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XGTI > SEC Filings for XGTI > Form 10-Q on 14-Nov-2013All Recent SEC Filings

Show all filings for XG TECHNOLOGY, INC.

Form 10-Q for XG TECHNOLOGY, INC.


14-Nov-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.

Cautionary Notice Regarding Forward Looking Statements

The information contained in Item 2 contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, (the "Securities Act") and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). Actual results may materially differ from those projected in the forward-looking statements as a result of certain risks and uncertainties set forth in this report. Although management believes that the assumptions made and expectations reflected in the forward-looking statements are reasonable, there is no assurance that the underlying assumptions will, in fact, prove to be correct or that actual results will not be different from expectations expressed in this report.

This filing contains a number of forward-looking statements which reflect management's current views and expectations with respect to our business, strategies, products, future results and events, and financial performance. All statements made in this filing other than statements of historical fact, including statements addressing operating performance, events, or developments which management expects or anticipates will or may occur in the future, including statements related to distributor channels, volume growth, revenues, profitability, new products, adequacy of funds from operations, statements expressing general optimism about future operating results, and non-historical information, are forward looking statements. In particular, the words "believe," "expect," "intend," "anticipate," "estimate," "may," variations of such words, and similar expressions identify forward-looking statements, but are not the exclusive means of identifying such statements, and their absence does not mean that the statement is not forward-looking. These forward-looking statements are subject to certain risks and uncertainties, including those discussed below. Our actual results, performance or achievements could differ materially from historical results as well as those expressed in, anticipated, or implied by these forward-looking statements. We do not undertake any obligation to revise these forward-looking statements to reflect any future events or circumstances.

Readers should not place undue reliance on these forward-looking statements, which are based on management's current expectations and projections about future events, are not guarantees of future performance, are subject to risks, uncertainties and assumptions (including those described below), and apply only as of the date of this filing. Our actual results, performance or achievements could differ materially from the results expressed in, or implied by, these forward-looking statements. Factors which could cause or contribute to such differences include, but are not limited to, the risks to be discussed in our initial Registration Statement on Form S-1, declared effective by the Securities and Exchange Commission on July 18, 2013 ("Form S-1"), and in the press releases and other communications to shareholders issued by us from time to time which attempt to advise interested parties of the risks and factors which may affect our business. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise.

The share numbers in the following discussion reflect a 1-for-25 reverse stock split that we effected March 24, 2013 as well as the 1-for-1.4 reverse stock split that we effected March 28, 2013.

Overview

xG Technology, Inc. ("xG", the "Company", "we", "our", "us") has developed a broad portfolio of innovative intellectual property that we believe will enhance wireless communications. Our intellectual property is embedded in proprietary software algorithms that offer cognitive interference mitigation and spectrum access solutions.

Our strategy is initially to commercialize our intellectual property portfolio by developing and selling network equipment using our proprietary software algorithms to offer cognitive interference mitigation and spectrum access solutions. In the future, our strategy is for our intellectual property to be embedded by partners in a semiconductor chip that could be sold to third party equipment manufacturers and inserted in their devices and to license our intellectual property to other customers in vertical markets world-wide. Our technology roadmap currently projects this transition to begin in 2015.

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The implementation of our cognitive radio intellectual property is xMax. We believe the xMax system, represents the only commercially available cognitive radio network system that is designed to include interference mitigation by spatial processing. xMax implements our proprietary interference mitigation software that can increase capacity on already crowded airwaves by improving interference tolerance, enabling the delivery of a comparatively high Quality of Service where other technologies would not be able to cope with the interference.

We believe that the xMax system will also, when in a future development operating on more than one radio channel, deliver dynamic spectrum access by scanning and finding unused or underused frequencies (unlicensed as well as licensed) and dynamically tuning to them, significantly increasing their usable capacity.

