Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2021
OR
For the transition period from to
COMMISSION FILE NUMBER 001-39608
INTRUSION INC.
(Exact name of registrant as specified in its charter)
(Address of principal executive offices) (Zip Code)
Registrant’s telephone number, including
area code: (972)234-6400
Securities registered pursuant to Section 12(b)
of the Act:
Title of each class Trading Symbol Name of each exchange on which registered
Common Stock, par value $0.01 per share INTZ Nasdaq Capital Market
Securities registered pursuant to Section 12(g) of
the Act:
Common Stock, $0.01 par value
(Title of class)
Indicate by check mark if the registrant is a
well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes ☐ No ☒
Indicate by check mark if the registrant is not
required to file reports pursuant to Section 13 or 15(d) of the Exchange Act.
Yes ☐ No ☒
Indicate by check mark whether the registrant
(1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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.
Yes ☒ No ☐
Indicate by check mark whether the registrant
has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding
12 months (or for such shorter period that the registrant was required to submit such files).
Yes ☒ No ☐
Indicate by check mark whether the registrant
is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company.
See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,”
and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☐ Accelerated filer ☐
Non-accelerated filer ☒ Smaller reporting company ☒
Emerging growth company ☐
If an emerging growth company, indicate by check
mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting
standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant
has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial
reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or
issued its audit report. Yes ☐ No ☒
Indicate by check mark whether the registrant
is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ☐ No ☒
State the aggregate market value of the voting
and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the
average bid and asked price of such common equity, as of June 30, 2021: $248,751,286.
As of March 9, 2022, 19,183,776 shares of the
issuer’s Common Stock were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant’s definitive
Proxy Statement filed in connection with the Registrant’s 2022 Annual Meeting of Stockholders are incorporated by reference into
Part III of this Annual Report on Form 10-K.
INTRUSION INC.
INDEX
PART I
Item 1. Business 1
Item 1A. Risk Factors 5
Item 2. Properties 12
Item 3. Legal Proceedings 13
PART II
Item 8. Financial Statements for years ended December 31, 2021 and 2020 23
Item 9A. Controls and Procedures 23
PART III
Item 10. Directors, Executive Officers and Corporate Governance 25
Item 11. Executive Compensation 25
Item 14. Principal Accounting Fees and Services 25
PART IV
Item 15. Exhibits and Financial Statement Schedules 26
Signatures 29
i
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
This Annual Report on Form 10-K 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"), which statements involve substantial risks and uncertainties.
All statements other than statements of historical facts contained in this Annual Report on Form 10-K, including statements regarding
our financial position; our ability to continue our business as a going concern; our business, sales, and marketing strategies and plans;
our ability to successfully market, sell, and deliver our INTRUSION Shield commercial product and solutions to an expanding
customer base; are forward-looking statements. In some cases, you can identify forward-looking statements because they contain words such
as "anticipate," "believe," "contemplate," "continue," "could," "estimate,"
"expect," "intend," "may," "plan," "potential," "predict," "project,"
"should," "target," "will," or "would" or the negative of these words or other similar terms or
expressions. Forward-looking statements contained in this Annual Report on Form 10-K include, but are not limited to, such statements.
You should not rely on forward-looking statements
as predictions of future events. We have based the forward-looking statements contained in this Annual Report on Form 10-K primarily on
our current expectations and projections about future events and trends that we believe may affect our business, financial condition,
and operating results. The outcome of the events described in these forward-looking statements is subject to risks, uncertainties, and
other factors described in the section titled "Risk Factors" and elsewhere in this Annual Report on Form 10-K.
In addition, statements that "we believe"
and similar statements reflect our beliefs and opinions on the relevant subject. These statements are based on information available to
us as of the date of this Annual Report on Form 10-K. While we believe that such information provides a reasonable basis for these statements,
that information may be limited or incomplete. Our statements should not be read to indicate that we have conducted an exhaustive inquiry
into, or review of, all relevant information. These statements are inherently uncertain, and investors are cautioned not to unduly rely
on these statements.
The forward-looking statements made in this Annual
Report on Form 10-K relate only to events as of the date on which the statements are made. We undertake no obligation to update any forward-looking
statements made in this Annual Report on Form 10-K to reflect events or circumstances after the date of this Annual Report on Form 10-K
or to reflect new information or the occurrence of unanticipated events, except as required by law.
ii
PART I
Item 1.Description of Business.
Our Corporate Information
We were organized in Texas in September 1983
and reincorporated in Delaware in October 1995. Our principal executive offices are located at 101 East Park Boulevard, Suite 1200,
Plano, Texas 75074, and our telephone number is (972) 234-6400. Our website URL is www.intrusion.com. We post the following filings
in the “Investors” section of our website as soon as reasonably practicable after they are electronically filed with or
furnished to the Securities and Exchange Commission: our Annual Reports on Form 10-K; our quarterly reports in Form 10-Q; our
current reports on Form 8-K; and any amendments to those reports or statements filed or furnished pursuant to Section 13(a) or 15(d)
of the Exchange Act. All such filings on our website are available free of charge. Additionally, filings are available on the
Securities and Exchange Commission’s website (www.sec.gov). In this report, references to the “Company”,
“we”, “us”, “our”, “Intrusion” or “Intrusion Inc.” refer to Intrusion
Inc. and its subsidiaries. TraceCop and Savant are registered trademarks of the Company. We have also
applied for trademark protection for INTRUSION Shield.
