RESEARCH FRONTIERS INC quarterly report, Q3 FY2011

Research Frontiers Incorporated — 2011 Q3 Form 10-Q Summary

Business Context and Reporting Period

Research Frontiers develops and licenses suspended particle device technology that controls the flow of light through glass and plastic. Applications include automotive, architectural, aerospace, marine, eyewear, appliance, and electronic products. The company operates as a single business segment and primarily earns licensing and royalty fee income.

This unaudited quarterly report covers the three and nine months ended September 30, 2011, compared with the corresponding 2010 periods. The company had 18,544,355 common shares outstanding as of November 10, 2011.

Financial Performance and Key Metrics

Metric	Nine Months 2011	Nine Months 2010	Three Months 2011	Three Months 2010
Fee income	$492,048	$425,942	$207,200	$137,702
Operating expenses	$2,741,042	$2,476,490	$678,640	$585,506
Research and development	$1,080,020	$1,099,693	$340,960	$305,532
Operating loss	$(3,329,014)	$(3,150,241)	$(812,400)	$(753,336)
Net loss	$(3,310,243)	$(3,138,810)	$(801,840)	$(749,391)
Basic and diluted loss per share	$(0.18)	$(0.18)	$(0.04)	$(0.04)

Nine-month fee income increased approximately 16% year over year; third-quarter fee income increased approximately 50%. The increases were primarily attributed to higher automotive product sales by a licensee exceeding its minimum annual royalty.
The operating margin was approximately negative 677% for the nine-month period and negative 392% for the quarter. The net margin was approximately negative 673% and negative 387%, respectively.
Net cash used in operating activities was $2,299,247 for the first nine months of 2011, compared with $2,324,868 in 2010.
Cash and cash equivalents were $2,715,548 at September 30, 2011, compared with $6,957,544 at December 31, 2010. The company also held $2,000,000 of held-to-maturity certificates of deposit.
Working capital was $4,812,511 and shareholders’ equity was $4,924,013 at September 30, 2011.
Total liabilities were $332,448, consisting of current liabilities. The filing does not report conventional debt outstanding.
Stock-based compensation charged to operations was $695,827 for the first nine months and $104,500 for the third quarter. Remaining unamortized compensation cost was $565,621 at September 30, 2011.

Material Changes Versus the Prior Comparable Period

Fee income increased by $66,106 for the first nine months and by $69,498 for the third quarter, reflecting increased automotive licensee sales.
Operating expenses increased by $264,552 for the first nine months and by $93,134 for the third quarter. Nine-month increases primarily reflected higher director fees, patent costs, and insurance costs.
Research and development expense decreased by $19,673 for the first nine months but increased by $35,428 for the third quarter.
The nine-month net loss increased by $171,433, while the quarterly net loss increased by $52,449.
Cash declined by $4,241,996 during the first nine months, primarily because of operating cash usage and the purchase of $2,000,000 of short-term investments.
The company received $65,977 from exercises of outstanding options and warrants during the first nine months. No comparable equity issuance proceeds were reported in 2011; in 2010, the company received $4,537,574 from common-stock issuance.
Shares outstanding increased from 18,281,973 at December 31, 2010 to 18,544,355 at September 30, 2011.

Guidance, Outlook, Risks, Contingencies, and Unusual Items

Research Frontiers expects to receive additional royalty payments beginning in the fourth quarter of 2011 from Daimler’s Magic Sky Control option for the Mercedes-Benz SLK Roadster, to the extent payments exceed contractual minimum annual royalties payable by licensee Pilkington.
Management stated that, based on existing cash expenditures, cash reserves, and budgeted revenues, the company did not expect to require additional funding until the third quarter of 2013. This expectation depends on spending, revenue, commercialization, licensee performance, and financing availability.
Management cautioned that additional financing may be required earlier than anticipated and may not be available on acceptable terms. Positive cash flow depends on commercialization of products using the company’s technology and continuing royalty payments.
Five licensees represented approximately 26%, 15%, 14%, 10%, and 8% of nine-month 2011 fee income, indicating significant licensee and customer concentration.
The company holds a senior secured convertible note from SPD Control Systems with $150,000 of principal and $57,670 of accrued interest outstanding at September 30, 2011. The note matures May 9, 2012 and is secured by SPD Control Systems’ assets and intellectual property.
The company records a full valuation allowance against deferred tax benefits because of uncertainty regarding future realization.
The filing states that interim results are not necessarily indicative of full-year results. It also identifies forward-looking statements as subject to risks and uncertainties.
Management concluded that disclosure controls and procedures were effective as of September 30, 2011, and reported no material changes in internal control over financial reporting.
The statement of operations reports nine-month net investment income of $18,771, while the MD&A discussion states $18,711. The filing text does not provide a clear explanation for this difference.

Important Facts for Investors to Verify

Whether Daimler and other automotive deployments generate royalty revenue above contractual minimums and on the expected timing.
The sustainability and concentration of fee income, including dependence on a limited number of licensees.
Cash-burn trends and whether the stated funding runway to the third quarter of 2013 remains realistic.
The collectability and ultimate conversion or repayment of the SPD Control Systems note and accrued interest.
The extent to which stock-based compensation, director fees, patent costs, and other non-cash or discretionary expenses affect future losses.
Whether commercialization of SPD technology produces sufficient recurring royalties to offset ongoing operating and research expenditures.