Our system is frequency agnostic although currently designed to operate within the 902 - 928 MHz license-free band. xMax is intended to serve as a mobile voice over internet protocol ("VoIP") and broadband data system that utilizes an end-to-end Internet Protocol ("IP") system architecture. The xMax product and service suite includes a line of access points, network bridges, mobile switching centers, network management systems, deployment tools, and customer support. The xMax system will allow mobile operators to utilize free, unlicensed 902 - 928 MHz ISM band spectrum (which spectrum is available in most of the Americas) instead of purchasing scarce expensive licensed spectrum. Our xMax system will also enable enterprises to set up a mobile communications network in an expeditious and cost effective manner. In addition, we believe that our xMax cognitive radio technology can also be used to provide additional capacity to licensed spectrum by identifying and utilizing unused bandwidth within the licensed spectrum.

Plan of Operations

We are executing on our sales and marketing strategy and have entered into agreements both direct with end-customers as well as with indirect channel network partners. These customer engagements primarily relate to two of our target markets in rural telecommunications and defense. Together, they comprise commitments to purchase xMax cognitive radio networking equipment, engineering services and other hardware worth approximately $35.4 million.

As of September 30, 2013, the new product line that can handle both voice and data services became available. These new products are called xAP (base station), xMod and xVM. The latter two are able to communicate to any commercial off the shelf device.

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Results of Operations

Comparison for the three and nine months ended September 30, 2013 and 2012

Revenues

Revenues for the three and nine months ended September 30, 2013, were $33,000 and $33,000, respectively, representing an increase of $33,000 and $33,000, respectively, from $0 and $0 in the corresponding periods in 2012. The revenue of $33,000 resulted from a service based consulting agreement with one of our customers during the three months ended September 30, 2013.

Cost of Revenue and Operating Expenses

Cost of Components and Personnel
Cost of components and personnel for the three and nine months ended September 30, 2013, were $1,000 and $1,000, representing an increase of $1,000 and $1,000, respectively, from $0 and $0 in the corresponding periods in 2012. Cost of components and personnel of $1,000 is based on the cost of the time allocated towards the consulting agreement during the three months ended September 30, 2013.

General and Administrative Expenses
General and administrative expenses are the expenses of operating the business on a daily basis and include salary and benefit expenses and payroll taxes, as well as the costs of trade shows, marketing programs, promotional materials, professional services, facilities, general liability insurance, and travel. For the three and nine months ended September 30, 2013, the Company incurred aggregate expense of $1.9 million and $4.4 million, respectively, compared to $1.3 million and $3.9 million, respectively, for the three and nine months ended September 30, 2012, representing an increase of $0.6 million or 53% for the three months and an increase of $0.5 million or 14% for the nine months. The increase is due to an increase in consulting fees associated with the Company's listing on NASDAQ.

Development Expenses
Development expenses consist primarily of salary and benefit expenses and payroll taxes, as well as costs for prototypes, facilities and travel. Development expenses increased $0.6 million, or 53%, from $1.2 million in the three months ended September 30, 2012 to $1.8 million in the three months ended September 30, 2013. Development expenses increased $1.7 million or 56%, from $3.1 million in the nine months ended September 30, 2012 to $4.8 million in the nine months ended September 30, 2013. The increases are due to additional costs related to producing and testing equipment as the Company's products became available for sale on September 30, 2013.

Stock Based Compensation
Stock based compensation increased $0.05 million, from $0.15 million in the three months ended September 30, 2012 to $0.2 million in the three months ended September 30, 2013. Stock based compensation increased $0.28 million, from $0.26 million in the nine months ended September 30, 2012 to $0.54 million in the nine months ended September 30, 2013. The increase arose from the increase in the number of employees and directors of the Company who received option grants in fiscal 2013.

Amortization and Depreciation
Amortization and depreciation expenses decreased $0.1 million, or 14%, from $0.5 million in the three months ended September 30, 2012 to $0.4 million in the three months ended September 30, 2013, and $0.2 million, or 15% from $1.5 million in the nine months ended September 30, 2012 to $1.3 million in the nine months ended September 30, 2013. The decrease was primarily due to the decrease in the depreciation of our property and equipment as a portion of our assets became fully depreciated during 2013.

Other
Inducement expense for the three months ended September 30, 2013 was $0.4 million compared to $0.0 million for the three months ended September 30, 2012, an increase of $0.4 million. Inducement expense for the nine months ended September 30, 2013 was $0.4 million compared to $0.0 million for the nine months ended September 30, 2012, an increase of $0.4 million. The increase was due to the warrants given to non-related parties in relation with the conversion of the Bridge Loan.