Our Business
Intrusion, Inc. is a cybersecurity company
based in Plano, Texas. The company offers its customers access to our exclusive threat intelligence database containing the
historical data, known associations, and reputational behavior of over 8.5 billion IP addresses. After years of gathering global
internet intelligence and working exclusively with government entities, the company released its first commercial product in 2021. INTRUSION Shield
was designed to allow businesses to incorporate a Zero Trust, reputation-based security solution into their
existing infrastructure. INTRUSION Shield observes traffic flow and instantly blocks known malicious or unknown
connections from both entering or exiting a network, making it an ideal solution for protecting against Zero-Day and ransomware
attacks. Incorporating INTRUSION Shield into a network can elevate an organization's overall security posture by
enhancing the performance and decision-making of other solutions in its cybersecurity architecture.
Our Solutions
INTRUSION ShieldTM
INTRUSION Shield, our newest cybersecurity
solution is a reputation-based Security-as-a-Service (“SaaS”) solution that inspects and kills dangerous network (in and outbound)
connections. What makes our approach unique is that INTRUSION Shield evaluates every packet and analyzes the IP addresses
(source and destination), as well as domain information and the ports utilized and combined with other threat intelligence data reports
and blocks malicious connections. Many breaches today are caused by Zero day and malware free compromises that may not trigger alarms
in a traditional firewall or endpoint solution. INTRUSION Shield’s capabilities are designed to continuously
evolve as the threats and landscape change over time. Unlike traditional industry approaches that rely heavily on signatures, complex
rules, and human factors mitigation, which malicious actors and nation states have learned to bypass, INTRUSION Shield’s
proprietary architecture isolates and neutralizes malicious traffic and network flows that existing solutions are ill equipped to handle.
We are in development to expand our family of INTRUSION Shield product offerings, including a hardware-less, cloud-based
product, which is on schedule for rollout out in the second half of 2022.
INTRUSION TraceCop®
INTRUSION TraceCop is a
big data tool with extensive IP intelligence canvassing the entire Internet. It contains what we believe to be the largest existing
repository of reputation information on known good and known bad active IP addresses (both IPv4 and IPv6). TraceCop
contains an inventory of network selectors and enrichments useful to support forensic investigations. The data
contains a history of IPv4 and IPv6 block allocations and transfers, historical mappings of IP addresses to Autonomous Systems
(ASNs) as observed through BGP, and approximately one billion historically registered domain names and registration context. TraceCop
contains tens of billions of historic DNS resolutions of Fully Qualified Domain Names (FQDNs or hostnames) on each of these domains.
Together, this shows relationships, hosting, and attribution for Internet resources. TraceCopalso
contains web server surveys of content, such as natural language and topic of the content on hundreds of millions of websites and
servers and OS fingerprints of services showing applications running on a given IP address. TraceCopalso
contains a history of threat and reputation for each hostname and IP address over time. All this makes it a very effective network
forensics and cybersecurity analysis tool.
INTRUSION Savant®
INTRUSION Savant is a network monitoring
solution that leverages the rich data available in TraceCop to identify suspicious traffic in real-time. Savant
uses several original patents to uniquely characterize and record all network flows. Savant is a network reconnaissance
and attack analysis tool used by forensic analysts in the DoD, Federal Government and corporations with in-house threat research teams.
For example, Savant users can create various automated rules to inspect packets matching (or not) certain criteria such
as creating a rule to ensure the Source MAC address field in the Ethernet header and Source IP address from the IP header are always the
same, failing which could indicate MAC or IP Spoofing in progress. Similarly, threat investigators can create rules using regular expressions
to analyze multiple fields in the packet headers.
Our Intellectual Property and Licenses
Our success and our ability to compete are primarily
dependent, upon our proprietary technology. We principally rely on a combination of contractual rights, trade secrets and copyright laws
to establish and protect our proprietary rights in our solutions. In addition, we have received two patents, and we have applied for patents
for our INTRUSION Shield family of solutions. We have also entered into non-disclosure agreements with our suppliers, resellers,
and certain customers to limit access to and disclosure of proprietary information. There can be no assurance that the steps taken by
us to protect our intellectual property will be adequate to prevent misappropriation of our technology or that our competitors will not
independently develop technologies that are substantially equivalent or superior to our technology, although it would be extremely difficult
to replicate the proprietary and comprehensive internet databases we have developed over the past 24 years.
We have entered into software and solution license
agreements with various suppliers. These license agreements provide us with additional software and hardware components that add value
to our cybersecurity solutions. These license agreements do not provide proprietary rights that are unique or exclusive to us and are
generally available to other parties on the same or similar terms and conditions, subject to payment of applicable license fees and royalties.
We do not consider any of the solution license, software or supplier agreements to be material to our business, instead, they are complementary
to our business and offerings.
