outstanding principal and interest owed on the Promissory Note of $1.6 million. The Convertible Debenture is due in full June 13, 2007, bears an interest rate of 12% and under certain limitations is convertible into shares of Kronos common stock at $0.0075 per share. As of December 31, 2006, Kronos has received $7.3 million in funding under these agreements. As of December 31, 2006, the Company owed $1.6 million under the Convertible Debenture. As of February 2007, Kronos had issued all the shares registered to Cornell Capital Partners under the Company's June 2005 SB-2 Registration Statement. The Company has no plans at this time to register additional shares to Cornell Capital Partners under the terms of the Standby Equity Distribution Agreement. 11 In October 2004, FKA Distributing Co. d/b/a HoMedics, Inc., and HoMedics, Inc. ("HoMedics") agreed to extend repayment of Kronos debt and to provide an additional $1 million in funding. HoMedics has agreed to provide Kronos with an additional $1 million in financing - $925,000 in secured debt financing and $75,000 for the purchase of additional warrants. In December 2005, $175,000 of the $925,000 was funded. The balance of $750,000 was not funded. In addition, quarterly debt payments and the maturity date for existing debt were extended. Quarterly payments due on the outstanding $2.4 million in secured debt financing, which had been scheduled to begin in August 2004, were due in February 2007. The Company does not have the current funds to make the required payments to HoMedics. The maturity date of the $2.4 million in debt has been extended from May 2008 to October of 2009; the maturity date on the $175,000 will also be October 2009. The interest rate was at 6% for the $2.4 million in debt; the rate was also 6% on the additional debt. HoMedics increased their potential equity position in Kronos to 30% of Kronos common stock on a fully diluted basis. In connection with the October 2004 agreements, Kronos issued HoMedics a warrant to buy 26.5 million shares of Kronos common stock. In February 2007, HoMedics and Kronos executed a Settlement Agreement and General Release whereby HoMedics agreed to receive $1 million in a cash payment to cancel the Loan Agreements, including all principal and accrued interest, and to cancel the warrants to purchase 26.5 million shares of the Company's common stock. The $1 million payment is due in 120 days or the Settlement Agreement becomes null and void. Daniel R. Dwight, President and Chief Executive Officer, and the Company entered into an Employment Agreement effective as of November 15, 2001. The initial term of Mr. Dwight's Employment Agreement was for 2 years and will automatically renew for successive 1 year terms unless Kronos or Mr. Dwight provide the other party with written notice within 3 months of the end of any renewal term. In addition, Kronos granted Mr. Dwight 1,000,000 immediately vested and exercisable, ten-year stock options at various exercise prices. The Board of Directors renewed Mr. Dwight's Employment Agreement on August 13, 2003 and again on August 15, 2004 and August 15, 2005. In April 2006, the Board of Directors renewed Mr. Dwight's Employment Agreement and increased his base cash compensation to $225,000 per year effective April 15, 2006. Mr. Dwight is eligible for annual incentive bonus compensation in an amount equal to Mr. Dwight's annual salary based on the achievement of certain bonus objectives. Mr. Dwight will be entitled to fully participate in any and all 401(k), stock option, stock bonus, savings, profit-sharing, insurance, and other similar plans and benefits of employment. Richard F. Tusing, Chief Operating Officer, and the Company entered into an Employment Agreement effective as of January 1, 2003. The initial term of Mr. Tusing's Employment Agreement is for 2 years and will automatically renew for successive 1 year terms unless Kronos or Mr. Tusing provide the other party with written notice within 3 months of the end of renewal term. The Board of Directors renewed Mr. Tusing's Employment Agreement on October 1, 2004, October 1, 2005 and October 1, 2006. Mr. Tusing's Employment Agreement provides for base cash compensation of $160,000 per year. Mr. Tusing will be entitled to fully participate in any and all 401(k), stock option, stock bonus, savings, profit-sharing, insurance, and other similar plans and benefits of employment. NOTE 9 - SUBSEQUENT EVENTS In January and February 2007, Kronos issued 35,674,701 shares of common stock for gross proceeds of $245,938 to Cornell under the terms of our Standby Equity Distribution Agreement. The proceeds less financing fees were used for working capital. With the issuance of these shares, Kronos has issued all the shares registered to Cornell Capital Partners under the Company's June 2005 SB-2 Registration Statement. The Company has no plans at this time to register additional shares to Cornell Capital Partners under the terms of the Standby Equity Distribution Agreement. In January 2007, a leading auto manufacturer whom Kronos has previously shipped prototype devices designed and built under the customer's specifications requested Kronos provide the manufacturer a follow-on proposal to further develop auto based applications utilizing the Kronos technology. In February 2007, a leading global home appliance manufacturer placed an order to purchase prototype devices for a select residential application of the Kronos technology. In February 2007, HoMedics and Kronos executed a Settlement Agreement and General Release allowing Kronos to pay $1,000,000 in exchange for full satisfaction of the $3,130,000 in outstanding principal and interest owed by Kronos to HoMedics, cancellation of the Warrant #3 for 26,507,658 warrants, cancellation of the anti-dilution protection granted to HoMedics in Warrant #3 and the First Amendment to the Master Loan and Investment Agreement, mandatory exercise of Warrants #1 (6,746,171 warrants) and #2 (6,746,171 warrants) if the Kronos stock trades above $0.20 for 20 consecutive trading days, and a selling limitation on any shares of Kronos common stock HoMedics obtains through the exercise of Warrant #1 or #2. 12 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS INTRODUCTORY STATEMENTS FORWARD LOOKING STATEMENTS AND ASSOCIATED RISKS FORWARD-LOOKING STATEMENTS AND ASSOCIATED RISKS. THIS FILING CONTAINS FORWARD-LOOKING STATEMENTS, INCLUDING STATEMENTS REGARDING, AMONG OTHER THINGS:(A) OUR PROJECTED SALES AND PROFITABILITY, (B) OUR GROWTH STRATEGIES, (C) ANTICIPATED TRENDS IN OUR INDUSTRY, (D) OUR FUTURE FINANCING PLANS, (E) OUR ANTICIPATED NEEDS FOR WORKING CAPITAL, AND (F) THE BENEFITS RELATED TO OUR OWNERSHIP OF KRONOS AIR TECHNOLOGIES, INC. IN ADDITION, WHEN USED IN THIS FILING, THE WORDS "BELIEVES," "ANTICIPATES," "INTENDS," "IN ANTICIPATION OF," "EXPECTS," AND SIMILAR WORDS ARE INTENDED TO IDENTIFY CERTAIN FORWARD-LOOKING STATEMENTS. THESE FORWARD-LOOKING STATEMENTS ARE BASED LARGELY ON OUR EXPECTATIONS AND ARE SUBJECT TO A NUMBER OF RISKS AND UNCERTAINTIES, MANY OF WHICH ARE BEYOND OUR CONTROL. ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THESE FORWARD-LOOKING STATEMENTS AS A RESULT OF VARIOUS FACTORS, INCLUDING, WITHOUT LIMITATION, THE RISKS OUTLINED UNDER "FACTORS AFFECTING KRONOS' BUSINESS AND PROSPECTS" AND MATTERS DESCRIBED IN THIS FILING GENERALLY. IN LIGHT OF THESE RISKS AND UNCERTAINTIES, THERE CAN BE NO ASSURANCE THAT THE FORWARD-LOOKING STATEMENTS CONTAINED IN THIS FILING WILL IN FACT OCCUR. WE DO NOT UNDERTAKE ANY OBLIGATION TO PUBLICLY RELEASE THE RESULTS OF ANY REVISIONS TO THESE FORWARD-LOOKING STATEMENTS THAT MAY BE MADE TO REFLECT ANY FUTURE EVENTS OR CIRCUMSTANCES. GENERAL Kronos Advanced Technologies, Inc. ("Kronos" or the "Company") is an product development and production company that has developed and patented technology that among other things fundamentally changes the way air is moved, filtered and sterilized. Kronos is pursuing commercialization of its proprietary technology in a limited number of markets; and if we are successful and funds are available, we intend to enter additional markets in the future. Eleven of the Company's U.S. patent applications and two of its international patent applications have been allowed for issuance. To date, our ability to execute our strategy has been restricted by our limited amount of capital. Kronos is focused on prioritizing the Company's limited resources on developing and licensing Kronos' proprietary technology for air movement and purification applications to address the indoor air quality market. The Kronos technology has numerous valuable characteristics for applications in the indoor air quality