Interest expense for the three months ended September 30, 2013 was $1.1 million compared to $0.2 million for the three months ended September 30, 2012, an increase of $0.9 million or 654%. Interest expense for the nine months ended September 30, 2013 was $2.2 million compared to $0.3 million for the nine months ended September 30, 2012, an increase of $1.9 million or 531%. The increase was due to the higher interest and fees incurred on the Bridge Loan for 2013 compared to the May 2011 Convertible note in 2012; the fee was amortized over a shorter period of one year based on the contractual obligation of the Bridge Loan; $0.4 million from the accretion of the debt discount recorded as interest expense; and $0.6 million in interest expense resulted from the Bridge Loan being convertible into new shares at 95% of the price of any future equity financing due to the difference between the IPO price of $5.50 and $5.225 in 2013.

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Other expense for the three and nine months ended September 30, 2013, was $10.1 million and $10.1 million, respectively, representing an increase of $10.1 million and $10.1 million, respectively, from $0 and $0 in the corresponding periods in 2012. The increase of $10.1 million is a result of the independent directors of the Company authorizing a onetime agreement on September30, 2013, whereby we issued to MBTH 1,599,453 shares of our common stock and a warrant to purchase 1,363,636 shares of our common stock at an exercise price of $6.87 per share for the difference in price between the shares issued to them in March 2013 at a price of $13.30 per share in exchange for the conversion of its 2011 Convertible Note and the $5.50 purchase price for shares sold in our initial public offering in July 2013. Additionally, the Modified Strike Price, agreed upon between the Company and MBTH in January 2013, of $13.30 per share for the two options representing 571,428 underlying shares granted to MBTH in February 2011 has been lowered to $5.50.

Net Loss

For the three months and nine months ended September 30, 2013, the Company had a net loss of $15.9 million and $23.7 million, respectively, as compared to a net loss of $3.2 million and $9.1 million for the three and nine months ended September 30, 2012, or an increase of $12.7 million and $14.6 million, respectively. The increase in net loss is due mainly to the increase in development expenses, interest expenses and other expenses discussed above.

Liquidity and Capital Resources

Our operations primarily have been funded through cash generated by financing. During the first nine months 2013, the Company relied upon additional investment through proceeds from the IPO, Bridge Loan and convertible notes payable.

To date, we have financed our operations primarily through the sale of equity and convertible debt. As of September 30, 2013, the Company has negative working capital of approximately $2.6 million and $2.6 million of cash and cash equivalents.

We have incurred net losses of $15.9 million and $3.3 million in the three months ended September 30, 2013 and 2012, respectively. Additionally, we have incurred negative operating cash flows including cash used in operations of $8.2 million and $4.2 million in the nine months ended September 30, 2013 and 2012, respectively.

Our future capital requirements may vary materially from those currently planned and will depend on many factors, including our rate of revenue growth, the timing and extent of spending to support development efforts, the timing of new product introductions, market acceptance of our products and overall economic conditions. The Company does not currently have sufficient capital in order to achieve cash flow breakeven. Therefore, the Company is actively evaluating various alternatives of financing in order to obtain additional capital to allow the Company to deliver its products and fulfill its current backlog.

Please see Note 11 - Subsequent Events in our financial statements for a discussion of our recent activities related to our efforts to raise additional capital subsequent to September 30, 2013.

Initial Public Offering

On July 24, 2013, the Company closed its initial public offering of 1,337,792 shares of common stock, par value $0.00001 per share, and 668,896 warrants to purchase 668,896 shares of common stock, at a purchase price to the public of $5.50 per share and $0.01 per warrant, for net proceeds to the Company, after deducting underwriter discounts and offering expenses, of $6,750,673. The warrant is to purchase 1 share of our common stock and will have an exercise price of $6.87 per share. The warrants are exercisable immediately and will expire five years from the date of issuance. The Company intends to use the offering for working capital and general corporate purposes. Feltl and Company and Aegis Capital Corp acted as joint underwriters for the offering.