Our Competition
The market for network and data protection
security solutions is intensely competitive and subject to frequent introductions of new technologies, and potentially improved
price and performance characteristics. Industry suppliers compete in areas such as conformity to existing and emerging industry
standards, interoperability with networking and other cybersecurity solutions, management and security capabilities, performance,
price, ease of use, scalability, reliability, flexibility, features and technical support. Our principal competitors in the data
mining and advanced persistent threat market include Niksun, NetScout, FireEye, and Darktrace.
There are numerous companies competing in various
segments of the data security markets. At this time, we have little or no competitors for TraceCop; however, we believe
competitors could emerge in the future. These competitors currently perform only a portion of the functions that we are able to perform
with TraceCop. We have been continuously collecting the TraceCop data for more than twenty years, and we believe
that none of our current or future competitors will have the ability to provide and reference this extremely valuable historical data.
In our newest market segment, data mining and advanced persistent threat detection, we compete directly and indirectly with companies
and open source technologies in the firewall, intrusion detection and prevention, anti-virus, network analysis, endpoint protection, and
insider threat prevention areas of cybersecurity technology.
We expect that our current INTRUSION Shield
solution, as well as upcoming complementary offerings in the INTRUSION Shield family, will be novel and unique in our industry
because of our proprietary threat-enriched big data. We expect that our INTRUSION Shield family of solutions will also complement
our customer’s existing cybersecurity processes and third-party solutions. If the INTRUSION Shield receives widespread
acceptance in the market, we anticipate that other businesses will seek to compete with INTRUSION Shield; however, we believe
our existing, mature, and proprietary database which is integral to the operation of INTRUSION Shield will be difficult,
if not impossible, for other companies in our industry to replicate and will be a significant barrier to entry of competitors in the near-
and long-term future of cyber security solutions.
Our Customers: Government Sales
Sales to U.S. government customers accounted for
71.4% of our revenues for the year ended December 31, 2021, compared to 86.3% of our revenue in 2020. This shift was as a result of the
introduction of our new INTRUSION Shield solution as a commercial product available to non-governmental customers during
2021 from which we generated sales during 2021. In addition the adverse effects from the proliferation of the COVID-19 virus which resulted
in decreased demand by some of our customers for our current product offerings and cybersecurity solutions, negatively affected our 2021
and 2020 revenue levels. We expect to continue to derive a substantial portion of our revenues from sales to governmental entities in
the future as we continue to market our products and data mining products to the government, and we intend to market INTRUSION Shield
not only to our long-standing governmental customer base but to expand our efforts to include more traditionally administrative and civilian
governmental entities. Sales to government clients present risks in addition to those involved in sales to commercial customers that could
adversely affect our revenues, including potential disruption due to irregularities in or interruptions to appropriation and spending
patterns, delays in approving a federal budget and the government’s reservation of the right to cancel contracts and purchase orders
for its convenience.
Generally, we make our sales under purchase orders
and contracts. Our customers, including government customers, may cancel their orders or contracts with little or no prior notice and
without penalty. Although we transact business with various government entities, we believe that the cancellation of any particular order
in itself could have a material adverse effect on our financial results. Because we derive and expect to continue to derive a substantial
portion of our revenue from sales to government entities, a large number of cancelled or renegotiated government orders or contracts could
have a material adverse effect on our financial results.
Third-Party Products
We currently resell standard commercially available
computers and servers from various vendors which we integrate with our software products for implementation into our customer networks.
We do not consider any of these third party relationships to be material to the Company’s business or results of operations.
Customer Services
Our solution sales may include installation, operation
of our technology and threat data interpretation and reporting.
Manufacturing and Supplies
Our internal manufacturing operations consist
primarily of software, packaging, testing and quality control of finished units. The hardware we sell is based on standard off-the-shelf
solutions.
Sales, Marketing and Customers
Field Sales Force. Our direct sales
organization focuses on major account sales, channel partners including distributors, value added resellers (VARs) and integrators; promotes
our solutions to current and potential customers; and monitors evolving customer requirements. The field sales and technical support force
provides training and technical support to our resellers and end users and assists our customers in designing cyber secure data networking
solutions. We currently conduct sales and marketing efforts from our principal office in Plano (Dallas), Texas.
Resellers. Resellers such as domestic
and international system integrators and VARs sell our solutions as stand-alone solutions to end users and integrate our solutions with
products sold by other vendors into network security systems that are sold to end users. Our field sales force and technical support organization
provide support to these resellers. Our agreements with resellers are non-exclusive, and our resellers generally sell other products and
solutions that may compete with our solutions. Resellers may place higher priority on products or solutions of other suppliers who are
larger and have more name recognition, and there can be no assurance that resellers will continue to sell and support our solutions.
Foreign Sales. Export sales did
not account for any revenue in 2021 and 2020.
Marketing. We have implemented several
methods to market our solutions, including participation in trade shows and seminars, distribution of sales literature and solution specifications
and ongoing communication with our resellers and installed base of end-user customers.
Customers. Our end-user customers
include U.S. federal government, state and local government entities, large and diversified conglomerates and manufacturing entities.