market, including moving air and gases at high velocities while filtering odors, smoke and particulates and sterilizing air from bacteria and virus contamination. A number of the scientific claims of the Kronos technology have been tested by the U. S. and foreign governments, multi-national companies and independent testing facilities. The Company has begun establishing strategic partners with select companies both domestically and internationally for standalone and embedded applications of our proprietary technology. The Company and these partners are in various stages of developing Kronos-based prototype and commercial products. Standalone Platform: o Residential Products - On December 31, 2006, the Company's License Agreement with HoMedics expired. The Company is in active discussions with other consumer products companies to market and sell Kronos-based air purification products. o Medical Products - In December 2005, the Company executed a non-exclusive license agreement with EOL LLC, a Russian Federation company, for manufacturing and distributing Kronos-based commercial standalone products in Russia and other select Commonwealth of Independent States. In September 2006, EOL began to assemble the finished products in Russia from components supplied both locally and from contract manufacturers in China, as well as electronic components and power supplies from Kronos. The initial medical products are currently being marketed in Russia and planned to be marketed in 2007 in Ukraine, Kazakhstan, Moldova and Byelorussia. In November 2006, the Ministry of Health Care and Social Development of the Russian Federation issued a Registration Certificate for the product that designates the product for medical use. During the three months ended December 31, 2006, Kronos earned $98,000 in revenue from the sale of power supplies and other electrical components and engineering services. Embedded Platform: o Commercial Products - In June 2006, the Company executed its first license for embedded applications of Kronos technology with DESA LLC. The agreement provides DESA the opportunity to embed the Kronos electrostatic air movement technology within fireplaces, hearth systems, zone heaters and mounted electric fans and heaters. In October 2006, DESA approved Kronos' designs for the first Kronos-based product 13 and committed to the funding of the product development by Kronos for a planned product launch in 2007. By February 2007, various prototype configurations were under test and evaluation by Kronos and DESA. o Residential Products - In October 2006, a leading global home appliance manufacturer committed to fund 20% of the cost for Kronos to manufacturer a silent kitchen range hood product. In addition, the customer committed to a 120 day testing and evaluation period on a non-exclusive basis. This next generation range hood device represents the culmination of more than 12 months of product design and development effort by Kronos to apply our technology to this unique embedded residential application. The product was shipped to the customer in October 2006. Various prototype configurations are under test and evaluation by Kronos and the customer. In February 2007, a second global appliance manufacturer committed to purchase additional prototypes from Kronos for testing and evaluation. o Microelectronics Products - In June 2006, the Washington Technology Center awarded the Company in conjunction with the University of Washington and Intel Corporation continued funding for a research and development project based on a novel cooling system for microelectronics and computer chips. Technology Description and Benefits The proprietary Kronos technology involves the management of corona discharge by applying high voltage management across paired electrical grids to create an ion exchange. Applications for efficient high voltage management, efficient corona discharge and ion exchange include but are not limited to: o air movement, including dielectric fluid movement and propulsion; o air purification, including particulate removal, biohazard destruction, chemical and industrial gas treatment, and odor removal; o temperature and environmental management, including space heating and cooling; o microchip, MEMS and other electronics devices and components cooling; o air management, including sorting and separation of air streams by particle content; o sound generation, including high fidelity sound recreation and active noise cancellation; o high voltage management, including development of high voltage power supplies and control of energy surges and electrical discharges; o control of water and moisture content in air streams, including dehumidification and humidification; and o water treatment, including water purification, ionization and water desalination. Independent Testing - Product Claims Platform A number of the scientific claims of the Kronos technology have been tested by the U. S. and foreign governments, multi-national companies and independent testing facilities. To date, independent laboratory testing has verified the filtration and sterilization capability of the Kronos technology. Filtration Testing Results: o Aerosol and Air Quality Research Laboratory - up to 99.8% filtration of 0.02 to 0.20 micron (20 to 200 nanometers) size particles; o LMS Industries - removal of over 99.97% of 0.10 micron (100 nanometers) and above size particles using HVAC industry's ASHRAE 52.2 testing standard for filtration; o MicroTest Laboratories - HEPA Clean Room Class 1000 quality particulate reduction; o Intertek - tobacco smoke elimination tests in accordance with ANSI/AHAM AC-1-1988 standard entitled "American National Standard Method for Measuring Performance of Portable Household Electric Cord-Connected Room Air Cleaners," which demonstrated a Clean Air Delivery Rate ("CADR") for the Kronos air purifier of over 300 for the larger size Kronos air purifier and 80 for the smaller size using consumer filtration testing standards for the Association of Home Appliance Manufacturers ("AHAM"). 14 Sterilization Testing Results: o Scientific Institution of Health Care, Central Clinical Hospital #2 in Moscow (clinical trial): - 100% decontamination of bacteria (Staphylococcus aureus) in under one hour and 80% decontamination of general bacteria in under 24 hours from a 48m(3) hospital room while people were present; o Pulmonary Department of Municipal Hospital #2 in Moscow (clinical trial): - 100% decontamination of bacteria (Staphylococcus aureus) in under five hours from a 66m(3) hospital room while four patients were present; and - 100% decontamination of mildew fungi in under two hours from a 113.2m(3) hospital room; o Disinfection Research Institute Sterilization Laboratory in Moscow: - disinfected a room completely contaminated with Bacteriophage - a microorganism which lives in the E. Coli bacteria. Bacteriophage is widely used in virus testing because the microorganism's biological structure and size share many functional similarities with a wide range of viruses; and - 100% decontamination of room infected with bacteria (Staphylococcus aureus strain 906 (S. aureus) and Bacillus cereus strain 96 (B. cereus) - S. aureus is a known cause of hospital-acquired infections, including skin lesions such as boils and furunculosis and more serious infections such as pneumonia and meningitis; o Institute for Veterinary Medicine in the Ukraine - destroy and sterilize air which had been inseminated with Anthrax and E.coli spores; o New Hampshire Materials Laboratory - up to 95% reduction of hazardous gases, including numerous carcinogens found in cigarette smoke; o Battelle PNNL - 95% destruction of Bg (anthrax simulant); o Dr. Sergey Stoylar, a bacteriologist from the American Bacteriological Society - 100% destruction of Bacillus subtilis 168 (bacteria simulant). In September 2006, the Russian Research Institute of Medical Equipment approved EOL's Kronos-based TreeTM air purification device for use in hospitals and other healthcare facilities. The device received Category I approval, which means the product has met the strictest regulations required for a device to be used in operating rooms and other areas that require a sterile environment. In November 2006, following the Russian Research Institute approval, the Ministry of Health Care and Social Development of the Russian Federation issued a Registration Certificate that designates the Kronos-based TreeTM air purification device for medical use. Market Segmentation Kronos' initial business development strategy is to sell and license the Kronos technology to six distinct air quality market segments: (1) air movement and purification (residential, health care, hospitality, and