Over-allotment Option

On August 19, 2013, the underwriters exercised in full their over-allotment option to purchase an additional 200,668 shares of common stock and 100,334 warrants to purchase 100,334 shares of common stock with an exercise price of $6.87, at a purchase price to the public of $5.50 per share and $0.01 per warrant, for net proceeds to the Company, after deducting underwriter discounts, of $1,027,349.

Bridge Loan

On August 7, 2013, the Company repaid $125,000 to a non-related investor for investment into the Bridge Loan.

During the first nine months of 2013, the Company drew down $5.0 million under the Bridge Loan. On August 22, 2013, the Company refinanced approximately $1,013,000 of liabilities previously paid by MBTH during 2013 on behalf of the Company through the Bridge Loan and incurred an origination fee of approximately $50,000. The Company received notification from MBTH of its intent to convert the principal balance and accrued fees.

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On August 22, 2013, the Company issued 2,187,529 common shares for the conversion of the balance of approximately $11,429,000 in principal and accrued interest and fees at a price per share of $5.225. Because the Bridge Loan was convertible into new shares at 95% of the price of any future equity financing, the Company recorded a charge of $0.6 million in interest expense during the three months September 30, 2013, due to the difference between the IPO price of $5.50 and $5.225. Additionally, the Company issued warrants to purchase 1,093,778 underlying shares as additional consideration to the investors who exercised their conversion option. The warrants vested immediately and are exercisable into common shares at an exercise price of $6.87 and have a term of five years from the date of issuance. The issuance of the warrants is considered an inducement to convert the Bridge Loan balance as the warrants were issued in addition to the common shares contractually required by the Bridge Loan Agreement. The Bridge Loan balance and accrued interest and fees was $0 as of September 30, 2013.

Convertible Notes Payable

During the first nine months of 2013, the Company drew down $450,000 under the convertible notes payable to related party, compared to $7.5 million during the first nine months of 2012.

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Cash Flows

The following table sets forth the major components of our statements of cash flows data for the periods presented.

                        For the Nine Month Period Ended
                                 (In Thousands)

                                 September 30,     September 30,
                                     2013              2012
Cash flows used in Operations   $       (8,241)   $       (4,233)

Investing Activities            $       (2,569)   $       (3,674)

Financing Activities            $        13,097   $         7,920

Cash at end of period           $         2,558   $           146

Operating Activities

Net cash used in operating activities for the nine months ended September 30, 2013 totaled $8.2 million as compared to $4.3 million for the nine months ended September 30, 2012. The cash used in operating activities consisted principally of the net loss from operations.

Investing Activities

Net cash used in investing activities for the nine months ended September 30, 2013 was $2.6 million as compared to $3.7 million for the nine months ended September 30, 2012. The represents capital expenditures primarily associated with the investment in product and technology development and our patent portfolio.

Financing Activities

Our net cash provided by financing activities for the nine months ended September 30, 2013 was $13.1 million as compared to $7.9 million for the nine months ended September 30, 2012, which primarily consisted of proceeds from further advances under convertible promissory notes issued by the Company and proceeds from issuance of common stock. The Company raised $7.8 million through the IPO and IPO over allotment, drew down $5.0 million under the Bridge Loan and $0.5 million under the convertible notes payable to related party during the first nine months of 2013. Also MBTH converted their promissory note of $15 million and issued additional proceeds of $5.4 million under the Bridge Loan during the first nine months of 2013.

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Off-Balance Sheet Arrangements

We do not currently have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to our stockholders.

Our Company has not entered into any transaction, agreement or other contractual arrangement with an entity unconsolidated with us under which we have:

o an obligation under a guarantee contract, although we do have obligations under certain sales arrangements including purchase obligations to vendors;

o a retained or contingent interest in assets transferred to the unconsolidated entity or similar arrangement that serves as credit, liquidity or market risk support to such entity for such assets;
o any obligation, including a contingent obligation, under a contract that would be accounted for as a derivative instrument; or
o any obligation, including a contingent obligation, arising out of a variable interest in an unconsolidated entity that is held by us and material to us where such entity provides financing, liquidity, market risk or credit risk support to, or engages in leasing, hedging or research and development services with us.

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