Sales to certain customers and groups of customers can be impacted by seasonal capital expenditure approval cycles, and sales to customers
within certain geographic regions can be subject to seasonal fluctuations in demand.
In 2021, 71.4 % of our revenue was derived from
a variety of U.S. government entities through direct sales and indirectly through system integrators and resellers. These sales are attributable
to seven U.S. Government customers through direct and indirect channels; three exceeded 10% of total revenue individually in 2021. A reduction
in our sales to U.S. government entities could have a material adverse effect on our business and operating results if not replaced.
Backlog. We believe that only a
small portion of our order backlog is non-cancelable, and that the dollar amount associated with the non-cancelable portion is immaterial.
Commercial orders are generally fulfilled within two days to two weeks following receipt of an order. Certain orders may be scheduled
over several months, generally not exceeding one year.
Customer Support, Service and Warranty.
We service, repair, and provide technical support for our solutions. Our field sales and technical support force works closely with resellers
and end-user customers on-site and by telephone to assist with pre- and post- sales support services such as network security design,
system installation and technical consulting. By working closely with our customers, our employees increase their understanding of end-user
requirements and are then able to provide specific input in our solution development process.
We warrant all of our solutions against defects
in materials and workmanship for periods ranging from 90 days to 36 months. Before and after expiration of the solution warranty period,
we offer both on-site and factory-based support, parts replacement, and repair services. Extended warranty services are separately invoiced
on a time and materials basis or under an annual maintenance contract.
Employees
As of December 31, 2021, we employed a total of
60 persons, four of which are part time. None of our employees are represented by a labor organization, and we are not a party to any
collective bargaining agreement. Competition in the recruiting of personnel in the networking and data security industry is intense. We
believe that our future success will depend in part on our continued ability to hire, motivate and retain qualified management, sales,
marketing, and technical personnel. On July 29, 2021, the Company executed a planned reduction in force resulting in the termination of
approximately 20% of its employees. Following this reduction in force, a number of additional employees resigned, were terminated, or
had their positions eliminated. As a result of these recent events, we may be unable to retain our current employees and be unable to
attract new employees in the future, which would have a negative effect on the implementation of our operations.
Our Code of Conduct
All of the Company’s directors and employees
are required to abide by the Company’s Code of Business Conduct and Ethics, which the Company adopted on September 14, 2020 (the
“Code”) to ensure that the Company’s business is conducted in a consistently legal and ethical manner and to avoid instances
of insider trading. The Code cover areas of professional conduct that include conflicts of interest, fair dealing and the strict adherence
to all laws and regulations applicable to the conduct of the Company’s business.
On March 16, 2022, our board
of directors, upon recommendation of our Nominating and Corporate Governance Committee, approved the following sentences to be added under
the “Conflicts of Interest” section of the Company’s Code: “Any and all actual, perceived, or possible Conflicts
of Interest involving either the Chief Executive Officer or the Chief Financial Officer shall be submitted in writing by a Company Agent
to the Company’s Board Chair. The Chair will then be charged with addressing the Conflict of Interest, or with presenting the matter
to the full Board for consideration, in accordance with the Company’s policies including those regarding ‘related party transactions,’
with the ultimate goal of avoiding even the ‘hint of impropriety’ in the Company’s business dealings.”
The full text of the amended Code is published on the Company’s
website at under the investor relations tab at www.intrusion.com and is also attached as an exhibit to this annual report. The Company
intends to disclose future amendments to, or waivers from, certain provisions of the Codes of Ethics on the Company’s website within
four business days following the date of such amendment or waiver. Upon the written request of any stockholder, the Company will furnish,
without charge, a copy of the Code. This request should be directed to the Company’s Secretary at 101 East Park Blvd., Suite 1200,
Plano, TX 75074.
Item 1A. Risk Factors
The following are the significant factors that could materially adversely
affect our business, financial condition, or operating results, as well as adversely affect the value of an investment in our common stock.
The risks described below are not the only risks facing our Company. Risks and uncertainties not currently known to us or that we currently
deem to be immaterial also may materially adversely affect our business, financial condition and operating results.
Risks Related to Our Financial Position and Liquidity
The Company’s ability to
implement its current business plan will be dependent on our ability to raise additional funds through additional public or private financings,
which raises the possibility that the Company may not be able to continue as a going concern.
The significant expense of the product launch
combined with minimal sales of the INTRUSION Shield in 2021 has strained the Company’s capital resources and caused
significant doubt about our ability to continue our current operations as a going concern. In order to finance our operations and to continue
as a going concern, we believe it will be necessary for us to raise additional funds through public or private financings, including through
the utilization of our at-the-market program. We can provide no assurances that we will be able to raise additional funds through any
future equity or debt financings, and the terms of those financings, if available at all, may be on terms, which are not favorable to
us and, in the case of equity financings, will result in dilution to our stockholders.
We are subject to certain contractual and regulatory limitations on our ability to consummate future financings.