commercial facilities); (2) air purification for unique spaces (clean rooms, airplanes, automotive, and cruise ships); (3) specialized military (naval vessels, closed vehicles and mobile facilities); (4) embedded cooling and cleaning (electronic devices and medical equipment); (5) industrial scrubbing (produce storage and diesel and other emissions); and (6) hazardous gas destruction (incineration and chemical facilities). Kronos' focus is on the first four of these market segments, which are described in more detail below: o Air Movement and Purification - Indoor air pollution, including sick building syndrome, second hand cigarette smoke and various bacterial and viral contaminants , is primarily caused by inadequate ventilation, chemical contaminants from indoor and outdoor sources and biological contaminants. There is also a demand for smaller devices that move, heat and deodorize the indoor air stream. The addressable air movement and purification segment is made up of four principal target markets: (1) residential, (2) health care, (3) hospitality and (4) commercial. o Air Purification for Unique Spaces - Electronics, semiconductor, pharmaceutical, aerospace, medical and many other producers depend on clean room technology. As products, such as electronic devices become smaller, the chance of contamination in manufacturing becomes higher. For pharmaceutical companies, clean, safe and contaminant-free products are imperative to manufacturing and distributing a viable product. Other potential applications for the Kronos technology include closed environments, such as automobiles, aircraft, cruise ships and other transportation modes, that require people to breathe contaminated, re-circulated air for extended periods. 15 o Embedded Cooling - Heat generation is becoming a major bottleneck in high density electronics. We believe that the embedded cooling market segment offers Kronos a near term opportunity to develop an alternative to fans for air movement and cooling inside of personal computers , servers and medical diagnostic equipment and a long term opportunity to develop micro channel cooling solutions for future generation microchips. o Specialized Military - Military personnel face the worst of all possible worlds: indoor air pollution, often in very confined spaces for extended periods, combined with the threat of biological warfare, nuclear fallout, and other foreign elements. We believe that the military market segment offers Kronos a unique opportunity to leverage the technical and funding resources of the U. S. military to expand Kronos' ability to develop and produce Kronos-based air movers and purifiers for applications that require these products to be embedded into ventilation systems to address the needs of military personnel. Kronos is currently developing products for the air movement and purification, air purification for unique spaces, and specialized military markets through specific customer contracts. Kronos is currently undertaking research and development in the embedded micro cooling market using Company funds and a third party grant. These contracts and grant are described in more detail in the Technology Application and Product Development section of this filing. Technology Application and Product Development To best serve Kronos' targeted market segments, our Company is developing specific product applications across two distinct product application platforms. A Kronos device can be either used as a standalone product or can be embedded. Standalone products are self-contained and only require the user to plug the Kronos device into a wall outlet to obtain air movement and filtration for their home, office or hotel room. Embedded applications of the Kronos technology require the technology be added into another system, such as a building ventilation system for more efficient air movement and filtration or into an electrical device such as computer or medical equipment to replace the cooling fan or heat sink. Standalone Platform Medical Products. In December 2005, Kronos executed a non-exclusive License Agreement with EOL LLC, a Russian Federation corporation. Based in Korolev, Moscow Region, Russia, EOL is leveraging the Kronos technology to produce, market, and distribute Kronos commercial air purification products, bacteriological and virus destruction devices in select Commonwealth of Independent States. The agreement comes after successful completion of multiple tests in Eastern Europe, which found the Kronos technology capable of decontaminating rooms infected with airborne viruses and bacteria. Under the terms of the five-year agreement, EOL will provide Kronos a fixed percentage royalty on every product sold, as well as upfront licensing and quarterly maintenance fees. The initial medical products are currently being marketed in Russia and planned to be marketed beginning in 2007 in Ukraine, Kazakhstan, Moldova and Byelorussia. During the three months ended December 31, 2006, Kronos earned $98,000 in revenue from the sale of power supplies and other electrical components and the providing of engineering services to EOL. In August 2006, the Russian Research Institute of Medical Equipment began the process for product certification of the EOL's Kronos-based TreeTM air purification device for use in medical facilities, including a successful clinical trial of EOL products in the Pulmonary Department of Municipal Hospital #2 in Moscow. In October 2006, Scientific Institution of Health Care, Central Clinical Hospital #2 in Moscow completed a second clinical trial. As a result of these clinical trials, the Russian Research Institute approved the Kronos-based TreeTM air purification device for use in hospitals and other healthcare facilities. The device received Category I approval, which means the product has met the strictest regulations required for a device to be used in operating rooms and other areas that require a sterile environment. In November 2006, following the Russian Research Institute approval, the Ministry of Health Care and Social Development of the Russian Federation issued a Registration Certificate that designates the Kronos-based TreeTM air purification device for medical use. Commercial and Other Standalone Products. Utilizing our expanded product development resources, Kronos completed the initial design, development and production of a series of small multifunctional devices that can be used as space heaters, vaporizers, disinfectors, deodorizers and/or fans. Based on the proprietary Kronos technology, these devices are currently undergoing testing and evaluation. Kronos has been meeting with potential strategic partners for manufacturing, marketing, selling and distributing these Kronos-based products. 16 Residential Products. In October 2002, Kronos and HoMedics executed a Licensing Agreement granting HoMedics certain rights with respect to the distribution of the Kronos proprietary technology to the consumer. On December 31, 2006, the Company's License Agreement with HoMedics expired. The Company is in active discussions with other consumer products companies to market and sell Kronos-based air purification products. Embedded Platform Commercial Products. In June 2006, the Company executed a License Agreement with DESA IP, LLC, a wholly owned subsidiary of DESA LLC. DESA is a global provider of hearth, heating and zone comfort products. DESA is the first U.S. company to license the technology for embedded applications, which represents another step forward in the commercialization and globalization of Kronos' proprietary air movement, filtration and decontamination technology. This License Agreement provides DESA the opportunity to embed the Kronos electrostatic air movement technology within fireplaces, hearth systems, zone heaters and mounted electric fans and heaters. DESA will be seeking to take advantage of the silence, energy efficiency and, in select applications, air filtration benefits of the Kronos technology. DESA has the rights to distribute these products across thirty-four countries in North America, Europe and the former Eastern Block region. In October 2006, DESA approved Kronos' designs for the first Kronos-based product and committed to the funding of the product development by Kronos. By February 2007, various prototype configurations were under test and evaluation by Kronos and DESA. In addition, Kronos has developed an air filtration and purification mechanism capable of performing to HEPA quality standards, while eliminating bacteria and viruses. We believe that Kronos devices could replace current HEPA filters with a permanent, easily cleaned, low-cost solution. Among the technical advantages of the Kronos technology over HEPA filters is the ability of the Kronos-based devices to eliminate the energy burden on air handling systems, which must generate high levels of backpressure necessary to move air through HEPA-based systems. Kronos-based devices enhance the air flow while providing better than HEPA level filtration and purification. Kronos is seeking one or more strategic partners to commercial, market and distribute Kronos based commercial embedded air filtration and purification devices. Residential Products. During 2006, several leading global home appliance manufacturers initiated discussions with Kronos with an interest in using the Kronos technology for developing select residential applications, including silent kitchen range hoods. With specific customer input, Kronos has designed and developed initial prototype range hoods for additional customer demonstration and evaluation. In August 2006, a leading global appliance manufacturer requested a second prototype be designed and built to their specifications for further evaluation. In October 2006, the customer committed to fund 20% of the cost for Kronos to manufacturer a silent kitchen range hood product. In addition, the customer has committed to a 120 day testing and evaluation period on a non-exclusive basis. In February 2007, a second global appliance manufacturer committed to purchase additional prototypes from Kronos. These next generation range hood devices represent the culmination of more than 12 months of product design and development effort by Kronos to apply our technology to this unique embedded residential application. Military Products. The U. S. Department of Defense has provided Kronos with various grants and contracts to develop, test and evaluate the Kronos technology for embedded applications. Under a Office of Naval Research grant and SBIR Phase I and Phase II contracts, the U. S. military had provided Kronos with over $1 million in funding. The Company currently has devices built for the U.S. Navy under evaluation by Northrop Grumman for potential deployment of U.S. Naval ships. Transportation Products. In April 2006, Kronos was invited to serve as a member and an industrial partner in the Federal Aviation Administration's (the "FAA") Air Transportation Airliner Cabin Environment Research Center of Excellence ("ACER CoE"). In this capacity, Kronos will provide its real-time decontamination, air filtration, purification and technology expertise to evaluate and develop solutions that proactively address and improve cabin air quality. The program, led by the FAA, includes senior executives from aerospace equipment manufacturers and leading American universities. In December 2005, Kronos shipped a prototype device designed and built under specific customer specifications to a leading auto manufacturer for their testing and evaluation. This evaluation led the manufacturer in January 2007 to seek a follow-on proposal from Kronos to further develop auto based applications of the Kronos technology. Microelectronics Cooling Products. In December 2004, Kronos and the University of Washington were awarded a Phase I grant for a research and technology development project entitled "Heat Transfer Technology for Microelectronics and MEMS" by the Washington Technology Center (the "WTC"). The objective of the project is to develop a novel energy-efficient heat transfer technology for cooling microelectronics. In January 2006, Kronos and the University of Washington conducted a successful bench scale demonstration of micron cooling of a MEMS chip. 17 In June 2006, the Company and the University of Washington were awarded a Phase II grant for continued funding in its novel cooling system for microelectronics and computer chips. The WTC is contributing $100,000 as a Phase II grant for the project. Kronos will provide $35,000 in funding and $38,000 in in-kind services, including use of the Kronos Research and Product Development Facility. Dr. Alexander Mamishev of the University of Washington Electrical Engineering Department is the principal investigator on the project and will lead a team of scientists and engineers from Kronos and Intel Corporation who will also collaborate on the project. The Phase II grant is a follow-on award to the December 2004 Phase I grant to Kronos and the University of Washington to initiate development of a novel energy-efficient heat transfer technology for cooling microelectronics. In September 2006, Kronos hired a former Intel employee to lead Kronos' development of micro cooling applications. Thermal management for microelectronics and MEMS systems is a challenge. Existing cooling devices aren't meeting increasing needs for energy consumption and heat dissipation. Kronos air handling technology is an emerging technology that uses an electric field to exert force on ionized gas. Kronos is attempting to develop an improved microchip air handling system that is smaller in size, has high speed airflow, allows more targeted delivery of cooling to areas of highest heat and is compatible with current processes. Patents and Intellectual Property Kronos has received notification that eleven of its patent applications have been allowed for issuance by the United States Patent and Trademark Office and two of its international patent applications have been allowed for issuance by the Commonwealth of Australia Patent Office and the Mexican Institute of Industrial Property, respectively. These patents are considered utility patents which describe fundamental innovations in the generation, management and control of electrostatic fluids, including air movement, filtration and purification. Each of the patents contain multiple part claims for both general principles as well as specific designs for incorporating the Kronos technology into air movement, filtration and purification products. The patents provide protection for both specific product implementations of the Kronos technology, as well as more general processes for applying the unique attributes and performance characteristics of the technology.
U.S. Patents Date U.S. Patent # Patent Title Description Protection ---- ------------- ------------ ----------- ---------- October 7,122,070 Method of and inertialess power supply for 2025 2006 Apparatus for safe operation and spark Electrostatic Fluid prevention Acceleration August Notice of Corona Discharge method of generating air 2023 2006 Allowance Electrode and Method flow and air cleaning with of Operating reduced amount of ozone by- product and with extended life-span of the electrodes July Notice of Electrostatic Air method for improving the 2024 2006 Allowance Cleaning Device efficiency of electrodes for filtering micron and sub- micron size particles May 7,053,565 Electrostatic Fluid effective powering of the 2024 2006 Accelerator - Power electrodes for high level of Management air velocity November 6,963,479 Electrostatic Fluid advanced voltage management 2023 2005 Accelerator - impacts air filtration and Advanced Geometries sterilization, air flow and ozone as well as safe operation and spark prevention August 6,937,455 Spark Management analysis, detection and 2022 2005 Method and Device prevention of sparks in a high voltage field - creating safe, effective electrostatic technology products July 6,919,698 Voltage Management materials and geometry 2023 2005 for Electrostatic allowing for spark free Fluid Accelerator operation and use of light weight, inexpensive materials as the electrodes May 6,888,314 Electrostatic Fluid electrode design geometries 2022 2005 Accelerator - and attributes including Electrode Design micro channeling to achieve Geometries unique air movement and purification performance 18 April 6,727,657 Electrostatic Fluid synchronization of multiple 2022 2004 Accelerator for and stages of arrays - a Method of increasing air flow and air Controlling Fluid flow efficiency December 6,664,741 Method of and ratio of voltage for 2022 2003 Apparatus for producing ion discharge to Electrostatic Fluid create air movement and Acceleration Control base level filtration of a Fluid Flow January 6,504,308 Electrostatic Fluid electrode density core for 2019 2003 Accelerator producing ion discharge to create air movement and base level filtration