Pursuant to that certain securities purchase agreement
we entered into in March 2022 in connection with the issuance of a promissory note to Streeterville Capital, LLC, we agreed to be subject
to certain restrictions on our ability to issue securities during the term of the notes issued under the agreement. Specifically, we
agreed to obtain Streeterville Capital’s consent prior to issuing any debt securities or certain equity securities where the pricing
of such equity securities is tied to the public trading price of our common stock. Furthermore, we also must offer Streeterville with
the right to purchase up to 10% of future equity and debt securities offerings, subject to certain exceptions and limitations, in each
case during the term of any note issued to Streeterville.
Furthermore, unless our public float exceeds $75
million, we will be subject to the restrictions set forth in General Instruction I.B.6 to Form S-3 that limit our ability to conduct
primary offerings under a Form S-3 registration statement, like issuances under our at-the-market program. Under such limitations, we
may not sell, during any 12-month period, securities on Form S-3 having an aggregate market value of more than one-third of our public
float. As of March 9, 2022, our public float calculated in accordance with General Instruction I.B.6 of Form S-3 was $69.1 million. These
restrictions may delay or prevent us from entering into funding arrangements or being able to access the capital markets, including under
our at-the-market program, on favorable terms or at all.
We may be unable to generate sufficient cash to service the cash
portion of our indebtedness under the March 2022 convertible notes.
Our ability to make scheduled payments on or
to refinance our indebtedness and financial commitments to the noteholder under the convertible notes issued under our March 2022 securities
purchase agreement depends on our financial condition and operating performance, which are subject to prevailing economic and competitive
conditions including financial, business and other factors beyond our control. We may be unable to generate sufficient cash flow to permit
us to pay the principal, premium, if any, and interest on that indebtedness which would have a material adverse effect on our financial
condition and results of operations.
The terms of our March 2022 securities purchase agreement contain
significant obligations and limitations that could restrict our right to enter into transactions that would otherwise be favorable to
our stockholders.
Our debt agreements contain a number of significant
covenants, including the obligations to not issue debt securities or certain equity securities where the pricing of such equity securities
is tied to the public trading price of the Common Stock, in each case, without the noteholder’s prior consent, and offer the noteholder
the right to purchase up to 10% of future equity and debt securities offerings, subject to certain exceptions and limitations. These obligations
and limitations may limit our ability to enter into certain, corporate, financing, operational or capital raising transactions.
If we fail to comply with the restrictions
and covenants in our March 2022 securities purchase agreement, there could be an event of default under the convertible notes issued thereunder,
which could result in an acceleration of payments due under those notes and other consequences.
Failure to meet the restrictions, obligations,
and limitations under the March 2022 securities purchase agreement may result in an event of default in accordance with the terms of the
convertible notes issued thereunder. An event of default would, among other things, provide the noteholder with the right to increase
the outstanding balance by 15% for certain major events of default and 5% for others. Additionally, upon an event of default, the noteholder
may consider the convertible note immediately due and payable. Furthermore, upon an event of default, the interest rate may also be increased
to the lesser of 18% per annum or the maximum rate permitted under applicable law.
The redemption feature under our March 2022
convertible notes is dependent upon the market value of our common stock, which could result in significant dilution to our existing stockholders.
The noteholder will have the right to redeem up
to $500,000 of the outstanding balance of such note per month after the notes have been issued for six months. While we have the option
to make such payments in either (a) cash, (b) by paying the redemption amount in the form of shares of common ctock with the number of
redemption shares being equal to the portion of the applicable redemption amount divided by the redemption conversion price or (c) a combination
of cash and shares of common stock. Since the redemption conversion price will be equal 85% multiplied by the average of the two lowest
daily volume weighted average prices per share of the common stock during the 15 trading days immediately preceding the date that the
noteholder delivers notice electing to redeem a portion of the note, the number of shares to be issued by us in satisfaction of this redemption
will vary, perhaps considerably. A reduction in our trading value could cause us to issue a greater number of shares under a redemption
notice and therefore increase the dilutive effect to other stockholders.
We must increase revenue levels in order to finance
our current operations and to implement our business strategies.
For the year ended December
31, 2021, we had a net loss of $18.8 million and had an accumulated deficit of approximately $80.1 million as of December 31, 2021, compared
to a net loss of $6.5 million for the year ended December 31, 2020, and an accumulated deficit of approximately $61.3 million at December
31, 2020. We need to increase current revenue levels from the sales of our solutions if we are to regain profitability. If we are unable
to increase revenue levels, losses could continue for the near term and possibly longer, and we may not regain profitability or generate
positive cash flow from operations in the future.
Risks Related to Ongoing and Potential Litigation.
We are currently a defendant in
class action lawsuits alleging violations of the federal securities laws, which will potentially divert the attention of our management
and board of directors, require significant legal expenditures in the defense of such suit, as well as possibly result in financial liability
should we be unsuccessful in the defense of these claims.
We are in the preliminary stages of defending
class action lawsuits alleging that we have committed violations of federal securities laws and regulations. While the exact nature
of these claims is not capable of being determined at this time, we will be expending time, personnel, and financial
resources in our defense of these suits. Even if successful, these suits may not be resolved for a considerable period of time,
during which these limited resources will be deployed and lingering uncertainty may persist in the ultimate culpability, if any, of
the Company in connection with these allegations. The effect of these lawsuits during their pendency will have a negative effect on
our cash flow, contribute to our liquidity challenges over the near term, and may ultimately affect our ability to operate our
business.