International Patents In November 2004, Kronos received formal notification from the Commonwealth of Australia Patent Office indicating that its application entitled "Electrostatic Fluid Accelerator" has been examined and allowed for issuance as an Australian patent. In December 2005, Kronos received formal notification from the Mexican Institute of Industrial Property indicating that its application entitled "Electrostatic Fluid Accelerator" has been examined and allowed for issuance as a Mexican patent. There are a number of other patent applications corresponding to Kronos' eleven U.S. Patents that have been filed and are pending outside of the United States. Kronos intends to continue to aggressively file patent applications in the U.S. and internationally. A number of additional patent applications have been filed for, among other things, the control and management of electrostatic fluid acceleration. These additional patent applications are either being examined or are awaiting examination by the Patent Office. CRITICAL ACCOUNTING POLICIES Use of Estimates. The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Allowance for Doubtful Accounts. We provide a reserve against our receivables for estimated losses that may result from our customers' inability to pay. These reserves are based on potential uncollectible accounts, aged receivables, historical losses and our customers' credit-worthiness. Should a customer's account become past due, we generally will place a hold on the account and discontinue further shipments and/or services provided to that customer, minimizing further risk of loss. Valuation of Goodwill, Intangible and Other Long Lived Assets. We use assumptions in establishing the carrying value, fair value and estimated lives of our long-lived assets and goodwill. The criteria used for these evaluations include management's estimate of the asset's ability to generate positive income from operations and positive cash flow in future periods compared to the carrying value of the asset, the strategic significance of any identifiable intangible asset in our business objectives, as well as the market capitalization of Kronos. We have used certain key assumptions in building the cash flow projections required for evaluating the recoverability of our intangible assets. We have assumed revenues from the following applications of the Kronos technology: consumer stand-alone devices, assisted care/skilled nursing stand-alone devices, embedded devices in the hospitality industry and in specialized military applications. Expenses/cash out flows in our projections include sales and marketing, production, distribution, general and administrative expenses, research and development expenses and capital expenditures. These expenses are based on management estimates and have been compared with industry norms (relative to sales) to determine their reasonableness. We use the same key assumptions for our cash flow evaluation as we do for internal budgeting, lenders and other third parties; therefore, they are internally and externally consistent with financial statement and other public and private disclosures. We are not aware of any negative implications resulting from the projections used for purposes of evaluating the appropriateness of the carrying value of these assets. If assets are considered to be impaired, the impairment recognized is the amount by which the carrying value of the assets exceeds the fair value of the assets. Useful lives and related amortization or depreciation expense are based on our estimate of the period that the assets will generate revenues or otherwise be used by Kronos. Factors that would influence the likelihood of a material change in our reported results include significant changes in the asset's ability to generate positive cash flow, loss of legal ownership or title to the asset, a significant decline in the economic and competitive environment on which the asset depends, significant changes in our strategic business objectives, and utilization of the asset. 19 Valuation of Deferred Income Taxes. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amount expected to be realized. The likelihood of a material change in our expected realization of these assets is dependent on our ability to generate future taxable income, our ability to deduct tax loss carryforwards against future taxable income, the effectiveness of our tax planning and strategies among the various tax jurisdictions that we operate in, and any significant changes in the tax treatment received on our business combinations. Revenue Recognition. We recognize revenue in accordance with Securities and Exchange Commission Staff Bulletin 104 ("SAB 104"). Further, Kronos Air Technologies recognizes revenue on the sale of custom-designed contract sales under the percentage-of-completion method of accounting in the ratio that costs incurred to date bear to estimated total costs. For uncompleted contracts where costs and estimated profits exceed billings, the net amount is included as an asset in the consolidated balance sheet. For uncompleted contracts where billings exceed costs and estimated profits, the net amount is included as a liability in the consolidated balance sheet. Sales are reported net of applicable cash discounts and allowances for returns. RESULTS OF OPERATIONS Consolidated Statement of Operations For the Six Months December 31, 2006. Our net losses for each of the six months ended December 31, 2006 and 2005 were $1,714,000 and $1,706,000, respectively. The $8,000 or 0.5% increase in the net loss for the six months ended December 31, 2006, as compared to the prior year was principally the result of a $138,000 or 10% increase in operating costs to $1,570,000, partially offset by a $129,000 or a 43% decrease in interest expense to $174,000. Revenue. Revenues are generated through sales of services for design and development of Kronos devices at Kronos Air Technologies, Inc. Revenues for the six months ended December 31, 2006 were $121,000 compared with $38,000 in the prior year, an increase of $83,000 or 224%. Revenues for the six months ended were from our agreements with EOL, GE and DESA. Revenues for the six months ended December 31, 2005 were from fees associated with our prototype development and acquisition agreement with a luxury automotive manufacturer. Cost of Sales. Cost of sales for the six months ended December 31, 2006 was $92,000 compared with $8,000 for the prior year, and increase of $83,000 or 984%. Cost of sales for the six months ended December 31, 2006 was primarily product development costs associated with our EOL, GE and DESA agreements. In comparison, cost of goods sold for the six months ended December 31, 2005 were from fees associated with our prototype development and acquisition agreement with a luxury automotive manufacturer. Selling, General and Administrative Expenses. Selling, General and Administrative expenses for the six months December 31, 2006 increased $138,000 or 10% from the corresponding period of the prior year to $1,570,000. The increase was principally the result of a $183,000 increase in compensation and benefits as a result of an the expansion of the Company's product development resources and an increase in the expense of amortizing stock options that vested during the period and a $74,000 increase in other expenses as a result of an increase in costs associated with developing commercial products, partially offset by a $112,000 decrease in deprecation and amortization as a result of a decrease in the amortization of debt acquisition costs. Interest expense. Interest expenses for the six months ended December 31, 2006 was $174,000 compared to $303,000 for the corresponding period of the prior year. The $129,000 or 43% decrease in interest expense for the six months December 31, 2006, as compared to the prior year, was principally the result of decrease in notes payable to Cornell Capital Partners. Consolidated Balance Sheet as of December 31, 2006 Our total assets at December 31, 2006 were $2,014,000 compared with $2,656,000 at June 30, 2006. Total assets at December 31, 2006 and June 30, 2006 were comprised primarily of $1,847,000 and $1,984,000, respectively, of patents/intellectual property and $54,000 and $598,000, respectively, of cash. Total current assets at December 31, 2006 and June 30, 2006 were $161,000 and $666,000, respectively, while total current liabilities for those same periods were $3,992,000 and $3,225,000, respectively, creating a working capital deficit of $3,831,000 and $2,559,000 at each respective period end. This working capital deficit is primarily due to short term borrowings from Cornell Capital Partners. Stockholders' deficit as of December 31, 2006 was $3,694,000. The $1,714,000 net loss for the six months ended December 31, 2006 was partially offset by the sale and issuance of common stock for cash ($1,050,000) and the issuance of options for services ($115,000). LIQUIDITY AND CAPITAL RESOURCES Historically, we have relied principally on the sale of common stock and secured debt and customer contracts for research and product development to finance our operations. 20 In October 2004, Kronos entered into agreements for up to $20.5 million in equity and equity backed debt financing from Cornell Capital Partners. In October 2004, Kronos sold 5 million unregistered shares of Kronos common stock for gross proceeds of $500,000 to Cornell Capital Partners. Cornell Capital Partners provided $4 million pursuant to two Promissory Notes, which were funded as follows: $2 million upon the filing an SB-2 Registration Statement and $2 million upon the SEC declaring the Registration Statement effective. Kronos executed a Standby Equity Distribution Agreement for $20 million of funding. The Company cannot drawdown any funds under the Standby Equity Distribution Agreement until such time as it files a registration statement registering additional shares and the registration statement is declared effective by the SEC. In May 2006, Kronos completed repayment of the first $2 million promissory note. As of December 31, 2006, Kronos has received $7.3 million in funding under these agreements. In December 2006, Cornell Capital Partners converted and exchanged the second Promissory Note for a convertible debenture issued by Kronos for the outstanding principal and interest owed on the Promissory Note of $1.6 million. The Convertible Debenture is due in full June 13, 2007, bears and interest rate of 12% and under certain limitations is convertible into shares of Kronos common stock at $0.0075 per share. As of December 31, 2006, the Company owed $1.6 million under the Convertible Debenture. Kronos has issued all the shares registered to Cornell Capital Partners under the Company's June 2005 SB-2 Registration Statement. The Company has no plans at this time to register additional shares to Cornell Capital Partners under the terms of the Standby Equity Distribution Agreement. In October 2004, HoMedics agreed to extend repayment of Kronos debt and to provide an additional $1 million in funding. HoMedics has agreed to provide Kronos with an additional $1 million in financing - $925,000 in secured debt financing and $75,000 for the purchase of additional warrants. In December 2005, $175,000 of the $925,000 was funded. The balance of $750,000 was not funded. In addition, quarterly debt payments and the maturity date for existing debt have been extended. Quarterly payments due on the outstanding $2.4 million in secured debt financing, which had been scheduled to begin in August 2004, were due in February 2007. The maturity date of the $2.4 million in debt was extended from May 2008 to October of 2009; the maturity date on the $175,000 was also October 2009. The interest rate was. In February 2007, HoMedics and Kronos executed a Settlement Agreement and General Release allowing Kronos to pay $1,000,000 in exchange for full satisfaction of the $3,130,230 in outstanding principal and interest owed by Kronos to HoMedics, cancellation of the Warrant #3 for 26,507,658 warrants, cancellation of the anti-dilution protection granted to HoMedics in Warrant #3 and the First Amendment to the Master Loan and Investment Agreement, mandatory exercise of Warrants #1 (6,746,171 warrants) and #2 (6,746,171 warrants) if the Kronos stock trades above $0.20 for 20 consecutive trading days, and a selling limitation on any shares of Kronos common stock HoMedics obtains through the exercise of Warrant #1 or #2. Net cash flow used in operating activities was $1.2 million for the six months December 31, 2006. We were able to satisfy most of our cash requirements for this period from the sale of equity to Cornell Capital Partners and our customer agreements with EOL and DESA. We estimate that achievement of our business plan will require substantial additional funding. There are no assurances that funding will be adequate to meet our cash flow needs. GOING CONCERN OPINION The Report of Independent Registered Public Accounting Firm includes an explanatory paragraph to their audit opinions issued in connection with our 2006 and 2005 financial statements that states that we do not have significant cash or other material assets to cover our operating costs. Our ability to obtain additional funding will largely determine our ability to continue in business. Accordingly, there is substantial doubt about our ability to continue as a going concern. Our consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty. We can make no assurance that we will be able to successfully develop, manufacturer and sell commercial products on a broad basis. While attempting to make this transition, we will be subject to all the risks inherent in a growing venture, including, but not limited to, the need to develop and manufacture reliable and effective products, develop marketing expertise and expand our sales force. FACTORS AFFECTING KRONOS' BUSINESS AND PROSPECTS We are subject to various risks which may have a material adverse effect on our business, financial condition and results of operations, and may result in a decline in our stock price. Certain risks are discussed below: We will require significant additional financing to sustain our operations and without it we will not be able to continue operations. 21 At December 31, 2006 and June 30, 2006, we had a working capital deficit of $3.8 million and $2.6 million, respectively. The Report of Independent Registered Public Accounting Firm for the year ended June 30, 2006, includes an explanatory paragraph to their audit opinion stating that our recurring losses from operations and working capital deficiency raise substantial doubt about our ability to continue as a going concern. For the six months ended December 31, 2006 and fiscal year ended June 30, 2006, we had an operating cash flow deficit of $1.2 million and $2.6 million, respectively. We currently do not have sufficient financial resources to fund our operations or pay certain existing obligations or those of our subsidiary. Therefore, we need substantial additional funds to continue these operations and pay certain existing obligations. At December 31, 2006 and June 30, 2006, we had a cash balance of $54,000 and $598,000, respectively. Should the financing we require to sustain our working capital needs be unavailable, or prohibitively expensive when we require it, we would be forced to curtail our business operations. We have a limited operating history with significant losses and expect losses to continue for the foreseeable future. We have only recently begun implementing our plan to prioritize and concentrate our management and financial resources to fully capitalize on our investment in Kronos Air Technologies and have yet to establish any history of profitable operations. We incurred a net loss of $1.7 million for the six months ended December 31, 2006 and a net loss of $4.0 million for the fiscal year ended June 30, 2006. As a result, at December 31, 2006 and June 30, 2006, we had an accumulated deficit of $32.8 million and $31.1 million, respectively. Our revenues and cash flows from operations have not been sufficient to sustain our operations. We have sustained our operations through the issuance of our common stock and the incurrence of debt. We expect that our revenues and cash flows from operations will not be sufficient to sustain our operations for the foreseeable future. Our profitability will require the successful commercialization of our Kronos technologies. No assurances can be given that we will be able to successfully commercialize our Kronos technologies or that we will ever be profitable. Existing stockholders will experience significant dilution from our sale of shares under the Standby Equity Distribution Agreement and any other equity financing. The sale of shares pursuant to the Standby Equity Distribution Agreement (if the Company were to register additional shares under the terms of the Agreement), the exercise of HoMedics stock warrants or any other future equity financing transaction will have a dilutive impact on our stockholders. As a result, our net income per share could decrease in future periods, and the market price of our common stock could decline. In addition, the lower our stock price is, the more shares of common stock we could issue under the Standby Equity Distribution Agreement. If our stock price is lower, then our existing stockholders would experience greater dilution. We cannot predict the actual number of shares of common stock that will be issued pursuant to the Standby Equity Distribution Agreement or any other future equity financing transaction, in part, because the purchase price of the shares will fluctuate based on prevailing market conditions and we do not know the exact amount of funds we will need. The Company