Business and Operational Risks
Most of our current revenues are generated
from one family of solutions with a limited number of customers, and the decrease of revenue from sales of this family of solutions could
materially harm our business and prospects.
Approximately 86.9% of our
existing revenues result from sales of TraceCop a cybersecurity solution. TraceCop revenues were $6.3 million
for the year ended December 31, 2021, compared to $6.2 million for the year ended December 31, 2020. While we anticipate the continued
introduction of our new INTRUSION Shield solution will reduce our dependence on this single solution, we can offer no assurances
as such, and in the absence of a shift in solution mix, we may continue to face risks in the event that sales of this key solution to
these limited customers were to decrease.
We may be unable to successfully market, promote,
and sell our new commercial solution, INTRUSION Shield, and market it through new sales channels to a new set of prospective customers.
We have expended significant resources and anticipate
continuing to expend significant resources launching our new INTRUSION Shield solution, including the time, attention,
and focus of our senior management and our research and development team, coordination of new marketing strategies highlighting this
new offering and promoting it through new and expanded sales channels to a wider audience of prospective customers than we have historically
marketed and sold our solutions and services. Even if we have sufficient capital to expend on these initiatives, supporting our INTRUSION
Shield products may divert resources from other critical operational areas and further strain our liquidity.
We may not be successful in our current efforts to
broaden the marketing and sale of the INTRUSION Shield.
We believe that we must expand our sales and marketing
efforts in order for INTRUSION Shield to achieve marketplace acceptance and to generate revenue for the Company. However,
these efforts depend, in large part, on the success of our channel partners as they market and sell INTRUSION Shield, which
may not be successful. Further, our new efforts in forging meaningful relationships with seasoned and well positioned strategic partners
may not yield meaningful results, and any and all such efforts will need to be accomplished despite certain public remarks and comments
that have been made on social media and web-based platforms as well as statements and allegations that have been, and will continue to
be, advanced in the various pleadings that are publicly filed with the courts. If we are unsuccessful in our efforts to leverage channel
and strategic partners and to counter negative public statements, we may not be able to generate sufficient revenue from INTRUSION
Shield to improve the Company’s financial position, results of operations, and cash flow position.
Our efforts to provide a cloud-based delivery system
for INTRUSION Shield may not be successful or attractive to our current and potential clients.
We are expending significant research and development
resources in order to be able to provide the INTRUSION Shield to customers in a cloud-based environment without the requirement
for complementary hardware to be deployed and installed on a customer’s information platforms. If this alternate product deployment
is not achieved, achieved at too great an expense, or does not provide the added incentive to retain and to attract INTRUSION Shield
customers, we may not be able to generate sufficient revenue to justify the expense or to significantly contribute to our revenues, which
could in turn have a negative effect on our financial position, results of operations, and our cash flow position.
The current geo-political climate may add uncertainty
in the dealings of our customers and could cause them to delay indefinitely certain cyber-security initiatives or to determine not to
introduce or implement any new or innovative cyber-solution products into their information networks.
Current events in Eastern Europe and Russia have introduced
a significant level of uncertainty in the dealings of our current and potential customers that could cause them to be hesitant to implement
new cyber-security initiatives regardless of the efficacy of our INTRUSION Shield product. Further, these entities may also
determine not to deploy their cash reserves in the face of such uncertainty. These uncertainties could depress the interest or the ability
of companies and governmental entities to test, evaluate, and deploy our INTRUSION Shield in their network environments.
The effect of the coronavirus, particularly in the
diversion of time and resources of the federal, state, and local governmental entities which make up a significant concentration of our
customer base have caused, and may continue to cause, material adverse effects on our operations and our financial results.
A significant concentration of our federal, state,
and local governmental customers have been forced to allocate scarce and competing resources and balance budgetary demands placed upon
them as a result of the effects of the coronavirus, mandatory quarantines, decreased travel, interruptions in workforce populations,
scarcity of commodities, and similar economic and operational effects of the virus upon their own constituencies. Considerable uncertainties
continue with respect to the spread and containment of the pandemic, including, without limitation, the effects of mutations in the virus
and the efficacy of vaccination efforts throughout the country and the world. These adverse effects have resulted in decreased demand
by some of our customers for our current product offerings and cybersecurity solutions, negatively affecting historic revenue levels
for the Company. A continued decrease in orders for our solutions by our government customers and losses of efficiency or diversions
of resources in our own operations may continue to cause material adverse effect on our operations and financial results.
Scarcity of products and materials in the supply
chain could hinder or prevent the deployment of our INTRUSION Shield for our customers who elect to use the wired version of our
solution.
Supply chain interruptions have become frequent
in light of the lingering commercial effects of COVID and its related variants. Should any of the component parts required for the hardware
interface our customers use to access and to utilize the INTRUSION Shield product, we may have to delay or cancel our fulfillment
of orders that could defer potential revenues or even result in customer cancellations, which would have a negative effect on our financial
position and results of operations.