cannot drawdown any funds under the Standby Equity Distribution Agreement until such time as it files another registration statement registering additional shares and the registration statement is declared effective by the SEC. Competition in the market for air movement and purification devices may result in the failure of the Kronos products to achieve market acceptance. Kronos presently faces competition from other companies that are developing or that currently sell air movement and purification devices. Many of these competitors have substantially greater financial, research and development, manufacturing, and sales and marketing resources than we do. Many of the products sold by Kronos' competitors already have brand recognition and established positions in the markets that we have targeted for penetration. In the event that the Kronos products do not favorably compete with the products sold by our competitors, we would be forced to curtail our business operations. Our failure to enforce protection of our intellectual property would have a material adverse effect on our business. A significant part of our success depends in part on our ability to obtain and defend our intellectual property, including patent protection for our products and processes, preserve our trade secrets, defend and enforce our rights against infringement and operate without infringing the proprietary rights of third parties, both in the United States and in other countries. Our limited amount of capital impedes our current ability to protect and defend our intellectual property. The validity and breadth of our intellectual property claims in ion wind generation and electrostatic fluid acceleration and control technology involve complex legal and factual questions and, therefore, may be highly uncertain. Despite our efforts to protect our intellectual proprietary rights, existing copyright, trademark and trade secret laws afford only limited protection. Our industry is characterized by frequent intellectual property litigation based on allegations of infringement of intellectual property rights. Although we are not aware of any intellectual property claims against us, we may be a party to litigation in the future. If we are unable to enforce protection of our intellectual property, we could be forced to curtail or cease our business operations. 22 Possible future impairment of intangible assets would have a material adverse effect on our financial condition. Our net intangible assets of approximately $1.8 million as of December 31, 2006 consist principally of purchased patent technology and marketing intangibles, which relate to the acquisition of Kronos Air Technologies, Inc. in March 2000 and to the acquisition of license rights to fuel cell, computer and microprocessor applications of the Kronos technology not included in the original acquisition of Kronos Air Technologies, Inc. in May 2003 and capitalized legal costs for securing patents. Intangible assets comprise 92% of our total assets as of December 31, 2006. Intangible assets are subject to periodic review and consideration for potential impairment of value. Among the factors that could give rise to impairment include a significant adverse change in legal factors or in the business climate, an adverse action or assessment by a regulator, unanticipated competition, a loss of key personnel, and projections or forecasts that demonstrate continuing losses associated with these assets. In the case of our intangible assets, specific factors that could give rise to impairment would be, but are not limited to, an inability to obtain patents, the untimely death or other loss of Dr. Igor Krichtafovitch, the lead inventor of the Kronos technology and Kronos Air Technologies Chief Technology Officer, or the ability to create a customer base for the sale or licensing of the Kronos technology. Should an impairment occur, we would be required to recognize it in our financial statements. A write-down of these intangible assets could have a material adverse impact on our total assets, net worth and results of operations. Our common stock is deemed to be "Penny Stock," subject to special requirements and conditions and may not be a suitable investment. Our common stock is deemed to be "penny stock" as that term is defined in Rule 3a51-1 promulgated under the Securities Exchange Act of 1934. Penny stocks are stocks: - With a price of less than $5.00 per share; - That are not traded on a "recognized" national exchange; - Whose prices are not quoted on the Nasdaq automated quotation system (Nasdaq listed stock must still have a price of not less than $5.00 per share); or - In issuers with net tangible assets less than $2.0 million (if the issuer has been in continuous operation for at least three years) or $5.0 million (if in continuous operation for less than three years), or with average revenues of less than $6.0 million for the last three years. Broker/dealers dealing in penny stocks are required to provide potential investors with a document disclosing the risks of penny stocks. Moreover, broker/dealers are required to determine whether an investment in a penny stock is a suitable investment for a prospective investor. These requirements may reduce the potential market for our common stock by reducing the number of potential investors. This may make it more difficult for investors in our common stock to resell shares to third parties or to otherwise dispose of them. This could cause our stock price to decline. We rely on management and research personnel, the loss of whose services could have a material adverse effect upon our business. We rely principally upon the services of our senior executive management, and certain key employees, including the Kronos research team, the loss of whose services could have a material adverse effect upon our business and prospects. Competition for appropriately qualified personnel is intense. Our ability to attract and retain highly qualified senior management and technical research and development personnel are believed to be an important element of our future success. Our failure to attract and retain such personnel may, among other things, limit the rate at which we can expand operations and achieve profitability. There can be no assurance that we will be able to attract and retain senior management and key employees having competency in those substantive areas deemed important to the successful implementation of our plans to fully capitalize on our investment in the Kronos technology, and the inability to do so or any difficulties encountered by management in establishing effective working relationships among them may adversely affect our business and prospects. Currently, we do not carry key person life insurance for any of our executive management, or key employees. ITEM 3. CONTROLS AND PROCEDURES Evaluation of Disclosure Controls and Procedures. As of the end of the period covered by this report, the Company carried out an evaluation, under the supervision and with the participation of the Company's Principal Executive Officer / Principal Financial Officer of the effectiveness of the design and operation of the Company's disclosure controls and procedures. The Company's disclosure controls and procedures are designed to provide a reasonable level of assurance of achieving the Company's disclosure control objectives. The Company's Principal Executive Officer / Principal Financial Officer has concluded that the Company's disclosure controls and procedures are, in fact, effective at this reasonable assurance level as of the period covered. In addition, the Company reviewed its internal controls, and there have been no significant changes in its internal controls or in other factors that could significantly affect those controls subsequent to the date of evaluation or from the end of the reporting period to the date of this Form 10-QSB. 23 Changes in Internal Controls. In connection with the evaluation of the Company's internal controls during the Company's first fiscal six months December 31, 2006, the Company's Principal Executive Officer / Principal Financial Officer has determined that there are no changes to the Company's internal controls over financial reporting that has materially affected, or is reasonably likely to materially effect, the Company's internal controls over financial reporting during the fiscal six months December 31, 2006, or subsequent to the date of their last evaluation, or from the end of the reporting period to the date of this Form 10-QSB. PART II ITEM 1. LEGAL PROCEEDINGS From time to time the Company may be subject to law suits in the normal course of business. Thompson E. Fehr has filed a complaint in the state of Utah against Kronos with respect to prior services rendered to High Voltage Integrated, Inc. totaling $47,130. The Company believes this complaint is without merit and will rigorously defend itself. ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS During the six months ended December 31, 2006, we issued 50,968,445 shares of Kronos common stock to Cornell Capital Partners under our Standby Equity Distribution Agreement. The proceeds from the issuance of these shares were used for working capital purposes ($555,500) and to repay debt ($494,500). ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 24
ITEM 5. EXHIBITS EXHIBIT NO. DESCRIPTION LOCATION ------------------------------------------------------------------------------------------------- 2.1 Articles of Merger for Technology Incorporated by reference to Selection, Inc. with the Nevada Exhibit 2.1 to the Registrant's Secretary of State Registration Statement on Form S-1 filed on August 7, 2001 (the "Registration Statement") 3.1 Articles of Incorporation Incorporated by reference to Exhibit 3.1 to the Registration Statement on Form S-1 filed on August 7, 2001 3.2 Bylaws Incorporated by reference to Exhibit 3.2 to the Registration Statement on Form S-1 filed on August 7, 2001 4.1 2001 Stock Option Plan Incorporated by reference to Exhibit 4.1 to Registrant's Form 10-Q for the quarterly period ended March 31, 2002 filed on May 15, 2002 10.21 Indemnification Agreement, dated May 1, Incorporated by reference to 2001, by and between TSET, Inc. and Exhibit 10.38 to the Daniel R. Dwight Registration Statement on Form S-1 filed on August 7, 2001 10.22 Indemnification Agreement, dated May 1, Incorporated by reference to 2001, by and between TSET, Inc. and Exhibit 10.39 to the Richard F. Tusing Registration Statement on Form S-1 filed on August 7, 2001 10.23 Employment Agreement, effective Incorporated by reference to February 11, 2001 by and between Exhibit 10.55 to the Registrant's TSET, Inc. and Daniel R. Dwight Form 10-Q for the quarterly period ended March 31, 2002 filed on May 15, 2002 10.24 Master Loan and Investment Incorporated by reference to Agreement, dated May 9, 2003, the Registrant's 8-K filed on by and among Kronos Advanced May 15, 2003 Technologies, Inc., Kronos Air Technologies, Inc. and FKA Distributing Co. d/b/a HoMedics, Inc., a Michigan corporation ("HoMedics") 10.25 Secured Promissory Note, dated Incorporated by reference to May 9, 2003, in the principal Exhibit 99.2 to the Registrant's amount of $2,400,000 payable to 8-K filed on May 15, 2003 HoMedics 10.26 Secured Promissory Note, dated Incorporated by reference to May 9, 2003, in the principal Exhibit 99.4 to the Registrant's amount of $1,000,000 payable to 8-K filed on May 15, 2003 HoMedics 10.27 Security Agreement dated May 9, Incorporated by reference to 2003, by and among Kronos Air Exhibit 99.4 to the Registrant's Technologies, Inc. and HoMedics 8-K filed on May 15, 2003 10.28 Registration Rights Agreement, Incorporated by reference to dated May 9, 2003, by and between Exhibit 99.5 to the Registrant's Kronos and HoMedics 8-K filed on May 15, 2003 10.29 Warrant No. 1 dated May 9, 2003, Incorporated by reference to issued to HoMedics Exhibit 99.7 to the Registrant's 8-K filed on May 15, 2003 10.30 Warrant No. 2 dated May 9, 2003, Incorporated by reference to issued to HoMedics Exhibit 99.7 to the Registrant's 8-K filed on May 15, 2003 2002 10.31 Promissory Note by and among Kronos Incorporated by reference to Advanced Technologies, Inc., and Exhibit 10.67 to the Registrant's Richard A. Papworth Form 10-Q for the quarterly period ended March 31, 2004 filed on May 17, 2004 25 10.32 Promissory Note by and among Kronos Incorporated by reference to Advanced Technologies, Inc., and Exhibit 10.67 to the Registrant's Daniel R. Dwight Form 10-Q for the quarterly period ended March 31, 2004 filed on May 17, 2004 10.33 Promissory Note by and among Kronos Incorporated by reference to Advanced Technologies, Inc., and Exhibit 10.67 to the Registrant's Richard F. Tusing Form 10-Q for the quarterly period ended March 31, 2004 filed on May 17, 2004 10.34 Promissory Note by and among Kronos Incorporated by reference to Advanced Technologies, Inc., and Exhibit 10.67 to the Registrant's Igor Krichtafovitch Form 10-Q for the quarterly period ended March 31, 2004 filed on May 17, 2004 10.35 Promissory Note by and among Kronos Incorporated by reference to Advanced Technologies, Inc., and Exhibit 10.67 to the Registrant's J. Alexander Chriss Form 10-Q for the quarterly period ended March 31, 2004 filed on May 17, 2004 10.36 Securities Purchase Agreement, dated Incorporated by reference to October 15, 2004, by and between Kronos Exhibit 99.5 to the Registrant's Advanced Technologies, Inc. and Cornell Form 8-K filed on November 12, 2004 Capital Partners, LP 10.37 Investor Registration Rights Agreement, Incorporated by reference to dated October 15, 2004, by and between Exhibit 99.6 to the Registrant's Kronos Advanced Technologies, Inc. and Form 8-K filed on November 12, 2004 Cornell Capital Partners, LP 10.38 Escrow Agreement, dated October 15, 2004, Incorporated by reference to by and between Kronos Advanced Exhibit 99.7 to the Registrant's Technologies, Inc. and Cornell Capital Form 8-K filed on November 12, 2004 Partners, LP 10.39 Amended and Restated Warrant No. 1, Incorporated by reference to dated October 25, 2004, issued to FKA Exhibit 99.11 to the Registrant's Distributing Co. d/b/a HoMedics, Inc. Form 8-K filed on November 12, 2004 10.40 Amended and Restated Warrant No. 2, Incorporated by reference to dated October 25, 2004, issued to FKA Exhibit 99.12 to the Registrant's Distributing Co. d/b/a HoMedics, Inc. Form 8-K filed on November 12, 2004 10.41 Warrant No. 3, dated October 25, 2004, Incorporated by reference to issued to FKA Distributing Co. d/b/a Exhibit 99.13 to the Registrant's HoMedics, Inc. 10.42 Amended and Restated Registration Rights Incorporated by reference to Agreement, dated October 25, 2004, by Exhibit 99.14 to the Registrant's And between Kronos Advanced Form 8-K filed on November 12, 2004 Technologies Inc., a Nevada corporation and FKA Distributing Co. d/b/a HoMedics, a Michigan corporation 10.43 Termination Agreement dated March 28, Incorporated by reference to 2005, by and between Kronos Advanced Exhibit 10.63 to the Registrant's Technologies, Inc. and Cornell Capital Form SB-2 filed on April 19, 2005 Partners, LP 10.44 Standby Equity Distribution Agreement, Incorporated by reference to dated April 13, 2005, by and between Exhibit 10.64 to the Registrant's Kronos Advanced Technologies, Inc. and Form SB-2 filed on April 19, 2005 Cornell Capital Partners, LP 10.45 Registration Rights Agreement, dated Incorporated by reference to April 13, 2005, by and between Kronos Exhibit 10.65 to the Registrant's Advanced Technologies, Inc. and Cornell Form SB-2 filed on April 19, 2005 Capital Partners, LP 10.46 Escrow Agreement, dated April 13, 2005, Incorporated by reference to by and between Kronos Advanced Exhibit 10.66 to the Registrant's Technologies, Inc. and Cornell Capital Form SB-2 filed on April 19, 2005 Partners, LP 10.47 Placement Agent Agreement, dated April Incorporated by reference to 13, 2005, by and between Kronos Advanced Exhibit 10.67 to the Registrant's Technologies, Inc. and Cornell Capital Form SB-2 filed on April 19, 2005 Partners, LP 26 10.48 Form of Equity-Back Promissory Note in Incorporated by reference to the principal amount of $2,000,000 dated Exhibit 10.68 to the Registrant's March 7, 2005 between Kronos Advanced Form SB-2 filed on April 19, 2005 Technologies, Inc. and Cornell Capital Partners, LP 10.49 Form of Equity-Back Promissory Note in Incorporated by reference to the principal amount of $2,000,000 dated Exhibit 10.59 to the Registrant's June 22, 2005 between Kronos Advanced Form 10-KSB filed on September Technologies, Inc. and Cornell Capital 28, 2005 Partners, LP 31.1 Certification of Chief Executive Provided herewith Officer pursuant to 15 U.S.C. Section 7241, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 31.2 Certification of Principal Financial Provided herewith Officer pursuant to U.S.C. Section 7241, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 32 Certification by Chief Executive Officer Provided herewith and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
27 Signatures 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. DATED: February 16, 2007 KRONOS ADVANCED TECHNOLOGIES, INC. By: /s/ DANIEL R. DWIGHT ---------------------- Daniel R. Dwight President and Chief Executive Officer By: /s/ DANIEL R. DWIGHT ------------------------ Daniel R. Dwight Chief Financial Officer 28