A large percentage of our current revenues are received
from U.S. government entities, and the loss of these customers or our failure to widen the scope of our customer base to include general
commercial enterprises could negatively affect our revenues.
A large percentage of our current revenues result
from sales to U.S. government entities. If we were to lose one or more of these customers, our revenues could decline and our business
and prospects may be materially harmed. Further, sales to the government present risks in addition to those involved in sales to commercial
customers, including potential disruption due to appropriation and spending patterns, delays in approving a federal budget and the government’s
right to cancel contracts and purchase orders for its convenience. While we expect that developing relationships with non-governmental
customers will mitigate or eliminate this dependence on, and risk from, serving governmental entities, we can offer no assurances that
we will be able to sufficiently diversify our customer portfolio in a time and manner to adequately mitigate this risk.
We are highly dependent on sales of our current solutions
through indirect channels, the loss of which would materially adversely affect our operations.
For the years ended December 31, 2021 and 2020,
we derived 37.5% and 49.3% of our revenues from sales through indirect sales channels, such as distributors, value-added resellers, system
integrators, original equipment manufacturers and managed service providers. We must expand sales of our current solutions as well as
any new solutions, such as INTRUSION Shield, through these indirect channels in order to increase our revenues. We cannot
assure you that our current solutions or future solutions will gain market acceptance in these indirect sales channels or that sales through
these indirect sales channels will increase our revenues. Further, many of our competitors are also trying to sell their products and
solutions through these indirect sales channels, which could result in lower prices and reduced profit margins for sales of our solutions.
Our business depends on the continued
service of our key management and technical personnel.
Our success depends upon the continued contributions
of our key management, sales, marketing, research and development and operational personnel, including Anthony Scott, our recently appointed
President and Chief Executive Officer; T. Joe Head, our Chief Technology Officer; Franklin Byrd, our Chief Financial Officer; and other
key technical personnel. The loss of the services of one or more of our key employees in the future could have a material adverse effect
on our operating results. We also believe our future success will depend upon our ability to attract and retain additional highly skilled
management, technical, marketing, research and development, and operational personnel with experience in managing large and rapidly changing
companies, as well as training, motivating and supervising employees. The market for hiring and retaining certain technical personnel,
including software engineers, has become more competitive and intense in recent years. Failure to attract and retain a sufficient number
of qualified technical personnel, including software engineers, or retain our key personnel could have a material adverse effect on our
operating results.
We may experience volatility in
our workforce and be unable to attract employees in the future as a result of our recent reduction in force.
On July 29, 2021, the Company executed a planned
reduction in force resulting in the termination of approximately 20% of its employees. Following this reduction in force, a number of
additional employees resigned, were terminated, or had their positions eliminated. As a result of these recent events, we may be unable
to retain our current employees and be unable to attract new employees in the future, which would have a negative effect on the implementation
of our operations.
We could experience damage to our reputation in the cybersecurity
industry in the event that our INTRUSION Shield solution fails to meet our customers’ needs or to achieve market acceptance.
Our reputation in the industry may be harmed,
perhaps significantly, in the event that INTRUSION Shield fails to perform as we expect it to. If INTRUSION Shield
does not perform as we expect, if we experience delivery delays, or if our customers do not perceive the benefits of purchasing and using
INTRUSION Shield as part of their comprehensive cybersecurity solution, our position as a leader in this technology space
may be damaged and could affect the willingness of our customers, as well as potential customers, to purchase our other solutions that
function separately from INTRUSION Shield. Any reputational damage could result in a decrease in orders for all of our solutions,
the loss of current customers, and a decrease in our overall revenues which could in turn have a material adverse effect on our results
of operations.
If we fail to respond to rapid technological changes in
the network security industry, we may lose customers or our solutions may become obsolete.
The network security industry is characterized
by frequent product and service introductions, rapidly changing technology and continued evolution of new industry standards. We have
and must continue to introduce upgrades to our current solutions rapidly in response to customer needs such as new computer viruses or
other novel external attacks on computer networks. Further, our new INTRUSION Shield solution represents our efforts to
continue to provide state-of-the art first-in-time innovation for our customer’s cybersecurity solutions. As a result, our success
depends upon our ability to develop and introduce timely upgrades, enhancements, and new solutions to meet evolving customer requirements
and industry standards. The development of technologically advanced network security products and solutions is a complex and uncertain
process requiring high levels of innovation, rapid response, and accurate anticipation of technological and market trends. We cannot assure
you that we will be able to identify, develop, manufacture, market or support new or enhanced solutions successfully in a timely manner.
Further, we or our competitors may introduce new solutions or enhancements that shorten the life cycle of our existing solutions or cause
our existing solutions to become obsolete.
We must expend time and resources addressing potential cybersecurity
risk, and any breach of our information security safeguards could have a material adverse effect on the Company.
The threat of cyber-attacks requires additional
time and money to be expended in efforts to prevent any breaches of our information security protocols. However, we can provide no assurances
that we can prevent all such attempts from being successful, which could result in expenses to address and remediate such breaches as
well as potentially losing the confidence of our customers who depend upon our services to prevent and mitigate such attacks on their
respective business. Should a material breach of our information security systems occur, it would likely have a material adverse impact
on our business operations, our customer relations, and our current and future sales prospects, resulting in a significant loss of revenue.
A breach of network security could harm public perception
of our cybersecurity solutions, which could cause us to lose revenues.
If an actual or perceived breach of network security
occurs in the network of a customer of our cybersecurity solutions, regardless of whether the breach is attributable to our solutions,
the market perception of the effectiveness of our solutions could be harmed. This could cause us to lose current and potential end customers
or cause us to lose current and potential value-added resellers and distributors. Because the techniques used by computer hackers to
access or sabotage networks change frequently and generally are not recognized until launched against a target, we may be unable to anticipate
these techniques.
If our solutions do not interoperate with our customers’
networks, installations will be delayed or cancelled and could harm our business.
Our solutions are designed to interface with our customers’ existing
networks, each of which have different specifications and utilize multiple protocol standards and products or solutions from other vendors.
Many of our customers’ networks contain multiple generations of products that have been added over time as these networks have grown
and evolved. Our solutions will be required to interoperate with many products and solutions within these networks as well as future products
or solutions in order to meet our customers’ requirements. If we find errors in the existing software or defects in the hardware
used in our customers’ networks, we may have to modify our software or hardware to fix or overcome these errors so that our solutions
will interoperate and scale with the existing software and hardware, which could be costly and negatively impact our operating results.
In addition, if our solutions do not interoperate with those of our customers’ networks, demand for our solutions could be adversely
affected, orders for our solutions could be cancelled, or our solutions could be returned. This could hurt our operating results, damage
our reputation and seriously harm our business and prospects.
We face intense competition from both start-up and
established companies that may have significant advantages over us and our solutions.
The market for our solutions is intensely competitive.
There are numerous companies competing with us in various segments of the data security markets, and their products or solutions may have
advantages over our solutions in areas such as conformity to existing and emerging industry standards, interoperability with networking
and other cybersecurity products, management and security capabilities, performance, price, ease of use, scalability, reliability, flexibility,
features, and technical support.
Our principal competitors in the data mining and
advanced persistent threat market include Niksun, NetScout, FireEye, and Darktrace. Our current and potential competitors may have one
or more of the following significant advantages over us:
· greater financial, technical and marketing resources;
· better name recognition;
· more comprehensive security solutions;
· better or more extensive cooperative relationships; and
· larger customer base.
We cannot assure you that we will be able to compete
successfully with our existing or new competitors. Some of our competitors may have, in relation to us, one or more of the following:
· longer operating histories;
· longer-standing relationships with OEM and end-user customers; and
· greater customer service, public relations and other resources.
As a result, these competitors may be able to
more quickly develop or adapt to new or emerging technologies and changes in customer requirements, or devote greater resources to the
development, promotion and sale of their products or solutions. Additionally, it is likely that new competitors or alliances among existing
competitors could emerge and rapidly acquire significant market share.
Investment Risks
Our management and larger stockholders currently exercise
significant control over our Company and such influence may be in conflict to your interests.
As of March 9, 2022, our executive
officers and directors beneficially own approximately 8.7% of our voting power. In addition, other related affiliate parties control
approximately 5.3% of voting power. As a result, these stockholders have been able to exercise significant control over all matters
requiring stockholder approval, including the election of directors and approval of significant corporate transactions. Although we
follow our policies regarding related party transactions, we cannot entirely eliminate the influence of these stockholders as long
as they hold such a concentration of the voting power of our common stock.
We have experienced recent volatility
in the market for our common stock, particularly with respect to significant swings in the market price as well as significant volume
in the trading of our common stock.
We have experienced extreme shifts in the market
value of our common stock as it trades on the Nasdaq Capital Market as well significant increases in the trading volume of our shares
on that market. For example, the market price of our common stock fluctuated between $3.05 and $29.90 during the twelve months ended
December 31, 2021. These fluctuations may result in a hesitancy for investors to purchase and hold shares of our common stock, continued
depression of the market value of our stock, and ultimately negatively affect our ability to raise capital through the issuance and sale
of our common stock, particularly through our at-the-market program or otherwise.
Risks Related to our Intellectual Property
We must adequately protect our intellectual property
in order to prevent loss of valuable proprietary information.
We rely primarily on a combination of patent,
copyright, trademark and trade secret laws, confidentiality procedures, and non-disclosure agreements to protect our proprietary technology.
However, unauthorized parties may attempt to copy or reverse engineer aspects of our solutions or to obtain and use information that
we regard as proprietary. Policing unauthorized use of our solutions is difficult, and we cannot be certain that the steps we have taken
will prevent misappropriation of our intellectual property. This is particularly true in foreign countries whose laws may not protect
proprietary rights to the same extent as the laws of the United States and may not provide us with an effective remedy against unauthorized
use. If protection of our intellectual property proves to be inadequate or unenforceable, others may be able to use our proprietary developments
without compensation to us, resulting in potential cost advantages to our competitors.
We may incur substantial expenses defending ourselves against
claims of infringement.
There are numerous patents held by many companies